Equilibrium between Demand and Supply
The rate o( interest is determined by the interaction of the forces of demand For Capital (or investment) and the supply of savings. The rate of interest at which the demand for capital (or demand For Savings’ to Invest in capital goods) and the supply of savings are in equilibrium will be the rate determined in the market. How the rate of interest is determined by the interaction of demand For Investment and supply of savings is shown in Fig. 34.2. where SS is the supply curve of saving and II is the demand curve of savings to invest in capital goods (II is also called demand curve for investment or simply investment demand curve). The demand for investment and supply of savings are in equilibrium at Or rate of interest, where the curves intersect each other. Hence. Or is the equilibrium rate of interest. which will come to stay in the market. In this equilibrium position. OM amount of money is lent. borrowed and invested. If any change in the demand for investment and supply of saving comes about. the curves will shift accordingly. and. therefore. the equilibrium rate of interest will also change.
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