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How does an increase in desired national saving in a large open economy affect the world real...

Question:

How does an increase in desired national saving in a large open economy affect the world real interest rate?

Large Open Economy:

A large open economy is one that engages in free trade and free capital mobility, but its relative size of the economy is large enough to influence the world interest rate. This contrasts with a small open economy that takes world interest rate as given.

Answer and Explanation:

World interest rate will fall.

When there is an increase in desired national saving, there world supply of savings will increase. This is because the economy is large enough to influence world supply and demand. Holding the demand for savings the same, the increase in supply of savings will reduce the price of savings, i.e., interest rate, in the world market. This is illustrated in the diagram below:


Learn more about this topic:

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Loanable Funds: Definition & Theory

from Introduction to Business: Homework Help Resource

Chapter 25 / Lesson 29
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