Transcript Money, the Interest Rate, and Output: Analysis and Policy

CHAPTER
24
Money, Goods and Capital
Markets: An Overview
Appendix: Definition
Prepared by: Sir Jones The Great
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
C H A P T E R 24:
Money, the Interest Rate, and Output:
Analysis and Policy
The Goods Market
and the Money Market
• The goods market is the market in
which goods and services are
exchanged and in which the
equilibrium level of output and
market price is determined.
• The money market consists of financial
institutions and dealers in money or credit
who wish to either borrow or lend.
Participants borrow and lend for short
periods of time, typically up to thirteen
months.
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C H A P T E R 24:
Money, the Interest Rate, and Output:
Analysis and Policy
The Capital Market
• A capital market is a market for
securities (debt or equity), where
business enterprises (companies)
and governments can raise longterm funds. It is defined as a market
in which money is provided for
periods longer than a year.
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• Capital markets are for people who
are willing to accept more risk and
less liquidity in their investments for
a possibly higher return than Money
markets.
C H A P T E R 24:
Money, the Interest Rate, and Output:
Analysis and Policy
The Links Between the capital and the
Money Market
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C H A P T E R 24:
Money, the Interest Rate, and Output:
Analysis and Policy
The Money Market
• Money market trades in short-term financial
instruments commonly called "paper." This contrasts
with the capital market for longer-term funding, which
is supplied by bonds and equity
• The core of the money market consists of banks
borrowing and lending to each other, using commercial
paper, repurchase agreements and similar instruments
• These instruments are often benchmarked to (i.e.
priced by reference to) The Central Bank of The
Bahamas prime rate.
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C H A P T E R 24:
Money, the Interest Rate, and Output:
Analysis and Policy
Common money market
instruments
• Certificate of deposit - Time deposits, commonly
offered to consumers by banks, thrift institutions, and
credit unions.
• Repurchase agreements - Short-term loans—
normally for less than two weeks and frequently for
one day—arranged by selling securities to an investor
with an agreement to repurchase them at a fixed price
on a fixed date.
• Commercial paper - Unsecured promissory notes
with a fixed maturity of one to 270 days; usually sold at
a discount from face value.
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C H A P T E R 24:
Money, the Interest Rate, and Output:
Analysis and Policy
Common money market
instruments
• Treasury bills - Short-term debt obligations of a national
government that are issued to mature in three to twelve
months.
• Money funds - Pooled short maturity, high quality
investments which buy money market securities on
behalf of retail or institutional investors.
• Foreign Exchange Swaps - Exchanging a set of
currencies in spot date and the reversal of the exchange
of currencies at a predetermined time in the future.
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C H A P T E R 24:
Money, the Interest Rate, and Output:
Analysis and Policy
The Capital market
The capital market includes the stock
market (equity securities) and the bond
market (debt)
Capital markets may be classified as primary
markets and secondary markets.
In primary markets, new stock or bond
issues are sold to investors via a
mechanism known as underwriting
In the secondary markets, existing
securities are sold and bought among
investors or traders, usually on a securities
exchange, over-the-counter, or elsewhere.
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C H A P T E R 24:
Money, the Interest Rate, and Output:
Analysis and Policy
Securities
• A security is a fungible, negotiable instrument
representing financial value. Securities are broadly
categorized into debt securities (such as banknotes,
bonds and debentures) and equity securities, e.g.,
common stocks
• Commercial enterprises have traditionally used securities
as a means of raising new capital. Securities may be an
attractive option relative to bank loans
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C H A P T E R 24:
Money, the Interest Rate, and Output:
Analysis and Policy
The Stock Market
• A stock market or equity market is
a public market (a loose network of
economic transactions, not a physical
facility or discrete entity) for the
trading of company stock (shares)
and derivatives at an agreed price;
these are securities listed on a stock
exchange as well as those only
traded
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C H A P T E R 24:
Money, the Interest Rate, and Output:
Analysis and Policy
Members of The BISX
• BISX has approved five broker-dealer Members to trade
listed securities on BISX:
•SG Hambros Bank &
•FG Capital Markets Limited
Trust (Bahamas) Limited
•CFAL Securities Ltd
•Royal Fidelity Capital Markets
•Colonial Pension Services
(Bahamas) Limited
•These entities actively facilitate trading of
the domestic equities listed on BISX
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• The stocks are listed and traded on stock exchanges
which are entities of a corporation specialized in the
business of bringing buyers and sellers of the
organizations to a listing of stocks and securities together.
The largest stock market in The Bahamas is The
Bahamas International Securities Exchange (BISX)
C H A P T E R 24:
Money, the Interest Rate, and Output:
Analysis and Policy
The Stock Market
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The Break Down
C H A P T E R 24:
Money, the Interest Rate, and Output:
Analysis and Policy
see: (http://www.bisxbahamas.com/companies.php)
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C H A P T E R 24:
Money, the Interest Rate, and Output:
Analysis and Policy
Shares , Bonds and Debentures
• Issued by a corporation, a debenture
is known as a promissory note or
bond which is backed by earnings of
the firm as well as it’s credit history.
The firm basically promises to pay
the face value of the debenture as
well as the interest.
• A share represents ownership in a company.
•A bond is primarily a loan and can be seen
as a debt which must be repaid
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C H A P T E R 24:
Money, the Interest Rate, and Output:
Analysis and Policy
Securities traded on the exchange
• Only those Public Companies which have been
approved by the Stock Exchange Council can have
their shares traded on the Stock Exchange. These
companies are described as listed or quoted
companies
• The types of Securities traded on the Stock Exchange
include:
 Gilt-edge securities
Ordinary shares
 Debentures
Securities issued by local author.
