Chapter 8- Saving, Capital Formation, and Financial Markets

Chapter 8- Saving, Capital Formation, and Financial Markets

·      Saving- current income minus spending on current needs

·      Saving rate- saving divided by income

·      Wealth- the value of assets minus liabilities

·      Assets- anything of value that one owns

·      Liabilities- the debts one owes

·      Balance sheet- a list of an economic unit’s assets and liabilities on a specific date

·      Flow- a measure that is defined per unit of time

·      Stock- a measure that is defined at a point in time

·      Capital gains- increases in the value of existing assets

·      Capital losses- decreases in the value of existing assets

·      National saving- the saving of the entire economy, equal to GDP less consumption expenditures and government purchases of goods and services, or Y - C - G

·      Transfer payments- payments the government makes to the public for which it receives no current goods or services in return

·      Subtracting transfers and government interest payments from total taxes yields the net amount paid by the private sector to the government – the amount it pays to the government minus the amount it receives from the government (called net taxes)

·      Net taxes (T)- T = Total taxes – Transfer payments – Government interest payments

·      Private saving- the saving of the private sector of the economy is equal to the after-tax income of the private sector minus consumption expenditures (Y – T – C); private saving can be further broken down into household saving and business saving

·      Public saving- the saving of the government sector is equal to net tax payments minus government purchases (T – G)

·      Government budget surplus- the excess of government tax collections over government spending (T – G); the government budget surplus equals public saving

·      Government budget deficit- the excess of government spending over tax collections; if the government runs a deficit, it must make up the difference by borrowing from the public by issuing new government bonds; (G – T)

·      Life-cycle saving- saving to meet long-term objectives such as retirement, college attendance, or the purchase of a home

·      Precautionary saving- saving for protection against unexpected setbacks such as the loss of a job or a medical emergency

·      Bequest saving- saving done for the purpose of leaving an inheritance

·      Real interest rate (r)- is the rate at which the real purchasing power of a financial asset increases over time

·      Demonstration effects- when people use the spending of others as a yardstick by which to measure the adequacy of their own living standards

·      Bond- a legal promise to repay a debt, usually including both the principal amount and regular interest, or coupon, payments

·      Principal amount- the amount originally lent

·      Maturation date- the date at which the principal of a bond will be repaid

·      Coupon payments- regular interest payments made to the bondholder

·      Coupon rate- the interest rate promised when a bond is issued; the annual coupon payments are equal to the coupon rate times the principal amount of the bond

·      Stock (or equity)- a claim to partial ownership of a firm

·      Dividend- a regular payment received by stockholders for each share that they own

·      Risk premium- the rate of return that financial investors require to hold risky assets minus the rate of return on safe assets

·      Diversification- the practice of spreading one’s wealth over a variety of different financial investments to reduce overall risk

·      Mutual fund- a financial intermediary that sells shares in itself to the public and then uses the funds raised to buy a wide variety of financial assets

·      Crowding out- the tendency of increased government deficits to reduce investment spending