environment Flashcards

Question

What are the risks faced by the second investor in the above example?

Answer 1

1. a wide range of assets. 2 Diversification is often a key consideration, particularly given that the typical householder will: 1 have only a relatively small amount of wealth to invest   2 much of that wealth may be tied up in the house in which he or she lives. 3.  Other considerations for households when making investment decisions include: 1.  liabilities (generally real in nature)   2 liquidity   3 uncertainty over future income and outgo   4 tax   5 level of investment expertise   6 stability of asset values   7 investment and risk characteristics of available assets   8 attitude to risk.  

Answer 2

- -financial intermediaries - -who form a link between households and - - the businesses that need to - -finance investments in real assets.   

Answer 3

invest directly in the underlying assets | (eg shares, bonds, properties) themselves.

Answer 4

1. channels resources between lenders (ie investors) and borrowers. ``` 2. is a wide range of financial intermediaries eg banks, insurance companies, pension funds, collective investment vehicles. ```

Answer 5

1. their own liabilities - -to raise funds that are - -used to purchase - -the liabilities of other corporations.

Answer 6

1.  pool resources of many small investors, - - therefore able to lend considerable sums to large borrowers. - --herefore enable small investors - -to gain access to investments - -which they could otherwise not do so by themselves, - -eg large property developments.   2 by lending to many borrowers, intermediaries achieve significant diversification, -- can accept loans that individuals might regard as too risky   3 build expertise through volumes of business they do. - -For example, - - investment manager of a life insurance company - -is able to spend more time - -thinking about and making investment decisions - -than the average individual is able to do so.   4.  lower - dealing, - administration and - management costs - -through economies of scale.

Answer 7

1. finance their investment in real assets. 2. “Real assets”: - -assets - -(such as buildings and machinery) - -that are used by business - -to generate profits - -rather than investments - ----that offer a real return - ----(such as index-linked bonds).

Answer 8

1● to get the best possible price for their securities   2● to market the issues at the lowest possible cost.   3 to issue securities that best meet their requirements - -with regards to the - ---term, - ---pattern and - ---flexibility of funding.

Answer 9

1.  advise the issuing firms on the prices they can charge.  - -An investment banking firm will have - -good knowledge of the market and - -will  suggest appropriate issue prices and - -interest rates.   2 handle the marketing of the security issue to the public.   - -involves advertising the issue to potential investors, - -maintaining records of applications and - -determining allocations, - -handling investors’ money and - -actually issuing the securities.   3 seek to protect their reputation for honesty - -by checking and certifying the quality of the information offered. - - The ability of an investment bank to successfully issue securities - -relies on the reputation it has established. --investment bank will suffer - -if it is associated with an unsuccessful issue or - -one where investors are disappointed. Therefore bank has strong incentive to -ensure the quality of information offered.   4 innovate security design and - -packaging - -to stimulate demand.

Answer 10

1. issue simple securities that 1. are less expensive to arrange. 3. This may be at odds with the needs of investors, - -who may prefer a greater variety of securities. 4. There is a role for investment banks here - -as they may use their expertise and knowledge of investors - -to develop securities - -with features that will prove attractive. 5. They may also be able to package “plain vanilla” securities - -in a way that makes them more attractive to investors. - -An example here is - -the design of several different tranches of debt in a securitisation issue.

Answer 11

1. foreign investors are increasingly important in most investment markets. 2. The importance of their role will in part reflect 1. the general attractiveness of the particular market to foreign investors. 3. For example, foreign investors will typically not be attracted to - -markets in which they are 1. subject to different (and more restrictive) rules than local investors, 2. nor to markets in which they perceive that there may be political risk

Answer 12

1  the impact of currency movements   2 the different rules and regulations to which they are subject in the countries in  which they are based.  

