Many economists believe that a high rate of business savings

Many economists believe that a high rate of business savings in the United States is a necessary precursor to investment, because business savings, as opposed to personal savings, comprise almost three-quarters of the national savings rate, and the national savings rate heavily influences the overall rate of business investment.

These economists further postulate that real interest rates-the difference between the rates charged by lenders and the inflation rates-will be low when national savings exceed business investment (creating a savings surplus),and high when national savings fall below the level of business investment (creating a savings deficit ).


However, during the 1960's real interest rates were often higher when the national savings surplus was large. Counterintuitive behavior also occurred when real interest rates skyrocketed from 2 percent in 1980 to 7 percent in 1982, even though national savings and investments were roughly equal throughout the period. Clearly, real interest rates respond to influences other than the savings/investment nexus. Indeed, real interest rates may themselves influence swings in the savings and investment rates. As real interest rates shot up after 1979, foreign investors poured capital into the United States, the price of domestic goods increased prohibitively abroad, and the price of foreign-made goods became lower in the United States. As a result, domestic economic activity and the ability of businesses to save and invest were restrained.

(A) Their beliefs are contradicted by certain economic phenomena that occurred in the United States during the 1960's and the 1980's.

yes they believed that was only X and maybe was Y or X+Y

(C) They incorrectly identify the factors other than savings and investment rates that affect real interest rates.

NO they believed that was X and instead was Y. They did not identify OTHER factors. They were not aware of them. The empirical evidence showed to us a different scenario. Clearly form the passage C is wrong

we cannot say they were wrong simply because they did not know those factors whatsoever

Question 3

In paragraph 2, the author tells us what certain economists think: these economists believe that "that real interest rates [...] will be low when national savings exceed business investment (creating a savings surplus),and high when national savings fall below the level of business investment (creating a savings deficit).

Notice that these economists only mention two factors that influence real interest rates: national savings and business investment.

Then, in paragraph 3, the author disagrees with these economists, saying that real interest rates must be influenced by factors OTHER than the two mentioned by the economists.

Question 3 asks us what the author would think about the economists. Here's (C):

This isn't quite right, because the economists ONLY identified savings and investment rates as factors that influence real interest rates. So the author doesn't think that they "incorrectly identify" other factors -- he/she thinks that they FAILED to identify other factors.

Because the economists didn't identify any other factors, the author wouldn't agree with (C) for question 3.

I hope that helps!

KarishmaB GMATNinja

Hi Experts, apologies if I am asking a dumb question, but I am literally confused with question no. 2. Either I need to throw my SC understanding so far into the garbage, or I am seriously blindsided by some economic relationship that is so trivial and seemingly straightforward for others but not the case for me; thus, this question wasted a lot of time. Expert comments from your brain trust will be constructive. Here is my analysis.

If we look at this statement in the passage -
As real interest rates shot up after 1979, ("As" introducing a subordinate clause which is more of a cause or the reason for the list that'll follow). The list includes their items; the 3rd item (three clauses) is joined by comma + and (a typical construction for GMAT to introduce a list). So, three items are
1. foreign investors poured capital into the United States,
2. the price of domestic goods increased prohibitively abroad, and
3. the price of foreign-made goods became lower in the United States.

Now, question 2 asks:
According to the passage, which of the following resulted from foreign investment in the United States after 1979?
(A) An increase in real interest rates - "foreign investment" resulted from "An increase in real interest rates" and not the other way around. Wrong.
(B) A decrease in the savings rate of certain other nations - "other nations" we don't know as they are not mentioned. Yes, consumers have to spend more for US products, but that doesn't necessarily mean that the national savings rate, which comprises business and personal savings rates, is low. But the other way to look at it is that if the national savings rate comprises business and personal savings rates, at best, if either business or ordinary people spend more for buying US-made goods, there is a negative impact on the national savings rate. Yes, I am not happy with this option, but let me share my problem with other options.
(C) An increase in American investment abroad - We don't know and are not mentioned in the passage.
(D) An increase in the price of American goods abroad - Yes, this line "increase in the price of American goods abroad" is mentioned in the passage. But it includes the other two effects of "real interest rates shot up after 1979."
(E) A decrease in the price of domestic goods sold at home - Not mentioned.

