Third Set Flashcards
Bond
certificate of indebtedness
* date of maturity, when the loan will be repaid
*rate of interest
*principal - amount borrowed
Borrowing from the public
Used by large corporations, the federal government or state and local governments
Term
length of time until maturity
Credit Risk
probability of default
*probability that the borrower will fail to pay some of the interest or principal
*higher interest rates for higher probability of default
*U.S government bonds tend to pay low interest rates
*Junk bonds, very high interest rtes: issued by financially shaky corprtins
Taxable treatment
interest on most bonds is taxable income
Municipal bonds
issued by state + local governments
* owners are not required to pay federal income tax on the interst income
*lower interest rate
The stock market
- stock
- organized stock exchanges
- equity finance
- stock index
Stock
claim to partial ownership in a firm; a claim to the profits that a firm makes
organized stock exchange
stock prices: demand and supply
Equity finance
sale of stock to raise money
Stock index
average of a group of stock prices
Financial intermediaries
*savers can indirectly provide funds to borrows
*banks
*mutual funds
Banks
- take in deposits from savers
2.make loans to borrows - facilitate purchasing of goods and services
Banks: take in deposits from savers
banks pay interest
Bank: make loans to borrows
banks charge interest
banks: facilitate purchasing of goods and services
checks: medium of exchange
Mutual funds
-institution that sells shares to the public
-uses the proceeds to buy a portfolio of stocks and bonds
-advantages: diversification, professional money managers
Rules of national income accounting
Important identities
R.O.N.I.A: identity
an equation that must be true because of the way the variables in the equation are defined
-clarify how different variables are related to one another
Gross Domestic Product (GDP,Y)
total income = total expenditure
Y=C+I+G+NX
Y= gross domestic product, gdp
c= consumption
i= investment
g= government purchases
NX= net exports
Closed Economy
-Doesn’t interact with other economies
-NX = 0
Open economy
-interacts with other economies
- nx not equal to zero
Assume to closed economy: NX=0
Y = C+I+G
National Saving (saving), s
total income in the economy that remains after paying for consumption and government purchases
Y-C-G=I
S= Y-C-G
S=I
T = taxes minus transfer payments
S=Y-C-G
S=(Y-T-C)+(T-G)
Private Saving
Y-T-C:
Income that households have left after paying for taxes and consumption
Public saving, T-G
Tax revenue that the government has left after paying for its spending
Budget Surplus: T-G> 0
Excess of tax revenue over governmentspending
Budget deficit: T-G< 0
shortfall of tax revenue from governmentspending
Accounting identity: S=I
Saving = investment
- for the economy as a whole
-one person’s savings can finance another person’s investment
Market for loanable funds
Market
-those who want to save supply funds
-those who want to borrow to invest demand funds
-one interest rate
*return to saving
*cost of borrowing
Assumption: Single financial market
Source of the supply of loanable funds
Saving
Source of the demand for loanable funds
investment
Price of a loan = real interest rate
*borrowers pay for a loan
*lenders receive on their saving
As interest rate rises…
*quantity demanded declines
*quantity supplied increases
Demand curve
slopes downward
Supply curve
slopes upward
Government policies…
can affect the economy’s saving and investment
i.e, saving incentives, investment incentives, government budget deficits and surpluses
Saving incentives
affect supply of loanable funds
-increase in supply
*supply curve shifts right
-new equilibrium
*lower interest rate
*higher quantity of loanable funds
-greater investment
Investment tax credit
affect demand for loanable funds
increase in demand
*demand curve shifts right
-new equilibrium
*higher interest rate
*higher quantity of loanable funds
*greater saving
Crowding out
Decrease in investment
Government budget deficit
interest rate rises; investment falls
Government -budget surplus
increase supply of loanable funds
reduce interest rate
stimulates investment