Answer 13

``` 1 Monetary policy – 2 Fiscal policy – 3 National debt management policy 4 Exchange rate policy 5 Prices and incomes policy ```

Answer 14

– the control of some measures of the money supply - -and/or the level and structure of interest rates.   - -Recall from Subject A102 that monetary policy is a particularly effective tool in controlling the rate of inflation.  

Answer 15

1. decisions on the level and structure of taxation 2. and government expenditure and 3. hence, by implication, the public sector borrowing requirement (or debt repayment).   4. The level and structure of taxation c - -can have a major influence on the - -attractiveness both of starting up and running a business and - -also of investing in different asset types.   5. public sector borrowing requirement (PSBR) or fiscal deficit is - -the excess of government expenditure - -over government income from taxation. 6. If this quantity is negative it is known as - -the public sector debt repayment (PSDR) of fiscal surplus.  

Answer 16

the manipulation of the outstanding stock of government debt instruments held by the domestic private sector, in order to influence the level and structure of interest rates or the availability of liquid reserve assets to the banking sector.  Note that national debt management policy is closely inter-linked with monetary and fiscal policy.  

Answer 17

1. directed towards achieving some target for the exchange rate of the domestic currency -- - -in terms of foreign currencies, 2. perhaps with the objective of influencing the country’s international trading and investment patterns. 3. will influence the competitiveness of a location for internationally traded goods. 4. It is the relationship between currency exchange rates and the price - -in local currency - -of inputs, including labour, that determines competitiveness. 5.  The lower the value of the domestic currency and the local currency cost - -of factor inputs (land, labour and capital), - -the more competitively priced - -will be the goods and services produced.  

Answer 18

1. aimed at influencing the rates of wage and price inflation.   2. control these variables (and hence inflation) directly - -by imposing maximum increases.

Answer 19

- -distortions between public sector and private sector wages.   - -The government does not consider and make decisions regarding each of these forms of policy in isolation – - -particularly as different policies may have contradictory influences on the economic environment. - -Rather, it will implement a package of policies to best target - - its sometimes conflicting policy objectives.

Answer 20

Taxation Competition policy Labour policy

Answer 21

1. demand for goods and services, including labour, because of the impact on the prices. 2. will therefore affect the profitability of businesses and - -the (net) returns provided by investments

Answer 22

1. income paid to factors of production. 2. Corporate taxes are an example of these - -as they are levied on company profits 3/ whereas indirect taxes are levied on expenditure.

Answer 23

Important examples of oligopolistic industries include those in which financial intermediaries operate, eg banking, insurance. In the UK, the body responsible for most competition issues is the Competition Commission (whose predecessor was the Monopolies and Mergers Commission). An example of competition policy having a major impact on an oligopolistic industry was the granting of third generation mobile phone licences to a limited number of companies. The role of competition and fair trading controls and monopolies regulators are discussed further in Chapter 8.

Answer 24

1. flexibility of labour and 2. the bargaining power of organised labour. 3. related domain of social policies will determine - -the cost of health services, - -welfare benefits and - -state pensions, - - typically are funded largely through taxation. 4. To the extent these are provided by government and - -paid for out of charges which are separate from taxation, - -they will have to be separately added to the cost of labour. 5. Such “on costs” to employment (typically labelled “national insurance” or “health insurance”) - -can be a crucial element of total labour costs. 6. Examples of labour policies include policies determining the powers of trade unions and minimum wage legislation. - -These are likely to influence the cost of labour and - -hence the relative competitiveness of businesses operating in different jurisdictions. - -They may also influence the choice of multinational companies as to where they choose to set up operations.

Answer 25

In reality, there is considerable overlap between policies . Early post-war period Throughout the post-war period and until the 1970s, monetary policy played a subsidiary supportive role to fiscal policy in most states including the UK. Governments tended to emphasise the use of demand management techniques in an attempt to “fine tune” the economy. A basically Keynesian approach was therefore adopted. Demand management is the use of fiscal policy in particular, and also monetary policy, to offset external shocks (eg an oil price shock) to stabilise the level of economic activity and maintain close to full employment. If such demand management techniques were being used, in a recession a government would generally increase its expenditure and expand the money supply in order to boost economic activity and reduce unemployment. The money supply was often allowed to accommodate money demand, with little attention paid to the possible inflationary implications. Inflation was in any case only moderate up to the end of the 1960s.

Answer 26

a much more positive role was adopted for monetary policy in many states, with explicit recognition being given to the control of the money supply as an important element in the fight against inflation. This was because controlling inflation became an important policy objective in its own right, rather than governments concentrating exclusively on full employment. This was largely in response to the very high levels of inflation witnessed in the 1970s. For example, the inflation rate in the UK peaked at over 20% pa. Monetary policy was brought to the forefront of the economic policy package, and the other policies were seen as being merely supportive to this – in other words, a more monetarist approach was emphasised. In the UK, this was partly a result of the monetarist views of the Conservative government. The monetarist view is that demand management policies are likely to distort the economy and move it away from its equilibrium. Therefore, Monetarists focus on achieving low inflation to allow the market to efficiently reach equilibrium and hence its full employment level, without incurring the costs associated with inflation – recall that these were discussed in Subject A102. Governments have adopted Medium Term Financial Strategies aimed at reducing inflation (via a policy of strict monetary control) while reducing the proportion of national resources taken for public sector use and the burden of taxation on the working population. In the UK, the Medium Term Financial Strategy (MTFS) involved the government setting out targets for and projections of key variables (eg the money supply and PSBR) over the next four years. The intention was that this would give the private sector more certainty regarding the government’s plans for managing the economy and so be reflected in private sector decision-making.

Answer 27

1. boosting incentives and, 2. hopefully, encouraging long-term economic growth.   3. important element in the globalisation of business has been liberalisation of trade and capital markets, - -in both developed and emerging economies. - -With more companies operating on a truly global basis there has been - -much greater mobility of capital, - -due to the increased competition and pressure to produce where profit can be maximised.   4. trends have had significant implications for tax policy, - -as cross-border investors will generally be looking to maximise their returns net of tax. 5. Where countries are competing for foreign investment - -there will be pressure to reduce taxes, - -particularly the corporate income tax rate. --Capital would therefore flow to the countries with lower tax rates.  

Answer 28

