TOPIC 4 Part A: Multiple Choice Questions

1. Equilibrium in the loanable funds market determines: a. the current interest rate b. the real interest rate c. the expected interest rate d. the nominal interest rate 2. In the model of the market for loanable funds, which of the following will NOT shift the demand curve for loanable funds? a. the effect of technological change on profitability b. the expectation of a recession by businesses c. lower interest rates d. expectations of high returns to investments 3. Which of the following institutions are included within the financial system a. the bond market b. commercial banks c. managed funds d. all of the above 4. The goal financial institutions all share is to a. direct the resources of savers into the hands of borrowers b. promote economic growth c. stabilise the economy d. maximise profit 5. If the government goes from a position of budget surplus to budget deficit then a. this will increase the demand for loanable funds b. this will decrease the supply of loanable funds c. the lonable funds market will not be affected d. the real interest rate will fall 6. Which of the following statements is false a. an equilibrium condition for the macro economy is that saving will equal investment b. for a simple two sector economy national income is the income remaining after consumption c. for a closed three sector economy national savings comprises public and private savings d. an increase in the governments budget deficit will increase national savings 7. Low interest rates make borrowing more ______________ hence the quantity of loanable funds demanded ______________ as the interest rate falls a. expensive, decreases b. expensive, increases c. attractive, decreases d. attractive, increases

8. Consider T-G and Y-T-C. a. Each one of these is equal to national saving. b. Each one of these is equal to public saving. c. The first of these is private saving, the second one is public saving. d. The first of these is public saving, the second one is private saving. 9. Suppose that in a closed economy GDP is 11,000, consumption is 7,500, and taxes are 2,000. What value of Government purchases would make national savings equal to 1000 and at that value would the government have a deficit or surplus? a. 2,500, deficit b. 2,500, surplus c. 1,000, deficit d. 1,000, surplus 10. The supply of loanable funds slopes a. upward because an increase in the interest rate induces people to save more. b. downward because an increase in the interest rate induces people to save less. c. downward because an increase in the interest rate induces people to invest less. d. upward because an increase in the interest rate induces people to invest more. 11. If there is a shortage of loanable funds, then a. the quantity of loanable funds demanded is greater than the quantity of loanable funds supplied and the interest rate is above equilibrium. b. the quantity of loanable funds demanded is greater than the quantity of loanable funds supplied and the interest rate is below equilibrium. c. the quantity of loanable funds supplied is greater than the quantity of loanable funds demanded and the interest rate is above equilibrium. d. the quantity of loanable funds supplied is greater than the quantity of loanable funds demanded and the interest rate is below equilibrium. 12. If Proctor and Gamble sells a bond it is a. borrowing directly from the public. b. borrowing indirectly from the public. c. lending directly to the public. d. lending indirectly to the public. 13. A mutual fund a. is a financial market where small firms mutually agree to sell stocks and bonds to raise funds. b. is funds set aside by local governments to lend to small firms who want to invest in projects that are mutually beneficial to the firm and community. c. sells stocks and bonds on behalf of small and less known firms who would otherwise have to pay high interest to obtain credit. d. is an institution that sells shares to the public and uses the proceeds to buy a selection of various types of stocks, bonds, or both stocks and bonds. 14. Suppose the economy is closed and that national saving is $2 trillion, that consumption is $7 trillion, and that government purchases are $1 trillion. What is GDP? a. $8 trillion b. $9 trillion

c. $10 trillion d. $11 trillion 15. If the quantity of loanable funds demanded exceeds the quantity of loanable funds supplied, a. there is a surplus and the interest rate is above the equilibrium level. b. there is a surplus and the interest rate is below the equilibrium level. c. there is a shortage and the interest rate is above the equilibrium level. d. there is a shortage and the interest rate is below the equilibrium level 16. It is claimed that a secondary advantage of mutual funds is that a. an investor can avoid investment charges and fees. b. they give ordinary people access to loanable funds for investing. c. they usually outperform stock market indexes. d. they give ordinary people access to the skills of professional money managers. 17. Suppose a closed economy had public saving of $3 trillion and private saving of $2 trillion. What is national saving and investment in this country in the equilibrium? a. $5 trillion, $5 trillion b. $5 trillion, $2 trillion c. $1 trillion, $5 trillion d. $1 trillion, $2 trillion 18. All else equal, when people become more optimistic about a company's future, the a. supply of the stock and the price will both rise. b. supply of the stock and the price will both fall. c. demand for the stock and the price will both rise. d. demand for the stock and the price will both fall. 19. Which of the following correctly includes the four expenditure categories of GDP? a. consumption, government purchases, investment, net-exports b. consumption, investment, depreciation, net-exports c. consumption, saving, investment, depreciation, d. consumption, government purchases, investment, savings 20. Megasoft wants to finance the purchase of new equipment for developing security software called Doors, but they have limited internal funds. Megasoft will likely a. demand loanable funds by buying bonds. b. demand loanable funds by selling bonds. c. supply loanable funds by buying bonds. d. supply loanable funds by selling bonds. 21. If the government institutes policies that increase incentives to save, then in the loanable funds market a. the demand for loanable funds shifts right. b. the demand for loanable funds shifts left. c. the supply of loanable funds shifts right. d. the supply of loanable funds shifts left.

Part B: Short Answer Questions Question 1: Assume that the government decides to reduce taxation on earnings from dividends on shares. Use the model of the loanable funds market to illustrate what will happen to equilibrium in the market. Question 2: What effect does the government running a budget deficit have upon interest rates? Question 3: Use a market for loanable funds graph to illustrate the effect on interest, saving and investment for the following cases: a) If its government eliminates the consumption tax and replaces it with an income tax that includes an income tax on interest from savings. b) Suppose that a government that taxed all interest income changed its tax law so that the first $5,000 of a taxpayers interest income was tax free.