An increase in the default premium
A) raises the safe credit market interest rate.
B) lowers the real interest rate and firms invest more.
C) shifts the optimal investement schedule to the left.
D) shifts the optimal investement schedule to the right.
E) will prevent firms from defaulting on their loans.

Question

Quizplus · Accepted Answer

An increase in the default premium represents a higher risk of default by borrowers. This will lead to an increase in the cost of borrowing for firms and a decrease in the quantity of funds that lenders are willing to supply. As a result, the optimal investment schedule will shift to the left, indicating that firms will cut back on investments. This decrease in investment could lead to a slowdown in economic growth.

An Increase in the Default Premium