Question

Suppose government expenditures on goods and services increase, transfers are unchanged, and taxes rise by less than the increase in expenditures. These changes in the government’s budget cause

Group of answer choices

the equilibrium interest rate to rise and the equilibrium quantity of loanable funds to fall.

both the equilibrium interest rate and the equilibrium quantity of loanable funds to rise.

both the equilibrium interest rate and the equilibrium quantity of loanable funds to fall.

the equilibrium interest rate to fall and the equilibrium quantity of loanable funds to rise.

Answer 1

Here keeping other transfers unchanged, when the govt increases its expenditures on goods and services more than the increasing rate of taxes, the govt faces a budget deficit. Here revenue of the govt is less than the expenditure, thus to finance expenditure the govt has to borrow money from the market , thus there will be increasing demand for money in the market, the equilibrium quantity of loanable fund will rise. As the economy is facing a budget deficit, govt will follow expansionary monetary policy leads to have inflationary effect in the market thus equilibrium interest rate will be more. Here the correct choice is- both the equilibrium interest rate and the equilibrium quantity of loanable funds to rise.