``` 1.  moving earnings to a country with a lower tax rate (eg internal group leverage such as financing subsidiaries in high tax countries primarily with debt)   ``` 2 profit shifting through transfer mis-pricing, ie by setting prices -for intra-group transactions which are inconsistent with market rates or by levying high charges for the use of intellectual property such as trademarks   3 taking advantage of differences between tax regimes, eg through the use of ‘hybrid’ instruments (which may lead to a tax deduction in one country without incurring taxation in another).

Answer 29

 unemployment    inflation    balance of payments    economic growth.

Answer 30

1. increase in mortgage loan interest payments, will reduce disposable income and hence personal sector expenditure.   2. Consumers’ expenditure may also be discouraged by higher rates on credit facilities and 3. higher rates of interest may also encourage higher levels of saving.   4 The impact on the business sector is likely to be detrimental since capital investment and economic growth prospects will be reduced. - is due to -- increased opportunity cost of committing funds for investment and --the higher cost of borrowing. 5. Also, the reduction in anticipated levels of economic activity, and higher domestic currency exchange rates, - -will reduce the viability of capital investment projects.   - -With higher interest rates, fewer projects being considered will - -demonstrate a positive net present value, investment is therefore likely to be lower.   6.  Higher levels of interest payments on outstanding debt - -will reduce corporate profitability, - -as existing borrowing costs are - -a large element of ongoing costs for many companies.   7. Lower levels of consumption and investment are likely to lead in turn to - -lower rates of economic growth. 8. All of these features are likely to result in - -reduced employment prospects and - - a slower rate of improvement in living standards.

Answer 31

1. attract an inflow of foreign investment funds and 2. may also encourage the repatriation of domestic funds held overseas. 3. Thus, likely to be upward pressure - -on the domestic currency’s exchange rate. 4. overall effect likely to be - -a decrease in economic activity.

Answer 32

1. the current account, - which records all trade transactions with the rest of the world, - -plus other current income flows and current transfers ``` 2.the financial account (formerly known as the capital account). --records investment transactions --with the rest of the world (including investment in physical assets, financial securities and bank loans and deposits).   ```

Answer 33

1. Investors’ expectations of domestic growth prospects. 2. If it is believed that domestic activity is likely to be depressed, - -then there may be - -reduced inward flows of direct capital investment - -in physical capital assets.

Answer 34

``` 1. exchange rates alter. 2If exchange rates rise, then --this is likely to lead to --an adverse movement in the volumes of trade, but --the ultimate effects on the current account --will depend on --the elasticities of demand --for traded goods and services. ```

Answer 35

a reduction in the value of net exports.

environment Flashcards

(63 cards)