In the Fisher two-period model, if the consumer is a saver, consumption in periods one and two are normal goods, and the income effect of an increase in interest rate is less than the substitution effect, then saving:
A) will increase.
B) will decrease.
C) will not change.
D) may either increase or decrease.

Question

Quizplus · Accepted Answer

A higher interest rate increases the return on saving and makes current consumption relatively more expensive compared to future consumption. The higher substitution effect dominates the income effect, resulting in an increase in saving. Therefore, the answer is A.

In the Fisher Two-Period Model, If the Consumer Is a Saver