If crowding out occurs:
A) increases in consumption are offset by decreases in government spending.
B) increases in the money supply are offset by dollar outflows in foreign trade.
C) increases in government spending cause higher interest rates and decreased investment spending.
D) decreases in government spending cause lower interest rates and decreased investment spending.

Question

Quizplus · Accepted Answer

Crowding out refers to a situation where an increase in government spending leads to higher interest rates, which then reduces private investment spending. This occurs because as the government borrows more money to finance its spending, the demand for credit increases, causing interest rates to rise. This in turn makes it less attractive for private investors (such as businesses and households) to borrow money, as the cost of borrowing has now increased. As a result, private investment spending decreases, offsetting the initial increase in government spending. Thus, when crowding out occurs, increases in government spending cause higher interest rates and decreased investment spending.

If Crowding Out Occurs