How Macro Environment affects Financial Management Decision?

The macro environment is a dynamic factor and keeps changing drastically, leading to an increase in avenues, competition and complexity. Efficient financial management calls for better financial decisions. This is only possible when every factor is reviewed which can affect the decision in any way and macro environment is one of the most important factors. This has made financial management more critical and sensitive for any business.

Effective evaluation of projects and other situations is very critical in financial decisions. The evaluation calls for an analysis of various factors belonging to both macro as well as the micro environment. Financial management; a specialized field of general management is affected to a large extent by macro situations. We have to make various decisions related to finance; broadly such decisions include capital budgeting, capital structure & working capital decisions.
Capital budgeting facilitates investment decisions, the capital structure takes care of decisions relating to a mix of sources of funds and, working capital assesses the day to day needs of business.

While taking these decisions, one needs to understand the criticality of environmental forces. Since there is no single factor that makes our How Macro Environment affects Financial Management Decisionmacro environment but a group of various forces like political, legal, economical, social, technological etc, together build it. An effective financial decision needs assessment of these factors.

To evaluate various macro forces, it is necessary to be aware of the system and processes of the country constituting the economy. For e.g. a financial system of a country which plays a major role while making the financial decision. Awareness about financial environment helps us understand how its constraints or facilitate implementation of decisions. The financial environment comprises of various intermediaries as well as regulatory bodies.

A simple example will help us understand the criticality of macro factors thoroughly. A change in credit policy like tightening of prudential norms for banks (for e.g. Increase in Cash Reserve Ratio and Statutory Liquidity Ratio by the central bank of a country) will reduce the money supply in the economy. Decreased money supply will push up the interest rates and make credit costlier for people who want to borrow.

Costly credit will directly affect the capital structure decision. It will also affect capital budgeting decision while assessing the feasibility of the investment alternative. Since a higher cost of capital will increase the percentage of discounting factor (opportunity cost) with which the future cash flows are discounted. This may cause deferring or canceling the capital expenditure (CAPEX) plans.

Also, one should be updated with various changes taking place around the world. We are living in an era of globalization where nothing is stable and information technology has made the access to news and information of the world just a click away. The World is becoming a level playing field where not only national but international factor can also cause a threat. Like, “Sub-prime Crisis” brought a challenging time for almost the entire world.

To summarize, financial management and its decisions are greatly based on some major assumptions. These assumptions are greatly based on the macro factors such as country or worldwide interest rates, gross domestic product (GDP) of a country, the growth rate of the economy, production and sales figures, population census etc. It clarifies to a great extent that financial decisions may go wrong if proper study of macro factors is not done. If the foundation goes wrong, dreaming about a strong building would be equivalent to day-dreaming.

Last updated on : November 27th, 2016
What’s your view on this? Share it in comments below.

Leave a Reply

Shareholder’s Wealth Maximization Vs. Stakeholder Welfare
  • Profit Maximization vs. Wealth Maximization
    Profit vs. Wealth Maximization
  • Financial Management
    Financial Management
  • Growth Maximization as a Financial Management Objective
    Growth Maximization as a Financial Management Objective
  • Corporate Financial Management
    Corporate Financial Management
  • Subscribe to Blog via Email

    Enter your email address to subscribe to this blog and receive notifications of new posts by email.

    Join 122 other subscribers

    Recent Posts

    Find us on Facebook

    Related pages

    meaning of economic order quantitymergers acquisitions definitionimpairment reversal ifrsfinance lease or operating leaseglobal depository receiptrevaluation surplus ifrshow to understand debit and credit in accountingdebenture companyvaluation dcf modelcreditor turnoverfinance lease or contract hireanticipatory inventorynegative irrinventory turns definitionoperating cash cycle formulaksf exampleselectricity meaning in hindiglobal depositary receiptmiller & modiglianidefinition of profitability ratious gaap goodwill impairment testirr waccinternal rate of return vs npvadvantages and disadvantages of loanssweet equity definitionhow to calculate internal rate of returnhorizontal integration advantages and disadvantagescalculating epsdepreciation tax shield formuladefinition of debit and credit accountingmeaning of turnover ratiocalculate marginal cost formulatypes of variances in standard costingwhat are debits and credits accountinghow to calculate a payback periodm&m propositionworking capital management booksbills payable meaningliquidity ratio calculationplain vanilla bondscash operating cycle formulaexplain rationingdebenture companydefine lessor lesseevaluing a bonddefinition of bills receivabledefine profit maximisationhow to calculate debt ratio from balance sheetexamples of liabilities accountseva wacccost of retained earnings calculatorrestrictive debt covenantscalculation of dscreoq systemgp margin formulafunded interest term loan meaningoperating vs financing leaseshare price formula investopediacurrent asset turnover ratiohow to compute debt to equity ratiowhat is fixed asset turnover ratiodecoupling stockformula of total asset turnover ratiofccbwhat is the difference between cumulative and noncumulative preferred stockmake or buy decision example accountinginventory turnover days definitionlesse vs lessorcapital one overdraft limitfinding npv