1. Savings and Investment Process
Chapter 7
Savings and Investment Process
© 2011 John Wiley and Sons

2. Gross Domestic Product (GDP) and Capital Formation
Gross Domestic Product: Measures the output of goods and services in an economy over a specified time period
Capital Formation: Process of constructing real property, manufacturing producers’ durable equipment, and increasing business inventories

3. Gross Domestic Product (GDP) Components
GDP is composed of:
Personal Consumption Expenditures
Government Expenditures including Gross Investment
Gross Private Domestic Investment
Net Exports of Goods and Services

4. Gross Domestic Product (GDP) Components (continued)
Equation:
GDP = PCE + GE + GPDI + NE
Personal Consumption Expenditures (PCE):
Expenditures by individuals for durable goods, nondurable goods, and services
Government Expenditures (GE):
Purchases of goods and services by the government

5. Gross Domestic Product (GDP) Components (continued)
Equation:
GDP = PCE + GE + GPDI + NE
Gross Private Domestic Investments (GPDI):
Investments in residential & nonresidential structures, producers’ durable equipment, & business inventories
Net Exports (NE): Exports minus imports of goods & services

6. Recent Gross Domestic Product (GDP) Amounts
($ Billions)
GDP $13,253.9 $14,258.7
PCE , ,092.6
GPDI , ,622.9 NE
GE , ,933.3

7. Link Between Saving and Investment
Gross Saving = Net Saving + Consumption of Fixed Capital
For 2008 (in $ Billions):
Net Saving = $23.0
Consumption of Fixed Capital = $1,847.1
Gross Saving = $1,824.1

8. Link Between Saving and Investment
Net Saving = Net Private Saving + Net Government Saving
For 2008 (in $ Billions):
Net Private Saving = $659.8
Net Government Saving = $682.7
Net Saving (rounded) = $23.0

9. Link Between Saving and Investment
Consumption of Fixed Capital = Private + Government
For 2008 (in $ Billions):
Private = $1,536.2
Government = $310.9
Consumption of Fixed Capital = $1,847.1

10. Federal Government Receipts and Expenditures:
Annual deficit budgets :
Annual surplus budgets
2002-Present:
Annual deficits with fiscal 2009 and 2010 deficits each exceeding $1.0 trillion [National Debt now exceeds $12 trillion]

11. Federal Government Dollar: Fiscal Year 2008
Where It Comes From (Income):
--Personal Income Taxes (39%)
--Social Security and other Retirement Taxes (30%)
--Borrowing to Cover Deficit (15%)
--Corporate Income Taxes (10%)
--Excise, Estate, and other Taxes (6%)

12. Federal Government Dollar: Fiscal Year 2008 (continued)
Where It Goes (Outlays):
--Social Security, Medicare, and other retirement (37%)
--National Defense, veterans, and Foreign Affairs (24%)
--Social Programs (including Medicaid)(20%)
--Physical , Human, and Community Development (9%)
--Net Interest on the Debt (8%)
--Law Enforcement and General Gov’t. (2%)

13. Debt Financing
Budgetary Deficit: Occurs when expenditures are greater than revenues
Federal Statutory Debt Limits:
Limits on the federal debt set by Congress

14. Historical Role of Savings in the United States
Foreign investors initially purchased large amounts of the securities sold by government & private promoters to develop the U.S.
The American family later took over the function of providing savings for the capital formation process

15. Creation of Savings
Savings: Income that is not consumed but held in the form of cash and other financial assets
Savings Surplus: Occurs when current income exceeds investment in real assets

16. Creation of Savings Savings Deficit:
Occurs when investment in real assets exceeds current income
Undistributed Profits:
Proportion of after-tax profits retained by corporations

17. Major Sources of Savings
Personal Saving:
Savings of individuals equal to personal income less personal current taxes less personal outlays
Voluntary Savings: Savings held or set aside by choice for future use
Contractual Savings: Savings accumulated on a regular schedule by prior agreement

18. Personal Savings in the U.S.
Personal Savings Definition: Personal income Less: taxes and other payments Equals: disposable personal income Less: personal outlays Equals: personal savings
Savings Rate Definition: Savings Rate = (Personal Savings)/ (Disposable Personal Income)

19. Historical Personal Savings Rates%

20. Corporate Savings in the U.S.
Undistributed Profits Definition: Profits before taxes Less: tax liabilities Equals: profits after taxes Less: dividends Equals: undistributed profits
Retention Rate Definition: Retention Rate = (Undistributed Profits)/(Profits After Taxes)

21. Corporate Savings in the U.S.
Adjustments to Corporate Profits:
Nonfinancial corporate profits before taxes are often shown after (1) inventory valuation and (2) capital consumption adjustments
(1) Records estimated changes in inventory values over time
(2) Reflects the “using up,” or depreciation, of plant and equipment assets used for business purposes

22. Factors Affecting Savings
Levels of income
Economic expectations
Cyclical Influences (economic cycles)
Life stage of the individual saver or corporation

23. Life Stages of the Individual Saver
--Formative/education developing
--Career starting/family creating
--Wealth building
--Retirement enjoying

24. Life Stages of the Corporation
--Start-up stage
--Survival stage
--Rapid growth stage
--Maturity stage

25. Capital Market Securities
Markets where debt securities with maturities longer than one year and corporate stocks are issued or traded
Capital Market Securities:
Debt securities with maturities longer than one year and corporate stocks

26. Major Capital Market Securities
Securities: Issuers:
Mortgages Fin. intermediaries
Treasury bonds U.S. government
Municipal bonds State/local gov’ts.
Corporate bonds Corporations
Corporate stocks Corporations

27. Major Capital Market Securities
Securities: Secondary Market:
Mortgages High activity
Treasury bonds High activity
Municipal bonds Moderate activity
Corporate bonds Moderate activity
Corporate stocks High activity

28. Capital Market Securities Defined
Mortgage:
Loan backed by real property in the form of buildings and houses
Treasury bond:
Long-term debt instrument issued by the U.S. federal government
Municipal bond:
Long-term debt instrument issued by a state or local government

29. Capital Market Securities Defined
Corporate bond:
Debt instrument issued by a corporation to raise long-term funds
Common stock:
Ownership interest in a corporation

30. Derivative Security Derivative Security:
Financial contract that derives its value from a bond, stock, or other asset
Use of Derivative Securities:
Corporations can use derivative securities to insure or hedge against various financial risks