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-It was shown that today's profits depend upon today's investment
-profits equal investment
-investment is still the major, although not the only, determinant of profits
Investment outputs must be financed while being produced.
ownership of (or positions in) capital assets must be financed.
(remember both are diff)
-financing terms affect the prices of capital assets, the effective demand for i
nvestment, and the supply price of investment outputs
-determinants of investment help to understand financial instability theory
-the fundamental cyclical properties of our type of economy are determined by re
lations among
profits, capital-asset prices, financial market conditions, and investment
Pg 192
-An investment is like a bond; it is a money-now-for-money-Iater exchange, depen
ding upon how well the firm does, which in turn depends upon how well the indust
ry and the economy do
-workers producing investment output and the owners of the debt instruments
used to finance investment output have to be paid while the investment
output is gestating
-The money to make these payments by the
producers of components to an investment output has to be obtained either
from sources internal to the producing or investing firm or from outside
sources
-A decision to invest-to acquire capital assets-is always
a decision about a liability structure
-Cash-flow commitments, present-value calculations, and liquid-asset holdings de
termine
how developments in financial markets affect the behavior and the
viability of economic units
-that instability is determined by mechanisms within the system,
not outside it
Pg 193
-Instability emerges as a period of relative tranquil growth is transformed
into a speculative boom
-This occurs because the acceptable and the
desired liability structures of business firms (corporations) and the organizati
ons
acting as middlemen in finance change in response to the success of
the economy
Pg 194
THE CHARACTERISTICS OF
CAPITALISM: TWO PRICE SYSTEMS
AND FINANCE
The fundamental propositions of the financial instability hypothesis are:
I. Capitalist market mechanisms cannot lead to a sustained, stableprice,
full-employment equilibrium.
2. Serious business cycles are due to financial attributes that are
essential to capitalism.
-In a capitalist economy, the means of production are
privately owned: the difference between total revenues and labor costs
provides income to the owners of capital assets.
-Furthermore, capital assets
can be both traded and hypothecated
-In addition, financial instruments resulting from hypothecating or pledging
investment. The second set deals with financing the capital asset: a decision
to acquire capital assets is, basically, a decision to put out liabilities
-The costs(like interest rates) of financing the production of investment is a c
ost that
enters the supply price of output just like the costs of labor and purchased
inputs
Pg207
-supply function of
investment, depends upon labor costs and short-term interest rates
-demand function for investment, is derived from the price of capital
assets, and the anticipated structure and conditions of financing
-the investment decision is based upon expected flows of internal and
external funds
-But the flows of internal funds to investing units depends
upon the performance of the economy during the period between the
decision to invest and the completion of the investment. Thus there is an uncert
ainity
-One concrete manifestation of the uncertainty that rules is found in
the willingness to lever or debt-finance positions in inherited capital assets,
financial assets, and newly produced capital assets
-Willingness to lever affects borrowers and lenders
-margins of safety required by both the borrowers and the lenders affect the
extent to which positions and investments are externally financed
-If the conventional liability structure for financing positions in
some capital assets changes so that more debt becomes acceptable, then the
firms that financed their positions by conforming to the prior conventions
acquire borrowing power: they can acquire cash by issuing more debt with
the same capital assets as before
-If the conventional debt-equity ratio does
not change, but the market valuation of the cash flow generated by capital
assets increases, then capital-asset-owning firms acquire borrowing power
-A stock market boom leads to a higher implicit market value of the underlying
capital assets of the economy; conversely, a fall in the stock market
lowers the implicit value.
-When debt is used to finance common-stock ownership, a rise in the price of the
stock will uncover an ability to borrow by the stockholders
-An initial rise in
the price of stocks can lead to a further rise in demand for stocks and leads to
building expected price; Symmetrically, a fall in stock market valuations will
decrease borrowing power and increase the burden of debt relative to asset value
s
-As the decline in the price of common stocks happen the acceptable leverage rat
io(deb/eq) falls
-borrowers and lenders both increase their required margins of safety
-The required margins of safety affect the acceptable financing plans
of investing units
-If recent experience is that outstanding debts
are easily serviced, then there will be a tendency to stretch debt ratios and vi
ce versa
-A history of success will tend to
diminish the margin of safety that business and bankers require and will
thus tend to be associated with increased investment; a history of failure
will do the opposite
-The price of capital assets is a demand price for investment output
-Given the labor force, wage rates, interest rates, and
the techniques embodied in the stock of capital assets for producing investment
output, there is a supply price of investment output
Pg 216
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