Chapter 9 review

14. You deposit $600 in a savings account in your bank for a year. By the end of the year the value of your deposits increases to $625. What is the interest rate that your bank is offering on the savings account? A. 4.17% B. 0.04% C. 1.04% D. 25%

A. 4.17% FEEDBACK: If the value of your deposit increases from $600 to $625, then the rate of return is [($625 - 600) ÷ $600] × 100 = 4.17%.

3. Suppose that capital becomes more productive. What would we expect to happen? A. The equilibrium interest rate and amount invested would both increase. B. The equilibrium interest rate and amount invested would both decrease. C. The equilibrium interest rate would increase while the equilibrium amount invested would decrease D. The equilibrium interest rate would decrease while the equilibrium amount invested would increase.

A. The equilibrium interest rate and amount invested would both increase. FEEDBACK: Since the demand for loanable funds is increasing, the equilibrium amount of investment and the interest rate would increase.

13. Which term describes the behavior of a 45-year-old who saves a large amount of her income for retirement today compared with during other periods of her life? A. consumption smoothing B. cyclical investing C. dissaving D. borrowing

A. consumption smoothing FEEDBACK: Most individuals earn more income than they spend on consumption during their thirties, forties, and fifties. Those who save a significant amount of their income during these years are said to smooth their consumption.

12. Which shifter of the demand for loanable funds did John Maynard Keynes associate with "animal spirits"? A. the productivity of capital B. investor confidence C. government borrowing D. consumption smoothing

B. investor confidence FEEDBACK: Consumption smoothing might in theory affect the supply of loanable funds, but not the demand. Government borrowing and the productivity of capital do shift the demand for loanable funds, but they are not what Keynes was referring to. "Animal spirits" is an investor's "drive to action" in response to economic opportunity. If an investor believes that sales will increase in the future, that is a reason to prepare for greater output by adding productive capacity, and this will increase the demand for loanable funds to pay for the capital investment required.

4. Suppose the country of Sylvania experienced a striking increase in its birthrates in the 1980s. Thus, an increasing part of the population of Sylvania entered midlife around 2011. Which of the following figures correctly depicts the change in savings behavior in Sylvania in 2011? A. Figure 1 B. Figure 2 C. Figure 3 D. Figure 4

D. Figure 4 FEEDBACK: As the "baby boomers" reached midlife in Sylvania around 2011, they entered their prime earning years. As a result, their income reached the highest levels around 2011 and so did their savings. This led to an increase in the supply of loanable funds in Sylvania and thus shifted the supply curve of loanable funds to the right.

8. What has happened to the savings rate in the United States since 1980? A. Savings have fallen steadily since 1980. B. Savings have risen steadily since 1980 C. Savings held steady until about 2000 and then began to fall steeply D. Savings fell steadily until about 2000 but after that began to rebound.

D. Savings fell steadily until about 2000 but after that began to rebound. FEEDBACK: In the early 1980s, the savings rate in the United States was about 10%. After briefly dropping below 4% in the mid-2000s, it has rebounded into the 6-8% range.

2. Automobile manufacturers are planning to adopt a new technology that will increase their overall productivity by 30%. As a result, the amount of equilibrium investment will __________ and the equilibrium interest rate will __________ in the loanable funds market. A. increase; increase B. decrease; decrease C. increase; decrease D. decrease; increase

A. increase; increase FEEDBACK: Consider an equilibrium situation. An increase in capital productivity will imply higher expected returns and thus an increase in the demand for loans. This will shift the demand curve of loanable funds to the right. At the new equilibrium point, both the investment level and the interest rate will be higher compared to the old equilibrium.

9. What is one reason why the U.S. savings rate is so low? A. Personal income tax rates in the United States are low compared to rates in other nations B. Not all forms of saving are included in the official definition of "personal savings." C. The savings rate falls during recessions more than it rises during expansions D. Savings is not a main source of funds used by firms for investment.

