Slides Created By Kevin Brady and Eric Chiang Market for Loanable Funds Interactive Examples To navigate, please click the appropriate green buttons. (Do not use the arrows on your keyboard) Material from this presentation can be found in: Chapter 22 CoreEconomics, 2e Begin

Market for Loanable Funds Real Interest Rate (%) Loanable Funds (in millions) The market for loanable funds is a simple model that describes the financial market for saving and investment. Back Interactive Examples In particular, it describes the relationship between loanable funds and the real interest rate. Next 5

Real Interest Rate (%) Loanable Funds (in millions) Question: Where does the supply of loanable funds come from? Back Interactive Examples 5 Answer Market for Loanable Funds

Real Interest Rate (%) Loanable Funds (in millions) Question: Where does the supply of loanable funds come from? Back Interactive Examples Next 5 Answer: Savers! People supply funds to the loanable funds market because they do not spend all of their income. Market for Loanable Funds

Real Interest Rate (%) Loanable Funds (in millions) Question: What does the supply of loanable funds curve look like? Back Interactive Examples 5 Answer Market for Loanable Funds

Real Interest Rate (%) Loanable Funds (in millions) Question: What does the supply of loanable funds curve look like? Back Interactive Examples Next 5 Answer: It is upward sloping. As real interest rates increase, people are willing to save more because they earn a higher rate of return on their savings. S0S0 At an interest rate of 3%, $5 billion in loanable funds will be available. At an interest rate of 4%, $8 billion in loanable funds will be available Market for Loanable Funds

Real Interest Rate (%) Loanable Funds (in millions) Question: Where does the demand for loanable funds come from? Back Interactive Examples 5 Answer Market for Loanable Funds

Real Interest Rate (%) Loanable Funds (in millions) Question: Where does the demand for loanable funds come from? Back Interactive Examples Next 5 Answer: Investors, entrepreneurs, and consumers. People demand loanable funds in order to make investments, start new companies, or make ordinary purchases. Market for Loanable Funds

Real Interest Rate (%) Loanable Funds (in millions) Question: What does the demand for loanable funds curve look like? Back Interactive Examples 5 Answer Market for Loanable Funds

Real Interest Rate (%) Loanable Funds (in millions) Question: What does the demand for loanable funds curve look like? Back Interactive Examples Next 5 Answer: It is downward sloping. As real interest rates decrease, people are willing to borrow more money because the cost of borrowing is lower. D0D0 At an interest rate of 4.5%, $3 billion in loanable funds will be demanded. At an interest rate of 2.5%, $7 billion in loanable funds will be demanded Market for Loanable Funds

Real Interest Rate (%) Loanable Funds (in millions) Question: What determines equilibrium in the loanable funds market? Back Interactive Examples 5 Answer Market for Loanable Funds

Real Interest Rate (%) Loanable Funds (in millions) Question: What determines equilibrium in the loanable funds market? Back Interactive Examples Next 5 Answer: Equilibrium occurs where the supply of loanable funds curve crosses the demand for loanable funds curve. S0S0 D0D0 In the graph to the right, this occurs at a real interest rate of 3% and loanable funds of $6 billion. Market for Loanable Funds

Real Interest Rate (%) Loanable Funds (in millions) Question: What if the people in this economy heed the President’s rallying cry of “spend more, save less”? Back Interactive Examples 5 S0S0 D0D0 Answer Market for Loanable Funds

Real Interest Rate (%) Loanable Funds (in millions) Question: What if the people in this economy heed the President’s rallying cry of “spend more, save less”? Back Interactive Examples Next 5 S0S0 D0D0 Answer: People in the economy will supply less loanable funds at every interest rate. Thus, the supply curve for loanable funds will shift to S 1. S1S In the graph to the right, the new equilibrium will be at real interest rate of 3.5% and a loanable funds quantity of $5 billion. Market for Loanable Funds

Real Interest Rate (%) Loanable Funds (in millions) Question: What would happen in the loanable funds market if Congress decides to increase taxes on businesses in order to pay down the national debt? Back Interactive Examples 5 S0S0 D0D0 Answer Market for Loanable Funds

Real Interest Rate (%) Loanable Funds (in millions) Question: What would happen in the loanable funds market if Congress decides to increase taxes on businesses in order to pay down the national debt? Back Interactive Examples Next 5 S0S0 D0D0 Answer: The increase in taxes will cause businesses to reduce investment, and thus decrease the demand for loanable funds at each interest rate. The D 0 curve will shift to the left. D1D In the graph to the right, the new equilibrium will be at real interest rate of 2.75% and a loanable funds quantity of $5 billion. Market for Loanable Funds

Real Interest Rate (%) Loanable Funds (in millions) Question: A technology is created that will allow newly-built planes to travel at twice their current speed. What effect would this have on the loanable funds market? Back Interactive Examples 5 S0S0 D0D0 Answer Market for Loanable Funds

Real Interest Rate (%) Loanable Funds (in millions) Question: A technology is created that will allow newly-built planes to travel at twice their current speed. What effect would this have on the loanable funds market? Back Interactive Examples Next 5 S0S0 D0D0 Answer: The new product and technology will increase the demand for loanable funds as firms race to enter this market. The D 0 curve will shift to the right. D1D In the graph to the right, the new equilibrium will be at real interest rate of 3.75% and a loanable funds quantity of $8 billion. Market for Loanable Funds

Real Interest Rate (%) Loanable Funds (in millions) Question: The national headlines show that the unemployment rate has been rising and it is expected to continue rising. What effect might this have on the loanable funds market? Back Interactive Examples 5 S0S0 D0D0 Answer Market for Loanable Funds

Real Interest Rate (%) Loanable Funds (in millions) Question: The national headlines show that the unemployment rate has been rising and it is expected to continue rising. What effect might this have on the loanable funds market? Back Interactive Examples 5 S0S0 D0D0 Answer: The headlines will cause people in the economy to be nervous about losing their jobs. They will be willing to save more at each interest rate, shifting the S 0 curve to S 1. S1S In the graph to the right, the new equilibrium will be at real interest rate of 2.5% and a loanable funds quantity of $7 billion. Start Over Market for Loanable Funds