Question : The crowding-out effect refers to:
Option 1: A decrease in private investment due to an increase in government expenditure
Option 2: An increase in private investment due to an increase in government expenditure
Option 3: A decrease in government expenditure due to an increase in private investment
Option 4: An increase in government expenditure due to a decrease in private investment
Correct Answer:
A decrease in private investment due to an increase in government expenditure
Solution : The correct answer is (a) A decrease in private investment due to an increase in government expenditure.
The crowding-out effect refers to the situation where increased government spending in an economy leads to a decrease in private investment. When the government increases its expenditure, it often needs to finance it through borrowing or increasing taxes. This increased demand for funds can drive up interest rates, making it more expensive for private businesses to borrow money for investment purposes. As a result, private investment may decrease, leading to a crowding-out effect.
