Assuming no change in the effective tax rate on capital,a decrease in the government budget deficit will reduce the current account deficit if and only if the decrease in the budget deficit
A)reduces desired national saving.
B)increases desired national saving.
C)reduces desired national investment.
D)increases desired national investment.

Question

Quizplus · Accepted Answer

A decrease in government budget deficit will lead to a decrease in the government's demand for loanable funds, assuming no change in the effective tax rate. This will reduce interest rates which will increase desired national saving as households and firms will save more with lower interest rates. With an increase in national saving, there will be a decrease in domestic spending, including on imported goods which will lead to a decrease in the current account deficit. Therefore, the decrease in the budget deficit will only reduce the current account deficit if it increases desired national saving.

Assuming No Change in the Effective Tax Rate on Capital,a