Answer to Question #137186 in Macroeconomics for OWUSUAA

Question

Assume that interest rates fall. Under what circumstances will this lead to (a) a large rise in business investment; (b) little or no change in business investment?

Answer 1

$$Solution$$

a) Falling interest rates means that an investment costs decline, thereby stimulating investment and the total social investment increases.

b) On the other hand little or no change in business may be felt even with fall in interest rate due to a liquidity trap{A liquidity trap is a contradictory economic situation in which interest rates are very low and savings rates are high, rendering monetary policy ineffective.}, therefore demand for investment becomes very interest inelastic.