The Framework of Financial

Management (Discussion 2)
KRISTINE V. MENDOZA, MBA,CIS
The Framework of Financial Management
• Macroeconomic Theory in Understanding Key
Economic Variables Affecting Business Environment
• Fiscal Policies
• Monetary Policies
• Money and Interest Rates
• The Supply Side Policies
`

• The Environmental Policies (Green Policies)

• The Efficient Market Hypothesis and its Relevance to
Financial Management
• Environment of Firms
Macroeconomic Theory in Understanding Key Economic
Variables Affecting Business Environment

• Macroeconomics is a
branch of economics
dealing with the
performance, structure,`
behavior, and decision-
making of an economy as
a whole, rather than
individual markets
Macroeconomic Theory in Understanding Key Economic
Variables Affecting Business Environment

Important Concepts in Macroeconomics:

A. National Income
B. Output
C. Consumption
D. Inflation `
E. Savings
F. Investments
G. International Trade
H. International Finance
Macroeconomic Theory in Understanding Key Economic
Variables Affecting Business Environment

Important Concepts in Macroeconomics:

A. National Income
-Gross National Income (GNI) is the sum
of value added by all producers who are
residents in a nation, plus any product taxes
`

(minus subsidies) not included in output, plus

income received from abroad such as employee
compensation and property income
Macroeconomic Theory in Understanding Key Economic
Variables Affecting Business Environment

Important Concepts in
Macroeconomics:
B. Output
-the quantity of goods or
services produced in a `
given time period, by a
firm, industry or country,
whether consumed or
used for further
production
Macroeconomic Theory in Understanding Key Economic
Variables Affecting Business Environment

Important Concepts in Macroeconomics:

C. Consumption
-final purchase of goods and services by individuals
or `

-aggregate of all economic activity that does not

entail the design, production and marketing of
goods and services
Macroeconomic Theory in Understanding Key Economic
Variables Affecting Business Environment

Important Concepts in
Macroeconomics:
D. Inflation
-the rate at which the `
general level of prices
for goods and services is
rising, and,
subsequently,
purchasing power is
falling
Macroeconomic Theory in Understanding Key Economic
Variables Affecting Business Environment

Important Concepts in
Macroeconomics:
E. Savings
-referred to as the amount
left over when the cost of a
`
person’s consumer
expenditure is subtracted
from the amount of
disposable income that he or
she earns in a given period of
time
Macroeconomic Theory in Understanding Key Economic
Variables Affecting Business Environment

Important Concepts in Macroeconomics:

F. Investments
-in economics, investments relate to saving and
deferring consumption `

-in finance, investment is putting money into

something with the expectation of gain, usually
over a longer term
Macroeconomic Theory in Understanding Key Economic
Variables Affecting Business Environment

Important Concepts in
Macroeconomics:
G. International Trade
-the exchange of capital,`
goods, and services across
international borders or
territories
Macroeconomic Theory in Understanding Key Economic
Variables Affecting Business Environment

Important Concepts in Macroeconomics:

H. International Finance
-also referred to as International Monetary
Economics, or International Macroeconomics is the
`
branch of financial economics broadly concerned
with monetary and macroeconomic interrelations
between two or more countries
Macroeconomic Theory in Understanding Key Economic
Variables Affecting Business Environment

• The choice of the firm of whether to go for debt

or equity is impacted by several factors, among
of which: external macroeconomic variables like
inflation; rate of growth; national income; price
levels and gross domestic product
• By knowing the causal effect of the
`

macroeconomic variables on the choice of

capital structure, the management can mitigate
the impact of the unexpected fluctuations in the
economy and could even take advantage of them
Macroeconomic Theory in Understanding Key Economic
Variables Affecting Business Environment

• Macroeconomics forecast
economic conditions to
help consumers, firms
and governments make `
better decisions
Monetary Policy

• Monetary policy is the process by which the

monetary authority of a country controls the
supply of money, often targeting a rate of
interest for the purpose of promoting
economic growth and stability
`

• Monetary theory provides 2 insights:

expansionary and contractionary
Fiscal Policy
• Fiscal policy is the use of government spending
and taxation to influence the economy
• Discussions on fiscal policy generally focus on the
effect of changes in the government budget on
the overall economy `

• Fiscal policy may be contractionary or

expansionary
Fiscal Policy

• Fiscal policy also changes

the composition of
aggregate demand
• In an open economy, fiscal
`
policy also affects the
exchange rate and the trade
balance
Fiscal Policy
• Fiscal policy is an important tool for managing
the economy because of its ability to affect
the total amount of output produced-that is,
gross domestic product
• The ability of fiscal policy to affect output by
`
affecting aggregate demand makes it a
potential tool for economic stabilization
Money and Interest Rates
• The Demand for Money

Md = P * L (R, Y) `

Md = money demanded
P= price level
L= liquidity preference
R= nominal interest rates
Y- real output
Money and Interest Rates

• Impact of Interest Rates

The interest rate is the rate at which interest is paid
by a borrower (debtor) for the use of money that
they borrow from a lender (creditor)
The quantity of money supplied and demanded
`

varies with the interest rate

To increase investment and consumption, interest
rates are reduced; however, low interest rates can
create economic bubble
Money and Interest Rates

• Control of the Money Supply

The money supply is the total amount of monetary
assets available in an economy at a specific time
Expansionary policy increases the total supply of
money in the economy; contractionary policy
`

expands the supply of money

Supply Side Policies
• Supply Side Policies are mainly micro-economics
policies aimed at making markets and industries
operate more efficiently and contribute to a
faster underlying-rate of growth of real national
output `
• Among the benefits of supply side policies: lower
inflation; lower unemployment; improved
economic growth; improved trade and balance of
payments
Supply Side Policies
Some Examples of Supply Side
Policies:
Privatization
Deregulation
Reducing income taxes
`
Increased education and
training
Lower tariff barriers
Improving transport and
infrastructure
Environmental Policies

• Environmental policy
refers to the
commitment of an
organization to the laws,
regulations, and other`

policy mechanisms
concerning
environmental issues
Environmental Policies

• Environmental policies are used by

`

the government through different

types of instruments: economic
incentives, market-based
instruments, and tradable permits
and fees
The Efficient Market Hypothesis
• The efficient market hypothesis (EMH) is a theory
that states that an asset’s price fully reflect all
available information; and that it is impossible to
“beat the market” consistently on a risk-adjusted
basis `
• The three variants of the hypothesis are: weak;
semi-strong; and strong
Environment of Firms

• Business environment
consists of all those
factors that have bearing
on the business `

• Some forces affect the

business directly and
some indirectly
Environment of Firms

• Some features of business

environment include:
aggregate in nature
with specific and general
forces `

dynamic
uncertain
Environment of Firms

• Types of Environment
`

Internal
External
Environment of Firms

• Types of Environment
Internal – has direct impact on the
business
 value system `

 mission, vision and objectives

 management structure and nature
Environment of Firms

• Types of Environment
External – has indirect influence
on the business
 2 types: micro environment (e.g.,
`

supplier, customer, marketing

intermediaries, public); and macro
environment
end of slide