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AP macroeconomics Unit 4: Long Run Economic growth and loanable funds

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Presentation on theme: "AP macroeconomics Unit 4: Long Run Economic growth and loanable funds"— Presentation transcript:

1 AP macroeconomics Unit 4: Long Run Economic growth and loanable funds

2 Topic 1: Review of AD/AS graph
What is the AD/AS graph used to illustrate??? 1. changes in price level 2. changes in quantity of real GDP/output 3. changes in employment 4. FISCAL POLICY action

3 1. Draw an AD/AS graph at full employment equilibrium

4 2. Draw an AD/AS graph showing a recession

5 3. Draw an AD/AS graph showing inflation

6 Reasons AD curve will shift:
1. Change in C (*wealth, income taxes, confidence) *Wealth = the value of all things a person owns. ASSETS How much $ a person earns (wage/income) is NOT the same thing as wealth

7 Reasons AD curve will shift:
2. Change in I (includes business taxes) 3. Change in G 4. Change in Xn *FISCAL POLICY impacts this curve

8 Reasons SRAS curve will shift???
1. Change in resources quality and quantity Change in price of resources (wages) Change in business taxes Change in legalities Change in technology Change in productivity *This curve can SELF ADJUST in the long run due to flexible wages

9 Reasons LRAS will shift???
1. change in resources quality and quantity 2. Change in technology

10 Topic 2: Review of Phillips curve graph
What is the Phillips curve used to illustrate?? The relationship between inflation and unemployment

11 1. Draw a Phillip’s curve graph at FE

12 2. Draw a Phillip’s curve with a recessionary gap

13 3. Draw a Phillips curve with an inflationary gap

14 Reasons Phillips curve will shift:
Inflation and unemployment both move in the same direction

15 Topic 3: Review of money market graph
What is the money market graph used to illustrate??? 1. changes in NOMINAL interest rate 2. MONETARY policy action

16 Draw a correctly labeled money market graph

17 Reasons Md will shift 1. Change in price level 2. change in real GDP

18 Reasons Ms will shift Fed action (monetary policy)
changing the reserve ratio changing the discount rate open market operations

19 Review of multipliers Spending multiplier Tax multiplier
Money multiplier When to use when there is a change in spending in the economy When there is a change in income taxes in the economy When there is a deposit placed in the bank or the Fed uses open market operations Formula for 1/MPS or /MPS MPC/MPS or - MPC/MPS 1/RR or -1/RR See practice WS


21 Topic 4:Long Run Economic growth
Long Run Economic growth 1. The increase in real GDP which occurs over a period of time 2. The increase in real GDP per capita which occurs over a period of time

22 Calculation of Rate of Growth
Example: Real GDP this year is $11 million. Last year, real GDP was $10 million. What is the Growth rate???

23 Ingredients of economic growth
Supply Factors: Increases in the quantity and quality of natural resources Increases in the quantity and quality of human resources/human capital (ex education) Increases in the supply of capital stock Improvements in technology

24 Ingredients of Economic Growth
5. Demand Factor To achieve higher production created by the supply factors, households, businesses and G must purchase the expanding output

25 Ingredients of Economic growth
Efficiency productive efficiency: Use of resources in least costly way allocative efficiency: produce what society desires

26 Graphing economic growth
1. Can be shown as an outward shift in a nation’s production possibilities curve 2. Can be shown as a rightward shift of a nation’s LRAS curve

27 Economic growth and PPC

28 Economic growth and AD/AS graph

29 Topic 5: The Financial System
Consists of institutions that help match one person’s savings with another person’s investment The Financial System is made up of financial institutions (2 types) 1. financial markets 2. financial Intermediaries

30 Financial Markets Institutions through which savers can directly provide funds to borrowers Examples: stock market and the bond market

31 Financial Intermediaries
Financial institutions through which savers can indirectly provide funds to borrowers Example: Banks

