The diagram below show the market for financial capital assuming that national income is constant at potential GDP,Y*.
FIGURE 25-2
-Refer to Figure 25-2.Suppose national saving is reflected by NS 0 and investment demand is reflected by I0D.Now suppose there is a reduction in government purchases (G).What is likely to happen in this market for financial capital?

Question

The diagram below show the market for financial capital assuming that national income is constant at potential GDP,Y*.
  FIGURE 25-2
-Refer to Figure 25-2.Suppose national saving is reflected by NS 0 and investment demand is reflected by I0D.Now suppose there is a reduction in government purchases (G).What is likely to happen in this market for financial capital?

Quizplus · Accepted Answer

A reduction in government purchases (G) would decrease the budget deficit or increase the budget surplus, which would increase national saving (shift to NS1). This would lead to a decrease in the interest rate (fall to i3) in order to balance the market for financial capital with the new level of investment demand (I0D). Therefore, choice B is the correct answer. Choices A, C, D, and E are incorrect because they either do not reflect the impact of a reduction in government purchases on the market for financial capital or provide inaccurate predictions about the direction of the interest rate.

The Diagram Below Show the Market for Financial Capital Assuming