Bufn 740 Hw 1
Homework 1
DC51 Yifei Wu UID：112583057
4. Although we stated that real assets comprise the true productive capacity of an economy, it is hard to conceive of a modern economy without well-developed financial markets and security types. How would the productive capacity of the U.S. economy be affected if there were no markets in which one could trade financial assets?
Answer a. In a capitalist system, financial markets play a central role in the allocation of capital resources. The best resources always tend to come to the companies with the best prospect. The company’s management will find it easy to issue new shares or borrow funds to finance research and development, build new production facilities, and expand its operations. If, on the other hand, a company’s prospects seem poor, investors will bid down its stock price. The company will have to downsize and may eventually disappear. This process greatly improved the efficiency of the productive capacity of the U.S. economy. b. Financial markets allow individuals to separate decisions concerning current consumption from constraints that otherwise would be imposed by current earnings. c. Financial markets can allocate the risk of real assets. On one hand, when considering investing on the same project, risk-tolerant investors can buy high risk financial assets for more profit, while the more conservative ones can buy low risk assets that promise to provide a fixed payment. Everyone get satisfied and get equal payment compared to the risk. On the other hand, This allocation of risk also benefits the firms that need to raise capital to finance their investments. When investors are able to select security types with the risk-return characteristics that best suit their preferences, each security can be sold for the best possible price. This facilitates the process of building the economy’s stock of real assets. d. Financial assets and the ability to buy and sell those assets in the financial
DC51 Yifei Wu UID：112583057
4. Although we stated that real assets comprise the true productive capacity of an economy, it is hard to conceive of a modern economy without well-developed financial markets and security types. How would the productive capacity of the U.S. economy be affected if there were no markets in which one could trade financial assets?
Answer a. In a capitalist system, financial markets play a central role in the allocation of capital resources. The best resources always tend to come to the companies with the best prospect. The company’s management will find it easy to issue new shares or borrow funds to finance research and development, build new production facilities, and expand its operations. If, on the other hand, a company’s prospects seem poor, investors will bid down its stock price. The company will have to downsize and may eventually disappear. This process greatly improved the efficiency of the productive capacity of the U.S. economy. b. Financial markets allow individuals to separate decisions concerning current consumption from constraints that otherwise would be imposed by current earnings. c. Financial markets can allocate the risk of real assets. On one hand, when considering investing on the same project, risk-tolerant investors can buy high risk financial assets for more profit, while the more conservative ones can buy low risk assets that promise to provide a fixed payment. Everyone get satisfied and get equal payment compared to the risk. On the other hand, This allocation of risk also benefits the firms that need to raise capital to finance their investments. When investors are able to select security types with the risk-return characteristics that best suit their preferences, each security can be sold for the best possible price. This facilitates the process of building the economy’s stock of real assets. d. Financial assets and the ability to buy and sell those assets in the financial