Which statement best describes crowding out in fiscal policy?

Which statement best describes crowding out in fiscal policy?

• A. A situation where government saving funds crowd out private lenders.
• B. A policy to increase exports.
• C. A policy where government debt crowds out private investment.
• D. Higher government spending raises interest rates, which crowds out private investment.

Answer: (D)

Crowding out happens when the government borrows more to finance spending, increasing demand for loanable funds and pushing up interest rates. Higher interest rates raise the cost of financing investment for firms, so private investment falls. This is exactly what the statement captures: higher government spending raises interest rates, which crowds out private investment. The other options don’t describe the mechanism as clearly: one mentions government saving funds rather than the borrowing that drives the rate rise; another is about exports and isn’t about crowding out; the last notes debt but doesn't explain the interest-rate channel that reduces private investment.

Crowding out happens when the government borrows more to finance spending, increasing demand for loanable funds and pushing up interest rates. Higher interest rates raise the cost of financing investment for firms, so private investment falls. This is exactly what the statement captures: higher government spending raises interest rates, which crowds out private investment. The other options don’t describe the mechanism as clearly: one mentions government saving funds rather than the borrowing that drives the rate rise; another is about exports and isn’t about crowding out; the last notes debt but doesn't explain the interest-rate channel that reduces private investment.