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Question
Microeconomics
Posted 9 months ago
The economy of Burginville has been running budget deficits which it paid for by borrowing.
What is the likely impact of government borrowing on spending on capital goods and economic growth in Burginville?
Choose 1 answer:
(A) No effect on spending on capital goods or economic growth
(B) Increase in spending on capital goods; an increase in economic growth
(C) Increase in spending on capital goods; no effect on economic growth
(D) A decrease in spending on capital goods; no effect on economic growth
(E) A decrease in spending on capital goods; a decrease in economic growth
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Answer from Sia
Posted 9 months ago
Solution
a
Government Borrowing: When a government runs budget deficits and borrows to finance them, it can lead to an increase in interest rates
b
Crowding Out Effect: Higher interest rates can crowd out private investment, including spending on capital goods, as borrowing costs become more expensive for businesses
c
Impact on Capital Goods: As a result, there is likely to be a decrease in spending on capital goods due to the crowding out effect
d
Economic Growth: Reduced investment in capital goods can lead to a decrease in economic growth, as capital goods are essential for production and long-term growth
Answer
(E) A decrease in spending on capital goods; a decrease in economic growth
Key Concept
Crowding Out Effect
Explanation
Government borrowing can lead to higher interest rates, which in turn can reduce private investment in capital goods, ultimately decreasing economic growth.
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