When the crowding-out effect of an increase in government purchases is included when analyzing the impact of the increase in government purchases, _____.
A)the AD curve shifts to the left, but by more than the simple multiplier analysis would imply
B)the AD curve remains unchanged
C)the AD curve shifts to the right, but by more than the simple multiplier analysis would imply
D)the AD curve shifts to the right, but by less than the simple multiplier analysis would imply
E)the AD curve shifts to the left, but by less than the simple multiplier analysis would imply

Question

Quizplus · Accepted Answer

The crowding-out effect refers to the reduction in private spending as a result of an increase in government spending. When the government increases its purchases, it can lead to higher interest rates, which in turn can reduce investment spending by businesses and spending by consumers. This effect can partially offset the initial increase in aggregate demand (AD) caused by the government's spending. Therefore, while the AD curve still shifts to the right due to the increase in government spending, the shift is smaller than it would be if the crowding-out effect were not considered.

When the Crowding-Out Effect of an Increase in Government Purchases