Question

Suppose that Americans decide to increase their savings.

a) If the elasticity of U.S. net capital outflow with respect to the real interest rate is very high, will this increase in private saving have a large or small effect on U.S. domestic investment?

b) If the elasticity of U.S. exports with respect to the real exchange rate is very low, will this increase in private saving have a large or small effect on the U.S. real exchange rate?

Answer 1

As a result, the real exchange rate is decreasing.

Explanation:

a) If Americans want to raise their savings, and if the stiffness of the U.S. net cash inflow with regard to the rate of interest is quite large, the availability of creditable assets will grow, leading to a decrease in the rate of interest.

The reduction in the real interest rate will result in an increase in private demand, but due to the high conductivity of the U.S. total net evaporation with respect to the real rate of interest, the growth in private demand will be limited.

b) If Americans want to raise their saving, the fall in the rate of interest would raise the net cash outflow and thus reduce the availability of dollars in the currency market.

But if the resilience of U.S. exports to real return is very low, the rise in private savings will have little effect on the U.S. actual exchange level.