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Unit 5 Microeconomics: Money and Finance Chapters 11.1 Economics Mr. Biggs
Investment - The act of redirecting resources from being consumed today, so that they may create benefits in the future. Investing and Free Enterprise Investing is an essential part of the free enterprise system. Investment promotes economic growth and contributes to a nation’s wealth. Saving and Investing
The Financial System Financial system - Allows the transfer of money between savers and borrowers. Financial Assets When money is put into a savings account or certificate of deposit, the money is a loan to the bank. The financial asset may be a deposit receipt, bond certificate, or other record. Financial asset - A claim on the property or income of the borrower.
The Flow of Savings and Investments Savers (households, individuals, and businesses) lend out their savings in return for financial assets. Borrowers (government and businesses) invest the money to do things like build factories, homes, and create new business markets. Financial Intermediaries Financial intermediaries - Institutions that help channel funds from savers to borrowers. Banks, saving and loan associations, and credit unions take in deposits from savers, then lend out some of these funds to businesses and individuals. Finance companies make loans to consumers and small businesses.
Mutual funds - A pool of the savings of many individuals that is invested in stocks, bonds, and other financial assets. Life insurance companies provide financial protection for families or other beneficiaries, but also lend out part of the premiums they collect. Pension fund employees and employers contribute to pension funds and these contributions are then invested in stocks, bonds, and other financial assets. Financial intermediaries offer three advantages over savers dealing directly with investors: Shared risk Provide information Provide liquidity to investors
Sharing Risk Diversification - Spreading out investments to reduce risk. Intermediaries diversify your investments and thus reduce the risk that you will lose all of your funds if a single investment fails. Providing Information Intermediaries usually have expertise and knowledge about the performance of investments that the average person does not possess. Portfolio - A collection of financial assets. Prospectus - An investment report to potential investors.
Providing Liquidity Intermediaries make it easier for investors to convert their financial assets into cash. For example, it would be difficult to find a buyer for a rare painting, but it would be easier to convert a mutual fund into cash. Risk, Liquidity, and Return Most decisions involve trade-offs and this includes savings and investments.
Return and Liquidity Savings accounts have a relatively low rate of return, but it is easy to get cash immediately (liquidity). Return - The money an investor receives above and beyond the sum of the money initially invested. If you are willing to give up some liquidity, a certificate of deposit (CD) with a higher interest rate is a safe savings choice because it is guaranteed by the government. Return and Risk In general, the higher the risk, the higher the return. If you invest in a start up company or an IPO, you could make a lot of money if it succeeds or lose the entire investment if it fails.
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