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ECO1104 Final: Final Exam Study Notes-ECO1102

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University of Ottawa
David Gray

Final Exam Notes ECO1102 Chapter 8- Saving, Investment, and the Financial System Markets Other than the ‘goods and services market’, there are two other types of markets - Money markets - Input Markets - While the goods and services market and the input market consist of real (concrete) economic activity, the money market does not - Money serves as an accessory to concrete, real economic activity, meaning that exchanging money is not an end in and of itself - Events in money markets influence real economic activity through three channels, and nice versa - Exchange rates - Interest rates - Price level in the output market Financial Institutions in the Canadian Economy - Canadian financial markets are among the deepest, or most developed in the world - Lots of credit available, and many different types of credit available - In very good condition relative to those of just about any other country Bond Market - A loan or an IOU that is MARKETABLE or transferable from one individual to another - The coupon rate of interest - The face value - The term to maturity - Credit risk (reliability of borrower) Stock Market - aka “equities” - Like bonds, they are totally marketable, and therefore the price is determined by supply and demand forces - Stockholders, in theory, own the enterprise, and have claim on its profits - Potentially high risk, potentially high return - Saving and Investment in the National Income Accounts Closed Economy- no imports, no exports Autarky- absence of trade “What Canada currently is in” Therefore, NX = 0 Y = C + I + G I = Y — C — G National Savings- S = Y — C — G Y = National/Aggregate Income C= Consumptions G= Government Spending “Basically, think of it this way, Income — Consumption = Spending.” Since S = Y — C — G, then S = (Y — T — C) + (T —G) (Y — T — C) = Private Spending (Consumer Spending) (T — G) = Public Spending (Government’s Balance) - If T — G < 0, it runs a deficit (usually the case) Decomposed national saving into two elements; private and public saving Disposable Income- “take home pay”, public saving (T —G) Note: For the aggregate economy, Savings = Investment, always! The Market for Loanable Funds - savers supply - investors demand - the price is the interest rate (Classic S&D graph) Policies to Encourage Saving - Saving is our saviour int he immediate and long term - People respond to incentives to save - If you wants people to save more (spend less), then… - Lower taxes on saving income, and - Raise taxes on consumption Lowering Taxes - Boosts incentive to save - Increases supply of loanable funds - End up with a lower equilibrium rate of interest and a higher equilibrium level of funds Ex. Bombardier - They spend a lot of money to develop new aircrafts, etc. and a lot of it is not seen by Canada Revenue Policies to Encourage Investment - Investment Tax Credit (ITC) Deficits Deficits are financed by borrowing (but then that money goes to the same pool of deficit as the private sector). This illustrates the “crowding-out” effect. Deficits are NOT financed by printing money. Vicious Cycle“Crowding Out Effect” Continual budget deficits —> High interest rates through crowding out —> Lower investment (in priv. sector) —> Lower growth in GDP (bcs. of GDP equation) —> —> Even higher deficits, so back to square one < — The Vicious Cycle in reverse is the Virtuous Circle Chapter 9- Unemployment and its Natural Rate Not Part of Labour Force - Retired people - Stay-at-home spouses - Full-time students - Totally-disabled people Labour Force - Those who are unemployed and those who are employed Unemployed - Actively seeking work Working Age Population - Anyone over 15 years of age Ratios LF = U + E UR = (U / LF) X 100% LFPR = (LF / WAP) X 100% E to PR = E / WAP X 100% The labour force increases when youth grow older or we get more immigrants Why Bother with these Indicators? They capture different market aspects of a multidimensional faceted labour market — “If you are not in the labour force, you are not considered unemployed.” Discouraged Workers - Jobless - Not unemployed - Perceived notion that no jobs are available (given up on labour force) Anatomy of Unemployment Flows into Unemployment - Job losers - Largest source, very counter-cyclical - Even during good times, many layoffs occur - Quitters - Cyclical (high during good times, low during bad times) - Entrants and re-entrants to the LF - Cyclical Flows out of unemployment - Employment - NLF Types of Unemployment Frictional - has a positive economic function - people between jobs going from a less suitable job to a more suitable job Structural - very economically harmful and difficult to remedy - even when the economy is booming or in a recession, there are many job vacancies Cyclical (Keynesian Unemployment) - generally occurs in recessions - this is what we are now experiencing - “when the economy is at the peak of the business cycle, the actual unemployment rate is the natural unemployment rate” - unemployment is at full capacity -
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