Question

The table sets out the data for an economy when the government's budget is balanced.

If the government's budget becomes a deficit of $1.0 billion and the Ricardo-Barro effect occurs, what are the real interest rate and investment?

If the Ricardo-Barro effect occurs, and if the government's budget becomes a deficit of $1.0 billion, the real interest rate is _______ percent a year and the quantity of investment is _______  billion. Answer to 1 decimal place.

Answer 1

If the Ricardo-Barro effect occurs and if the government'S budget becomes a deficit of $1.0 billion, then the real interest rate is 10% a year and the quantity of investment is $5 billion.

1.If the government has a $1.0 billion deficit ,the demand for loanable funds at every real interest rate is $1.0 billion  more than the private demand for loanable funds .

2.The equilibrium real interest rate is 10% percent because at this interest rate , the total quantity of loanable funds supplied is $6 billion equals the total quantity of loanable demanded..Private saving is $6 billion and investment is      $5 billion. 

3.when we compare the deficit with no surplus or deficit i.e,9% ,then we can clearly see that $0.5 billion has been crowded out...

Note:1.When there is no deficit or surplus ,then the private saving is the total supply of loanable funds and the Investment is the total demand for loanable funds. In the above case,9% interest rate is no deficit or surplus point..