Chapter 13: Saving, Investment, and the Financial System
Financial System
the group of institutions in the economy that help to match one person's saving with another person's investment
A closed economy has income of $1,000, government spending of $200, taxes of $150, and investment of $250. What is private saving?
$300
portfolio
A collection of financial assets
If the supply of loanable funds is very inelastic (steep), which policy would likely increase saving and investment the most?
A reduction in the budget deficit
If an increase in the budget deficit reduces national saving and investment, we have witnessed a demonstration of
Crowding out
Which of the following statements is true? a. Longer-term bonds tend to pay less interest than shorter-term bonds. b. A stock index is a directory used to locate information about selected stocks. c. Mutual funds are riskier than single stock purchases because the performance of so many different firms can affect the return of a mutual fund. d. Municipal bonds pay less interest than comparable corporate bonds.
Municipal bonds pay less interest than comparable corporate bonds.
Carly wants to buy and operate an ice-cream truck but doesn't have the financial resources to start the business. She borrows $20,000 from her friend Freddie, to whom she promises an interest rate of 7 percent, and gets another $30,000 from her friend Sam, to whom she promises a third of her profits. What best describes this situation?
Sam is a stockholder, and Freddie is a bondholder.
If the public consumes $100 billion less and the government purchases $100 billion more (other things unchanging), which of the following statements is true?
Saving is unchanged.
principal
The amount of money borrowed
perpetuity
This bond pays interest forever, but the principal is never repaid
Which of the following financial market securities would likely pay the highest interest rate?
a bond issued by a start-up company
Bond
a certificate of indebtedness
Crowding out
a decrease in investment that results from government borrowing
An increase in the budget deficit is
a decrease in public saving
Which of the following policy actions would unambiguously reduce the supply of loanable funds and crowd out investment?
a decrease in taxes together with an increase in government spending.
budget deficit
a shortfall of tax revenue from government spending
The main advantage of mutual funds is that they provide
an easy way to hold a diversified portfolio.
Budget Savings
an excess of tax revenue over government spending
Mutual Funds
an institution that sells shares to the public and uses the proceeds to buy a portfolio of stocks and bonds
A financial intermediary is a middleperson between
borrowers and lenders
If the business community becomes more optimistic about the profitability of capital, the ________ curve for loanable funds would shift, driving the equilibrium interest rate ________.
demand, up
default
failure to pay back a loan
Financial Markets
financial institutions through which savers can directly provide funds to borrowers
Financial intermediaries
financial institutions through which savers can indirectly provide funds to borrowers
intermediary
go-between; mediator
From 2008 to 2012, in the aftermath of the financial crisis, the ratio of government debt to GDP in the United States
increased markedly.
A bond tends to pay a high interest rate if it is
issued by a corporation of dubious credit quality
Which of the following sets of government policies is the most growth oriented?
lower taxes on the returns to saving, provide investment tax credits, and lower the deficit
National saving (or just saving) is equal to
private saving + public saving
If the government collects more in tax revenue than it spends, and households consume more than they get in after-tax income, then
private saving is negative, but public saving is positive.
Credit risk refers to a bond's
probability of default
An increase in the budget deficit will
raise the real interest rate and decrease the quantity of loanable funds demanded for investment
If Americans become less concerned with the future and save less at each real interest rate,
real interest rates rise and investment falls.
If GDP = $1,000, consumption = $600, taxes = $100, and government purchases = $200, how much is saving and investment?
saving = $200, investment = $200
An increase in the budget deficit that causes the government to increase its borrowing
shifts the supply of loanable funds to the left.
An increase in the budget surplus
shifts the supply of loanable funds to the right and reduces the real interest rate
Which of the following is an example of equity finance?
stock
If a popular TV show on personal finance convinces Americans to save more for retirement, the ________ curve for loanable funds would shift, driving the equilibrium interest rate ________.
supply, down
If the government increases investment tax credits and reduces taxes on the return to saving at the same time,
the impact on the real interest rate is indeterminate.
Private Savings
the income that households have left after paying for taxes and consumption
Term
the length of time until the bond matures
market for loanable funds
the market in which those who want to save supply funds and those who want to borrow to invest demand funds
Credit Risk
the probability that the borrower will fail to pay some of the interest or principal
Investment is
the purchase of capital equipment and structures.
If Americans become more thrifty, we would expect
the supply of loanable funds to shift to the right and the real interest rate to fall
Public Savings
the tax revenue that the government has left after paying for its spending
date of maturity
the time at which the loan will be repaid
National Savings
the total income in the economy that remains after paying for consumption and government purchases
If government spending exceeds tax collections,
there is a budget deficit
