Question

A certain market is in equilibrium with unemployment. The government decided to adopt a policy which encourages imports. As a result:

a. The interest rate declined, private consumption declined, and the change in investment cannot be determined.

b. The interest rate declined, private consumption and investments declined.

c. The interest rate rose, private consumption rose, and the change in investment cannot be determined.

d. The change in the interest rate cannot be determined.

e. All of the other answers are not correct.

Answer 1

All of the above answers are not correct.

Imports are the goods and services that are purchased from the rest of the world by a country’s residents, rather than buying domestically produced items. Imports lead to an outflow of funds from the country since import transactions involve payments to sellers residing in another country.

Increase in imports worsens the country’s balance of trade.This will lead to increase in trade deficit,causing the exchange rate of country to decline,which in turns have a negative impact on interest rates.

As interest rates are reduced, more people are able to borrow more money. The result is that consumers have more money to spend, causing the economy to grow and inflation to increase.This will lead to increase in private consumption.

Decline in interest rates have a negative impact on investment as more are willing to spend at lower interest rates rather than to spend.