Economic & Financial Environment of Business

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Date Submitted: 01/19/2011 01:16 PM

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Economic & Financial Environment of Business

A: The different components of our economy, their relation and the way they affect each other (directly/indirectly).

The Financial Markets

Financial Markets serves as a term describing different market places to buy and sell stocks, bonds, commodities, currencies and other fungible goods.

• Money Market

Short-term (1 day up to 1 year) market for banks, other financial institutions and central banks. Banks and financial institutions use to borrow or lend money on a short-term basis; central banks use it for their monetary policies.

• Capital market

Mid- to long-term market place for securities. It includes the bond market and the stock market. Companies, financial institutions and governments to fulfill their long-term capital needs use it.

• Currency market

Market place for trading currencies, mainly by banks, outside Investors and central banks.

Interest Rates

Interest rates display the price for borrowing money. Interest rates are the main tool for central banks to enforce their monetary policy since it affects the amount of money people and institutions will borrow.

Risk and Term Structure

• Risk Structure

The difference in interest rates for bonds/securities with the same maturity date.

Bonds have different risk profiles that usually depend on their default risk and their liquidity. Indicator for the risk can be ratings by rating agencies (Moody’s, Standard & Poor’s).

• Term Structure

Relationship in interest rates of bond/securities with different maturity dates.

Typically, your yield curve will be upward sloping, meaning the longer away the maturity date is, the higher the interest. A ‘flat’ yield curve would indicate the same interest rate regardless of the maturity date. There can also be a situation with downward sloping interest curve, meaning that bonds with an earlier maturity date have higher interest rates than bond with a later maturity date (inverted yield curve)....