Random Terms and Concepts: Part 1

(This is the 3rd in the series of blogs that I will be writing in an attempt to brush up my general and business specific awareness, improve my thinking, and of course, to substantiate the raison detre of my blog: s p a c e. For starters, the blogs will be intensive in facts and figures, with justifiable opinions, added here and there.  Content will be sourced from Wikipedia and other miscellaneous sites. Intention will be to repackage the information into simpler forms)


Before I jump to the details of 'recession', I realised I need to cover certain basics, which I wrongly presumed, I knew.  So here, I am covering a few concepts that I found 'special' or 'novel'.


TRANSACTION COSTS: Costs incurred in relation to executing a 'sale' or 'buying' of a service or commodity as opposed to the 'price'. This can be:

• search and information costs: of buyer, or seller, of products, of prices (current and future)...in order to get the best out of an investment/expenses incurred.
• bargaining costs: costs required to come to an acceptable agreement with the other party to the transaction, drawing up an appropriate contract and so on. 
• policing and enforcement costs: to make sure that the other party follows the rules of the contract and to take a course of action (legal), if it flouts the rules.

According to Oliver E. Williamson, the transaction costs are determined by frequency, specificity, uncertainty, limited rationality, and opportunistic behaviour. 

Often, it is said that 'transaction' costs are actually 'institution' costs, as in, the costs that are created by 'firms', 'markets' and 'franchises'...these being the various 'institutions' in an economy. 

There was a transition from the classical and hedonic schools of economic thinking to institutional schools, which was marked by the concept that the basis of an economic thinking was 'TRANSACTION'

The classical schools dealt with mere labour manufacturing commodity 

The hedonic schools dealt with consumers enjoying commodity

The institutional school said that it was the 'transaction' that interfered in the 'labour producing' a commodity or 'consumer enjoying' a commodity. It emphasised that social forces controlled the access to a 'service or product' and hence 'negotiations' were actual and the more important means to aqcuire it.  And this includes the broader context of 'transaction' and doesn't restrict itself to 'give and take'.

SWITCHING COSTS: These are costs that will have to be borne if a seller changes or substitutes the current buyer with a new one; or when a buyer changes/substitutes the current seller, with a new one.

There can be three specific cases: When the such costs are high only for Seller (MONOPSONY)

                                                         When the such costs are high only for Buyer (MONOPOLY)

                                                         When the such costs are high for both (BILATERAL MONOPOLY)

MARKET ECONOMY: It relies primarily on the 'interactions' between buyers and sellers to allocate resources. Here, decisions on production, distribution, pricing and investment are made my private owners of the factories of production based on their individual interests (a blind-belief in this system is blamed to an extent, for the recession period 2007-10)

PLANNED / COMMAND ECONOMY: Here, the above referred decisions are taken by the central government. It draws out the map and the rules of manoeuvreing, for the participants in an economic transaction. 

PLANNED MARKET ECONOMY: Here, the government uses 'indicative' planning, by exerting moderate influence over the market interactions, through the tools like subsidies, grants and taxes, but doesn't compel. I believe, this is the kind of economy India follows...a 'middle' path...everywhere :)

EFFICIENT MARKET HYPOTHESIS (EHM): It asserts that markets are informationally efficient, that is, one cannot gain continually on the basis of monopoly over the 'information' or 'data' related to the transaction costs.  When everybody has easy access to such information, markets as a whole, as a cluster, reacts 'rationally' to a new information, though there may be individual cases of over-reaction or under-reaction (Just what factors influence market reaction, will be covered in a later blog)

ENTERPRISE RESOURCE PLANNING (ERP): A business is a constantly changing phenomenon. The items are sold continuously, money enters and leaves the cash books now and then, and all of these, collevctively, have an effect on the company health, and hence should be constantly judged in order to change plans or take new decisions.  But it is virtually impossible to guage and track all the data manually, and even more so, to sift and process the information in order to find what is 'relevant' to management functions, and interactions. Thus an 'automated' system, using software applications is used to do these functions. 

