An increase in the expected real interest rate will
A)increase the desired capital stock.
B)decrease the desired capital stock.
C)have no effect on the desired capital stock.
D)have the same effect on the desired capital stock as a decrease in corporate taxes.

Question

Quizplus · Accepted Answer

An increase in the expected real interest rate will increase the cost of borrowing for investment, making it less attractive to invest in new capital projects. Therefore, firms will decrease their desired capital stock. This is opposite to the effect of a decrease in corporate taxes, which will increase the after-tax return on investment and therefore increase the desired capital stock.

An Increase in the Expected Real Interest Rate Will