Homework answers / question archive / Chapter 18 Saving, Investment, and the Financial System 1) Multiple Choice Q1 Nina wants to buy and operate an ice cream truck but doesn’t have the financial resources to start the business

Chapter 18 Saving, Investment, and the Financial System 1) Multiple Choice Q1 Nina wants to buy and operate an ice cream truck but doesn’t have the financial resources to start the business

Economics

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Chapter 18 Saving, Investment, and the Financial System

1) Multiple Choice Q1

Nina wants to buy and operate an ice cream truck but doesn’t have the financial resources to start the business. She borrows $5,000 from her friend Max, to whom she promises an interest rate of 7 percent, and gets another $10,000 from her friend David, to whom she promises a third of her profits.

What best describes this situation?

 

2. Multiple Choice Q2

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If the government collects more in tax revenue than it spends, and households consume more than they get in after-tax income, then

 

 

 

 

 

 

3. Multiple Choice Q3

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A closed economy has income of $1,000, government spending of $200, taxes of $150, and investment of $250. What is private saving?

 

4. Multiple Choice Q4

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If a popular TV show on personal finance convinces more Americans about the importance of saving for retirement, the ________ curve for loanable funds would shift, driving the equilibrium interest rate ________.

 

 

 

5. Multiple Choice Q5

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If the business community becomes more optimistic about the profitability of capital, the ________ curve for loanable funds would shift, driving the equilibrium interest rate ________.

 

 

 

6. Multiple Choice Q6

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From 2008 to 2012, the ratio of government debt to GDP in the United States

 

 

 

 

 

 

 

 

 

 

 

 

7. Problems and Applications Q1

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For each of the following pairs, indicate which bond you would expect to pay a higher interest rate.

 

Term:	Long-term bonds are riskier than short-term bonds because holders of long-term bonds have to wait longer for repayment of principal. To compensate for this risk, long-term bonds usually pay higher interest rates than short-term bonds.
Credit risk:	When bond buyers perceive that the probability of default is high, they demand a higher interest rate as compensation for this risk.
Tax treatment:	When state and local governments issue bonds, the bond owners are not required to pay federal income tax on the interest income. Because of this tax advantage, bonds issued by state and local governments typically pay a lower interest rate than bonds issued by corporations or the federal government.

8. Problems and Applications Q3

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Indicate whether each of the following descriptions represents saving or investment, as defined by a macroeconomist.

Description	Saving	Investment
This occurs when a person’s income exceeds his consumption.
This occurs when a person or firm purchased new capital.

Indicate whether each of the following situations represents saving or investment.

Situation	Saving	Investment
Your family takes out a mortgage and buys a new house.
You use your $200 paycheck to buy stock in AT&T.
Your roommate earns $100 and deposits it in his account at a bank.
You borrow $1,000 from a bank to buy a car to use in your pizza delivery business.

 

9. Problems and Applications Q4

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Suppose GDP is $8 trillion, taxes are $1.5 trillion, private saving is $0.5 trillion, and public saving is $0.2 trillion.

Assuming the economy is closed, complete the following table by calculating consumption, government purchases, national saving, and investment.

Component	Amount
	(Trillions of dollars)
Consumption
Government Purchases
National Saving
Investment

 

 

 

 

 

 

 

 

 

 

 

 

 

10. Problems and Applications Q5

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Economists in Funlandia, which has a closed economy, have collected the following information about the economy for a particular year:

 

 

 

The economists also estimate that the investment function is:

 

 

where    is the country’s real interest rate, expressed as a percentage.

Complete the following table by calculating private saving, public saving, national saving, investment, and the equilibrium real interest rate.

Component	Amount
Private Saving
Public Saving
National Saving
Investment
Equilibrium Real Interest Rate

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

11. Problems and Applications Q6

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Suppose that Intel is considering building a new chip-making factory.

Assuming that Intel needs to borrow money in the bond market, an increase in interest rates affects Intel’s decision about whether to build the factory, because now the cost of borrowing money becomes selector 1_____higher____.   

 

True or False: If Intel has enough of its own funds to build the new factory without borrowing, an increase in interest rates still affects Intel’s decision about whether to build the factory.

 

 

 

 

 

 

 

 

 

 

12. Problems and Applications Q7

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Three students have each saved $1,000. Each has an investment opportunity in which he or she can invest up to $2,000. Here are the rates of return on the students’ investment projects:

 

 

Assume borrowing and lending is prohibited, so each student uses only personal saving to finance his or her own investment project.

Complete the following table with how much each student will have a year later when the project pays its return.

Student	Money a Year Later
	(Dollars)
Harry
Ron
Hermione

 

 

Now suppose their school opens up a market for loanable funds in which students can borrow and lend among themselves at an interest rate r   .

A student would choose to be a borrower in this market if his or her expected rate of return is__greater___than r. selector 1   

 

 

 

 

Suppose the interest rate is 7 percent.

Among these three students, the quantity of loanable funds supplied would be

, and quantity demanded would be

 

 

Now suppose the interest rate is 10 percent.

Among these three students, the quantity of loanable funds supplied would be

, and quantity demanded would be

 

 

 

At an interest rate of, the loanable funds market among these three students would be in equilibrium. At this interest rate, selector 1___ Hermione _______ would want to borrow, and__Harry___  would want to lend.

 

Suppose the interest rate is at the equilibrium rate.

Complete the following table with how much each student will have a year later after the investment projects pay their return and loans have been repaid.

Student	Money a Year Later
	(Dollars)
Harry
Ron
Hermione

True or False: Only borrowers are made better off, and lenders are made worse off.

 

13. Problems and Applications Q8

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Suppose the government borrows $20 billion more next year than this year.

The following graph shows the market for loanable funds before the additional borrowing for next year.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

14. Problems and Applications Q9

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Investment can be increased both by reducing taxes on private saving and by reducing the government budget deficit.

It is difficult to implement both of these policies at the same time because reducing taxes on private spending has the effect of_____increasing______ selector 1  the government budget deficit.