Wave of Business Optimism
The question
In the economy of Marovia, firms grow confident that consumer demand will be strong for years to come, so they plan to expand factories and buy new equipment. Assume household saving behavior at each real interest rate is unchanged. Show the effect of this change in the loanable funds market. Show the effect on the Loanable Funds Market graph.
Drag a curve, or use the arrow buttons. Want the free-play version with every control? Open this graph in the sandbox.
Wave of Business Optimism: the worked answer
On the Loanable Funds Market graph, Demand for loanable funds shifts right.
Why Demand for loanable funds shifts right
Firms are the borrowers in the loanable funds market, and greater optimism about future sales makes more investment projects appear profitable at every real interest rate. To finance this planned investment, firms want to borrow more, so the demand for loanable funds shifts to the right. Household saving is unchanged by assumption, so the supply of funds stays put.
What happens to the equilibrium
The equilibrium real interest rate rises and the equilibrium quantity of loanable funds increases.
The mistake students make on this one
Some students shift supply right, treating confident and soon-to-be-profitable firms as having more money to lend out. Firms sit on the borrowing side of this model; expected future sales change how much financing they want, not the pool of household saving available to lend.
On exam day
Expectations about future profitability are a determinant of investment demand. When the story is about what firms plan to build, move the demand curve and say in words that saving is unchanged, because rubrics award the second point for that.
How this is graded
The checker reads every curve's position before and after your answer. You are marked correct only when Demand for loanable funds shifts right and every other curve on the Loanable Funds Market graph stays where it started — the same standard an AP reader applies to a drawn graph: the right shift, and nothing extra. There is no AI involved; the rubric is the geometry.
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