How is the model of corporate finance related to the model developed concerning roundabout production and the market for loanable funds?

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Karen P.L. Hardison eNotes educator| Certified Educator

Structural models of corporate finance are used to analyze the corporation's financial structure thus are concerned with the valuation (based on operational cash flow) of corporate debt and equity securities, maturity of debt investment, investment risk hedging, and general investment. Structural models of corporate finance also determine the choice of financial structure. This synchronicity of function--structural models analyze the financal structure and determine the choice of financial structure--is an important feature of structural models.

Models of roundabout production describe production in terms of capital goods being produced first and consumer desired goods being produced thereafter. Capital goods provide value added profit to consumer goods. Capital goods are those that are required in order to produce consumer goods. In simple terms, the maker of an iron wheel, desired by consumers who drove carriages, must first produce or acquire from someone who has produced, an iron forge and hammer. The acquisition of the forge and hammer attach added value to the wheel: the wheel could not have been made without the prior expenditure of capital to produce or acquire the forge and hammer.

One way in which the structural model of corporate finance relates to the model of roundabout production is that, since structural models of corporate finance govern the choice of (as well as analyze the condition of capital investment (and all investment), this model of corporate finances would be instrumental in analyzing the choices concerning roundabout production, in other words, investment in capital goods.

Loanable funds are funds accumulated as savings by individual consumer households. These funds are deposited in various kinds of banking institutions to accumulate to large aggregate amounts. The banking institutions then loan out the funds to firms who wish to make capital investments. These funds are lent for a cost, that being the cost of capital, which is determined by the interest charged to be paid by the borrow along with the repayment of the borrowed funds.

One way in which the structural model of corporate finance relates to loanable funds is that models of corporate finances determine the function of roundabout production (the production of capital goods prior to the production of consumer desired goods) within the corporate finances and within the corporate production system. Capital goods often require the acquisition of loanable funds.