Am I missing how to read this statement: "As real interest rates shot up after 1979, foreign investors poured capital into the United States, the price of domestic goods increased prohibitively abroad, and the price of foreign-made goods became lower in the United States."? Am I missing the cause and effect between "foreign investors poured capital into the United States" and "the price of domestic goods increased prohibitively abroad"? If so, then how can I improve to read such cause-effect statements?

Yes, the words mentioned in the option D are mentioned in some shape and form in the line of interest. Or is the question straightforward that we just need to shut off our brains, and as the other four are not mentioned, one is mentioned, whatever the relationship is? Let's choose that.

Please share your valuable insights.

I understand why you are upset and perhaps with good reason too. I don't know what the source of this passage is but hopefully, it is not an official passage. That said, I would mark it as (D) for sure because there is a good economic reason behind it. Perhaps GMAT wouldn't expect you to know it or think through it but you are planning on a business degree so might as well understand it.

"As real interest rates shot up after 1979, foreign investors poured capital into the United States, the price of domestic goods increased prohibitively abroad, and the price of foreign-made goods became lower in the United States. As a result, domestic economic activity and the ability of businesses to save and invest were restrained."

We could consider that 'real interest rates' caused these three effects but it could be considered a sequence of events one leading to the other.
As A happened, B happened, C happened, and D happened.

As interest rates shot up (in US), more foreign capital came in (to take advantage of the high interest rates). When foreign currency (say Euros) comes in (supply of foreign currency has increased), your domestic currency (Dollar) strengthens. So a domestic USD100 bag is more expensive to Europeans now. But a Euro 100 bag made in Europe is cheaper for you in US, say.
Hence the increase in foreign capital leads to an increase in the price of American goods abroad.

Also note that Economic phenomena are not linear and one event doesn't necessarily or completely explain another. Everything is affected by everything else and hence the theories don't always work the way you expect them to as per what the book says.

Also check out this video that discusses how to approach an RC passage: https://youtu.be/PtqSBl1D_wg

KarishmaB

Hi Karishma, Thanks for a super fast response. It is now crystal clear. Yes, I was missing the sequential nature of events, and yes, when I see it that way, it actually makes sense.
To summarize my learnings-
1. Let's not get fixated on the SC format. Yes, it is good from a framework perspective and better understanding, but there can be instances such as this one wherein there can be a sequential relationship. While solving this question, I was battling in my mind that yes, this is possible, but then how about the cause-effect relationship that "as" introduces? Thanks for taking away that mental blocker.
2. From the financial perspective, it makes sense now. Here is my understanding

Foreign Capital Inflow: As more foreign capital flows into the US seeking higher returns, those investors need to convert their foreign currency (let's say Euros) into US dollars to make these investments. This increased demand for US dollars strengthens the dollar's value relative to the Euro.

Impact on Exchange Rates: When the dollar's value strengthens against the Euro (or any other foreign currency), it means that each dollar can buy more Euros. Therefore, American goods became more expensive for Europeans because they required more Euros to purchase the same amount of goods in dollars.

Effect on Prices of Goods: On the other hand, goods produced in Europe, priced in Euros, become relatively cheaper for Americans. For instance, if a European bag is priced at Euro 100, as the dollar strengthens, it will take fewer dollars to buy that Euro 100 bag, making it more affordable for Americans.

Increase in Foreign Capital and American Goods Prices Abroad: The increase in foreign capital influx contributes to a stronger dollar. When the dollar is strong, American goods become pricier for foreign markets due to the more robust exchange rate, making them less competitive in those markets. Consequently, the prices of American goods rise abroad.

In essence, the flow of foreign capital into the US (attracted by higher interest rates) strengthens the dollar, making American goods more expensive for foreign buyers while simultaneously making foreign goods cheaper for American consumers.

Thanks a ton! I wish there were a button to give many kudos at once.