How will a Change in the Interest Rate Change the Future Essay

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People tend to try and predict what their future needs will be in order for them to be able to satisfy their current and future wants. The two-period model of intertemporal choice tries to interpret based on the current time period (e.g. this month) and a prediction of the future time period (e.g. next month) what consumers will be able to spend, borrow or save according to their levels of income and interest rates. In this assignment however we are mostly concerned on the changes of interest rate and specifically the impact an increase in the level of interest rates would have to consumers who are either savers or borrowers in the first period and how would that affect their consumption levels. Generally it is well known in economics …show more content…

As we can detect income exceeds consumption in the first period (C1 > E1) meaning that these are converted to saving, which enhanced by an interest rate can contribute to increase future consumption despite any minor volatilities of the future wageDiagram B represent the situation of a net borrower. Here on the other hand the indifference curve represents someone with strong preference for current consumption, which as we can detect exceeds current income (C4 > E2). This leads us to believe that the purchaser is borrowing funds from the future, which are applied by an interest rate in order to be able to spend more today than his/her income.
Another, major factor in this assignment now that we have cleared its prerequisites is the increase of interest rates and the response from a net borrower or a net saver to its changes. An increase in the interest rate (as seen from diagrams I and II below) would affect the budget line by increasing its slope or in other words rotating it clockwise, however still passing through the endowment point. Moreover, when the interest rate is increasing, today’s consumption is considered more expensive since interest rates in general are identified as the price of today’s consumption, ‘forcing’ in a sense the customer to substitute away from their current habits. This movement as shown in diagram I is from point B to point D and in diagram II from B’ to D’ is identified

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