ERP integrates internal and external management information across an entire organisation (finance/accounting, manufacturing, sales, services) and facilitates the flow of this information between all business functions inside the boundaries of an organisation. This thereby helps the company to manage its connections to outside stakeholders.

Related terms: MIS (Management Information System), EIS (enterprise..), SCM (Supply Chain Management), Customer Relationship Management (CRM)

FINANCIAL MARKETS: It is a mechanism that allows people to buy and sell financial securities (stocks and bonds) and commodities (precious metals and agricultural goods) and other fungible items (when one unit of an article is equal in value to any other unit of the same article). It works in an environment where transaction costs are lower and market information is widely available and accessible.

Financial Markets facilitate:

• Raising capital - In capital market business enterprises and governments raise long-term funds
• Risk transfer - In derivative market a contract can be drawn, such that, it fixes the 'price' of a financial instrument at a current rate, and binds the contract holders to abide by that price, irrespective of future variations in the price of that instrument. Thus it has a 'value', and can itself be 'traded' (the contract paper can be traded). Such a contract can be used in combination with other risky investments (price dependent on markets) to balance the risk for an individual. (Hopefully, more on various alternative investments..later)
• International Trade - In currency market, for example, it involves purchasing the quantity of one currency by paying the quantity of another currency.

LIQUIDITY: It is a feature of being 'easy' to sell.  A product will be easy to sell (related to transaction costs), when the buyer will be able to 'resell' it too, as and when needed, with no loss, or even preferable, some gain! Money, or 'cash in hand' is the most liquid asset. 

An act of exchange of a less liquid asset with a more liquid asset is called 'Liquidation'.

Liquidity also refers to business's ability to fulfill its payment obligations; that is, the presence of sufficient liquid assets.

MARKET TRENDS: It is just the 'behaviour' of a market, its tendency to move in a particular direction (as we say share market gir gaya/ uth gaya). Now, there are 'trends' within trends.  To draw an analogy, how would you say India's climate is? You will say, it is Tropical.  But would you say the same for Himalayan region? No! So there are climates within a larger climatic region.  Similarly, there are Very Long Term trends - SECULAR TRENDS, which are made up of a series of PRIMARY MARKET TRENDS, which are again, made up of further, even shorter-period SECONDARY MARKET TRENDS. The term bull market refers to upward movement in market and the term bear market refers to downward movement in the same. 

• Secular Market Trends: Lasts 5-25 years. There may be secular bear/bull markets depending on which of the two are larger influence - bears or bulls
• Secondary Market Trends: These are short term changes in price direction lasting for a few weeks or a few months. One such price change, when downward, can be termed as 'price correction', usually it is a decline of 5% to 20%.  It is not a decline so low, as to be termed a bear market. A similar contrary trend can be a slight, may be temporary rise in a largely bearish market - 10% to 20% - which is not enough to make it bullish. This situation is called as a 'bear market rally'. (don't know why - help..anybody?? - I know nobody reads this stuff I write here)
• Primary Market Trends: This lasts for a year or more.

SOME FINANCIAL MARKET TERMS (and slangs)

POISON PILL: Usually, a company tries to prevent being 'bought' by another. Buying a company can be done by 'buying' majority shares of that company.  Now, if a company feels that it is under such a threat, it can issue more shares, such that, the 'attacking company' will need to 'invest' more than it earlier expected/planned, to be able to buy a big percentage of the total number of shares (now suddenly increased). Poison Pill is such a strategy to discourage hostile takeovers.

WHITE KNIGHT: It is really interesting! Consider a situation where company A is in threat of being bought by party B.  To buy A, B will simply buy its shares, which are available in the market.  Now, to save itself, company A wants to protect its shares.  But it may not be able to buy its own shares, on account of certain issues. Then, a friendly partner will help it, buy capturing its shares (buying them, temporarily may be) before the dangerous party B can do so. Such a friendly partner is called a white knight.

Bored now :( other terms laterrrrrrrrrrrr....as if anybody is waiting for them... :P