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ECON141.
CHAPTER 24.
Extra note
Savers accumulateBorrowers want to make use of more funds
thanThe Loanable funds market brings savers
and
Savers expect to earn a
Borrowers are willing to pay a premium to acquire funds
The interest rate is the price of
Stated as a percent of
The market rate of interest is a nominal rate (i) -
Participants in the Loanable funds market are more interested in the
The real rate is the nominal rate adjusted for
Alternatively, i =
Savers and borrowers focus on the expected
This equals the nominal rate minus the expected
r e = i -Lenders want to be compensated for lost
buying power, and borrowers are willing to
Demand for Loanable funds depends on desire
Negatively related toSupply of Loanable funds
Slight positiveAssume e is constant when graphing the
loanable funds market.
r
Loanable Funds
Investment
Saving
r0
LF0
r
Loanable Funds
DLF
SLF
r0
LF0
SLF
1
r1
LF1
r
Loanable Funds
DLF
SLF
r0
LF0
DLF1
r1
LF1
r
Loanable Funds
DLF
SLF
r0
LF0
SLF
1
r1
LF1
Government retires debt, freeing savings to flow to private uses.
r
Loanable Funds
DLF
SLF
r0
LF0
SLF1
r1
LF1
Government borrows more, reducing savings available for private uses.
In reality, government budget deficits affect the real interest rate
Why?Foreign savings flow in, The Fed creates money, enabling banks to
make
r
Loanable Funds
DLF
SLF
r0
LF0
DLF1
r1
LF1
Investment appears more profitable, so firms borrow more to buy capital goods.