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Econ 110 Chapter 13

by: Joshua Robinson

Econ 110 Chapter 13 Econ 110

Joshua Robinson
GPA 3.5

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About this Document

These notes cover Chapter 13 that will be coming up on the next exam
principles of Macroeconomics
Dr. Al-Hamdi
Class Notes
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This 4 page Class Notes was uploaded by Joshua Robinson on Thursday April 7, 2016. The Class Notes belongs to Econ 110 at Kansas State University taught by Dr. Al-Hamdi in Spring 2016. Since its upload, it has received 19 views. For similar materials see principles of Macroeconomics in Economcs at Kansas State University.


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Date Created: 04/07/16
Chapter 13: Saving, Investment, and the Financial System Financial Insititutions  Financial System o Group of institutions in the economy  That help match one person’s saving with another persons investment o Moves the economy’s scarce resources from savers to borrowers  Financial Institutions o Financial markets o Financial intermediaries Financial Markets  Savers can directly provide funds to borrowers  The bond market o Bond: A certificate of indebtedness  Date of maturity, when the loan will be repaid  Rate of interest, paid periodically until the date of maturity  Principal, amount borrowed o Borrowing from the public  Used by large corporations, the federal government, or state and local  governments o Term: Length of time until maturity  A few months, 30 years, perpetuity  Long­term bonds are riskier than short­term bonds.  Long term bonds usually pay higher interest rates o Credit risk: probability of default  Probability that the borrower will fail to pay some of the interest or  principal  Higher interest rates for higher probability of default  U.S government bonds tend to pay low interest rates  Junk bonds, very high interest rates  Issued by financially shaky corporations  The stock market o Stock: claim to partial ownership in a firm  A claim to the profits that a firm makes o Organized stock exchanges  Stock prices: demand and supply o Equity finance  Sale of stock to raise money o Stock index  Average of a group of stock prices  Financial intermediaries o Savers can indirectly provide funds to borrowers o Banks  Take in deposits from savers  Banks pay interest  Make loans to borrowers  Banks charge interest  Facilitate purchasing of goods and services  Checks: medium of exchange  o Mutual funds  Institution that sells shares to the public  Uses the proceeds to buy a portfolio of stocks and bonds  Advantages  Diversification; professional money managers  Bonds are called debt finance  National Income Accounts  Rules of national income accounting o Important identities  Identity o An equation that must be true because of the way the variables in the equation are  defined o Clarify how different variables are related to one another Accounting Identities  GDP o Total income o Total expenditure  Y= C+I+G+NX  Closed Economy o Doesn’t interact with other economies o NX=0  Open Economy o Interact with other economies o NX = Does not equal 0 o I = Y­C­G  Assume closed economy: NX = 0 o Y = C + I + G  National Saving, S o Total income in the economy that remains after paying for consumption and  government purchases  I = Y ­ C ­ G  S = Y ­ C ­ G  S = I  S(p) = Y ­ T ­ C → (S(p): Private savings)  I = (Y ­ T ­ C) + (T ­ G) → ( T­G = Public Saving)  T = taxes minus transfer payments o S = Y ­ C ­G o S = (Y ­ T ­ C) + (T ­ G)  Private saving, Y ­ T ­ C o Income that households have left after paying for taxes and consumption  Public saving, T ­ G o Tax revenue that the government has left after paying for its spending   Budget surplus: T ­ G > 0 o Excess of tax revenue over government spending  Budget deficit: T ­ G < 0 o Shortfall of tax revenue from government spending   Accounting identity: S = I  Saving = investment  Market for loanable funds o Market  Those who want to save supply funds  Those who want to borrow to invest demand funds o One interest rate  Return to saving  Cost of borrowing o Assumption o Single financial market  The Market for Loanable Funds  Supply and demand of loanable funds o Source of the supply of loanable funds  Saving o Source of the demand for loanable funds  Investment o Price of a loan = real interest rate  Borrowers pay for a loan  Lenders receive on their saving  Supply and demand of loanable funds o As interest rate rises  Quantity demanded declines  Quantity supplied increases o Demand curve  Slope downward o Supply curve  Slopes upward  Change in interest rate changes the QUANTITY DEMANDED AND QUANTITY  SUPPLIED  The Market for Loanable Funds  The change in the demand and supply change other than things of interest rate  Government Policies o Can affect the economy’s saving and investment  Saving incentives  Investment incentives  Government budget deficits and surpluses  The Supply is coming from households in loanable funds  Shelter some saving from taxation  Firms are the demanders  Investment tax credit o Affect demand for loanable funds o Increase in demand  Deamnd curve shifts right o New equilibrium  Higher interest rate  Higher quantity of loanable funds  Greater saving  Policy 3: Budget Deficit/ Surplus  Government ­ starts with balanced budget o Then starts running a budget deficit  Change in supply of loanable funds  Decrease in supply  Supply curve shifts left  New equilibrium  Higher interest rate  Smaller quantity of  Crowding out o Decrease in investment o Results from government borrowing  Government ­ budget deficit o Interest rate rises o Investment falls  Bud


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