Which of the following best describes the crowding-out effect?
A) An increase in government expenditures will cause taxes to rise, which will reduce both aggregate demand and output.
B) An increase in borrowing by the government will push interest rates upward, which will lead to a reduction in private spending.
C) An increase in borrowing by the government will decrease the money supply and, thereby, reduce aggregate demand.
D) An increase in government expenditures will cause the general level of prices to fall and, thereby, reduce aggregate demand and output.

Question

Quizplus · Accepted Answer

The crowding-out effect occurs when an increase in government borrowing leads to an increase in interest rates, which in turn lead to a reduction in private investment and consumption. This occurs because the demand for loanable funds by the government competes with the demand by businesses and consumers, driving up interest rates and reducing the availability of funds for private investment.

Which of the Following Best Describes the Crowding-Out Effect