Macro Exam 2 material - Chapter 8 Financial system the group of institutions in the economy that help to matcho one persons saving with another persons

Macro Exam 2 material - Chapter 8 Financial system the...

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Chapter 8Financial system: the group of institutions in the economy that help to matcho one person’s saving with another person’s investmentFinancial markets: financial institutions through which savers can directly provide funds to borrowers. Bond market and Stock market. Bond: a certificate of indebtness that specifies the obligations of the borrower to theholder of the bond. long term bonds are riskier than short term b/c holders of long term have to wait longer for repayment of principlelong term usually pay higher interest rates and so do financially shaky corporations. Government bonds pay low interest rates. Municiple bonds: bond owners are not required to pay federal income tax on the interest incomeStock: ownership in a firm and a claim to the profits that the firm makes. Sale of stock is called equity finance. Enjoy benefits of companies profits. Financial Intermediaries: financial institutions through which savers can indirectly provide funds to borrowers. Banks: take in deposits from people who want to save and use these depositsto make loans to people who want to borrow. Facilitate purchases of g&s by allowing people to write checks against their deposits and to access those deposits w/ debit cards. Create a medium of exchange. Mutual Funds: an institution that sells shares to the public and uses the proceeds to buy a portfolio of stocks and bonds. Allow people with small amounts of money to diversify their holdings and give ordinary people accessto the skills of professional money managers. Closed V Open Economy: a closed economy is one that does not interact w/ other economies and open does interact w/ international economies. Closed Economy: Y = C + I + G -> Y – C – G = I -> savings equal investment National saving: total income in the economy that remains after paying for C and G. Private Saving: income that households have left after paying taxes and consumption. Public saving: amount of tax revenue that gov’t has left after paying for its spending. Market for LF: market in which those who want to save supply funds and those who want to borrow invest demand funds. . One interest rate balances supply and demand, return to saving and cost of borrowing. supply comes from people who want to save. Demand come from people who want to borrow. High interest rates make the cost of borrowing more expensive, but raise the incentive to borrow. So increase in R, means increase in S and decrease in I. So demand curve slopes downward and supply curve slopes upward. Saving Incentives: If a reform of the tax laws encourage greater saving, the result would be lower interest rates and greater investment. tax change would alter the
incentive for households to save at any rate. Supply of LF shifts, demand stays the same. Saving would be taxed less heavily, so increase in supply of saving, shift to the right. Shift reduces the interest rate and raises the Q of LF demanded.

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