In a two-year period,if a higher interest rate causes consumption in year 1 to rise:
A)the income effect associated with the higher interest rate is greater than the substitution effect.
B)the substitution effect associated with the higher interest rate is greater than the income effect.
C)the income effect of the higher interest rate is negative.
D)the substitution effect of the higher interest rate is positive.

Question

Quizplus · Accepted Answer

The income effect of a higher interest rate can increase consumption if the individual feels wealthier due to higher future income from savings, outweighing the substitution effect which would typically encourage saving over consumption.

In a Two-Year Period,if a Higher Interest Rate Causes Consumption