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Wealth -- assets minus liabilities. Note that since a financial asset for one
person is a financial liability to another, the wealth of a country is the same
as its stock of real assets.
Balance sheet: Assets, Liabilities and Net Worth
Assets Liabilities
Cash $ 500 Credit Card Debt $ 5, 000
Checking $ 2, 000
Treasury bond $ 5, 000
Auto $ 10, 000 Car loan $ 3, 500
Home $ 80, 000 Mortgage $ 50, 000
------------
TOTAL $ 97, 500 TOTAL $ 58, 500
========================================
Net worth = $ 97,500 - $ 58, 500 = $ 39, 000
========================================
Saving and Wealth -- Exercise 9.3 (p. 235)
• Consuelo deposits $20 in the bank at the end of the week, and has charged $ 50
against her credit card. How has her wealth changed?
Answer:
Assets increase by $ 20; Liabilities by $ 50. Her wealth is down by $ 30.
• Consuelo uses $ 300 from her checking account to pay off her credit card bill.
Answer: Assets decrease by $ 300 and so do liabilities. No change in wealth.
• Consuelo’s old car is declared a classic; its market value rises from $ 3, 500 to
$ 4, 000. Since she did not “save”, can her wealth change?
Answer:
Yes, her wealth does go up by $500.
Capital gains (or losses) can change net wealth.
The economic response to a change in net wealth due to stock market changes
will be very much the same as to a change in net wealth due to savings.
Saving: motives and behavior
• Life-cycle saving: buy a house, kid’s education, retirement.
Probably the leading component in saving behavior.
Franco Modigliani : typical pattern of behavior to borrow in
youth, save in middle age, dissave in old age.
Higher investment is a “good thing” from the point of view of economic growth,
but it is compatible with either higher or lower interest rates.
The first set of slides shows that increases in investment demand will lead to
higher interest rates.
As the U.S. economy slid into the recession of 2001, investment demand dropped,
and so did interest rates
(the bank prime loan rate was 9.5 percent through the last half of 2000,
and dropped to 4.75 percent by February 2002)
Coming out of the 2001 recession, rates rose less than many expected, but did rise:
The bank prime loan rate in March 2005 was 5.5 percent.
Interest rate Supply of
savings
Demand for
loans
New Demand
for loans
Quantity of loans
Impact of increased investment demand
Interest rate Supply of
savings
Demand for
loans
New Demand
for loans
Quantity of loans
Impact of decreased investment demand
Interest rates and changes in the supply of savings
When the supply of national savings increases, interest rates will fall.
Quantity of loans
Impact of decreased government budget deficit
Interest rate
Demand for
loans
Supply of
savings
New supply
Quantity of loans
Impact of lower personal savings
2000 2003
Gross Saving = 1770.5 1487.7
NET SAVING = 582.7 133.8
as % of Nat’l income = 5.8 % 1.2 %