Fourth Edition CH 26 Saving, Investment, and Financial System
Fourth Edition CH 26 Saving, Investment, and Financial System
26 Financial System
PRINCIPLES OF
ECONOMICS
FOURTH EDITION
N. G R E G O R Y M A N K I W
PowerPoint® Slides
by Ron Cronovich
Public saving
= Tax revenue less government spending
=T–G
Saving
Saving == investment in
in aa closed
closed economy
economy
Budget deficit
= a shortfall of tax revenue from govt spending
= G–T
= – (public saving)
9
A C T I V E L E A R N I N G 1:
Answers
Given:
Y = 10.0, C = 6.5, G = 2.0, G – T = 0.3
11
A C T I V E L E A R N I N G 1B:
Answers
In both scenarios, public saving falls by
$200 billion, and the budget deficit rises
from $300 billion to $500 billion.
1. If consumers save the full $200 billion,
national saving is unchanged,
so investment is unchanged.
2. If consumers save $50 billion and spend
$150 billion, then national saving and
investment each fall by $150 billion.
12
A C T I V E L E A R N I N G 1C:
Discussion questions
The two scenarios are:
1. Consumers save the full proceeds of the
tax cut.
2. Consumers save 1/4 of the tax cut and
spend the other 3/4.
13
The Meaning of Saving and Investment
Private saving is the income remaining after
households pay their taxes and pay for
consumption.
Examples of what households do with saving:
• buy corporate bonds or equities
• purchase a certificate of deposit at the bank
• buy shares of a mutual fund
• let accumulate in saving or checking accounts
Remember:
Remember: In
In economics,
economics, investment
investment is
is NOT
NOT
the
the purchase
purchase of
of stocks
stocks and
and bonds!
bonds!
CHAPTER 26 SAVING, INVESTMENT, AND THE FINANCIAL SYSTEM 15
The Market for Loanable Funds
A supply-demand model of the financial system.
Helps us understand
• how the financial system coordinates
saving & investment
• how govt policies and other factors affect
saving, investment, the interest rate
An increase in
Interest
Rate Supply the interest rate
makes saving
more attractive,
6%
which increases
the quantity of
loanable funds
3% supplied.
60 80 Loanable Funds
($billions)
Demand
50 80 Loanable Funds
($billions)
60 Loanable Funds
($billions)
60 70 Loanable Funds
($billions)
60 70 Loanable Funds
($billions)
25
A C T I V E L E A R N I N G 2:
Answers
A
A budget
budget deficit
deficit reduces
reduces
national
national saving
saving and
and the
the
Interest S2 supply
S1 supply of
of L.F.
L.F.
Rate
…which
…which increases
increases
6% the
the eq’m
eq’m interest
interest rate
rate
5% and decreases the
eq’m quantity of L.F.
and investment.
D1
50 60 Loanable Funds
($billions)
26
Budget Deficits, Crowding Out,
and Long-Run Growth
Our analysis: increase in budget deficit causes
fall in investment.
The govt borrows to finance its deficit,
leaving less funds available for investment.
This is called crowding out.
Recall from the preceding chapter: Investment
is important for long-run economic growth.
Hence, budget deficits reduce the economy’s
growth rate and future standard of living.
80%
Revolutionary
60% War
Civil
WW1
War
40%
20%
0%
1790 1810 1830 1850 1870 1890 1910 1930 1950 1970 1990 2010
CONCLUSION
Like many other markets, financial markets are
governed by the forces of supply and demand.
One of the Ten Principles from Chapter 1:
Markets are usually a good way
to organize economic activity.
Financial markets help allocate the economy’s
scarce resources to their most efficient uses.
Financial markets also link the present to the future:
They enable savers to convert current income into
future purchasing power, and borrowers to acquire
capital to produce goods and services in the future.
CHAPTER 26 SAVING, INVESTMENT, AND THE FINANCIAL SYSTEM 30
CHAPTER SUMMARY
The U.S. financial system is made up of many
types of financial institutions, like the stock and
bond markets, banks, and mutual funds.
National saving equals private saving plus
public saving.
In a closed economy, national saving equals
investment. The financial system makes this
happen.