Question

Suppose that the demand for loanable funds for car loans in the Milwaukee area is $12 million per month at an interest rate of 10 percent per year, $13 million at an interest rate of 9 percent per year, $14 million at an interest rate of 8 percent per year, and so on.

Answer 1

Answer:

• a) 4% per year.

• b) a shortage (or excess demand) of $1 million worth of car loans per month.

• c) the surplus of supply will be $3 million worth of car loans per month.

Explanation:

The question is incomplete.  The complete question is:

Suppose that the demand for loanable funds for car loans in the Milwaukee area is $12 million per month at an interest rate of 10 percent per year, $13 million at an interest rate of 9 percent per year, $14 million at an interest rate of 8 percent per year, and so on.

Instructions: Enter your answers as whole numbers.

a. If the supply of loanable funds is fixed at $18 million, what will be the equilibrium interest rate?                       percent per year.

b. If the government imposes a usury law and says that car loans cannot exceed 3 percent per year, how big will the monthly shortage (or excess demand) for car loans be?                   $ million worth of car loans per month.

c. How big will the monthly shortage for car loans be if the usury limit is raised to 7 percent per year:                         $ million worth of car loans per month.

Solution

a. If the supply of loanable funds is fixed at $18 million, what will be the equilibrium interest rate?                       percent per year.

The equilibrium interest rate is the rate at which the demand and the supply for loans are equal.

Thus, if the supply is fixed ad $18 million, you must find the interest rate at which the demand for loans is also $18 millions.

The sequence of the data are:

Demand for loanable funds per month     Interest rate

               $12 million                                         10% per year

               $13 million                                           9% per year

               $14 million                                           8% peryear

If you continue:

               $15 million                                           7% per year

               $16 million                                           6% per year

               $ 17 million                                           5% per year

               $ 18 million                                           4% per year

Hence, the equilibrium interest rate will be, when both demand and supply for loanable funds for cars in the Milwaukee are are equal to $18 millions, is 4% per year.

b. If the government imposes a usury law and says that car loans cannot exceed 3 percent per year, how big will the monthly shortage (or excess demand) for car loans be?                   $ million worth of car loans per month.

Shortage, also called excess demand, occurs when demad is higher than supply.

When the interest rate is fixed at a different value than the equilibrium rate, then the demand will be different than the equilibrium demand.

If the price (the rate of toans) is lower than the equilibrium price,  the demand will be higher than the equilibrium demand, which is the supply; thus, there will be a shortage.

In this case, the "artificial" interest reate is fixed at 3%. If you continue the table, at that rate the amount of loans demanded will be $19 millions.

Thus, the amount of loans demanded, $19 millions, is higher than $18 millions, meaning that the demand is higher than the supply, and, in consequence, there will be a shortage of $19 millions - $18 millions = $1 million.

In conclusion, there will be a shortage (or excess demand) of $1 million worth of car loans per month.

c. How big will the monthly shortage for car loans be if the usury limit is raised to 7 percent per year:                         $ million worth of car loans per month.

Surplus occurs when the prices are above the equilibrium price (the rate of the loans).

Find the amount of car loans demanded when the interest rate is 7%. From the table it is $15 million.

So, you see that the interest rate is higher than the equilibrium supply and the demand is lower than the supply of $18million.

Then, as demand is lower than supply, there there will be a surplus, there will be a surplus of supply for car loans. It will be equal to $18 million - $15 million = $3million.