1. Copyright © 2003 by South-Western/Thomson Learning. All rights reserved. CHAPTER 9 Market Efficiency

2. Copyright © 2003 by South-Western/Thomson Learning. All rights reserved. The Expected Return to Owning Stock Expected Price Change Expected Dividend(Capital Gain (+) or Loss (-))Expected Return $3- $2($3 + )-$2))/$50 = 2 percent $3 $0($3 + $0)/$50 = 6 percent $3 $2($3 + $2)/$50 = 10 percent $3 $4($3 + $4)/$50 = 14 percent $4 -$2($4 + (-$2))/$50 = 4 percent $4 $0($4 + $0)/$50 = 8 percent $4 $2($4 + $2)/$50 = 12 percent $4 $4($4 + $4)/$50 = 16 percent

3. Copyright © 2003 by South-Western/Thomson Learning. All rights reserved. The Expected Return on Bonds Expected Percentage Return on Bonds = Coupon Rate + Expected Percentage Change in the Bond Price = (Coupon Payment/Bond Price at the Beginning of the Year) + (Expected Bond Price at the End of the Year – Bond Price at the Beginning of the Year)/Bond Price at the Beginning of the Year)

4. Copyright © 2003 by South-Western/Thomson Learning. All rights reserved. Adaptive and Rational Expectations Adaptive ExpectationsRational Expectations Expectations formed as a weightedExpectations formed by looking average of past valuesat all available information Usually more weight is given to Looks at the past as well as all additional more recent values of the variableavailable information, such as information about expected changes in national income and costs Backward lookingBackward and forward looking

5. Copyright © 2003 by South-Western/Thomson Learning. All rights reserved. Surplus and Deficit Sectors The combined surpluses of all spending units in the sector > The combined deficits of all spending units in the sector = Surplus sector The combined surpluses of all spending units in the sector < The combined deficits of all spending units in the sector = Deficit sector The combined surpluses of the surplus sectors = The combined deficits of the deficit sectors

6. Copyright © 2003 by South-Western/Thomson Learning. All rights reserved. A Hypothetical Sources and Uses of Funds Statement for the U.S. Economy (in Billions of Dollars) Sources of FundsUses of Funds Households Disposable income: $8,200Consumption spending on nondurables, durables, and services: $8,100 Net borrowing: $275+ Deficit = $275Investment spending on real assets: $375 Business Firms Net revenues: $1,060Net spending on real assets (plant and equipment): $1,225 + Net borrowing: $220Net spending on real assets (inventories): $55 Deficit = $220

7. Copyright © 2003 by South-Western/Thomson Learning. All rights reserved. A Hypothetical Sources and Uses of Funds Statement for the U.S. Economy (in Billions of Dollars) (continued) Sources of FundsUses of Funds Government Tax receipts: $3,300Government spending on goods and services: $1,190 + Government spending on transfer payments: 1,620 + Interest payments on the national debt: $260 Surplus = $230 Rest-of-the-World Foreign purchases of U.S. goods and U.S. purchases of foreign goods and services: $1,470 and services: $1,170 + Net foreign purchase of U.S. financial Net U.S. purchases of foreign financial assets: $240 Assets: $805 Surplus = $265 Financial Intermediaries Net acquiring of financial assets: $1,080Net incurring of financial liabilities: $1,080