Module 29 Loanable Funds Market LF Market The
Module 29 Loanable Funds Market
LF Market • The market where savers & borrowers exchange funds (QLF) at the real interest rate (r%) • Savers = households or the government • Borrowers = the government or firms needing to spend on investment (I G) • Demand for LF = borrowing $ in exchange for bonds • Supply of LF = loaning $ in exchange for bonds
LF Market in Equilibrium r% SLF • S is upward sloping: as r% ↑, quantity supplied of LF ↑ (higher benefit of loaning $) r • D is downward sloping: as r% ↑, quantity demanded of LF ↓ (higher cost of borrowing $) DLF q QLF
Shifting DLF • DLF = supply of bonds • ↑ borrowing = ↑ DLF ∴ DLF ∴ r% ↑ • ↓ borrowing = ↓ DLF ∴ DLF ∴ r% ↓ • ∆ perceived business opportunities • Directly affects DLF • Ex) Excitement about business opportunities created by the Internet ∴ ↑ DLF • Ex) When businesses are pessimistic about future conditions ∴ ↓ DLF • ∆ in government borrowing • Government surplus ∴ Government doesn’t need to borrow $↓ ∴ DLF Government deficit ∴ Government needs to borrow $ ∴ ↑ DLF • Crowding out: government deficit spending ∴ ↑ r% & ↓ IG
↑ in DLF r% DLF . : r% ↑ & QLF ↑ SL F r 1 r DLF q q 1 DLF 1 QL F
↓ in DLF r% DLF . : r% ↓ & QLF ↓ SL F r r 1 DLF 1 q DL F QLF
Shifting SLF • SLF = demand for bonds • ↑ saving = ↑ SLF ∴ SLF ∴ r% ↓ • ↓ saving = ↓ SLF ∴ SLF ∴ r% ↑ • ∆ in private saving behavior • Ex) ↓ in consumers’ MPS = ↓ saving = ↓ SLF • Ex) ↓ in consumer’s MPC = ↑ saving = ↑ SLF • ∆ in capital inflows = other countries investing in US • Directly affects SLF • Countries viewed as good investment opportunities receive more capital inflows • Ex) Toyota builds factory in Texas ∴ ↑ SLF • ∆ in government borrowing • Government surplus = ↑ saving ∴ ↑ SLF • Government deficit = ↓ saving ∴ ↓ SLF
↑ in SLF r% SLF ∴ r% ↓ & QLF ↑ SL F SLF 1 r r 1 DLF q q 1 QL F
↓ in SLF r% SLF ∴ r% ↑ & QLF ↓ SLF 1 r 1 SL F r DL q 1 F q QL F
Important Points • When government enacts fiscal policy, it affects LF market • ∆r% ∴ ∆IG • An expansionary fiscal policy of G↑ or T↓ ∴ government deficit spending ∴ DLF ∴ r%↑ ∴ IG↓ • This is the crowding-out effect
Effect of Expansionary Fiscal Policy on LF & IG r% r% SLF r 1 r DLF q q 1 DLF 1 QL F I 1 I ID IG
Assignment Please answer questions on slide 13 email them to Mr. Ventura.
Practice Questions Express the questions below in corresponding symbolic form: EXAMPLES: At any given interest rate, consumers decide to save more S→ & r%↓ At any given interest rate, businesses become optimistic about the future profitability of investment spending (IG) D→ & r%↓ (business will invest more in capital resources) 1. There is an increase of capital inflows into the US 2. Businesses are pessimistic about future conditions 3. The government increases borrowing 4. The private savings rate decreases 5. The government reduces the size of its deficit to zero
- Slides: 13