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Economics Summary
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Economics lectures and trainingsExam 40 questions, mc, will be on Remindo
Lecture week 1 – Introduction
The financial system is the group od institutions that help to match one person’s saving
with another person’s investment. There are two financial institutions in the economy:
1. Financial markets: saver can directly provide funds to borrows
a. Bond market: a bond is a certificate of indebtedness
b. Stock market: a stock is a claim of a partial ownership in a firm
2. Financial intermediaries: savers can indirectly provide funds to borrows
a. Banks
b. Investment funds, pensions funds, insurance company
A bond is a certificate of indebtedness that specifies the obligations of the borrower to the
holder of the bond. On the certificate you can see the interest rate, the maturity and the
nominal value. There are also other divisions in the financial systems which are the money
market and the capital market.
Money market
Maturity is less than 2 year and is divided into wholesale or retail market. The wholesale
money market is mostly made up of large corporations in which the interest rate is provide
by the European Bank. The retail money market is more for small medium enterprise
(SME’s) and in which the interest rate is provide by a credit and debit rate.
Capital market
Maturity is more than 2 years and is divided into official or private market. The official
capital market the conditions are publicly announced like the stock exchange, bonds or
mortgage bonds. The private capital market consist of direct negotiations between parties
such like the real estate investments.
Saving and investment in national income
Recall that GDP is both total income in an economy and total expenditure on the economy’s
output of goods and services: Y = C + I + G + NX. Assume a closed economy – one that
does not engage in international trade: Y = C + I + G. In which Y = GDP, C = consumption,
I = investment, G = government spending and NX = net exports. Now, subtract C and G
from both sides of the equation: Y – C – G = C + I + G – C – G Now we have: Y – C – G = I.
Y – C – G is called National Saving
(S), and for the whole economy it
must be equal to Investment. S = I.
National Saving or saving, is equal to:
S = Y – C – G – T + T. S = (Y – T – C)
+ (T – G) (Y – T – C) = Private Saving
(Households!). (T – G) = Public saving
(Government!)
, The market for loanable funds
The supply of loanable funds comes from the savers. The demand for loanable funds comes
from the borrowers (investment). The (real)
interest rate is the price of the loan. The
equilibrium of the supply and demand for loanable
funds determines the real interest rate.
Government policies that affect saving and
investment:
Taxes and saving
Taxes and investment
Government budget deficits
Policy 1:
Taxes on interest income reduce the incentive
to save. A tax decrease on savings
increases the incentive for households to save at
any given interest rate. If a change in tax law
encourages greater saving, the result will be lower
interest rates and greater investment.
Policy 2:
Investment tax credit gives tax advantage to any
firm making an investment. It increases the
incentive to borrow. If a change in tax laws
encourages greater investment, the result will be
higher interest rates and greater saving.
Policy 3:
When the government spends more than it
receives in tax revenues, the short fall is called
the budget deficit. What happens to supply
and demand of loanable funds when
government starts having budget deficit? (Y – T –
C) + (T – G ) = I (Down) Budget deficit
reduces the Supply of loanable funds. The
resulting fall in investment is referred to as
crowding out. When government reduces national
saving by running a deficit, the interest rate
rises and investment falls. A budget surplus increases the supply of loanable funds,
reduces the interest rate, and stimulates investment.
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