Mr. B earns Rs. 500 today and Rs. 500 tomorrow. He can save for future by
investing today in bonds that return tomorrow the principal plus the interest. He
can also borrow from his bank paying an interest. When the interest rates on both
bank loans and bonds are 15% Mr. B chooses neither to save nor to borrow.
(a) Suppose the interest rate on bank loans goes up to 30% and the interest
rate on bonds fall to 5%. Write down the equation of the new budget
constraint and draw his budget line.
(b) Will he lend or borrow? By how much?