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Definition of Economics

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The study of the allocation and distribution of scare resources among competing wants.

Related Terms:

Classical Macroeconomics

The school of macroeconomic thought prior to the rise of Keynesianism.


The study of the determination of economic aggregates such as total output and the price level.


The study of firm and individual decisions insofar as they affect the allocation and distribution of goods and services.

Supply-Side Economics

View that incentives to work, save, and invest play an important role in determining economic activity by affecting the supply side of the economy.

New Classicals

Economists who, like classical economists, believe that wages and prices are sufficiently flexible to solve the unemployment problem without help from government policy.

Absolute priority

Rule in bankruptcy proceedings whereby senior creditors are required to be paid in full
before junior creditors receive any payment.

accepted quality level (AQL)

the maximum limit for the number of defects or errors in a process

Economics Image 1


the systematic assignment of an amount to a recipient
set of categories annuity a series of equal cash flows (either positive or negative) per period


The process of storing costs in one account and shifting them to other
accounts, based on some relevant measure of activity.

Allocation base A measure of activity or volume such as labour

hours, machine hours or volume of production
used to apportion overheads to products and

approximated net realizable value at split-off allocation

a method of allocating joint cost to joint products using a
simulated net realizable value at the split-off point; approximated
value is computed as final sales price minus
incremental separate costs

Arm's length price

The price at which a willing buyer and a willing unrelated seller would freely agree to

Ask price

A dealer's price to sell a security; also called the offer price.

Asset allocation decision

The decision regarding how an institution's funds should be distributed among the
major classes of assets in which it may invest.

Bargain-purchase-price option

Gives the lessee the option to purchase the asset at a price below fair market
value when the lease expires.

Basis price

price expressed in terms of yield to maturity or annual rate of return.

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batch-level cost

a cost that is caused by a group of things
being made, handled, or processed at a single time

Bid price

This is the quoted bid, or the highest price an investor is willing to pay to buy a security. Practically
speaking, this is the available price at which an investor can sell shares of stock. Related: Ask , offer.

Call price

The price, specified at issuance, at which the issuer of a bond may retire part of the bond at a
specified call date.

Call price

The price for which a bond can be repaid before maturity under a call provision.

Capital allocation

decision allocation of invested funds between risk-free assets versus the risky portfolio.

Clean price

Bond price excluding accrued interest.

Coefficient of determination

A measure of the goodness of fit of the relationship between the dependent and
independent variables in a regression analysis; for instance, the percentage of variation in the return of an
asset explained by the market portfolio return.

coefficient of determination

a measure of dispersion that
indicates the “goodness of fit” of the actual observations
to the least squares regression line; indicates what proportion
of the total variation in y is explained by the regression model

Confidence level

The degree of assurance that a specified failure rate is not exceeded.

Consumer Price Index (CPI)

The CPI, as it is called, measures the prices of consumer goods and services and is a
measure of the pace of U.S. inflation. The U.S.Department of Labor publishes the CPI very month.

Consumer Price Index (CPI)

An index calculated by tracking the cost of a typical bundle of consumer goods and services over time. It is commonly used to measure inflation.

Economics Image 3

Conversion parity price

Related:Market conversion price

Convertible price

The contractually specified price per share at which a convertible security can be
converted into shares of common stock.

cost allocation

the assignment, using some reasonable basis,
of any indirect cost to one or more cost objects

Cumulative probability distribution

A function that shows the probability that the random variable will
attain a value less than or equal to each value that the random variable can take on.

Delivery price

The price fixed by the Clearing house at which deliveries on futures are in invoiced; also the
price at which the futures contract is settled when deliveries are made.

Devaluation A decrease in the spot price of the currency

Dirty price

Bond price including accrued interest, i.e., the price paid by the bond buyer.

Distribution center

A branch warehouse containing finished goods and service
items intended for distribution directly to customers.

distribution cost

a cost incurred to warehouse, transport, or deliver a product or service

Distribution inventory

Inventory intended for shipment to customers, usually
comprised of finished goods and service items.


