In the two-period model, an increase in the real interest rate causes the budget constraint to
A)shift to the left in a parallel fashion.
B)shift to the right in a parallel fashion.
C)rotate in a clockwise direction.
D)rotate in a counterclockwise direction.

Question

Quizplus · Accepted Answer

An increase in the real interest rate makes future consumption more expensive relative to current consumption. This effect causes the budget constraint to rotate in a clockwise direction, as it becomes steeper, reflecting the increased cost of borrowing for future consumption or the increased reward for saving.

In the Two-Period Model, an Increase in the Real Interest