Suppose the auto industry has several investment projects with an expected rate of return of 15 percent, the aluminum industry has projects with an expected return of over 20 percent, the publishing industry projects with an expected return of 10 percent, the steel industry has projects with an expected return of 7 percent and the rubber industry projects with an expected return of 5 percent. The current market rate of interest is 7 percent. A reduction in the supply of funds causes interest rates to rise to 11 percent. The effect is to

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As interest rates rise, firms will tend to cancel projects that have lower expected returns, in order to ensure that they are earning a return that is commensurate with the increased cost of capital. Therefore, the firms in the steel and publishing industries are likely to cancel their projects, which had lower expected returns than the projects in the other industries.

Suppose the Auto Industry Has Several Investment Projects with an Expected