Structure of financial markets and financial assets

Question 1

what does money function as?

Answer 1

• medium of exchange or means of payment
  -a store of value or store of wealth: an asset
  -a measure of value
  -a standard of deferred payment: repayments at a later date

Question 2

what is money supply?

Answer 2

total amount of money in economy at a particular time

Question 3

what is narrow money?

Answer 3

refers to money supply made of cash and liquid bank deposits

Question 4

what is broad money?

Answer 4

measure of total amount of money held by households and companies in the economy

Question 5

what is liquidity?

Answer 5

measures the ease with which an asset can be converted into cash without loss of value

Question 6

factors affecting the money supply

Answer 6

-open market operations: refers to central bank buying and selling bonds- buying bonds increases money supply
-reserve requirement: percentage of deposits made by customers at bank that bank must keep
-discount rate: rate at which central banks charge commercial banks for borrowing money

Question 7

factors affecting money demand

(when interest rate goes up, demand for money goes down- contraction along demand curve)

Answer 7

-rate of interest on loans
-number/value of monetary transactions that expect to carry out
-extent to which hold other financial assets
-changes in gdp
-extent to which possible to use debit/credit cards
-rate of anticipated inflation

Question 8

what are money markets?

Answer 8

-where short-term debt is bought and sold.
provide means for lenders and borrowers to satisfy short-term financial needs
-covers several markets e.g. markets for treasury bills,commercial bills and inter-bank lending

Question 9

what is inter-bank lending?

Answer 9

banks lend to each other for short period to balance their books

Question 10

what are bills?

Answer 10

short-dated financial assets maturing within a year

Question 11

what are capital markets?

Answer 11

financial market in which long-term debt or equity-backed securities are bought and sold

Question 12

market capitalism?

Answer 12

total market value of issued share of a company

Question 13

what is a primary market?

Answer 13

where newly issued securities are sold by companies, usually arranged by investment banks

Question 14

what is a secondary market?

Answer 14

allows shares to be converted quickly into cash, increasing the liquidity of securities

Question 15

what is foreign exchange market?

Answer 15

where buy and sell foreign currencies

Question 16

what are foreign exchange markets made up of

Answer 16

-spot transactions: involve immediate exchange of foreign currency
-forward markets: exchange of foreign currencies at some specified time in the future

Question 17

what are financial markets?

Answer 17

-any exchange that facilitates trading of financial instruments

Question 18

what do financial markets enable firms to do?

Answer 18

raise money for investment via both debt and equity measures which can offer a balance between different financial instruments

Question 19

role of financial markets:

Answer 19

-facilitate saving by businesses and households
-lend to businesses and individuals
-facilitate the exchange of goods and services
-provide forward markets in currencies and commodities
-provide a market for equities

Question 20

difference between debt and equity

Answer 20

equity- wealth
debt- money people owe

Question 21

when does negative equity occur

Answer 21

-what you owe exceeds the value of what you own

Question 22

when does positive equity occur

Answer 22

-value of the house is higher than the value of mortgage

Question 23

debt finance:

Answer 23

borrowing money from an outside source with the promise of paying back the borrowed amount plus agreed-upon interest

Question 24

advantages of debt finance:

Answer 24

-less capital required to be invested by shareholders
-debt can be relatively cheap source of finance compared with dividends
-easy to pay interest if profits and cash flows are strong
-debt does not change stakeholder control
-interest on debt is tax deductible

Question 25

disadvantages of debt finance:

Answer 25

-businesses may be vulnerable to unexpected changes in interest rates
-businesses have less control of events if they are highly geared- e.g. have high ratio of debt to equity

Question 26

what is equity finance:

Answer 26

raising capital by selling shares of a business to investors

Question 27

advantages of equity finance:

Answer 27

-equity does not have to be repaid
-equity is risk capital and does not offer a fixed return
-gives business more flexibility

Question 28

disadvantages of equity finance:

Answer 28

-dilution of ownership for the original founders
-equity requires a higher return than debt because it is risk capital
-growing expectations over time that dividends will be paid

Question 29

bond/gilts meaning

Answer 29

fixed-interest securities sold by gov or companies when they borrow in the long-term

Question 30

maturity meaning:

Answer 30

date which the borrower will repay the lender

Question 31

face value/maturity price

Answer 31

amount paid to bondholder at maturity date

Question 32

coupon meaning:

Answer 32

guaranteed fixed annual interest payment

Question 33

coupon rate:

Answer 33

yield x bond market price

Question 34

yield:

Answer 34

return to the investor from the bonds coupon payments
-dividing annual coupon payment with current market price

coupon is fixed but bond will vary- when bond prices are falling, yield will rise

Question 35

calculate bond market price

Answer 35

coupon/ yield