Question

1-When interest rates fall, how might you change your economic behavior?

2-Why are financial markets important to the health of the economy?

3-Why do Government Treasury bills have lower interest rate than large-denomination negotiable bank CDs?

Answer 1

1) When interest rate changes, the transaction demand for money will increase because of lower returns on investing money in the bond. Lower interest rate discourages savers to save reaulting in the lower supply of loanable funds. In contrast, lower interest rate makes the cost of borrowing cheaper thus stimulating more investment in the economy.

2) Financial markets are the intermediaries between the savers(who do not have productive use of money) and borrowers (those having productive investment opportunities). It is considered as the backbone of an economy. It also facilitates international flow of funds between countries. A good financial market improves economic efficiency and promote growth.

3) Government bonds like T-bills provides low interest rate because it is secure investment. The chances of default by the government is very unlikely. In contrast, higher interest rate is charged on the high denomination CDs because the chances of default is relatively high.