What Is Tobin's Q Theory?

Tobin Q theory is a well-known coefficient proposed by economist Tobin in 1969, which is the "Tobin Q" coefficient (also called Tobin Q ratio). This coefficient is the ratio of the company's stock market value to the asset replacement cost represented by the stock. In Western countries, the Q ratio fluctuates between 0.5 and 0.6. As a result, many companies that want to expand production capacity will find that the cost of acquiring additional production capacity by acquiring other companies is much lower than the cost of starting from scratch.

Tobin Q theory

For example, if the average Q ratio is around 0.6 and exceeds the average of market value

Tobin q is the ratio of the market value of capital to its replacement cost. This ratio has both theoretical and practical operability, communicates the virtual economy and the real economy, and has important applications in monetary policy and corporate value. The application in monetary policy is mainly manifested in linking the capital market with the industrial economy, revealing a possibility that money can act on investment through the capital market. In the future, if China's monetary policy starts to consider the stock market factors, Tobin q will become an important tool for policy research and policy making. Tobin's q value is often used as an important indicator of company performance or company growth. Although the application of Tobin's q theory in China is still very limited due to the imperfect development of the capital market, it still provides us with a way to analyze problems.

Tobin Q theoretical ratio content

Tobin's Q ratio is the ratio of a company's market value to its asset replacement cost. It reflects the ratio of two different value estimates of an enterprise. The value in the numerator is how much the company is worth in the financial market, and the value in the denominator is the "basic value" of the enterprise-the replacement cost. The company's financial market value includes the market value of the company's stock and the market value of its debt capital. Replacement cost refers to how much money it takes to buy the assets of all listed companies today, that is, how much it would cost to create the company if we had to start over from scratch.

Its calculation formula is:

Q ratio = company's market value / asset replacement cost

When Q> 1, it is more favorable to buy newly produced capital products, which will increase the demand for investment;

When Q <1, it is cheaper to buy ready-made capital products than newly generated capital products, which will reduce capital demand.

Therefore, as long as the market value of the company's assets and liabilities is increased relative to its replacement cost, the formation of planned capital will increase.

Application of Tobin's Q Theory

Tobin's Q theory provides a theory about the correlation between stock prices and investment expenditures. If Q is high, then the market value of the enterprise is higher than the replacement cost of capital, and the capital of new plant equipment is lower than the market value of the enterprise. In this case, the company can issue fewer stocks and buy more investment products, and the investment expenditure will increase. If Q is low, that is, the company's market value is lower than the replacement cost of capital, the manufacturer will not buy new investment products. If the company wants to get capital, it will buy other cheaper companies to get old capital goods, so investment expenditures will be reduced. The impact reflected in monetary policy is that when the money supply rises, stock prices rise, Tobin's Q rises, business investment expands, and national income expands. The transmission mechanism of monetary policy according to Tobin's Q theory is:

Money Supply Stock Price Q Investment Expenditure Total Output

One of the reasons affecting the effect of monetary policy is defined as the ratio of the market value of an asset to its replacement value. It can also be used to measure whether the market value of an asset is overvalued or undervalued. Tobin's q-value is a very important factor that made Tobin (James Tobin, winner of the Nobel Prize in Economics in 1981) famous. At Yale, admirers of Tobin still wear the printed " q "cultural shirt. In addition, the economic terms named after it include "Tobin tax", "Mundell-Tobin effect", "Tobin analysis" and so on.

Tobin's Q: Corporate Market Price (Share Price) / Corporate Replacement Cost

1.When Q <1, that is, the market price of the enterprise is less than the replacement cost of the enterprise, the operator will tend to establish the enterprise through acquisition to realize the expansion of the enterprise. The manufacturer will not buy new investment products, so the investment expenditure will be reduced.

2. When Q> 1, discard the old one. The market price of the enterprise is higher than the replacement cost of the enterprise. If the enterprise issues fewer stocks and buys more investment products, the investment expenditure will increase.

3.When Q = 1, corporate investment and capital cost reach dynamic (marginal) equilibrium.