Government borrowing will not crowd out private investment spending if unemployment is _____ and the fiscal expansion causes a(n) _____ in incomes and expansionary monetary policy causes a(n) _____ in the interest rate.

Question

Quizplus · Accepted Answer

When unemployment is high, there is excess capacity and resources available, so government borrowing does not crowd out private investment spending. The fiscal expansion will cause an increase in incomes, which will lead to an increase in overall spending and ultimately stimulate private investment. However, to prevent crowding out, expansionary monetary policy must cause a decrease in the interest rate, making it cheaper for firms to borrow and invest. Therefore, option (D) where unemployment is high, and fiscal policy leads to an increase in incomes while monetary policy leads to a decrease in the interest rate, is the best choice.

Government Borrowing Will Not Crowd Out Private Investment Spending If