Question

If at a given real interest rate desired national saving would be $50 billion, domestic investment would be $40 billion, and net capital outflow would be $20 billion, then at that real interest rate in the loanable funds market there would be a

a. the real interest rate would rise.
b. the real interest rate would fall.
c. the real interest rate would rise.
d. the real interest rate would fall.

Answer 1

In the loanable funds market, if desired national saving exceeds domestic investment, the real interest rate will fall.

Step-by-step explanation:

In the loanable funds market, the equilibrium real interest rate is determined by the equality of national saving and domestic investment.

If desired national saving is $50 billion, domestic investment is $40 billion, and net capital outflow is $20 billion, it means that national saving is greater than domestic investment ($50 billion > $40 billion). This implies that there is excess saving in the economy.

As a result, lenders will lower the real interest rate to encourage borrowing and investment, which will reduce national saving and increase domestic investment, bringing the two into equilibrium.

Therefore, the correct answer is (b) the real interest rate would fall.