Chapter 5 Enviromental influences Flashcards
Describe forward guidance
It is a tool used by some central banks enabbling them to indicate how it believes monetary policy will change in the future - usually over the following 18 to 24 months
It is designed to help people see how the central bank sets interest rates and to reduce the uncertainity about the future path of monetary policy
It allows the central bank to influence
- Long term interest rates
- Inflation expectations
It is not a guarantee. The contral bank can depart from its guidance either as a consequence of some unforeseen economic event or if the economic outlook changes
List the four main classes of investor
- Private individuals
- managers of short term and long terrm mass savings products
- corporates
- foreign investors
List four features that vary between the different categories of investor and also the investors withiin each category
- Time horizons eg ehether they want investment returns over short term or long term
- appetite for risk ie extent to which averse to or tolerant of risk
taxation postion - reflects boh tax rules that applly to particular types of investor and individual investor’s own circumstances, eg how weathy or otherwise
Liability profiles (NTCC) and other features and circumstances
State four possible advantages offered by financial intermediaries compared to direct investment
- Pool resources and thereby enable small investors to gain access to investments which they could otherwise not do so by themselves
- diversification
- expertise
- lower dealing, administration and mangement costs
State possible disadvantages of financial intermediaries cmpared to direct investment
- Additional layer of costs to the investor
- products offered might not meet hte exact requirements of investor
- products offered may be inflexible
- investor loses element of control over investment choice
Describe
- The aims of businesses when issuing securities
- the role of investment banks in the issue of securities
Aims of business when issuing securities
- Issue securities to raise money to finance inestment in real assets. Aim to
- Get the best possible price for securities
- market issues at lowest possible cost
- issue securities that best meet their own requirments with reqards to the term, pattern and flexiblility of funding
- Role of investment banks in the issue of securities
- Advise issuing firms on prices they can charge
- handle marketing security issue to the public
- Check and certify quality of information offered
- innovate security design and packaging to stimulate demand
List the 5 main forms of government policy
List seven areas in which a central bank may be interested
- Banking regulation
- Implementation of government borrowing
- taxation
- performance and integrity of financial markets
- intervention in currency markets
- monetary interest rate and inflation policy
- Printing and minting of notes and coins
Descrive the role fo the central banks in monetar policy and control
Prilmarily concerned with monetary policy and control
- Adjustment of banking sector liquidity
- control of money supply growth and short term interest rates
Achieved through
- Open market operations - buying and selling bills to influence level of liquidity within banking sector and short term interest rates
- setting reserve rations
- Setting discount rate and interest rate ceilings for bank deposits
- issueing directives regarding types of lendin gunder taken
Descrive quantitative easing
It is a monetary policy tool to increase money supply
It involves an increase in money supply and an increase from the fractional reserve system
Usually, central bank will credit its account with money, then buy financial reserve system
usually, the central bank will credit its account with money, then buy financial assets
typically the assets bought are government bonds, mortgage backed debt or corporate bonds in open market operations
Central banks using QE may give forward guidance to the market regarding the anticipated levels of QE that they intend to conduct in the short to medium term
State the four major economic objectives
- Low unemployment - so as not to have economic resources lying idle that could e used to produce goods and services
- Low and stable inflation - so as to avoid costs associated with inflation both anticipated and un anticipated
- high and stable economic growth - as growth leads to more goods and services and hence higher sandrard of living
- Sustainable balance of payments position that doesn’t constrain achievement of other objectives. Stable exchange rate often viewed as desirable to encourage international trade
Descrive the main problem associated with tax policy in an enviroment where trade is truly global and where there is liberalisation of capial flows, and outline the three main ways that the problem manifests itself.
The main problem with tax policy
- Cross border investors and international companies will seek to maximise profits net of tax, and therefore seek more profits to countires with low tax rates. This produces a competitive pressure for countries to lower their tax rates
How the problem manifests itself
- Subsidaries in high tax countries are heavily leveraged, meaning that the profits after intrest are very low
- Intra- group transfer pricing rates are set, which are inconsistent with market rates, leaving the profits in high tax countires significantly lower
- Hyrbrid instruments are used, that lead to tax deduction on country and a tax liability in another to transfer taxable profits
Descirbe the effects of higher interest rate on the
- Personal sector
- business sector
Effects of higher interest rates on personal sector
- Consumer’s expenditure reduced due to
- Increase in mortgage interest payments, which reduce disposable income
- higher rates on credit facilities
- higher rates of interest on savings
Effects of higher interest rates on the business sector
- Invetmnt reduced due to increased cost of capital and reduced growth and profit prospects
- Curreny corporate profitability reduced particularly if much floating rate corporate borrowing
Descrive the efect of higher interest rates on the :
- Excchange rate and the capital account of the balance of payments
- current account of the balance of payments
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Effect of higher interest rates on exchhange rate and capital account
- Increase in iinterest rates attracts “hot money”, leading to increase in domestic currency’s exchange rate
- if it is believed that domoestic activity likely to be depressed, then may be reduced inward flows of direct capital invesetment
Effect of higher interest rates on current account
- If exchange rate rises, then likely to be reduced exports and higher iimports, leading to a reduction in net exports
