Crowding-out effect means that the increase in government spending increases the

Question

Crowding-out effect means that the increase in government spending increases the interest rate, which reduces the private investment. There are three cases of the crowding-out effect. A zero crowding-out effect occurs when the government spending increases, but the investment does not decrease. In terms of absolute values, a partial crowding-out effect occurs when the increase in government spending is greater than the decrease in investment. In terms of absolute values, a complete crowding-out effect occurs when the increase in government spending equals the decrease in investment. Then if the government spending increases by $10 billion, the investment later on decreases by $10 billion, then which of the following is true?




A. It is a zero crowding-out effect, as in the goods market equilibrium where investment is assumed to be constant.

B. It is a partial crowding-out effect.

C. It is a complete crowding-out effect.

D. it is a complete crowding-in effect.

E. None of the above.

Explanation / Answer

The answer is C. It is a complete crowding out effect, since the increase in government spending equals the decrease in investment

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