Question

1. Consider the US loanable funds market. For each of the following separate scenarios, draw a graph to show how the equilibrium interest rate and equilibrium quantity of loanable funds changes.

1. Banks impose more regulations and make it more difficult for firms to borrow.
2. Productivity of machines decreases.
3. Households are less confident about the economy, they expect a recession will come soon.

Answer 1

i) Banks impose more regulations and make it more difficult for firms to borrow. It seems that bank is reducing the supply of loanable funds which will shift supply curve of loanable funds to its left from S to S1 which will raise rate of interest from "i" to "i1" and reduce quantity of loanable funds from "L" to "L1".

chauss 12 114 1

ii) Decline in productivity of machine will induce producers to borrow more money to get new machines which will raise demand of loanable funds and shift demand curve to its right from D to D1 which raise rate of interest from "i" to "i1" and raise loanable funds from "Q" to "Q1".

interest 3. - ^. D 44 connable funds

iii) Households are less confident about the economy, they will reduce demand of loanable funds because they will reduce their investments due to recession coming up. Fall in demand of loanable funds will shift demand curve to its left from AD0 to AD1 which reduces rate of interest from "I" to "I1" and reduce quantity of loanable funds from "Q" to "Q1".

Rate Return ASO I Best ADI 0 9,6 p AD duentity of Lommable hands