The crowding-out effect works through interest rates, and it tends to
A) increase the effectiveness of a tax increase.
B) decrease the effectiveness of a tax increase.
C) decrease the effectiveness of an increase in government spending.
D) increase the effectiveness of an increase in government spending.

Question

Quizplus · Accepted Answer

The crowding-out effect refers to the decrease in private investment that occurs when government borrowing increases, causing interest rates to rise. Higher interest rates discourage private investment since borrowing becomes more expensive. As a result, the effectiveness of an increase in government spending is decreased because it crowds out potential private investment. Therefore, option C is the best choice.

The Crowding-Out Effect Works Through Interest Rates, and It Tends