Payments from fund or corporate cash flow. May include dividends from earnings, capital
gains from sale of portfolio holdings and return of capital. Fund distributions can be made by check or by
investing in additional shares. Funds are required to distribute capital gains (if any) to shareholders at least
once per year. Some Corporations offer Dividend Reinvestment Plans (DRP).

Dollar price of a bond

Percentage of face value at which a bond is quoted.

Dynamic asset allocation

An asset allocation strategy in which the asset mix is mechanistically shifted in
response to -changing market conditions, as in a portfolio insurance strategy, for example.

Earnings surprises

Positive or negative differences from the consensus forecast of earnings by institutions
such as First Call or IBES. Negative earnings surprises generally have a greater adverse affect on stock prices
than the reciprocal positive earnings surprise on stock prices.

Economic assumptions

economic environment in which the firm expects to reside over the life of the
financial plan.

economic components model

Abrams’ model for calculating DLOM based on the interaction of discounts from four economic components.
This model consists of four components: the measure of the economic impact of the delay-to-sale, monopsony power to buyers, and incremental transactions costs to both buyers and sellers.

Economic defeasance

See: in-substance defeasance.

Economic dependence

Exists when the costs and/or revenues of one project depend on those of another.

Economic earnings

The real flow of cash that a firm could pay out forever in the absence of any change in
the firm's productive capacity.

Economic exposure

The extent to which the value of the firm will change because of an exchange rate change.

Economic income

Cash flow plus change in present value.

economic integration

the creation of multi-country markets
by developing transnational rules that reduce the fiscal and
physical barriers to trade as well as encourage greater economic
cooperation among countries

Economic life

The period over which a company expects to be able to use an asset.

economic order quantity

Order size that minimizes total inventory costs.

Economic order quantity (EOQ)

The order quantity that minimizes total inventory costs.

economic order quantity (EOQ)

an estimate of the number
of units per order that will be the least costly and provide
the optimal balance between the costs of ordering
and the costs of carrying inventory

economic production run (EPR)

an estimate of the number
of units to produce at one time that minimizes the total
costs of setting up production runs and carrying inventory

Economic rents

Profits in excess of the competitive level.

Economic risk

In project financing, the risk that the project's output will not be salable at a price that will
cover the project's operating and maintenance costs and its debt service requirements.

Economic surplus

For any entity, the difference between the market value of all its assets and the market
value of its liabilities.

Economic union

An agreement between two or more countries that allows the free movement of capital,
labor, all goods and services, and involves the harmonization and unification of social, fiscal, and monetary

Economic Value Added (EVA)

Operating profit, adjusted to remove distortions caused by certain accounting rules, less a charge
to cover the cost of capital invested in the business.

economic value added (EVA)

a measure of the extent to which income exceeds the dollar cost of capital; calculated
as income minus (invested capital times the cost of capital percentage)

economic value added (EVA)

Term used by the consulting firm Stern Stewart for profit remaining after deduction of the cost
of the capital employed.

economically reworked

when the incremental revenue from the sale of reworked defective units is greater than
the incremental cost of the rework

Effective call price

The strike price in an optional redemption provision plus the accrued interest to the
redemption date.

enterprise resource planning (ERP) system

a packaged software program that allows a company to
(1) automate and integrate the majority of its business processes,
(2) share common data and practices across the entire enterprise, and
(3) produce and access information in a realtime environment

Enterprise resource planning system

A computer system used to manage all company
resources in the receipt, completion, and delivery of customer orders.

Equilibrium market price of risk

The slope of the capital market line (CML). Since the CML represents the
return offered to compensate for a perceived level of risk, each point on the line is a balanced market
condition, or equilibrium. The slope of the line determines the additional return needed to compensate for a
unit change in risk.

Escalating Price Option

A nonqualified stock option that uses a sliding scale for
the option price that changes in concert with a peer group index.

Event study

A statistical study that examines how the release of information affects prices at a particular time.

Exercise price

The price at which the underlying future or options contract may be bought or sold.

Exercise price

The price set for buying an asset (call) or selling an asset (put).
The strike price.

