Finance is a broad term meaning many things about the study, creation and management of funds and investments. In particular, it concerns the questions of why and how an individual, business or government obtains the funds necessary to do the business or the government’s goals; called capital within the business context. In economics, we speak of economic capital as well as financial capital. It includes both fixed and variable costs associated with obtaining resources such as land, building and labor.
There are three main areas of finance: private finance, corporate finance and public finance. Each of these has its own purpose and area of activity. Within each of these three main areas, there are a wide variety of different sub-disciplines. Some of the most common of these sub-disciplines are business banking, venture capital, venture investment, estate and trust, private equity, securities, credit and insurance, merchant banking, owner financing and mortgage banking. As you can see, these various sub-disciplines of finance deal with many different parts of the financial activities that take place within businesses and in society in general.
Within the broader field of finance, there are numerous examples include questions like what happens when a corporation makes an investment, what happens when a bank borrows money from a lender, who decides to lend money, what happens to that borrower’s assets when he fails to make his payments on time, what happens to an investment when the returns to the investment are less than the costs of the investment. Examples of financial topics include macroeconomics, which study how economies as a whole operate; microeconomics, which look at the details of individual industries; and economic theory which examine how the decisions of individuals and businesses affect the entire economy. Finance examples include the examples of mergers and acquisitions, partnerships, franchise sales and dispositions. In business, finance examples include issues as important to the owner of a business as the purchase of equipment, land or plants, office furniture and supplies, furnishing and equipment rent. All the decisions that have to be made regarding what to do with these assets are part of the day-to-day business operations.
In the context of the study of behavioral finance, some experts in this particular field lay emphasis on five prominent theories. The first theory of behavioral finance is that behavior is caused by cognitive biases and that people tend to behave according to their prior beliefs, even if those beliefs are erroneous. The second theory of behavioral finance is that people have expectations about the future, and those expectations may conflict with one another. The third theory of behavioral finance is that people use various kinds of accounting devices to facilitate the detection and evaluation of these conflicts of expectations. The fourth behavioral finance theory is that people make systematic errors of judgment, which lead them to misestimate future worthiness. Finally, the fifth behavioral finance theory is that people use emotional responses as means of evaluating risk.
Behavioral economists believe that all the concepts of modern economic theory concerning money, production, business cycles, demand, supply, investment, unemployment and finance are deeply influenced by the theories of behavioral finance. They further believe that such concepts are based on the psychological actions of people. Such actions, according to this school of thought, have an effect on the way the decisions of individual households are made, even when such decisions are made on the basis of economic considerations. Some of the characteristics of behavioral finance are the following.
The field of finance covers a wide area of human activity that influences the overall functioning of the economy. Behavioral finance therefore combines a variety of macroeconomic theories with an analysis of individual decision making. Its main contributions to the field of macroeconomic theory are its attempts to discover the mechanisms through which households, businesses and governments behave towards finance. The importance of this subject is also evident in the current global crisis, which have forced governments to look at their financial systems, and the measures they are taking to enhance financial systems, such as reforms and bailouts of financial institutions.