Suppose that an increase in the price level reduces the value of real wealth,which then causes a reduction in consumption but no change in saving.In this case:
A) there is both an interest rate effect and a wealth effect.
B) there is no wealth effect.
C) there is an interest rate effect but no wealth effect.
D) there is a wealth effect but no interest rate effect.
E) there is no wealth effect and no interest rate effect.

Question

Quizplus · Accepted Answer

The scenario described is consistent with the wealth effect, where an increase in the price level reduces the real value of wealth, leading to a reduction in consumption. However, since there is no change in saving, there is no corresponding increase in demand for loanable funds, and therefore no change in the interest rate. Thus, there is no interest rate effect. Therefore, the answer is D, there is a wealth effect but no interest rate effect.

Suppose That an Increase in the Price Level Reduces the Value