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Chapter Review Chapter 9: Capital Markets

  1. The interest rate is determined in the capital market—also called the loanable funds market. The supply of loanable funds comes from savings, as some households and firms spend less than their income. The demand arises from those households and firms that spend more than their income.

  2. In making a decision to save, people face a trade-off between current and future consumption. The amount of extra consumption an individual can obtain in the future by reducing present consumption is determined by the real rate of interest.

  3. A dollar received in the future is worth less than a dollar received today. The present discounted value tells us how much a future dollar amount is worth today. The present discounted value of a future amount falls when the rate of interest rises.

  4. The real interest rate adjusts to balance supply and demand in the capital market.

  5. The interest rate is an important part of the cost of using capital. If the interest rate increases, the cost of using capital increases. Firms’ demands for funds for investment decrease as they cut back on their purchases of capital goods.

  6. Human capital adds to economic productivity just as physical capital does. It is developed by education, on-the-job training, and investments of time and money that parents make in their children.

 

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