O'Roberts receives a cash prize of $3,000 and is trying to decide how much money to invest at an interest rate of 5% and how much to spend now. Consider his intertemporal budget constraint where future interest income is measured on the vertical axis. If the interest rate were 7% instead, his budget constraint would:
A) pivot inward so that the horizontal intercept stays the same and the vertical intercept is lower
B) pivot inward so that the horizontal intercept moves in and the vertical intercept stays the same
C) pivot outward so that the horizontal intercept stays the same and vertical intercept is higher
D) pivot outward so that the horizontal intercept moves out and the vertical intercept stays the same

Question

Quizplus · Accepted Answer

When the interest rate increases from 5% to 7%, the future interest income increases for the same amount of money invested. This causes the budget constraint to pivot outward, increasing the vertical intercept (future interest income) while the horizontal intercept (current spending) remains the same.

O'Roberts Receives a Cash Prize of $3,000 and Is Trying