ECON 2203 1st Edition Lecture 17KeyEquationsExamplesDefinitionsImportant InformationOutlineThe Market for Loanable Fundso Supply and demand for loanable fundso How policies affect supply, demand, and price for loanable funds How policies affect loanable fund market? o Supply and demand analysis Graphing Review: A graph shows the relationship between two variables. In economics, we use graphs to explain how the change of one variable causes another variable to change. Graphing Review Summary:1. Read the variables on the vertical and horizontal axis. 2. Read, “points” not the curve. 3. When the supply changes,horizontal variable moves along the curve. 4. Whenotherfactorschange(nottheoneonthevertical axis), demand curve shiftso Market for loanable funds – those who want to save supply funds and those who want to borrow to invest demand fundso Loanable funds – all income that people have chosen to save and lend out, rather than use for their own consumptionThe Market for Loanable Funds A Supply–Demand model of the financial system o How the financial system coordinates savings & investment o How government policies and other factors affect saving, investment, the interest rate Assumptions: Only one financial market o All savers deposit their saving in this marketo All borrowers take out loans from this marketo There is one interest rate, which is both the return to saving and the cost of borrowingThese notes represent a detailed interpretation of the professor’s lecture. GradeBuddy is best used as a supplement to your own notes, not as a substitute.The Market for Loanable Funds (Supply)o Equilibrium interest rate is determined by the intersection of the supply and demandcurves in the market for loanable fundso Increase in saving shifts the supply curve (right ) and the equilibrium interest rate shifts (down)o An increase in the interest rate = saving more attractive, which increases the quantityof loanable funds suppliedThe supplyof loanable funds comes from saving: o Peoplewith extra income can loan it out and earn interesto If positive, adds to national saving and the supply of loanable funds. (T – G >0, budget surplus) o If negative, it reduces national saving and the supply of loanable funds. (T – G < 0, budget shortage) The Market for Loanable Funds(Demand)o The more profitable capital becomes the more firms are rewarded for borrowing more invest in new capitalo More profitable capital = shifts the demand curve (right ) and the equilibrium shifts (up)The demandof loanable funds comes from investment: o Firmsborrow the funds they need to pay for new equipment, factories, etc. o Familiesborrow the funds they need to purchase new housesDemand Curve A risein the interest rate reduces the cost of borrowing, which decreases the quantity of loanable funds demandedEquilibrium in Loanable Fund Market o The interest rate adjusts to equate supply and demando The equilibrium quantity of Loanable Funds equals equilibrium investmentand equilibrium savingSummary: (The Market for Loanable Funds)Supply o People who have extra money would like to provide their money to the market and earn interestsDemand o People who need money to do activities would like to pay interests and borrow money. Price of moneyo Real Interest RateQuantity of moneyo Dollars, $ How Policies Affect Loanable Funds Market? Step 1: Understand the policy Step 2: Decide whether the policy affect supply side or demand side. Step 3: Increase or decrease? Shift left or shift right? Step 4: Find the new equilibrium point. Policy 1: Saving Incentives (Policies that encourage households to save more share of their income) For example, decreasing the tax on interest income1. Increases the supply of loanable funds2. Decreasesthe equilibrium interest rate 3. Increasesthe equilibrium quantity of loanable funds Supply curve shifts to the righto Real interest rateo Savingo Investmento Long-run economic growthPolicy 2: Investment Incentives(Policies that make investment more attractive)For example, a tax credit give to any firm building a new factory or buying a new piece of equipment1. Increasesthe demand for loanable funds2. Increases the equilibrium interest rate3. Increases the equilibrium quantity of loanable fundsDemand curve shifts to the righto Real interest rate o Saving o Investment o Long-run economic growth Policy 3: Government Budget DeficitsBalanced Budget (T= G); Budget Surplus (T>G); Budget Deficits (T < G)o A government runs a budget deficits (T-G < 0) o The supply of loanable funds comes from private savingand public savingo The public saving is negativeo The supply of loanable funds decreases1. Decreases the supply of loanable funds2. Increases the equilibrium interest rate3. Decreases the equilibrium quantity of loanable fundsSupply curve shifts to the lefto Real interest rate o Saving o Investment o Long-run economic growth Budget Deficits, Crowding Out, and Long-Run GrowthConsequences of Budget deficits:o The government borrows from the public to finance its deficit and reduces the supply of loanable fundso The supply of loanable funds shifts to the lefto There are fewer funds available for investmento Budget deficit reduces  Interest rate riseso Investment is important for long-run economic growth (Chapter 7) o Interest rate affects the economy’s growth rate and future standard of living Crowding outo Crowding out - the fall in investment because of government borrowing Summary for Chapter 8Financial Systemo Financial Market: Bond market and Stock market o Financial Intermediaries: Banks and Mutual funds National Saving and Investmento National Saving; Private Saving; Public Savingo National saving = Investment in a closed economyo Difference between national saving and investment Loanable funds marketo Supply and Demand for loanable fundso Interest rateso How policy affect loanable funds market Principles of MacroeconomicsLecture Notes> VERY DETAILED> COLOR CODED> Easy to read> May include information that was stated directly from the teacher in class<p>Principles of Macroeconomics</p><p>Introduction to Macroeconomics</p><p>Hui