In a simple model of credit imperfections,when consumers borrow and lend at different interest rates,the budget line is kinked because

Question

Quizplus · Accepted Answer

When consumers borrow and lend at different interest rates, they typically borrow at a higher rate than they lend. This causes the budget line to be kinked, as the slope of the budget line changes at the point where the consumer switches from being a borrower to being a lender. This kink in the budget line reflects the fact that the consumer incurs a higher cost to finance borrowing than they earn from lending, due to credit imperfections such as information asymmetry and default risk. Therefore, choice D is the best answer, as it captures the idea that the kink in the budget line is caused by the higher borrowing rate relative to the lending rate.

In a Simple Model of Credit Imperfections,when Consumers Borrow and Lend