Basic Economics II Flashcards
Tax base
The assessed value of a set of assets, investments or income streams that is subject to taxation.
The tax base may refer to that of an individual asset, such as the tax base of a house, or a pool of assets, such as the tax base of all the houses in a city.
For example: the property tax base of a house is its value. The property tax base of a city is the collective value of all taxable real estate in the city.
Fixed exchange rate
A country’s exchange rate regime under which the government or central bank ties the official exchange rate to another country’s currency (or gold).
The purpose of a fixed exchange rate system is to maintain a country’s currency value within a very narrow band.
Fixed exchange rates provide certainty for export/importers.
- it also helps the government maintain low inflation , which in the long run keeps interest rates down and stimulates trade and investment.
Neoliberalism
An approach to economics where the government has few, if any, controls on economic factors.
What do neoliberals propose?
- the reduction or elimination of most business regulation.
- the gov’t should be required to balance its budget.
- taxes should be low and simple to calculate over a broad base of taxpayers.
- the gov’t should divest itself of any services that can be provided by the private sector.
- trade among nations should be open with few, if any, restrictions
. - elimination of gov’t subsidies
Proponents of neoliberalism
They believe it provides:
- the greatest possibility for economic growth
- the most equitable distribution of wealth among the population.
Neoliberalism critics
They feel:
- it creates too many hardships for citizens (especially the poor)
- the gov’t should control the economy to mitigate the harmful effects of economic ups and downs, which will lead to a more equitable distribution of wealth.
Use of the term “liberal” in economics
Use of the term “liberal” in economics is different from its use in politics.
Liberalism in economics refers to “freeing up” the economy by removing barriers and restrictions to what companies can do.
- neoliberals want zero gov’t intervention in economic activities.
Divestment
(aka “divestiture”)
The action of an organization or gov’t selling or liquidating an asset or subsidiary.
A company or gov’t will divest an asset or subsidiary as a strategic move for the company, planning to put the proceeds from the divestiture to better use that garners a higher return on investment.
ROI
Return On Investment
A performance measure used to evaluate the efficiency of an investment.
ROI measures the amount of return on an investment relative to the investment’s cost.
- to calculate ROI:
- the benefit (or return) of an investment is divided by the cost of the investment, and the result is expressed as a ratio or a percentage.
Divest
To sell off.
To rid of through sale.
Example: “to divest holdings”
Example: “the corporation divested itself of its subsidiaries”
Laissez Faire
“Let it be economics”
An economic theory from the 18th century that is strongly opposed to any government intervention in business affairs.
Duty
A tax levied on certain goods, services or transactions.
TVM
Time value of money
The idea that money available at the present time is worth more than the same amount in the future due to its potential earning capacity.
Liability
A financial obligation arising from a past transaction.
Asset
An economic resource.
Equity Financing
To raise capital for a business enterprise by selling an ownership (shares) in the enterprise.
Profit
Financial benefit realized when revenue gained from business activity exceeds expenses, costs, and taxes needed to sustain the business.
Profit = Total Revenue - Total Expenses
Security
A financial instrument that represents
- an ownership position in a publicly traded company (“equity”, such as a stock).
- a creditor relationship with a government or corporation (“debt security”, such as a bond)
- rights to ownership (“derivative” such as an option)
What is a debt security?
A type of security that represents
- money that is borrowed and must be repaid, with terms that define the amount borrowed, interest rate, and maturity.
- includes govt and corporate bonds, CDs, and municipal bonds.
What is an equity?
A type of security that:
- represents ownership interest held by shareholders in a corporation, such as a stock.
- unlike holders of debt securities who only receive interest and repayment of the principal, holders of equity securities can profit from capital gain.
What is the entity (company, govt) that issues securities called?
The “issuer”
What are the different types of securities investors?
“Retail investors”: those who buy and sell on their own behalf and not for an organization.
“Wholesale investors”: financial institutions acting on behalf of clients or acting on their own account.
“Institutional investors”: investment banks, pension funds, managed funds, insurance companies.
What is the function of a security?
Securities represent an investment and a means by which companies and other commercial enterprises can raise new capital.
- companies can generate capital through investors who purchase securities upon initial issuance.
- depending on an institution’s market demand, raising capital through securities can be a preferred alternative to financing through a bank loan.
EMH
Efficient Market Hypothesis
(devised by Eugene Fama)
An investment theory that states it is impossible to “beat the market” because:
- stock market efficiency causes existing share prices to always incorporate and reflect all relevant information.
Theory underlying EMH
According to EMH:
Stocks always trade at their fair value on stock exchanges, making it impossible for investors to either:
- purchase undervalued stocks
- sell stocks for inflated prices.
As such, it should be impossible to outperform the overall market through:
- expert stock selection
- market timing
EMH believers state that the only way an investor can obtain higher returns is through:
Purchasing riskier investments.
Believers in EMH argue that…..
It is pointless to:
- search for undervalued stocks
- to try to predict trends in the market through either fundamentals or technical analysis.
EMH dissenters
Dissenters believe that:
- stocks can be over or undervalued and that people like Warren Buffet have beaten the market for long periods in the past.
“Beating the market”
Investment term for earning an investment return greater than that of the S and P 500 index (one of the most popular benchmarks of US stock market performance).
Efficiency
A level of performance that describes a process that uses:
- the lowest amount of inputs
To create:
- the greatest amount of outputs.
Market efficiency
The degree to which stock prices reflect all available, relevant information.
EMH theory states:
- it is not possible for an investor to outperform the market because:
- all available information is already built into all stock prices.
How do believers in EMH tend to invest?
They tend to buy:
- index funds
Because of their belief that it is impossible to outperform the market because:
- stocks trade at fair value
- stocks never intrinsically overvalued or undervalued.
If you attempt to beat the market you will lose your shirt.
What did Keynes say about market risk?
“The market can stay illogical longer than you can stay solvent”.
What are the three versions of EMH?
They are all based on varying assumptions of price efficiency.
- the three versions are:
1) . The Weak Version
2) . The Semi-Strong Version
3) . The Strong Version
What is the weak form of EMH?
The weak form claims that:
- the prices of publicly traded assets already reflect all available information
- past prices are of little value in predicting future trends.
What is the semi-strong version of EMH?
The semi-strong version of EMH says that:
- while prices are efficient, they react instantaneously to new information.
What is the strong version of EMH?
The strong version says that:
- asset prices reflect not just public knowledge, but private insider information as well.
Efficiency
A level of performance that describes a process that uses:
- the lowest amount of inputs
To create:
- the greatest amount of outputs.
Market efficiency
The degree to which stock prices reflect all available, relevant information.
EMH theory states:
- it is not possible for an investor to outperform the market because:
- all available information is already built into all stock prices.
How do believers in EMH tend to invest?
They tend to buy:
- index funds
Because of their belief that it is impossible to outperform the market because:
- stocks trade at fair value
- stocks never intrinsically overvalued or undervalued.
If you attempt to beat the market you will lose your shirt.
What did Keynes say about market risk?
“The market can stay illogical longer than you can stay solvent”.
