The crowding-out effect implies that a
A) budget surplus will be highly effective against inflation.
B) budget deficit is likely to stimulate aggregate demand and cause inflation.
C) budget deficit will increase real interest rates and, thereby, retard private spending.
D) budget surplus will retard aggregate demand and throw the economy into a downward spiral.

Question

Quizplus · Accepted Answer

The crowding-out effect refers to the idea that government spending financed by borrowing can increase demand for loanable funds, which in turn can drive up real interest rates and crowd out private investment. This can lead to a reduction in aggregate demand and economic growth. Therefore, option C is the correct choice as it suggests that a budget deficit will increase real interest rates and, thereby, retard private spending.

The Crowding-Out Effect Implies That a