What is the crowding-out effect and how does it operate? What is its relationship to the Ricardo-Barro effect?
What will be an ideal response?
The crowding-out effect is the tendency for a government budget deficit to decrease investment. A government budget deficit increases the demand for loanable funds. If private savers do not change their saving, so that the private supply of saving does not change, a government budget deficit raises the equilibrium real interest rate and decreases the equilibrium quantity of investment. The Ricardo-Barro effect asserts that people change their private saving in response to a government budget deficit. In particular, when the government has a budget deficit, people increase their saving by the amount of the deficit. As a result, both the demand for loanable funds and the supply of loanable funds increase by the same amount so there is no impact on the equilibrium real interest rate or on the equilibrium quantity of investment.
You might also like to view...
In the long run the prices charged by a firm in monopolistic competition will be
a. high enough to provide profits to the firm. b. so low that many firms will drop out of the industry. c. equal to marginal cost. d. equal to average cost, including the opportunity cost of capital.
Which statement is true?
A. Most federal government revenue comes from the personal income tax. B. The federal personal income tax puts a greater burden on the poor and middle class. C. The United States is among the most highly taxed industrial countries. D. None of these statements are true.