ATAR Notes: Forum
VCE Stuff => VCE Business Studies => VCE Subjects + Help => VCE Economics => Topic started by: jess3254 on August 27, 2008, 08:22:54 pm
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Ok. Please pardon my complete ignorance, as I've never really learnt anything about the economy. I've got a couple of questions...
-Why is it good for a company to have debt to their name? This confuses me.
-What factors influence the value of money in countries? Why does it change so regularly?
Thankee :)
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-A certain level of debt is good for a business because it means they aren't limited by their own funds to expand their business and finance their operations. Basically it allows a business to grow and to say purchase non-current assets such as vehichles and equipment which can help boost productivity and sales.
-Are you talking about the value of their currency? Well, a few things can influence the price of the currency but I'll explain one situation that can explain an appreciation or depreciation in a currency. It has to do with demand and supply of the currency. In Australia, an increase in mining exports in the past few years to countries such as China has meant that countries wishing to purchase Australian mining products need to purchase it using Australian dollars. Because they need to buy Australian currency to make their purchase, their is a greater demand for Australian currency which means it's value increases because their has been an increase in demand and supply has stayed the same.
The RBA can also manipulate the value of the currency by buying and selling it's own currency. This is known as a 'dirty float'.
Why is your name differnt by the way? lol
I hope I didn't explain anything wrong :( I'm still VCE Economics level lol
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Oooo I like your currency explanation.
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Thanks.
But there are definitely other factors that influence the value of a currency. From a supply side, the value of a currency can be seriously depreciated if there is too much supply in the economy. This is best illustrated in Zimbabwe. The government there has continually ordered for printing of more money to pay for soldiers wages and to finance any expenditure. What this has done is directly added to the amount of money circulating in the economy. Effectively, because everyone has more money, the price of all goods and services increased dramatically (inflation is over 10 million % per annum). This has a flow on effect to the exchanges of currencies between say Zimbabwe and USA. Because there is so much money in the Zimbabwean economy, its value compared to USA (say, to buy goods in USA) is significantly less than it was before, thereby making the value of each unit of currency less than it was before.
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-A certain level of debt is good for a business because it means they aren't limited by their own funds to expand their business and finance their operations. Basically it allows a business to grow and to say purchase non-current assets such as vehichles and equipment which can help boost productivity and sales.
-Are you talking about the value of their currency? Well, a few things can influence the price of the currency but I'll explain one situation that can explain an appreciation or depreciation in a currency. It has to do with demand and supply of the currency. In Australia, an increase in mining exports in the past few years to countries such as China has meant that countries wishing to purchase Australian mining products need to purchase it using Australian dollars. Because they need to buy Australian currency to make their purchase, their is a greater demand for Australian currency which means it's value increases because their has been an increase in demand and supply has stayed the same.
The RBA can also manipulate the value of the currency by buying and selling it's own currency. This is known as a 'dirty float'.
Why is your name differnt by the way? lol
I hope I didn't explain anything wrong :( I'm still VCE Economics level lol
Thanks for the explanation Costa! :)
I find the economy extremely confusing. Your description makes sense.
/offtopic but - As for my name, I asked Enwiabe to change it, as it used to be my first name + SIM pin, lol (3254 - I made it that, because on the day I made the account, I got a new SIM card with a pin I kept forgetting... quite exciting, yes.) Now I no longer forget my sim pin. So, I decided to go for a username with less numbers. Very thrilling story indeed.
^ (Your further explanation it quite interesting actually :))
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Another question:
How does investing in shares work?
My understanding:
People buy shares of a company, wait till the price of shares are high (which is influenced by...presumably company profits? But that confuses me too, because ABC learning centres are still making profits but have died on the share market), then sell it and make money?
I feel so ignorant :(
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I'l let Cost go into to detail, because his first answers were so informative.
But most of your questions relate to the fundamentals of eco which is Law of Supply and Demand.
If Demand is high, and supply doesn't increase with it, the price of a good will increase
If Supply is low, and demand doesn't decrease the price will increase.
Suppliers are off course wanting maximum profit, while Consumers are wanting the cheapest prices, when they agree on a point its called the equilibrium point.
