Savings-Investment Spending Identity: The concept that savings in an economy is equal to
investment spending, ensuring all income not used for consumption or government spending is
available for investment.
National Savings: The total savings of a nation, calculated as the sum of private savings and
public savings
Net Capital Inflow: The net flow of funds into a country, equal to the total inflow of foreign capital
minus the outflow of domestic capital to other countries.
Crowding Out: A phenomenon where increased government borrowing raises interest rates,
reducing private investment.
Fisher Effect: The principle that the nominal interest rate is equal to the real interest rate plus
the expected inflation rate.
Efficient Markets Hypothesis (EMH): The theory that asset prices fully reflect all available
information, making it impossible to consistently achieve higher returns than the market average
without additional risk.
Random Walk: The idea that stock price changes are unpredictable and follow no discernible
pattern, reflecting all known information at any given time.
1.
● Private Savings = $1,000 - $850 - $50 = $100 million
● Budget Balance = $50 - $100 = - $50 million
● National Savings = $100 - $50 = $50 million
● Investment Spending = $50 million
2.
● Private Savings = $1,000 - $850 - $50 = $100 million
● Budget Balance = $50 - $100 = -$50 million
● Net Capital Inflow = $125 - $100 = $25 million
● National Savings = $100 - $50 = $50 million
● Investment Spending = $50 + $25 = $75 million
3.
● Capsland's Budget Balance = 5% (deficit).
● Marsalia's Budget Balance = 20% - (25% - 2%) = -3% (surplus).
4.
a. X = $125 million, IM = $80 million
Budget Balance = -$200 million
Net Capital Inflow = $80 - $125 = -$45 million
Private Savings = $350 - (-$200) = $550 million
b. X = $85 million, IM = $135 million
Budget Balance = $100 million
Net Capital Inflow = $135 - $85 = $50 million
Private Savings = $250 - $100 = $150 million
c. X = $60 million, IM = $95 million
Private Savings = $325 million
Net Capital Inflow = $95 - $60 = $35 million
Budget Balance = $300 - $325 = -$25 million
d. Private Savings = $325 million
Investment Spending = $400 million
Net Capital Inflow = $400 - $325 = $75 million
Budget Balance = $10 million
5.
● Equilibrium interest rate increases due to higher demand for loanable funds
● Equilibrium quantity of loanable funds increases as more funds are borrowed.
● Crowding out occurs as private investment spending is reduced because of the higher
interest rate.
7.
● Equilibrium in the loanable funds market ensures that the funds are allocated to the most
productive investment opportunities, maximizing economic efficiency.
9.
a. Lower than expected inflation as the real interest rate increases to 4%. Boris Borrower
will lose because he repays with money that has a higher real value.
b. Higher than expected inflation as the real interest rate decreases to 1%. Lynn Lender will
lose because she receives repayments in less valuable money.
10.
● A fall in expected inflation reduces the nominal interest rate. The supply curve for
loanable funds shifts right, increasing the equilibrium quantity of loanable funds.
11.
● As inflation rates decrease, the real interest rate increases, making borrowing more
expensive and discouraging investment spending.
17.
a. Government Reduces Deficit
- Private Savings Increase, as less government borrowing frees funds. Private
Investment Spending Increases, due to lower interest rates.
b. Consumers Save More
- The supply of loanable funds increases, lowering interest rates and increasing
private investment spending.
c. Businesses Become Optimistic
- Demand for Loanable Funds Increases, raising interest rates and encouraging
investment spending.