32 Topic 6: loanable funds theory of interest
Looks at the impact of an action on REAL interest rates

33 Nominal Interest Rate (i)
The actual interest rate Measures the annual percentage increase in the nominal (current dollar) value NIR = RIR + inflation rate Real Interest Rate (r) Interest rate taking inflation into account RIR = NIR – inflation rate

34 Nominal vs. Real Interest Rates
Example: You lend out $100 with 20% interest. Inflation is 15%. Nominal interest rate = 20% Real interest rate = 5% You borrow $100 with 10% interest. Prices increase 13%. Nominal interest rate = 10% Real interest rate = -3%

35 Topic 7: The Supply of Loanable Funds
The supply of loanable funds comes from SAVINGS – INVESTMENT for SAVINGS

36 Examples of Savings: Purchase a certificate of deposit at a bank
Put money into savings account at a bank Purchase corporate stock or bonds Buy shares of a mutual fund

37 Supply of Loanable funds
A high real interest rate is an incentive to save. The real interest rate is the OPPORTUNITY COST of spending example: You decide to spend your money rather than save it – the interest rate you could have earned on your money is what you give up


39 Reasons the Supply of loanable funds will shift:
A change in disposable income more disposable income = more savings less disposable income = less savings 2. A change in taxes on interest income increase in taxes = less savings decrease in taxes = more savings Anything that can impact savings (INVESTING FOR THE FUTURE) FOREIGN INVESTMENT (SAVINGS)

40 Supply in money market vs supply in loanable funds
Money market graph = source of supply from the Fed Loanable Funds graph = source of supply from savers

41 Topic 8: The demand for Loanable Funds

42 In order for firms to increase their capital stock, they must purchase machinery, tools and education for their workers. Firms must often borrow $ to do this

43 Demand for Loanable funds
The sources of demand are the economy’s businesses who want to borrow $ to acquire more factories, inventory and equipment The demand for loanable funds = BORROWING FOR INVESTMENT (BORROWING TO IMPROVE BUSINESS) Investment = purchase of capital goods, construction and inventory IT IS NOT the buying of STOCK

44 Examples of INVESTMENT
-GM spends $250 million to build a new factory -you buy $5,000 worth of computer equipment for your business - your parents spend $200,000 to have a new house built

45 Demand for loanable funds
If firms must borrow funds, they regard the REAL rate of interest as a cost for an Investment Example: firms expect profits to increase by 5% due to a new investment of which they can borrow at a 3% rate of interest. Should this firm borrow the money???


47 Reasons the Demand for loanable funds will shift:
1. A change in investment tax credits (tax break) more tax credits = more investment less tax credits = less investment A change in business/corporate tax laws more taxes = less investment less taxes = more investment Change in the expected rate of profit more expected profit = more investment less expected profit = less investment 4. A change in the government’s budget deficit increase in budget deficit = increase in D decrease in budget deficit = decrease in D

48 Topic 9: Relationship between supply and demand of Loanable funds
The long run amount of savings directly affects the amount of money available for investment Savings rate in a country is the single most important determinant of investment more investment = more capital stock more capital stock = Long run growth

49 The market for Loanable Funds
The market in which those who want to save supply funds and those who want to borrow to invest demand funds Assume: only one financial market - all savers deposit their savings in this market - all borrowers take out loans from this market

50 Loanable Funds Market At the equilibrium real interest rate, the amount borrowers want to borrow equals the amount lenders want to lend SAVINGS = INVESTMENT Real Interest Rate S (savings) re D(Investment) QLoans Quantity of Loans 50

51 Practice: Tax incentives for savings increase. Draw a loanable funds graph to illustrate this.


53 Practice An investment tax credit increases the demand for loanable funds. Illustrate this on a loanable funds graph.


55 Practice The government borrows money to finance their budget deficit. Illustrate this action on a loanable funds graph.


57 Crowding Out Crowding out = An increase in budget deficit increase real interest rates which decreases investment Remember: investment is important for long run economic growth – budget deficits reduce the economy’s growth rate and future standard of living

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