Question

Assume that an increase in consumer confidence raises consumers' expectations of future income and thus the amount they want to consume today for any given income. This shift, in a neoclassical economy, will: lower both investment and the interest rate. lower investment and raise the interest rate. raise investment and lower the interest rate. raise both investment and the interest rate.

Answer 1

lower investment and raise the interest rate.

Step-by-step explanation:

If consumers have positive economic expectations, then their marginal propensity to consume (MPC) will increase. That means that for every disposable dollar, a greater proportion will be used to consume goods and services and a smaller proportion will be left for savings.

Since private savings = investment, as the MPC increases, investment decreases. Since total savings decreases, the total amount of money available for borrowing and investing will decrease. Since the supply of available funds decreases, then the price of money (interest rate) will increase.