1a. If the U.S. government ran a larger budget deficit, how would that affect th

ID: 1156593 • Letter: 1

Question

1a. If the U.S. government ran a larger budget deficit, how would that affect the market for loanable funds? How would that affect net capital outflow? How would that affect the strength of the dollar?

1b. If U.S. goods were less desirable in the rest of the world than they used to be, how would that affect the market for loanable funds? How would that affect net capital outflow? How would that affect the strength of the dollar?

1c. If people perceived U.S. banks to be substantially safer than banks in the rest of the world, how would that affect the market for loanable funds? How would that affect net capital outflow? How would that affect the strength of the dollar?

1d. If households in the United States decided to save more money, how would that affect the market for loanable funds? How would that affect net capital outflow? How would that affect the strength of the dollar?

Explanation / Answer

Government running large budget deficits means increased government spending.This will shift the IS curve to the right and increase the interest rate.Higher interest rate would attract capital inflows.Capital inflows increase the value of nation's currency.Dollar will appreciate.

Also,higher government spending increases purchasing power of the people and increases AD.Higher AD implies higher demand for loanable funds

B.If US goods were less desirable then demand for US goods would fall which will lower the demand for loanable funds.Less demand means lower value of the currency.Capital will outflow from the US economy.

C.If people perceived US banks to be safer than banks of the rest of the world,they will put their wealth in US banks.Since,people are putting their money in banks,the demand for loanable funds will fall.Capital inflow results in currency appreciation.

D.If households save more,the demand for loanable funds falls.Interest rate would fall.Hence,capital will outflow from the US.The US dollar will depreciate.

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