Loanable Funds Market Module 29

Loanable Funds Market Module 29

Market for Loanable Funds. Real Interest Rate Supply (savings) 4% Demand 0 1,000 (borrowing) Loanable Funds (in billions of

What is this graph measuring? – The real interest rate and the quantity of loanable funds What does quantity of loanable funds refer to? – The amount of money that is available in the financial markets to be borrowed Why is the real interest rate on the vertical axis? – It is the price or cost of borrowing and it is the income received from lending What does “real” rate mean? – The interest rate with inflation accounted for (nominal rate – inflation rate real rate)

Market for Loanable Funds. Real Interest Rate Supply (savings) 4% 0 1,000 Loanable Funds (in billions of

Supply of Loanable Funds Where do the supply of loanable funds come from? – Savers Who are the savers? – Households – Government – Businesses – ROW (Rest of the World) How do interest rates affect savings? – The higher the rate the higher the QS

Market for Loanable Funds. Real Interest Rate 4% Demand 0 1,000 (borrowing) Loanable Funds (in billions of

Demand for Loanable Funds Where does the demand for loanable funds come from? – Borrowers Who are the borrowers? – Households – Government – Businesses for Investment Spending – ROW (Rest of the World) How do interest rates affect borrowing? – The lower the rate the higher the QD

Market for Loanable Funds. Real Interest Rate Supply (savings) 4% Demand 0 1,000 (borrowing) Loanable Funds (in billions of

Equilibrium in the Loanable Funds Market Where is equilibrium? – At the interest rate that equates the quantity supplied and quantity demanded What happens if the interest rate is higher than the equilibrium? – There will be a surplus of funds available which will force the interest rate down What happens if the interest rate is lower than the equilibrium? – There will be a shortage of funds available which will force the interest rate up

Market for Loanable Funds. Real Interest Rate Supply (savings) 5% 4% 3% Demand Demand Demand 0 90 1,000 1,100 0 2 1 3 Loanable Funds (in billions of

Changes in the Demand for Loanable Funds What would cause a change in what businesses are spending? – Changes in their profit expectations – Changes in tax law What would cause a change in what government is spending or saving? – Changes in need to borrow (business cycle changes) – Changes in tax collections

Market for Loanable Funds. Supply Real Interest Rate 3 Supply 1 Supply 2 5% 4% 3% Demand 0 900 1,000 1,100 (borrowing) Loanable Funds (in billions of

Changes in the Supply of Loanable Funds Market What determines the Supply of Loanable Funds? – Savings Where do savings come from? – From the income not spent What would cause the amount of savings to change? – Changes in private savings (wealth, income, age) – Changes in capital inflows (foreign savings) – Changes in expected inflation (Fisher effect)