An increase in the real interest rate is an example of a
A)substitution effect and a positive income effect.
B)substitution effect and a negative income effect.
C)positive substitution effect and a negative income effect.
D)pure substitution effect.
E)substitution effect and an income effect whose sign depends on whether the consumer is initially a borrower or a lender.

Question

Quizplus · Accepted Answer

The real interest rate increase affects borrowers and lenders differently. For borrowers, it increases the cost of borrowing, leading to a negative income effect. For lenders, it increases the return on savings, leading to a positive income effect. The substitution effect encourages saving over spending for both.

An Increase in the Real Interest Rate Is an Example