Question

Fretonia and Libstien are the same except Fretonia has a larger capital stock. Both countries undertake policies that raise their saving rates to the same higher level. We would expect that:

a. both countries would have permanent increases in their growth rates, but the increase would initially be larger in Fretonia.
b. both countries would have permanent increases in their growth rates, but the increase would initially be smaller in Fretonia.
c. both countries would have temporary increases in their growth rates, but the increase would be larger in Fretonia.
d. both countries would have temporary increases in their growth rates, but the increase would be smaller in Fretonia.

Answer 1

Correct option is (d)

Step-by-step explanation:

Savings and growth are directly proportional. Higher the savings, higher will be the growth in the economy. However, growth experienced by poor country is more than that experienced by rich country.

Here, Fretonia has larger capital stock indicating higher growth as compared to Libstien. So when savings rate is increased in both the countries, Libstien will experience higher growth as compared to Fretonia. Growth would be temporary though as it will not have a long term impact.