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  • Interest

    The payment for the use of loanable funds

    What determines the interest rate?

    Supply and demand for loanable funds

    What motivates household saving?

    1. The desire to accumulate wealth for retirement or major expenditures
    2. The desire to earn interest on savings

    The quantity of household saving will be ____ related to the interest rate


    Savings Supply Curve

    Upward Sloping

    2 Private Demands for loanable funds

    1. Consumers, who have a positive rate of time preference (Directly Related- Higher rate of time preference, more willing to pay a higher interest rate)
    2. Business firms, which wish to invest in physical capital (Indirectly related)

    What is the curve for loanable funds demand curve?

    Downward Sloping

    Where is the interest rate on a graph?

    Where the QD of loanable funds = QS of loanable funds

    What will increase demand for loanable funds?

    1. If the rate of return for physical capital increase
    2. An expected rate of return of investments

    3 Reasons Interest Rates Vary

    1. Risk (Directly)
    2. Term of the loan (Directly)
    3. Relative cost of making the loan (Directly)

    Real Interest Rate

    The true cost of borrowing and the true gain from lending:
    Nominal Interest Rate- Rate of Inflation

    Why is money received today more valuable than money to be received in the future?

    1. Current and earlier consumption is more valuable than future and later consumption
    2. Interest

    Amount in 1 Year formula

    FV=PV (1+i)^n
    PV= F/ (1+i)^n

    2 Things that Affect Present Value of Future Income

    1. Interest rate
    2. the number of years until the future income is to be received

    Economic Rent

    Payment to a factor in excess of opportunity cost

    What makes economic rent high?

    The demand for what the factor produces

    2 Purposes of Economic Rent

    1. Economic rent allocates resources to their most valuable use
    2. Economic rent provides incentive for resource owners to develop the productivity of their resources

    4 Sources of Economic Profit

    1. Arbitrage (buying at low price in one marked and selling at higher price in another)
    2. Uncertainty
    3. Innovation
    4. Monopoly Profits

    Profit Serves To

    1. Act as a signaling device
    2. Attracts entrepreneurs and resources into markets that are growing

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