ap economics: module 29 terms

what does savings equal in the entire economy, an open economy, and a closed economy?

I = savings (economy as a whole)

I = savings = national savings (closed economy, public sector)

I = savings = national savings + capital inflow (open economy, foreign sector)

savers want to ____ money

lend

firms with IS projects want to ____ money

borrow

loanable funds market

a hypothetical market that brings together those who want to lend money and those who want to borrow money

• IR is denoted by “r,” is the return a lender receves for allowing borrowers the use of $1 for 1 yr.

• IR is the real interest rate

why do loan contracts specify a nominal IR instead of a real IR?

can’t be sure what future IR will be (reason why vertical axis of LF graph is nominal IR)

why is the demand curve for loanable funds downward sloping?

rate of return on a project

rate of return

the profit earned on a project expressed as a percentage of its cost

• ((revenue - cost)/cost)*100

t or f: businesses will only want a loan when ROR is greater than or equal to the IR

t

shifters of the demand curve for loanable funds

1. changes in perceived business opportunities

   a. optimism → R shift

2. changes in the government’s borrowing

   a. more deficit → more borrowing → R shift (lower IS)

investment tax credit

an amount that firms are allowed by law to deduct from their taxes based on their IS (incentivizes investment)

• can increase ROR for a R shift

crowding out

occurs when a govt. deficit drives up the IR and leads to less IS

shifters of the supply curve for loanable funds

1. changes in private saving behavior

   a. less saving → L shift

2. changes in capital inflows

   a. more inflows → R shift

most important factor affecting IR over time

changing expectations about future inflation

real IR

nominal IR - inflation rate

• represents the cost of borrowing + payoff to lending

fisher effect

an increase in expected inflation drives up the nominal IR by the same # of percentage points, leaving the expected real IR unchanged

IMPORTANT INFO

eq. IR in loanable funds market = eq. IR in the money market

• in SR, MM leads, LF IR will follow

• in LR, LF leads, MM IR will follow

t or f: changes in the money supply affect the IR in the long run

f: they do not affect the IR, only the supply and demand for loanable funds do

• the eq. IR in the LR is the rate that matches the supply of LF w/ the demand of LF when RGDP = potential output

why is the supply curve for the loanable funds market upward sloping?

as IR increases, people will want to save more money. they put more money into banks, and banks will have more to loan out in excess reserves, increasing the supply of loanable funds.

calculate private savings

GDP - taxes - consumption

calculate public savings

tax revenue - government spending

calculate national savings

private savings + public savings

• equal to investment spending

calculate investment spending

GDP - C - G - NE

• or equal to national savings

calculate total savings

national savings - capital inflow