CHAPTER%208

CHAPTER%208 - Basic Facts Transaction Costs Liquidity...

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Unformatted text preview: Basic Facts Transaction Costs Liquidity Asymmetric Information Conflicts of Interest Financial Crises US Other Countries Last lecture Stocks are valued as the present value of future dividends. Uncertainty about dividends makes stock prices sensitive to information and news. Theory of rational expectations- Efficient markets hypothesis : stock prices fully reflect all available information. There are no unexploited profit opportunities. Empirical evidence for efficient markets is strong, despite some (recent) anomalies. “Buy and hold” is best possible investment strategy. Basic Facts Transaction Costs Liquidity Asymmetric Information Conflicts of Interest Financial Crises US Other Countries Last lecture Are crashes consistent with rational expectations or a result of irrational exuberance? Black Monday October 19, 1987: DJ down by 20% on 1 day Tech crash 2001 : Nasdaq loses 60% of its value Nothing rules in RE theory rules out large stock market swings. However, it is hard to identify changes in fundamentals to explain these crashes. RE may still hold, but perhaps not the strong version. Recent theories: Behavioral finance. Explain “bubbles” and crashes as RE reactions to imperfect news Basic Facts Transaction Costs Liquidity Asymmetric Information Conflicts of Interest Financial Crises US Other Countries CHAPTER 8 An Economic Analysis of Financial Structure Basic Facts Transaction Costs Liquidity Asymmetric Information Conflicts of Interest Financial Crises US Other Countries The role of financial markets is to channel funds from savers to borrowers. Financial markets should promote economic efficiency: by moving resources towards agents with productive investment opportunities by improving the timing of consumption over the life cycle by allowing agents to share risk Occasionally, financial markets break down, leading to a financial crisis. Basic Facts Transaction Costs Liquidity Asymmetric Information Conflicts of Interest Financial Crises US Other Countries The flows of funds from borrowers to savers can occur through 1. Direct finance : borrowers borrow funds directly from lenders by selling securities. 2. Indirect finance : a financial intermediary stands between the borrower and the saver. e.g. banks, mutual funds, insurance companies,... Basic Facts Transaction Costs Liquidity Asymmetric Information Conflicts of Interest Financial Crises US Other Countries Basic Facts Transaction Costs Liquidity Asymmetric Information Conflicts of Interest Financial Crises US Other Countries A Look at Financial Structure Throughout the World Basic Facts Transaction Costs Liquidity Asymmetric Information Conflicts of Interest Financial Crises US Other Countries Eight Basic Facts 1. Stocks are not the most important sources of external financing for nonfinancial businesses....
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This note was uploaded on 10/08/2008 for the course ECON 3310 taught by Professor Davis during the Fall '07 term at Cornell.

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CHAPTER%208 - Basic Facts Transaction Costs Liquidity...

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