CFA Practice Question

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CFA Practice Question

Suppose that the interest rate paid to savers increases. As a result, Tom wishes to save more. This suggests that, for Tom, ______

A. the substitution effect is greater than the income effect.
B. the income effect is greater than the substitution effect.
C. future consumption is a luxury.
Correct Answer: A

User Contributed Comments 4

User Comment
nabilhjeily whats the diffrence ...
fanDango You have spending on one axis, saving on the other. If the interest rate paid increases, the marginal benefit of saving increases causing Tom to save more. He is substituting spending for saving which is greater than the increase in his income.
schweitzdm He wants to save more for larger rates, instead of working more for larger income.
sshetty2 Not sure if this necessarily has anything to do with him working more. I think it's more that it is implied that he has more income potential in general and yet he chooses to save

The reason why I say this is because the situation would be reversed if he chooses to spend that extra money he earns on his savings
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