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Chapter 4: Q31 (page 106)

Table 4.6 shows the amount of savings and borrowing in a market for loans to purchase homes, measured in millions of dollars, at various interest rates. What is the equilibrium interest rate and quantity in the capital financial market? How can you tell? Now, imagine that because of a shift in the perceptions of foreign investors, the supply curve shifts so that there will be $10 million less supplied at every interest rate. Calculate the new equilibrium interest rate and quantity, and explain why the direction of the interest rate shift makes intuitive sense.

Short Answer

Expert verified

Equilibrium interest rate is at 7%, equilibrium quantity of funds = 140.

Decrease in supply will imply that new equilibrium interest rate = 8%, equilibrium funds = 135

Step by step solution

01

Equilibrium Basics 

Financial market is at equilibrium where demand for funds = supply of funds, & THE curves intersect. Demand & supply intersection, equalisation give corresponding equilibrium interest rate & equilibrium funds quantity.

02

Numerical Solution 

Here, demand and supply are equal at 7% interest rate, where funds' quantity demanded & supplied = 140.

So, equilibrium interest rate is at 7%, equilibrium quantity of funds = 140.

03

Supply Shift - Concept & Numerical 

A decrease in supply of funds, due to factors other than interest rate - shifts the supply curve leftwards.

New equilibrium is calculated by equalisation of new supply & demand.

Interest RateSupply (New decreased)Demand
5%130 - 10 = 120170
6%135 - 10 = 125150
7%140 - 10 = 130140
8%145 - 10 = 135 135
9%150 - 10 = 140125
10%155 - 10 = 145110

New supply & demand are equal when equilibrium funds demanded & supplied = 135 & equilibrium interest rate = 8%

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