Author Question: Suppose that reduced barriers to international financial transactions cause an increase in the ... (Read 45 times)

ts19998 · **on:** Jun 30, 2018

Suppose that reduced barriers to international financial transactions cause an increase in the economy's supply of capital. Explain, step-by-step, how the economy adjusts to arrive at a new long-run equilibrium.

What will be an ideal response?

Question 2

According to the life-cycle hypothesis, as people grow older ________.

A) their wealth grows before and after retirement
B) their wealth declines before and after retirement
C) their wealth grows before retirement, then declines after retirement
D) their wealth falls before retirement, then rises after retirement

ynlevi · **Reply #1 on:** Jun 30, 2018

Answer to Question 1

The increase in the supply of capital (rightward shift of the supply curve) causes an excess supply at the original rental price, and the excess supply causes the price to fall. Since the price of capital falls below its marginal product, firms buy more capital. The increase in capital utilization causes an increase in the marginal product of labor, so the demand for labor increases (the demand curve for labor shifts up). Since the supply of labor is fixed, there is no change in the quantity of labor in use, but the real wage rises to equal the higher marginal product. The rental price of capital stops falling when the quantity of capital in use is equal to the supply of capital. The increase in output is distributed between the capital and labor inputs, so that the share of each factor in total income is unchanged from the original equilibrium. The (unchanged) labor inputs receive a higher wage; each unit of capital receives a reduced payment, but capital's share of total income is increased because of the larger number of capital units receiving payment.

Answer to Question 2

C