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Unformatted text preview: Chapter 4: What Determines I nterest Rates? 4.1: The Loanable Funds Theory o Loanable funds theory real interest rates are determined by supply and demand for loanable funds. Assumes that funds are transferred in a simple way from savers to investors. o Demand: Loans are used to finance investment, SO: Demand for loans = investment o Supply of loans depends on: (1) Level of Saving, AND, (2) How loans flow across national borders when countries interact (level of interaction) Capital inflows funds provided to a countrys investors by foreigners (investments to your country from foreigners) Capital outflows funds provided to foreign investors by a countrys savers (investments to foreign countries) Net capital inflows = capital inflows capital outflows (can be positive or negative depending on whether cap infl > or < than cap outfl) Supply of loans = saving + net capital inflows net cap inflows (+) = supply of loans > savings (have more $, save less) net cap inflows (-) = supply of loans < savings (have less $, save more) o Effects of the Real Interest Rate(when using this, think of the graph for S & D) Effects of Real interest rate (r) on Loan Demand: real interest rate (r) = investment, quantity of loans demanded (Q d ) Effects of Real interest rate (2) on Loan Supply: real interest rate (r) = saving,...
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This note was uploaded on 07/10/2011 for the course ECON 2035 taught by Professor Stahl during the Summer '08 term at LSU.
- Summer '08
- Interest Rates