AP Economics

Mr. Bernstein

Module 29: The Market for Loanable Funds

March 4, 2015

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AP EconomicsMr. Bernstein

The Market for Loanable Funds• Objectives - Understand each of the following:• How the loanable funds market matches savers and

investors• The determinants of supply and demand in the

loanable funds market• How the two models of interest rates can be reconciled

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AP EconomicsMr. Bernstein

Equilibrium in the Loanable Funds Market• D is downward sloping• as rates fall, projectsbecome more profitable

• S is upward sloping• Must earn higher rates to forego consumption• Based on indiv. decisions,unlike vertical MS line

• Y axis: Real Interest Rate

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AP EconomicsMr. Bernstein

Shifts in Demand, Supply of Loanable Funds• Shifts in Demand

• D in perceived business opportunities• D in government borrowing (“Crowding Out”)

• Shifts in Supply• D in private saving behavior• D in capital inflows

• All shifts in Demand or Supply D Interest Rates…but…• Real interest rates are not affected by changes in

expected inflation (only nominal rates are affected…”The Fisher Effect”)

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AP EconomicsMr. Bernstein

Inflation and Interest Rates• D in Expected

Inflation causesupward shift in Dand in S

• New equilibriumat higher nominalrate but same expected real rate

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AP EconomicsMr. Bernstein

Reconciling LPF with Loanable Funds Model

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AP EconomicsMr. Bernstein

Reconciling LPF with Loanable Funds Model