What is a possible negative effect of a big increase in government debt?

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Question restatement: What is a possible negative effect of a big increase in government debt?

Option a: 'Faster economic growth'.
- This is generally not viewed as a negative effect. In some contexts, higher debt can coincide with or finance growth, but the statement describes a positive outcome, not a negative effect, and thus is not a plausible negative consequence.

Option b: 'higher future taxes or less government spending'.
- This captures a classic potential downside: to stabilize debt levels, governments may raise taxes in the future or cut spending, which can weigh on households and reduce current demand. It reflects the intertemporal burden of debt and the crowding-out/in effects on fiscal policy options. This option correctly describes a plausible negative consequence.

Option c: 'Lower interest rates'.
- In many cases, large debt can put upward pressure on interest rates because borrowing demands increase, not push rates down. Additionally, if investors perceive higher risk or longer-term solvency concerns, they may demand higher yields. Therefore, lower interest rates are not a typical negative effect of big debt; this option misstates the likely direction of impact.

Option d: 'More investments'.
- Increased debt does not inherently lead to more investments; in fact, high debt can crowd out private investment if government borrowing raises interest rates or diverts resources. While debt-financed investment projects can occur, the statement claims a universal positive outcome, which contradicts the typical negative and uncertainty associated with high debt levels. This makes the option incorrect as a general negative effect.

Summary of reasoning: A big increase in government debt can constrain future fiscal choices, possibly leading to higher taxes or reduced government spending to stabilize debt levels, while it does not reliably produce lower interest rates or necessarily increase private investment. The most plausible negative consequence among the options is option b, whereas options a, c, and d describe effects that are not typically negative or are inconsistent with standard fiscal theory.

252 EC301 Principles of Macroeconomics

What is a possible negative effect of a big increase in government debt?

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