 Preference shares
Shares on exchange in other
countries
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• It helps the Government and Companies to borrow on
a long-term basis.
• It influences the way in which savings are invested.
• It provides a means for valuing financial assets.
(see page 173/4 of the Longman)
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Money, the Interest Rate, and Output:
Analysis and Policy
Functions of The Stock Exchange
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C H A P T E R 24:
Money, the Interest Rate, and Output:
Analysis and Policy
Primary and Secondary Markets
• Primary Markets/ Issue refers to the market for first
hand issue. This means the shares are issued/sold
by the firm to the holder. Company receive money on
this issue
• Secondary Markets/Issue refers to the reselling of
those shares by the holders of the shares. This is
usually done on The Stock Exchange or over the
counter. The holder receive money on this issue and
surrender ownership of share to purchaser.
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C H A P T E R 24:
Money, the Interest Rate, and Output:
Analysis and Policy
The purpose of The Stock Exchange
• Very little of the money that changes hands on The
Stock Exchange finds it’s way back to business.
Firms receives money only when the sold securities
on the primary/first issue. Nevertheless, The Stock
Exchange helps businesses in several ways:
1. People would not be willing to buy securities in the
first place if they could not sell the on/again.
2. People buy securities because they believe that
securities might rise in value. The Stock Exchange
publish figures everyday.
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C H A P T E R 24:
Money, the Interest Rate, and Output:
Analysis and Policy
Stock Exchange terms
• Speculation The guessing of the movement of share
prices in the future. Speculators buy shares to make a
profit. Not for dividends.
• Bulls These are speculators who buy shares
expecting they will rise in price and can be resold at a
profit.
• Stags These are speculators who buy new shares,
hoping that the price will rise as soon as trading
begins on The Stock Exchange
• Bears These are speculators who sell shares,
believing that they are about to fall in price
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C H A P T E R 24:
Money, the Interest Rate, and Output:
Analysis and Policy
Why shares rise and fall in value
• Shares rise or fall in value because there is a change
in either the demand or supply of them. Here are some
reasons why demand or supply may chjange:
1. Changes in company profits
2. Changes in interest rates
3. Interference in the supply of goods and services
4. Rumours
5. Government policy
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C H A P T E R 24:
Money, the Interest Rate, and Output:
Analysis and Policy
The yield
Dividends are declared on the
Nominal or Par value of a share.
• The yield depends on the market
price of the share
• Another name for yield is real
return.
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C H A P T E R 24:
Money, the Interest Rate, and Output:
Analysis and Policy
Calculation of the yield
If Tanarj has a $1 share, and the dividend is
declared as 5%, Tanarj will receive a $0.05
dividend that year (i.e., 5/100 *$1)
The yield or Rate of Return, however, will be
dependent on the Current Market price of the
share on the Stock Exchange. If the share is
being quoted at $2, the yield is the dividend
as a percentage of the market price (i.e., Yield
= Dividend/Market Price) Yield = $0.05/$2 =
2.5%. The yield is always measured in
percentage.
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• Research and write short
notes on The BIG BANG
Theory.
C H A P T E R 24:
Money, the Interest Rate, and Output:
Analysis and Policy
The BIG BANG Theory
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C H A P T E R 24:
Money, the Interest Rate, and Output:
Analysis and Policy
Appendix: The IS-LM Diagram
© 2004 Prentice Hall Business Publishing
• The IS curve shows a
negative relationship
between the equilibrium
value of Y and r.
• Each point on the curve
represents equilibrium in
the goods market for a
given value of the interest
rate.
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C H A P T E R 24:
Money, the Interest Rate, and Output:
Analysis and Policy
Appendix: The IS-LM Diagram
• The LM curve shows a
positive relationship
between the equilibrium
value of Y and r.
• Each point on the curve
represents equilibrium in
the money market for a
given value of aggregate
output (income).
• The LM curve is upward-sloping because higher
income results in higher demand for money and a
higher interest rate.
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C H A P T E R 24:
Money, the Interest Rate, and Output:
Analysis and Policy
Appendix: The IS-LM Diagram
© 2004 Prentice Hall Business Publishing
• The point at which the
IS and the LM curves
intersect corresponds
to the point at which
the goods market and
the money market are
in equilibrium.
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C H A P T E R 24:
Money, the Interest Rate, and Output:
Analysis and Policy
Appendix: The IS-LM Diagram
© 2004 Prentice Hall Business Publishing
• An increase in
government spending
shifts the IS curve to
the right.
• This increases the
value of both Y and r.
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C H A P T E R 24:
Money, the Interest Rate, and Output:
Analysis and Policy
Appendix: The IS-LM Diagram
© 2004 Prentice Hall Business Publishing
• An increase in the
money supply shifts
the LM curve to the
right.
• In turn, the value of Y
increases and the
value of r decreases.
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C H A P T E R 24:
Money, the Interest Rate, and Output:
Analysis and Policy
Appendix: The IS-LM Diagram
© 2004 Prentice Hall Business Publishing
• It is easy to use the IS/LM
diagram to see how there
can be a monetary and
fiscal policy mix that leads
to a particular outcome.
• Here, an increase in the
money supply accompanied
by an increase in
government spending leads
to an increase in aggregate
output, with no change in
the interest rate.
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