Week 08, Day 1 - Chapter 9 Overheads (revised)

Week 08, Day 1 - Chapter 9 Overheads (revised) - Chapter 9...

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Chapter 9 – Savings, Investment Spending, and the Financial System Savings-Investment Spending Identity Closed Economy Open Economy The Market for Loanable Funds Crowding Out The Financial System Roles Types of Financial Assets Types of Financial Intermediaries Stock Markets Savings-Investment Spending Identity In this chapter, we examine the premise that savings must always equal investment spending. Closed Economy One way to measure GDP is to add up spending on domestically produced final goods and services: GDP = C + I + G + X – IM. Since a closed economy does not engage in trade with other countries, X = 0, IM = 0. Therefore, GDP = C + I + G or I = GDP – C – G. GDP also represents the nation’s income. This income, earned by households, and transfers from government (TR) make up personal income, which is used for payment of taxes (T), for consumption (C) and for private savings (S private ): GDP + TR = C + S private + T or S private = GDP + TR – T – C. Government can also save. If the government receives more in taxes than what it spends in transfers and government purchases (G), then it is running a budget surplus and it is saving. When government spending exceeds taxes, the government is running a budget deficit. We will use S government to represent the budget balance, the different between taxes and government spending (on transfers and purchases): S government = T – TR – G. The sum of private and government savings is national savings (NS): NS = S private + S government or NS = GDP + TR – T – C + T – TR – G or NS = GDP – C – G.
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Since I = GDP – C – G and NS = GDP – C – G in a closed economy, investment spending equals national savings or I = NS. Q: The following is known about a closed economy: GDP $600 billion Consumer Spending $420 billion Investment Spending $120 billion Government Transfers $ 40 billion Taxes $ 80 billion Does the government have a budget surplus or a budget deficit and what is its size? What is the amount of private savings? What is the amount of national savings? A: GDP = C + I + G or G = GDP – C – I = $600 - $420 - $120 = $60 b S government = T – TR – G = $80 - $40 - $60 = -$20 b (deficit) S private = GDP + TR – T – C = $600 + $40 - $80 - $420 = $140 b NS = S private + S government = $140 + (-$20) = $120 b or NS = I = $120 b Open Economy An open economy engages in trade and financial transactions with other countries. If a country sells assets to foreigners or borrows from foreigners, it receives financial capital inflows. If the country purchases foreign assets or lends to foreigner, it generates outflows of financial capital. The net inflows, which can be positive or negative, represent foreign savings and are known as capital inflows (KI). If a country imports more than it exports, it must incur
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Week 08, Day 1 - Chapter 9 Overheads (revised) - Chapter 9...

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