FINANCIAL
ECONOMICS –
TUTORIAL 1 INTRODUCTION
QUESTION 1
Why are financial markets important to the
health of the economy?
◦ It promotes the efficient direct flow of
savings and investments into the economy,
facilitating capital accumulation and
contribution to the production of goods
and services.
◦
◦ financial market provides corporate,
industrialists and the governmental entities
access to capital
◦
◦ The prospect of a financial market is to set
prices for global trade, raise capital,
QUESTION 2
IF THERE IS A DECLINE IN THE RATE OF MONEY GROWTH, WHAT MIGHT
HAPPEN TO
A. REAL OUTPUT?
B. THE INFLATION RATE?
C. INTEREST RATE?
If there is a
decline in the
rate of money
growth, what
might happen to
-Real output
◦ Contractionary monetary policy decreases the
money supply in an economy. When the money
growth rate slows, manufacturing and
production activities also slow down, which
lowers the economy's GDP.
◦ In addition, the decrease in the money supply
will lead to a decrease in consumer spending.
This decrease will shift the aggregate demand
curve to the left. This reduction in money
supply reduces price levels and real output, as
there is less capital available in the economic
system
If there is a decline
in the rate of
money growth,
what might happen
to
-Inflation Rate
◦ Decrease - As previously said, some inflation is
good for national development. Lower money
growth indicates lower inflation, which does not
indicate a growing economy.
If there is a
decline in the
rate of
money
growth, what
might
happen to
-Interest Rate
Decrease –
• When there is less money in the economy or
when it is growing less slowly, the interest rate
reduces because borrowing must be made
more inexpensive in order to encourage
investment.
OR
• when the supply of money increases,
financial institutions drop interest rates to
motivate people to borrow. The opposite
situation occurs when there is no money in
the market. When money supply in the
market decreases, lenders are forced
to increase interest rates. Bcz of inflation
QUESTION 3
EXPLAIN IN DETAIL THE FLOW OF
FUND THROUGH THE FINANCIAL
SYSTEM. DIFFERENTIATE BETWEEN
DIRECT FINANCE AND INDIRECT
FINANCE.

DIRECT FINANCE
BORROWERS BORROW DIRECTLY
FROM LENDERS IN FINANCIAL
MARKETS BY SELLING FINANCIAL
INSTRUMENTS WHICH ARE CLAIMS ON
THE BORROWER’S FUTURE INCOME
OR ASSETS
INDIRECT FINANCE
BORROWERS BORROW INDIRECTLY
FROM LENDERS VIA FINANCIAL
INTERMEDIARIES (ESTABLISHED TO
SOURCE BOTH LOANABLE FUNDS AND
LOAN OPPORTUNITIES) BY ISSUING
FINANCIAL INSTRUMENTS WHICH ARE
CLAIMS ON THE BORROWER’S FUTURE
INCOME OR ASSETS