Crowding out occurs by
A)causing reduced government purchases of goods and services
B)reducing the value of the multiplier used for government purchases of goods and services by increasing the interest rate
C)reducing the value of the multiplier used for government purchases of goods and services by increasing the marginal propensity to consume
D)reducing the value of the multiplier used for government purchases of goods and services by decreasing the marginal propensity to consume
E)increasing the value of the multiplier used for government purchases of goods and services by increasing the marginal propensity to consume

Question

Quizplus · Accepted Answer

Crowding out occurs when increased government spending results in higher interest rates which decrease private investment. This decrease in private investment offsets the initial increase in government spending, resulting in reduced overall economic activity. This reduction in economic activity results in a smaller multiplier effect for government purchases of goods and services, which is what occurs when the value of the multiplier is reduced. Therefore, choice B is the correct answer as it describes how crowding out reduces the value of the multiplier through an increase in interest rates.

Crowding Out Occurs by