This stuff is all the basics, but applies for everything we've been learning throughout the year.
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Buying shares, is like buying part of a company. You are a shareholder, and want that company to maximise its profit.
Becoming involved in the stockmarket is all speculation, and thus runs by Supply and Demand.
"Say you're reading the Financial Review, and something is mentioned about a company expanding production, or getting huge demand for their goods", demand for this good will be high, and thus if supply does not match the demand, the price of the share will increase.
Hope that helps a little
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This is my understanding:
Shares literally mean you are a part-owner of the company in which you are investing. You may only have a 0.001% stake in the company but your purchase of shares helps finance the operations of the organisation you are investing in.
Company profits are one factor that influence the price of shares. Current company profits (which publicly-listed company must disclose) may cause an increase or decrease in the value of shares because if a company reports a 40% increase in profits it will be in high demand by investors, and supply of shares may not be adequate to cover the purchase of shares at their current level (eg $3), so therefore the value of the shares increases to a price where the equilibrium (Demand= Supply) price is met. (eg. $3.20)
Speculation is a big part of the share market. With ABC, there current profits may seem reasonable, but in the LONG-TERM
they are seen to be highly risky because they have a large amount of debt which they may not be able to repay (due to excessive borrowing to finance expansion plans abroad) which could affect their profit in the long term.
Also, the value of assets that a business owns affects its value which is why some businesses can have a share price around $3 and be posting similar profits to a business with shares around $10; the assets owned by the business worth $10 a share is valued higher than those of the other business.
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Thanks guys :)
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sorry another question: :P
Can the incumbent Kevin Rudd + Government really do anything about interest rates? How much of an influence does the government have on inflation + interest rates? And, what measures could they implement to prevent a rise? (If that makes sense...)
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Sorry for the essay style answer :P
Interest rates are dictated by the Reserve Bank of Australia (RBA). In that sense, Rudd can't directly alter interest rates because they are at the discretion of the RBA.
You have to understand that monetary policy (changing interest rates) in the past 15 years has primarily been in the pursuit of price stability (inflation between 2-3%). Demand pull inflation occurs when consumers are spending too much instead of saving their earnings. In Australia, on average we actually spend more money per week than we receive in income. Increasing interest rates means that the cost to borrow money will increase and as a result, their should be a decrease in the demand for goods and services, thus lowering inflation.
When this occurs, interest rates may be cut to once again stimulate economic growth and consumer spending.
What you asked about Kevin Rudd doing anything to alter interest rates is sorta complicated but I'll try explain it simply. What the government can do is called budgetary policy which basically outlines the federal governments expected revenues and expenditure for the year. Changes to budgetary policy can help achieve economic objectives such as domestic economic stability (one aspect of domestic economic stability is price stability).
To make it easier to understand, if Rudd wants interest rates to soften, he needs to produce a contractionary budget which is a budget which is in surplus. This means that government revenues exceeds the level of government outlays. This means that MORE money is being taken out of the economy and thus there is less money flowing throughout the economy. This has a contractionary effect on the economy and should help lower economic growth and inflation. This is what the Rudd government has done, it has increased the budget surplus (underlying cash balance) to $21.7 billion.
HERE IS THE LINK:
This should help slow inflation and therefore, the RBA doesn't need to increase interest rates anymore and thus might decrease them.
However, some of the budgetary policy of the Rudd government has gone against their fiscal stance of a large budget surplus. The budget has allowed for tax cuts (changes to the marginal tax brackets) which will mean less revenue for the government and more disposable income (money after tax) for consumers to spend. It can be seen that by giving more money to consumers in a time where they want inflation to drop (from its current level of about 4% to between 2-3%), tax cuts will actually help stimulate economic growth and demand for goods and services.
However inflation is still expected to decrease to about 3.25% because the overall budget is very contractionary.
Finally, interest rate rises can be prevented when inflation is low. So if the Rudd government, through budgetary policy, can keep inflation low, then the chances are that interest rates will stay on hold or drop. One of the most important things to realise is that interest rate rises shouldn't be seen as "bad", because they are necessary. They might seem like they cause people to lose their houses and stuff but they are necessary to help reduce spending and lower inflation, otherwise wage demands will sharply increase also and we will be stuck in a wage spiral.
