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SOLUTIONS TO TEXT PROBLEMS:
Quick Quizzes
1. A stock is a claim to partial ownership in a rm. A bond is a certicate of
2. Private saving is the amount of income that households have left after paying
3. If more Americans adopted a “live for today” approach to life, they would spend
Chapter Quick Quiz
1. d
Questions for Review
1. The nancial system's role is to help match one person's saving with another
2. It is important for people who own stocks and bonds to diversify their holdings
423
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website,
in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise
on a password-protected website or school-approved learning management system for classroom use.
Chapter 26/Saving, Investment, and the Financial System ❖ 424
3. National saving is the amount of a nation's income that is not spent on
4. Investment refers to the purchase of new capital, such as equipment or buildings.
5. A change in the tax code that might increase private saving is the expansion of
6. A government budget decit arises when the government spends more than it
Problems and Applications
1. a. The bond of an eastern European government would pay a higher interest rate
b. A bond that repays the principal in 2040 would pay a higher interest rate than
c. A bond from a software company you run in your garage would pay a higher
d. A bond issued by the federal government would pay a higher interest rate
2. Companies encourage their employees to hold stock in the company because it
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website,
in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise
on a password-protected website or school-approved learning management system for classroom use.
Chapter 26/Saving, Investment, and the Financial System ❖ 425
3. To a macroeconomist, saving occurs when a person’s income exceeds his
a. When your family takes out a mortgage and buys a new house, that is
b. When you use your $200 paycheck to buy stock in AT&T, that is saving
c. When your roommate earns $100 and deposits it in his account at a bank, that
d. When you borrow $1,000 from a bank to buy a car to use in your
4. Given that Y = 8, T = 1.5, Sprivate = 0.5 = Y –T – C, Spublic = 0.2 = T – G.
5. Private saving is equal to (Y – T – C) = 10,000 – 1,500 - 6,000 = 2,500.
6. a. If interest rates increase, the costs of borrowing money to build the factory
b. Even if Intel uses its own funds to nance the factory, the rise in interest rates
7. a. Harry will have $1,000(1 + 0.05) = $1,050. Ron will have $1,000(1 + 0.08) =
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website,
in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise
on a password-protected website or school-approved learning management system for classroom use.
Chapter 26/Saving, Investment, and the Financial System ❖ 426
b. Each student would compare the expected rate of return on his or her own
c. If r = 7%, Harry would want to lend while Ron and Hermione would want to
If r = 10%, only Hermione would want to borrow. The quantity of funds
demanded would be $1,000, while the quantity supplied would be $2,000.
d. The loanable funds market would be in equilibrium at an interest rate of 8%.
e. Harry will have $1,000(1 + 0.08) = $1,080. Ron will have $1,000(1 + 0.08) =
Figure 1
8. a. Figure 1 illustrates the eect of the $20 billion increase in government
borrowing. Initially, the supply of loanable funds is curve S1, the equilibrium
b. Because the interest rate has increased, investment and national saving
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website,
in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise
on a password-protected website or school-approved learning management system for classroom use.
Chapter 26/Saving, Investment, and the Financial System ❖ 427
c. The more elastic is the supply of loanable funds, the Qatter the supply curve
Figure 2
Figure 3
d. The more elastic the demand for loanable funds, the Qatter the demand curve
e. If households believe that greater government borrowing today implies higher
taxes to pay o the government debt in the future, then people will save more
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website,
in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise
on a password-protected website or school-approved learning management system for classroom use.
Chapter 26/Saving, Investment, and the Financial System ❖ 428
9. a. Investment can be increased by reducing taxes on private saving or by
reducing the government budget decit. But reducing taxes on private saving
b. To know which of these policies would be a more eective way to raise
investment, you would need to know: (1) what the elasticity of private saving
is with respect to the after-tax real interest rate, because that would
© 2018 Cengage Learning®. May not be scanned, copied or duplicated, or posted to a publicly accessible website,
in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise
on a password-protected website or school-approved learning management system for classroom use.
