Answer to Question #258471 in Finance for aashna

Question

2. Assume that there is a perfect and complete capital market and that investors can

invest and borrow money at a unique interest rate of 15%.

(a) Draw the the new transformation curve Ts and show how the introduction of

the capital market extends the set of feasible consumption allocations. What

is the slope of TM?

Answer 1

Economic theory connects investment activity primarily with the level of interest in the country.

The graph illustrates the inversely proportional relationship between the firm's investment demand (DI) and the interest rate. With a higher interest rate of i1, the investment amount will be equal to I1. A decrease in the percentage to the value of i2, other things being equal, causes an increase in the investments made to the level of I2.

Any economic entity strives to maximize its well-being based on the available opportunities. This rule also applies to determining the proportion in which income is divided into consumption and saving. The decisive factor for making a decision in favor of savings is the amount of interest. An increase in the interest rate contributes to the growth of deferred consumption for the future or, in other words, stimulates today's savings.

A graph of the supply of investment funds in the form of a savings curve rising as the percentage increases: