This market for loanable funds is not bounded to a particular area. It means this is a global market and not a national. When there are lenders on the supply part in the market, then they just need to hunt the suitable one and they just want the highest interest rate from anywhere in the world. On the other side, the borrowers desire for paying the lowest interest rate and thus they hunt everywhere in the world. So, this is important to have the complete suitability to the borrowers as well as lenders and thus this market has the movable financial market.
International capital Mobility
If a loanable fund supplier from the US, supplies funds at a higher rate of interest in Tokyo than his home city New York, then fund supply in Japan will upsurge as compare to the fund supply on US. So, the flow will be from the US to Japan.
If a US demander wants to get loanable funds at low interest rate and he gets that from Paris, but not in New York, then France will get that credit and the demand for funds will be increased. So, the funds curve will have a proper flowing from France to the United State.
It is clear now that lenders are free to hunt the market for achieving the highest rate of interest and in the same way, the borrowers are there to hunt for the lowest interest rate and they are free to do the things in a proper way from anywhere in the world. So, the market of loanable fund is an integrated, single global market. One more thing you should notice about, and it is an exact way of fund flow. This takes place from the country with highest interest rate to the country with lowest interest rate.
In case there is lowest interest rate in a country, then a scarcity of funds raises that interest rate and makes a higher interest rate. In similar way, when the interest rate goes towards a lower interest rate country, then surplus added with the funds lowers this interest rate or the real interest. The financial capital’s free international mobility pulls the rate of real interest rate to have equality.
What is the meaning of real interest rate in terms of global value? The global value of interest rate is understandable as it is said that average value is important to know. However, if the real rate of interest is equal in all places like Tokyo, Paris and New York, then how the flow will take place. If you get that the average rate of interest of Tokyo, Paris and New York is not equal as it is very important here to get proper compare of financial asset.
It may happen that repaying is very difficult and thus lending is risky to some extent. Sometimes, the price may fall of bond and stocks. In case there is a risk premium of interest, then loan is riskier and thus higher will be the loan of interest rate as other things remaining same. So, a risk premium means when an interest rate on safe loan gets subtracted from a risky loan. In addition, international capital mobility is perfect in bringing the real rate of interest in each country over the world. But, it is not responsible for differences in risks, and differences in risk premium.
International borrowing and lending
Loanable funds market of a country and global market gets connected via net exports. In case of negative net exports, or X < M, the other countries provide the loanable funds and then this amount will be higher than the national saving. In case of positive net export, X > M, and the loanable fund quantity of that country will be less than the national saving.
Demand and Supply in the Global and National Markets
The supply of and demand for loanable funds in this global market is important to evaluate the equilibrium rate in this world for funds. This is important to make the demand of quantity of loanable fund just equal to the loanable fund demand just equal to the supply of demandable fund and it is equally in each national economy. Now, the funds supply in a national economy decides that whether a country decides to lend or to borrow from rest of the world.
The Global Loanable Fund Market
In the fund market, DLF or demand for loanable fund is just the demand of funds in all countries. In the same way, SLF is sum of suppliers in all country. If you go through the state of equilibrium in this real interest rate, then you will get that the total number of demand of funds must be equal to the total number of supply to that fund.
An international Borrower
Those who borrow from other countries or rest of the world are international borrowers. So, demand of a country for loanable fund of DLF is also a part of the world. In case of isolated with the global country then the percent of real interest rate will be 6. In addition, in case of the integration of country in loanable fund at the same rate as 6%, then funds would be flood into. However, if 5% is the loanable fund interest in the rest of the world in a global market, then the possibilities of supplying of loanable funds by those, who desire to have a higher return for their country.
The loanable fund for the country’s demand and the world’s interest rate determines an exact equilibrium.
An international Lender
This is the right condition, when a country lends to others or rest of the world. It is always important to know that if country’s supply is there, then it is also a part of the world’s supply, known as SLF. In addition, the country’s demand is there that is part of the world’s demand.
In case of isolated country in this global economy, the interest rate would be 4% per annum after falling down. However, if there is an integrated way of economy, then with 4 % interest rate, funds would have an exact way for flowing out. It means there would be 5 % interest rate in a year for loanable funds. Now, loanable funds for domestic suppliers will get the exact solution by seeking of higher returning for their country and thus country will face the loanable funds supply and this is horizontal line at the equilibrium rate of interest.
Change in Demand and supply
In case of change in supply or in demand in the market of loanable fund, the real rate of interest changes. In case of change in supply or change in demand in the national market, you just need to know about the size of that country. So, if there is change in supply or demand for a small country, then it will not affect the global loanable fund market. So, there is not change in the real rate of interest on global market, however, a change in supply and demand of net export of country will get affected. A change in supply and demand for a large country can bring an effect to the global loanable fund market.
Each country has some impact on the global market and thus the real rate of interest changes and makes it up and down or fluctuate the interest rate. A large country does not change the net exports for its own, but the complete global market gets changed.
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