Figure 32-7
-Refer to Figure 32-7.Suppose the Mexican economy starts at r₀ and E₁.Which of the following new equilibrium is consistent with capital flight?

Question

Figure 32-7 -Refer to Figure 32-7.Suppose the Mexican economy starts at r₀ and E₁.Which of the following new equilibrium is consistent with capital flight?

Quizplus · Accepted Answer

Capital flight involves investors moving their funds out of a country due to unstable economic conditions or decreased confidence in the country's economy. This results in a decrease in the supply of loanable funds and increases the interest rate, causing a decrease in investment and a decrease in equilibrium GDP. In this scenario, the initial equilibrium is at point U1, where the interest rate is rS1 and equilibrium GDP is ES1. If there is capital flight, the supply of loanable funds will decrease, causing the interest rate to increase, and the new equilibrium will be at a point to the left of U1 on the investment curve. Option B shows a new equilibrium at point U2, where the interest rate is r₁ and equilibrium GDP is E₀, thus consistent with capital flight. Option A shows a new equilibrium with a lower interest rate than the initial equilibrium, which is not consistent with capital flight. Option C shows a new equilibrium with a higher equilibrium GDP than the initial equilibrium, which is not consistent with a decrease in investment due to capital flight. Therefore, the best choice is B.

Figure 32-7 -Refer to Figure 32-7.Suppose the Mexican Economy Starts at R0

Figure 32-7 -Refer to Figure 32-7.Suppose the Mexican Economy Starts at R₀