In the absence of a Ricardo-Barro effect, a government budget deficit ________ the demand for loanable funds, ________ the real interest rate, and ________ investment.
A) increases; increases; crowds out
B) increases; decreases; increases
C) decreases; increases; increases
D) decreases; increases; crowds out

Question

Quizplus · Accepted Answer

The Ricardo-Barro effect posits that government budget deficits do not affect the demand for loanable funds, interest rates, or investment because individuals increase their savings in anticipation of future taxes. In the absence of this effect, a government budget deficit increases the demand for loanable funds, which increases the real interest rate, and this higher interest rate crowds out private investment.

In the Absence of a Ricardo-Barro Effect, a Government Budget