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A decrease in the cost of borrowing (interest rate) will case a) the demand for loanable funds to increase. b) the supply of loanable funds to decrease. c) both A and B. d) either A or B, but not both. e) none of the above.

The answer is e, but why? Doesn't a decrease in the interest rate will cause people to save less, but it causes firms to invest more? Why is the answer not c?

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I believe this is a trick question testing to see if the introductory economics student has overcome the usual confusion over "demand vs quantity demanded" and "supply vs quantity supplied".

When the price of an apple falls, this may cause quantity demanded or quantity supplied (of apples) to change, but cannot cause demand or supply to change.

Similarly, when the interest rate (or the price of loanable funds) changes, this may cause quantity demanded or quantity supplied (of loanable funds) to change, but cannot cause demand or supply to change. Hence, the answer is E.

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