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Über dieses Buch

This book provides readers with essential concepts from financial economics for an integrated study of the financial system and the real economy. It discusses how long-term market prices are determined and affected by population growth, technological progress and non-renewable resources. The meaning of market prices is examined from the perspective of households and from the perspective of firms. The book therefore connects different fields of finance, which usually focus only on either the households’ side or the firms’ side.

Inhaltsverzeichnis

Frontmatter

1. Introduction

Abstract
Finance, a relatively young science, is a combination of three fields: business administration, economics, and mathematics. Learning finance without its foundations might lead to a misunderstanding and misapplication of financial theory. The aim of this book is to cover the economic foundations of finance and to give an introduction to financial economics.
Thorsten Hens, Sabine Elmiger

2. Financial Markets and Institutions

Abstract
It is obvious that economies depend on markets for labor and for products, such as consumption goods. In these markets, the so-called “Main Street”, employers find employees who are most suitable for them, and households find products which are best for them. So why then is there a need for Wall Street? That is, why is there a need for bond markets, stock markets and a variety of option markets, where enigmatic persons such as Warren Buffet, George Soros and Bernard Madoff snatch each other’s money? And why do workers and entrepreneurs of “Main Street” need to rescue institutions of Wall Street (investment banks, commercial banks, mortgage banks, etc.) from collapse with billions of dollars in the end? These controversial questions can only be answered if one understands the functions of financial markets and their institutions.
Thorsten Hens, Sabine Elmiger

3. The Basic Economic Model

Abstract
In the basic economic model, there are two types of participants, households and firms, who interact via two markets, the goods market and the labor market. Throughout the book we assume that the large number of individual households and firms in the economy can be pooled together and modeled as one representative household and one representative firm.
Thorsten Hens, Sabine Elmiger

4. Extension of the Model to Capital

Abstract
The basic economic model from Chap. 3 already featured some realistic properties: real and not nominal prices determine equilibrium allocations, disequilibria in product markets imply disequilibria in labor markets and vice versa, and technological progress results in higher wages and profits.
Thorsten Hens, Sabine Elmiger

5. Extension of the Model to an Infinite Horizon

Abstract
The model with capital from Chap. 4 has a number of plausible properties, but there is still room for improvement. For example an undesirable feature of the model is that consumption and output per capita fall over time with population growth. This is due to the fact that the total amount of capital was initially given. However, if we extend the model to multiple time periods, it is possible to balance population growth with a higher savings rate and thereby to hold the stock of capital per capita constant over time.
Thorsten Hens, Sabine Elmiger

6. Extension of the Model to Uncertainty

Abstract
This chapter extends the model to uncertainty in order to explain the crucial difference between equity and debt. When households hold equity, they face future returns that tend to be high in good times and low in bad times. Thus, they demand a return on equity that is higher than the return on debt as a compensation for the pro-cyclical returns. When firms are maximizing their profits, they will use debt only if the future profits by the use of debt are larger than the costs in terms of interest payments on debt on average.
Thorsten Hens, Sabine Elmiger

7. Extension of the Model to Exhaustible Resources

Abstract
The preceding chapters considered labor and capital as the only factors for production. Labor is a resource that is available in every period and that even increases as the population grows. Physical capital decreases through depreciation, but can be increased endogenously by investing accordingly. However, production often requires also resources that are exhaustible like for example oil, plutonium or land. Some exhaustible resources might not be needed for production in the future due to new ways of producing, but some might remain essential for production.
Thorsten Hens, Sabine Elmiger

8. Aggregation

Abstract
In this book, we assume that the entire consumption (production) sector can be represented by a single household (firm). This seems to be an odd assumption given that those sectors consist of millions of heterogeneous agents: each household has different preferences and faces another budget constraint, whereas each firm produces goods in its own way and can be more or less profitable.
Thorsten Hens, Sabine Elmiger

9. Conclusion

Abstract
This book explains the long-term evolution of asset prices based on just a few basic principles: the principle of rationality applied to firms’ and to households’ decisions combined with the principle of equilibrium suffice to capture the observed long-term growth rates of stocks, bonds and commodity prices. In particular, we derived a theory of interest rates that explains asset prices from the firm’s perspective by the marginal productivity of capital and from the household’s perspective by the degree of impatience combined with consumption growth. In our book, stock prices are characterized by their expected discounted cash flows.
Thorsten Hens, Sabine Elmiger

Backmatter

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