Fair market price

Amount at which an asset would change hands between two parties, both having
knowledge of the relevant facts. Also referred to as market price.

Fair price

The equilibrium price for futures contracts. Also called the theoretical futures price, which equals
the spot price continuously compounded at the cost of carry rate for some time interval.

Fair price provision

See:appraisal rights.

Fixed price basis

An offering of securities at a fixed price.

Fixed-price tender offer

A one-time offer to purchase a stated number of shares at a stated fixed price,
usually a premium to the current market price.

Flat price (also clean price)

The quoted newspaper price of a bond that does not include accrued interest.
The price paid by purchaser is the full price.

Flat price risk

Taking a position either long or short that does not involve spreading.

Frequency distribution

The organization of data to show how often certain values or ranges of values occur.

Full-Employment Output

The level of output produced by the economy when operating at the natural rate of unemployment.

Full price

Also called dirty price, the price of a bond including accrued interest. Related: flat price.

Futures price

The price at which the parties to a futures contract agree to transact on the settlement date.

Government sponsored enterprises

Privately owned, publicly chartered entities, such as the Student Loan
Marketing Association, created by Congress to reduce the cost of capital for certain borrowing sectors of the
economy including farmers, homeowners, and students.

High price

The highest (intraday) price of a stock over the past 52 weeks, adjusted for any stock splits.

input-output coefficient

a number (prefaced as a multiplier
to an unknown variable) that indicates the rate at which each
decision variable uses up (or depletes) the scarce resource

Input-output tables

Tables that indicate how much each industry requires of the production of each other
industry in order to produce each dollar of its own output.

Invoice price

The price that the buyer of a futures contract must pay the seller when a Treasury Bond is delivered.


The school of macroeconomic thought based on the ideas of John Maynard Keynes as published in his 1936 book The General Theory of Employment, Interest, and Money. A Keynesian believes the economy is inherently unstable and requires active government intervention to achieve stability.

Law of one price

An economic rule stating that a given security must have the same price regardless of the
means by which one goes about creating that security. This implies that if the payoff of a security can be
synthetically created by a package of other securities, the price of the package and the price of the security
whose payoff it replicates must be equal.

law of one price

Theory that prices of goods in all countries should be equal when translated to a common currency.

Leading economic indicators

economic series that tend to rise or fall in advance of the rest of the economy.

Level-coupon bond

Bond with a stream of coupon payments that are the same throughout the life of the bond.

Level pay

The characteristic of the scheduled principal and interest payments due under a mortgage such that
total monthly payment of P&I is the same while characteristically the principal payment component of the
monthly payment becomes gradually greater while the monthly interest payment becomes less.

Level Premium

A premium that remains unchanged throughout the life of a policy

Level Premium Life Insurance

This is a type of insurance for which the cost is distributed evenly over the premium payment period. The premium remains the same from year to year and is more than actual cost of protection in the earlier years of the policy and less than the actual cost of protection in the later years. The excess paid in the early years builds up a reserve to cover the higher cost in the later years.

Limit price

Maximum price fluctuation
Limitation on asset dispositions A bond covenant that restricts in some way a firm's ability to sell major

Limit price

Maximum price fluctuation

Lognormal distribution

A distribution where the logarithm of the variable follows a normal distribution.
Lognormal distributions are used to describe returns calculated over periods of a year or more.

Low price

This is the day's lowest price of a security that has changed hands between a buyer and a seller.

Low price-earnings ratio effect

The tendency of portfolios of stocks with a low price-earnings ratio to
outperform portfolios consisting of stocks with a high price-earnings ratio.

Market conversion price

Also called conversion parity price, the price that an investor effectively pays for
common stock by purchasing a convertible security and then exercising the conversion option. This price is
equal to the market price of the convertible security divided by the conversion ratio.

Market price of risk

A measure of the extra return, or risk premium, that investors demand to bear risk. The
reward-to-risk ratio of the market portfolio.

Market prices

The amount of money that a willing buyer pays to acquire something from a willing seller,
when a buyer and seller are independent and when such an exchange is motivated by only commercial







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