The United States borrows a lot of money from other countries. If you wanted to use the lifecycle theory to explain this, would you say that the United States is acting like a “young” country, an “old” country, or a “middle-aged” country? There’s more than one correct way to answer this question.

Lenders are more willing to lend if the borrower can put up collateral for the loan. Remember that collateral is something of value that by agreement becomes the property of the lender if the borrower defaults. In the United States, many small business owners borrow money for their business by using their houses or business assets as collateral. But in many developing countries, people don’t have secure property rights, or title, to the land or house in which they live. In Bangalore, India, for example, it’s nearly impossible to say who owns a piece of land and about 85% of the people in that city live on a piece of land for which they have no title. How difficult do you think it would be for a small business person in Bangalore to get a modest-sized loan?

Bank savings accounts typically pay an interest rate well below the inflation rate. As of spring 2011, for example, the best interest rates on savings accounts were around 1% per year, while the CPI inflation rate was around 2.5% per year. What does this mean about the real interest rate on bank savings? Knowing this, why would people still choose to deposit any money in bank savings accounts?

How are houses like bonds? With respect only to their home equity (i.e., ignoring all other assets and investments), would homeowners tend to favor high or low interest rates?

Answer the following question using a spreadsheet and the material in the appendix.

You would like to buy a house. Assume that given your income, you can afford to pay $12,000 a year to a lender for the next 30 years. If the interest rate is 7% how much can you borrow today based on your ability to pay? What about if the interest rate is 3%?