1. Explain the importance of the loan able funds market to basic GDP. What does
ID: 1151470 • Letter: 1
Question
1. Explain the importance of the loan able funds market to basic GDP. What does a lower interest rate mean for investors? what does interest rate mean for savers? 2. List the factors that affect both the supply side and demand side in the loan able fund market. 3. Explain the deference in expansionary policy that adopted by the Federal Reserve Bank monetary policy and that of the U.S. Government fiscal policy. 4. Does government budget deficit matter? Explain. What are major reasons for the U.S. government deficit. Give examples.
Explanation / Answer
1. Loanable funds market is very important for the growth of the GDP. This is the market where the companies and governments borrow money from the general public in order to invest in some profitable ventures. This market helps the companies get out of the problem of shortage of funds and thus can use borrowed funds to capture opportunities and hence increase output i.e GDP. When a company borrows money, it invests somewhere and it pays its lenders a certain amount of money for the time period it borrow, that is the interest rate. If the company generates a return which is greater than the interest rate it pays to its lenders, the investment was profitable and thus helps the GDP grow.
A lower interest rate for the investor i.e the company, would mean that the company has to pay out less as interest when it borrows. As they have to pay lesser, the demand for loanable funds increases. This means that when interest rates are low, the companies tend to borrow more and invest more which is good for the economy.
Interest rates are also very crucial for the savers as a low interest rate would mean that savers would get lower returns on their funds which would lead to the savers parking their funds somewhere else where they would recieve a higher return than the loanable funds market. So, a low interest rate means low supply of loanable funds while a higher interest rate means a higher supply of loanable funds.
2. The factor that would affect both the supply side and demand side in the loanable funds market is inflation expectations.
3. The government budget deficit is very important. The budget deficit means the government expenditures exceed the tax revenues. This is bad for the government as it means that the government does not have enough revenues to fund its operations. A budget deficit leads to a higher debt as the government needs to borrow to fund its operations when it doesn't have enough revenues. A higher deficit and subsequent debt would lead to a loss of credibility of the government. The major reasons for the U.S government deficit increasing military spending, social security spending and due to 2008 recessions. The military spending of USA is greater than the next 10 largest government expenditures combined.
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