The federal government in the United States has been running large budget deficits.
a. Use the loanable funds approach to show the effect of the U.S. budget deficit on the world real interest rate, holding everything else constant.
b. Now suppose that households believe that deficits will be financed by higher taxes in the near future, and households increase their saving in anticipation of paying those higher taxes. Briefly explain how your analysis in part (a) will be affected.