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Negative gearing ftw, regarding ur first Q.
Google it.
Costargh has got the rest covered.
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Yeh good point fyrefly. I haven't actually 'studied' gearing, only heard about it per say and read about it in this article I bookmarked a while ago.
http://money.ninemsn.com.au/article.aspx?id=143509
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Shares or equities is an interesting market.
Basically, when a public corporation in Australia wants to expand their business they may opt to list (also called float) in the Australian Stock Exchange (ASX) to finance their expansion. When an investor purchases the share/stock/security, the funds then go to the broker who then forwards the money(capital) towards the corporation. This is the fundamental reason why the equity market exists in the world.
As costa stated, when an investor purchases shares, they have actual part ownership of the corporation. However, everyday investors own such a little percentage of it (unlike banks/other companies called institutional investors) that it is negligible.
As another market, shares are controlled by the factors of supply and demand. A balance between the supply and demand yields the share price (in a pure market, ceteris paribus http://wikipedia.org/wiki/ceteris_paribus).
Of course, when a business is operating relatively well the share price is expected to rise due to the increased demand. However, one of the major myths is where company profits is the sole indicator for the health of the corporation and the underlying determination for an increase or decrease in the share price. This is completely incorrect. Company profits is indeed a huge factor of company health but it's on the only one. Debt levels, dividend levels, revenue levels, future forecasts for the company, risk level (calculated by multiple variables such as asset:liab, other liquidity measures (liquidity is the ability of the business to meet their debts, short or long term, when they fall due ) and others, are determinants of future price rises/falls. However, it's more about the future expectations of business health/profits/revenue. A strong history of good health is indeed a great indicator, however it's more about the future of the business. Would you invest in a corporation that is expected to lose $400M (with revenues of mere $500M and profits (before tax) $200M) from a defunct operation? I don't think so ;) (ABC lost ground due to its high debt level and poor management operations, thus losing signficant ground in the equities market).
Glossary (in plain english lol)
Dividends: In short, when the corporation gives a small percentage of their profits to you for investing in their venture.
Revenue: What a company earns. This can be from sales(for goods based corps) /fees (for service based corps) and interest, but not proceeds from selling a block of land for example.
Expenses: What the company spends. This may include wages, taxes etc but not asset purchases (like computers (macs lol))
EBITA: Earnings before Interest and Amortization (http://wikipedia.org/wiki/Amortization)
This is just the tip of the ice-berg here. There's so much to learn like the different between investing and speculating, other forms of investing (options, derivatives) and so much more.
If you want to learn more, shoot me a PM or send me an email to: [email protected] or add me on MSN. :)
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Incomplete reason: why would an investor purchase the share?
The investor purchases the share because the share has a value that corresponds to the value of the company. The investor wishes to lend his spare money to fund this business' expansion, in the hope of the company growing fast enough, to get a good return. There is also the value of being able to vote over some decisions regarding the company, but that value is almost worthless (especially if the company is majority-owned by someone).
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Grr. I am yet to complete my explanation :(
lol.
I was speaking about why the the equities market was existent in the first place. :P
edit: completed. :)
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Another question: What has caused the share market/economy to crash in the past couple of days? I don't quite understand.
Thanks :)
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Short objective answer: malinvestment. The market invested in things that did not realise returns. This happens all the time, but it happened in a massive scale in the sub-prime housing market, where banks gave out loans to people who cannot afford to pay them back.
How this came about? Debatable. You'll have people arguing for tighter regulation on banks, but my view is that there were other incentives involved (for example, the supply of cheap credit into the economy by central banks)
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Another question: What has caused the share market/economy to crash in the past couple of days? I don't quite understand.
Thanks :)
The most you will probably need to noe for VCE Econ is that a whole lot of people sold off shares in companies because people realized the companies weren't worth as much as they were before.
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Jess doesn't do VCE Economics. She is just a keen admirer :)
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The stockmarket crash basically rose from faulty credit based investments. This has caused a "chain-reaction" of business collapses.
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http://freakonomics.blogs.nytimes.com/2008/09/18/diamond-and-kashyap-on-the-recent-financial-upheavals/