B. Not all forms of saving are included in the official definition of "personal savings." FEEDBACK: The savings rate is based on after-tax income, so tax rates are not directly relevant. There is no clear correlation between the savings rate and GDP growth. Firms needing funds for investment do enter the loanable funds market as demanders, where the funds are supplied by savers. A reason for the low rate is that, officially, personal savings do not include wealth associated with owning real estate or stocks and bonds that have appreciated in value, so some of the wealth homeowners and stock- and bondholders accumulate is not counted as personal savings.

5. The presence of secondary markets has what effect on the interest rates that firms have to pay on bonds issued by them? A. increases the rates B. decreases the rates C. doesn't affect the rates D. The impact cannot be determined without more information.

B. decreases the rates FEEDBACK: The existence of secondary markets increases the demand for bonds. As a result, the price of bonds will increase, which implies that the interest rate will decrease.

6. What factor causes the overall demand for loanable funds to shift from year to year? A. time preferences B. productivity of capital C. consumption smoothing D. savings rate

B. productivity of capital FEEDBACK: Recall the rule that a firm should borrow to fund an investment only if the expected return is greater than the interest rate on the loan. When capital is more productive, firms will get a greater expected return from new projects, and it's more likely that firms will want to borrow money to fund new projects. This would increase the demand for loanable funds. When capital is less productive, the opposite would occur.

1. An increase in the interest rate will result in an increase in the A. supply of loanable funds and movement up along the supply curve of loanable funds B. quantity supplied of loanable funds and movement up along the supply curve of loanable funds C. supply of loanable funds and a rightward shift of the supply curve of loanable funds D. quantity supplied of loanable funds and a rightward shift of the supply curve of loanable funds.

B. quantity supplied of loanable funds and movement up along the supply curve of loanable funds FEEDBACK: If the interest rate increases, this implies that the returns from loans will be greater in the future. Thus, an increase in interest rate will increase the amount that households are willing to save. This is the loanable-funds version of the law of supply. This will result in an increase in the quantity supplied of loanable funds and hence a movement up the same supply curve of loanable funds to a higher quantity of savings.

11. Which of the following is an example of direct finance?I. Apple stocksII. Microsoft bondsIII. A savings account in Citibank Group of answer choices A. II only B. III only C. I and II D. I and III

C. I and II FEEDBACK: Direct finance occurs when firms sell securities like stocks or bonds directly to the public in exchange for funds. On the other hand, indirect finance involves savers depositing in bank funds that the banks can then lend out to borrowers.

7. What factor shifts the supply curve of loanable funds? A. investor confidence B. productivity of capital C. income and wealth D. tax credits for capital improvements

C. income and wealth FEEDBACK: Most individuals, when they receive more income or wealth will save more. On a macroeconomic level, this means there will be a greater supply of loanable funds. Investor confidence and the productivity of capital both affect the demand for loans, not the supply.

10. What occurs when the loanable funds market is in equilibrium? A. foreign investment = domestic investment B. the inflation rate = interest rate C. savings = investment D. exports = imports

C. savings = investment FEEDBACK: The loanable funds market does tend to move to equilibrium. (Recall that equilibrium occurs when the price is such that the quantity demanded equals the quantity supplied.) This will occur at the interest rate where the amount of savings equals the amount of investment. At higher interest rates, savings will exceed investment, while at lower interest rates the opposite occurs. Every dollar borrowed requires a dollar saved.

15. __________ are on the demand side and __________ are on the supply side of the loanable funds market. A. Banks; households B. Households; banks C.Firms and governments; households D. Households; firms and governments E. Firms and governments; banks

C.Firms and governments; households FEEDBACK: Firms need to borrow funds in order to invest in capital goods. The government also needs to borrow when taxes are not enough to pay for outlays. Households save and, through the loanable funds market, channel their savings in the form of loans to those who are in need of funds.