An increase in government spending has smaller effect on equilibrium real GDP, if it affects net export and investment adversely.

Question

Quizplus · Accepted Answer

An increase in government spending can lead to higher interest rates, which may adversely affect net exports by making domestic goods more expensive relative to foreign goods and can also reduce investment by increasing the cost of borrowing. Both of these effects can dampen the initial positive impact on equilibrium real GDP.

An Increase in Government Spending Has Smaller Effect on Equilibrium