1981, many interest rates in the United States were 15%, but the inflation rate was 10%. In 2015, many interest rates were less than 1%, and the inflation rate was 2%. a. What were the real interest rates in 1981 and 2015? b. all else equal, how does the drop in interest rates between 1981 and 2015 affect the quantity of loanable funds supplied?
1981, many interest rates in the United States were 15%, but the inflation rate was 10%. In 2015, many interest rates were less than 1%, and the inflation rate was 2%. a. What were the real interest rates in 1981 and 2015? b. all else equal, how does the drop in interest rates between 1981 and 2015 affect the quantity of loanable funds supplied?
Chapter21: Financial Markets, Saving, And Investment
Section: Chapter Questions
Problem 9P
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Question
In 1981, many interest rates in the United States were 15%, but the inflation
rate was 10%. In 2015, many interest rates were less than 1%, and the
inflation rate was 2%.
a. What were the real interest rates in 1981 and 2015?
b. all else equal, how does the drop in interest rates between 1981 and
2015 affect the quantity of loanable funds supplied?
Question 2.
Recently, the economies of China and India have begun to grow very rapidly.
This increases their citizens’ income and wealth. In turn, these citizens
increase their savings in their country and also in the United States.
a. When foreign savings enter the U.s. loanable funds market, which
curve is affected—supply or demand? How is this curve affected?
b. How would you graph the U.s. loanable funds market both before and
after the increase in foreign savings?
c. How does the change in foreign savings affect both investment and
future output in the United states?
Question 3.
Bond A pays Rs. 80,000 in 20 years. Bond B pays Rs. 80,000 in 40 years. (To
keep things simple, assume these are zero-coupon bonds, which means the
Rs80,000 is the only payment the bond holder receives.)
a. If the interest rate is 3.5 percent, what is the value of each bond
today? Which bond is worth more? Why? (Hint: You can use a calculator,
but the rule of 70 should make the calculation easy.)
b. If the interest rate increases to 7 percent, what is the value of each
bond? Which bond has a larger percentage change in value?
c. Based on the example above, complete the two blanks in this
sentence: “The value of a bond [rises/falls] when the interest rate
increases, and bonds with a longer time to maturity are [more/less]
sensitive to changes in the interest rate.”
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