Suppose households decide to reduce consumption.This reduction in consumption will cause which of the following to occur?
A)the natural real interest rate to rise
B)the natural real interest rate to fall
C)ambiguous effects on the natural real interest rate
D)no effect on the natural real interest rate

Question

Quizplus · Accepted Answer

When household consumption decreases, overall demand in the economy falls, causing a decrease in inflation. As inflation falls, the central bank may decide to decrease the policy interest rates. A reduction in the policy interest rates causes a decrease in the natural real interest rate, which is the interest rate that balances saving and investment without taking into account monetary policy changes. Therefore, a decrease in household consumption leads to a fall in the natural real interest rate.

Suppose Households Decide to Reduce Consumption