Question

An increase in the budget deficit would cause a:__________-a. surplus of loanable funds at the original interest rate, which would lead to rising interest rates.b.surplus of loanable funds at the original interest rate, which would lead to falling interest rates.c. shortage of loanable funds at the original interest rate, which would lead to rising interest rates.d. shortage of loanable funds at the original interest rate, which would lead to falling interest rates.

Answer 1

Answer:

C) shortage of loanable funds at the original interest rate, which would lead to rising interest rates.

Explanation:

An increase in government borrowing will result in higher interest rates.

Any entity, whether it is the government or an individual, will suffer form the law of supply and demand. For example, if your expenses have increased a lot and you need to borrow money, you will first go to the places that lend you money at a low interest rate. But if you need even more money, you will have to go other financial institutions that charge a higher interest rate.

The same happens to a government, at first they will search investors willing to lend them money at low interest rates, but eventually they will need to increase the interest rate in order to attract capital from investors that require higher returns.