Roles of Management and Agency Theory and Exchange Rate Policies for Macroeconomic Targets

1989 words (8 pages) Essay in Accounting

08/02/20 Accounting Reference this

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Task 1

The role of management in meeting stakeholder objective………………….2

The fundamental objectives of the organisation………….……………………2-4

Agency theory, impact on the investing, financing and dividend decision…4-5

The main 3 limitations of the Agency Theory…………………………

Task 2

 

 The role of fiscal, monetary, interest rate, exchange rate policies in achieving macroeconomic targets…………………………………………………………………

References……………………………………………………………………….6

Task 1

Financial management refers to the ways in which monetary resources for a business are acquired and raised and then used to make investments in order to achieve the objectives for the enterprise (Atrill&McLaney, 2015). It has been found that it is essential to consider the main stakeholders’ objectives because of their contribution towards the wealth creation of the business owners (Baker, 2015).

Agency theory is a business model which helps to outline the relationship and the issues between the participants, especially the conflicts when various parties are not sharing the same interest (Kivistö & Zalyevska, 2015).

It has been found that the most important conflict of interests occurs while managers are running a company and they sometimes make corporate decisions in their own interest. On the other hand, because the directors (agent) are employed to perform activities on shareholders’ (principal’s) behalf it is essential to motivate managers such that by their decision to align their interests with the shareholders benefits (Armstrong, 2012).

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The managers usually coordinate all organisational activities in a systematic way in order to maximize firm value and they are responsible to achieve the business objectives. In view of this, three essential financial decisions of managers are concerned with the long term strategy by referring to key areas such as investment, finance and dividends (Drury, 2015)

To operate, a business should be well financed; therefore one of manager’s roles is to make sure that their decisions lead to use finance efficiently. Thus, for investment decisions, managers take into account appropriate projects which will consider the purchase of non-current assets at the beginning of the process. In addition, it is essential for managers to ensure for example that inventory levels are well connected with production or debts are collected on a timely basis (Kaplan Publishing UK, 2015).

The main financial objectives are related to wealth maximisation, profit maximisation, and value maximisation. Accordingly, shareholders as usual are interested in wealth maximisation, but they also consider the risk and potential return. The issue arises when directors are looking for their own individual interests, such as remuneration package rather to promote shareholders’ interests. Because of this, managers should pursue financial objectives in the best interest of shareholders by implementing appropriate strategies with long-term, thus creating value for all stakeholders including owners’ wealth (Queen, 2015).

When a business adopts profit maximisation as a financial objective, there can be some potential problems that managers should consider. For instance, if some spending on advertising, R&D or training is reduced, the impact will be good on reported profit but the long-term prospects may be adversely affected and share price will decrease (Queen, 2015).

Another shareholders financial aim is related to company’s equity shares and their value indicates the wealth of the owners. Therefore, the shareholders, as the owners of the business may receive dividends. There is no standard for dividend decisions because they are made based on financial performance and certain activities that company will have in the future. However, a good policy aligns the interest of directors and shareholders by increasing the control of the company in the capital market (Clayman et al., 2012).

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The role of managers in dividend decision usually implies raising the funds from capital markets to be able financing new projects. This suggests that managers’ incentive may be reduced, therefore Agency theory assumes that retention of earnings motivates directors’ behaviour that does not maximise shareholder wealth (Panda&Leepsa, 2017).

Even though, agency theory is very popular, it is still affected by some limitations. First, the theory considers an agreement between interested parts for unlimited or limited future period where this period of time is uncertain. Second, the theory assumes that the function of shareholders is to monitor managers’ performance but their role is not very well outlined. The third limitation refers to the fact that the theory judges the managers as they just take advantages offered by circumstances and fail to observe their competence (Panda&Leepsa, 2017).

As it was mentioned above, the main agency relationship in finance is managers and shareholders. A conflict of interest between them is when managers for instance, do not perform activities for shareholders benefit. Therefore, some mechanisms such managerial compensation can be a way to motivate them for acting in shareholders best interest. This can be done by paying performance bonuses, by getting commission based on residual value making more profit (Panda&Leepsa, 2017).

Task 2

Macroeconomic policy is managed by government in order to achieve objectives such as: economic growth for improving living standards, price and exchange rates stability for reducing inflation, stable employment, proper distribution of income and wealth and balance of payments equilibrium which relates to ratio between imports and exports (Vernimmen et al., 2017).

The evidence suggests that attainment of all macroeconomic objectives in the same time is not possible because of potential conflicts between them. Thus, the government has to consider identification of policy targets which are regarded as compatible. It has been found that macroeconomic policy has an influence not only on the demand of goods and services but also help a business in planning of investment or employment and likewise the revenue and costs may be affected (Sandbu, 2017).

One important area to be noted is taxation because fiscal policy considers its structure or changes in tax rates and it is evident that for instance a business is affected and should be able to manage well these changes as in labour cost or passing on their customers (Kaplan Publishing UK, 2015).

The role of fiscal policy is to balance the government budget or influence economy’s level of activity and covers spending, taxation and borrowing. Therefore, the government uses taxes like income tax, corporation tax or VAT to be able to finance the public expenditure (Kaplan Publishing UK, 2015).

Monetary policies are instruments which are established by the central bank to ensure the steady running of the economy. The role of them involves management of overall monetary conditions especially the money supply and the value of money with influence on some essential variable such as the rate of inflation, interest rate, and money supply in order to attain macroeconomic targets (Kremer, 2016).

In particular, when targeting the money supply, it appears that the influence is on the volume of spending money in the economy. This result may involve the prices’ level or the level of growth in the economy. Another choice of variable to operate on can be the rate of interest. This means that governments are able to have an influence on the demand of credit or the volume of money kept in the economy by attempting to determine the level of interest rates (Cloyne & Hürtgen, 2016). 

The interest rate is the key variable in making financial decisions about borrowing or saving and it is used to achieve price stability or low inflation. In view of this, lower interest rate will determine an increase of consumption which can lead to higher price and wages. On the other hand, a high interest rate will discourage expenditure, therefore, the level of investments will be affected and the potential of economic growth (Cloyne & Hürtgen, 2016). 

Exchange rate policies have implications on the total demand for services and goods ( AD – aggregate demand) in the economy by affecting the exports and imports. For example, devaluation or decreasing the exchange rate will have essential impact on AD by raising it, which in turn will determine increasing GDP ( Gross Domestic Product) and it also can create jobs (Kremer, 2016).

The role of main macroeconomic policies presented above indicates that is policies are fundamental factors because they can make a significant contribution in achieving macroeconomic targets.

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