The crowding out effect is zero if
A)the LM-curve is horizontal
B)the LM-curve is vertical
C)the central bank conducts open market sales following fiscal expansion
D)income is stimulated via a tax cut rather than an increase in government spending
E)none of the above

Question

Quizplus · Accepted Answer

When the LM-curve is horizontal, it indicates that the money supply is perfectly elastic. In this scenario, interest rates do not change in response to changes in money demand, meaning that fiscal expansion does not lead to higher interest rates that could crowd out private investment. Thus, the crowding out effect is zero.

The Crowding Out Effect Is Zero If