When the Government runs a budget deficit, it must sell Treasury bonds to finance that deficit....

When the Government runs a budget deficit, it must sell Treasury bonds to finance that

deficit. To analyze the impact of increased government spending, assume the Treasury will

be selling new 1-year Treasury bills. Use a supply and demand for bonds model to

determine what is likely to happen to interest rates on 1-year bills. (Explain your graph)

Expert Solution

Budget deficit is a situation when the budgeted expenses are more than the budgeted revenues. Governments across the world often face budget deficit and they follow various measures to raise funds to cover the expenses. One such measure is public borrowing where government raises funds from the public internally in the country. It can raise funds through issue of bonds. Since governments have a good credibility against default, they also don't face the case of paying exorbitant interests on their borrowings.

Here, assume that the treasury will be selling new 1 year Treasury billls. Below figure will assist in understanding the impact.

Here loanable funds is the amount of funds demanded and supplied as loan for a particular rate of interest. When the government sells treasury bills, the demand for loanable funds in the market increases. This will move the demand curve to the right from D0 to D1. The supply curve will be unaffected as loanable funds for the particular rate of interest is at optimum. Any increase in supply needs a raise in the rate of interest. Hence the increase in demand for loanable funds will push the interest rate from r0 to r1. Thus the market rate of interest will increase.

Such a move will cause a crowding out effect in the market where private borrowers will find it difficult to borrow at higher interest rates.

Rahul Sunny answered 2 years ago

When the government runs a budget deficit,

When the government runs a budget deficit,a. national saving is higher than it would be if the budget were balanced.b. investment is lower than it would be if the budget were balanced.c. interest rates are lower than they would be if the budget were balanced.d. All of the above are correct.e. None of the above is correct.

1. If the government sells U.S. Treasury bonds to finance its budget deficit, one would expect:...

1. If the government sells U.S. Treasury bonds to finance its budget deficit, one would expect: A. interest rates to rise. B. domestic investment to rise. C. tax rates to fall. D. inflation to rise. E. interest rates to fall. Suppose the real interest rate in the economy is 3% and the nominal interest rate is 6%, what is the current inflation rate? a. 18% b. 9% c. 2% d. 3% e. 2.5% Which of the following actions of the...

14. When the federal government runs a budget surplus rather than a deficit, how will the...

14. When the federal government runs a budget surplus rather than a deficit, how will the public’s bond holdings and the supply of money be affected?

If the U.S. government runs a budget deficit that will reduce interest rates? True False

1. The French Government runs a budget deficit and finances it by borrowing $20 billion. Use...

1. The French Government runs a budget deficit and finances it by borrowing $20 billion. Use the loanable fund model to show the decline in public savings and decline in investments (crowding out). Answer:

Effects of a government budget deficit

3. Effects of a government budget deficitConsider a hypothetical open economy. The following table presents data on the relationship between various real interest rates and national saving, domestic investment, and net capital outflow in this economy, where the currency is the U.S. dollar. Assume that the economy is currently experiencing a balanced government budget.Screen Shot 2020-10-09 at 3.24.05 PM.pngGiven the information in the preceding table, use the blue points (circle symbol) to plot the demand for loanable funds. Next, use...

If a government has a budget deficit, it must Group of answer choices: decrease taxes. decrease...

If a government has a budget deficit, it must Group of answer choices: decrease taxes. decrease its expenditures. increase taxes. borrow in the loanable funds market.

If the government persistently runs a budget deficit, government debt will rise. If this debt rises faster than GDP, then it will account for a growing proportion of GDP.

If the government persistently runs a budget deficit, government debt will rise. If this debt rises faster than GDP, then it will account for a growing proportion of GDP. There is then likely to be an increasing problem of ‘servicing’ this debt, i.e. paying the interest on it. What effects will government investment expenditure have on general government deficits in the short run and in the long run

Suppose that the federal government begins to run a large budget deficit at a time when...

Suppose that the federal government begins to run a large budget deficit at a time when many productive resources are idle factories are operating far below capacity in most industries, and there are surplus of labour in almost every area of the economy. How might the existence of all these idle resources prevent even a very large increase in government borrowing from leading to an increase in interest rates? If you found part (a) hard to answer, ask yourself whether...

1. When the government decrease the budget deficit, what happens to IS, LM and Aggregate Demand?...

1. When the government decrease the budget deficit, what happens to IS, LM and Aggregate Demand? 2. When the government increase the budget deficit, what happens to IS, LM and Aggregate Demand? 3. When Central Bank purchases bonds, what happens to IS, LM, and Aggregate Demand? Could someone help answering these questions?

Question