Economics Chapter 9: Savings, Interest Rates, and the Market for Loanable Funds

Imagine you save $1,724.00 for one year at a simple interest rate of 4% paid yearly. How much would your deposit increase to by the end of the year?

1792.96

Consider the personal savings rate in the United States. Order these years according to savings rate, beginning with the year in which the savings rate was lowest.

2005 2011 1975

Eve earns $68,000 per year as a lecturer. Each year, she spends $36,000. In addition, she gives $1,000 to charity and pays $16,000 in taxes. Of the money she has left, she saves $13,000 and invests $2,000 in the stock market. Calculate her personal savings rate. Round to the nearest whole percentage point.

25%

If the nominal interest rate is 5.3% and the inflation rate is 2.1%, what would the real interest rate be?

3.2%

Using only the information in the table, place the four people listed in the most plausible order according to their personal savings rate, starting with the lowest.

Sam, Simon, Steve, Jaime

Match each economic actor with the primary role it plays in the loanable funds market in the United States.

banks- financial institutions households- savers foreign entities- savers mutual funds- financial institutions companies/ firms- borrowers

When the loanable funds market is in equilibrium, savings equals _____. Above the equilibrium interest rate, the quantity of loanable funds demanded would be lower than the amount people are willing to ______, putting ______ pressure on the interest rate.

blank 1- investment blank 2- save blank 3- downward

The graph below depicts the market for loanable funds. Complete the graph by labeling the supply and demand curves and the y-axis of the graph.

blank next to 6%- interest rate S= savings D= investment

One line in the graph below describes a typical individual's lifetime pattern of income. The other line describes the typical lifetime pattern of consumption. Label the two lines, keeping in mind the concept of consumption smoothing.

top blank- income bottom- consumption

Match each event to its effect on the equilibrium interest rate and the amount of investment in the loanable funds market.

higher interest rate, less investment- A wave of retirees stops working and begins drawing on retirement savings. lower interest rate, less investment- Firm owners expect reduced sales in the future. lower interest rate, greater investment- Immediate consumer gratification is no longer preferred by people. higher interest rate, greater investment- An efficient new source of energy effectively increases the return on owning a factory.

Match the appropriate label to each event.

increase investor confidence- After U.S. quarterly GDP repeatedly exceeds expectations, businesses become more optimistic about future earnings. increased productivity of capital- A new 18-wheel truck is so fuel efficient that many truckers find it profitable to replace their trucks. decreased productivity of capital- City regulations reduce the profitability of new rental apartments. decreased investor confidence- Trade tensions create worry regarding the future of economic growth.

Consider the typical individual engaged in consumption smoothing. Match the following phases of that person's life to the financial activity he or she would most likely engage in during that phase.

prime earning years- saving early life- borrowing later life- dissaving

Apply the correct label to each description.

real interest rate- Apply the correct label to each description. interest rate- a price of loanable funds, quoted as an annual percentage of the amount borrowed nominal interest rate- the interest rate that newspapers report and that financial transactions are recorded in

Which of the following events would cause the supply of loanable funds to shift?

Cause- a crash in the value of wealth held in real estate and stock markets a population boom generation entering its prime earning years Not a cause- a collapse of a prominent foreign investment market an increase in the interest rate of 3 percentage points

Why is interest typically paid on a loan?

Correct- to compensate the lender for temporarily making do without the money that was lent to compensate the lender for the risk that the loan will not be repaid Incorrect- to ensure that people do not borrow money without having a good reason

The amount of investment in an economy exceeds the amount of savings during a recession.

False

Sort the listed factors into those that affect the supply curve for loanable funds and those that affect the demand curve.

Affect supply curve- consumption smoothing wealth time preferences income age distribution of the population Affect demand curve- productivity of capital investor confidence

Given the supply and demand curves shown, where would the interest rate end up if the quantity of loans supplied started out at $200 billion?

5%

The drop in U.S. savings during the 1980s and 1990s was likely the result of decreased income and wealth.

False

In 1982, the savings rate rose above -. It generally fell for nearly three decades before reaching a low of - in 2005. Yet as real estate and stock prices fell in the aftermath of the Great Recession of 2008-2009, the savings rate climbed as high as - in 2012, before falling to about the 6-8% range.

1st blank- 12% 2nd blank- 2.2% 3rd blank- 12%

Today, Jermaine has $100, with which he could purchase 500 kW/hr of electricity. However, Jermaine realizes he could also put the money in savings for one year. If he does this, then in one year's time he would have - more dollars, which would allow him to purchase -% more kW/hr. (Assume that the price change for kW/hr reflects the general inflation rate; kW/hr can be priced in thousandths of a dollar; you can purchase only part of a kW/hr.)

1st blank- 3 2nd blank- 2

The main determinants of the demand for loanable funds are - and investor confidence. The latter is a measure of firms' views about - economic activity. Investors often alter their expectations for good reasons, but Keynes also considered investment decisions made on the basis of - factors, which he spoke of as resulting from "animal spirits," as determinants of confidence.

1st blank- capital productivity 2nd blank- future 3rd blank- irrational

In order to have a lifetime pattern of consumption that is - varied (that is, smoother) than the pattern of income, people tend to - early in life, - and save during prime earning years, and - late in life.

1st blank- less 2nd blank- borrow 3rd blank- repay loans 4th- dissave

Going to college means that you give up income in the present so that you earn more in the future. In this sense, college students are - patient than those who work instead. Economists would say this is an expression of - time preferences.

1st blank- more 2nd blank- weaker

Jane would like to borrow $850 for exactly one year, so that she can buy a brand-new lawn mower for the lawn-mowing business she is starting. Jane's local bank agrees to lend her the money only if she is willing to pay back the full amount plus an extra $30, for a total repayment amount of $880.

3.5%

Suppose the interest rate that banks are charging their best customers is 5.5%, the inflation rate is 1.5%, and the most recent economic growth rate was 3.1%. Calculate the real interest rate that would result from this scenario (to the nearest tenth of a percent).

4.0%

Suppose the real interest rate is 4.0%, the inflation rate is 1.5%, and the most recent economic growth rate was 3.1%. Calculate the nominal interest rate that would result from this scenario (to the nearest tenth of a percent).

5.5%

Identify whether the following factors that shift the supply of loanable funds increase or decrease the supply of loanable funds.

Increase- increases in wealth more people in midlife Decrease- decreases in income more retired people increases in time preferences

Place the following actions on the correct areas on the production timeline, according to when they would need to occur.

borrow invest produce sell output

Which of the following events results in a decrease in the real interest rate?

correct- Inflation increases, while the nominal interest remains the same. Inflation rises, while interest paid by banks drops. incorrect- Interest paid by banks goes up, while inflation remains the same. The nominal interest rate and the inflation rate drop by the same number of percentage points.

Ceteris paribus, which of these events would cause both the equilibrium interest rate and the equilibrium quantity of investment to fall?

correct- a decrease in investor confidence a decrease in capital productivity incorrect- a strengthening of time preferences a decrease in domestic income and wealth

Which of the following events results in an increase in the nominal interest rate?

correct- Inflation drops by 2 percentage points, while the real interest rate increases by 3 points. Inflation increases from 2% to 5%, while the real interest rate increases from 0% to 3%. Inflation increases while the real interest rate remains constant. incorrect- Inflation drops by 3 percentage points, while the real interest rate increases by 1 point.

U.S. personal savings fell significantly during the 1980s and 1990s. Why didn't the supply of loanable funds experience a similarly significant contraction?

increased foreign wealth and income