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# Conventional wisdom has it that large deficits in the United

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Conventional wisdom has it that large deficits in the United [#permalink]

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27 Apr 2010, 04:07
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Conventional wisdom has it that large deficits in the United States budget cause interest rates to rise. Two main arguments are given for this claim. According to the first, as the deficit increases, the government will borrow more to make up for the ensuing shortage of funds. Consequently, it is argued, if both the total supply of credit (money available for borrowing) and the amount of credit sought by nongovernment borrowers remain relatively stable, as is often supposed, then the price of credit (the interest rate) will increase. That this is so is suggested by the basic economic principle that if supplies of a commodity (here, credit) remain fixed and demand for that commodity increases, its price will also increase. The second argument supposes that the government will tend to finance its deficits by increasing the money supply with insufficient regard for whether there is enough room for economic growth to enable such an increase to occur without causing inflation. It is then argued that financiers will expect the deficit to cause inflation and will raise interest rates, anticipating that because of inflation the money they lend will be worth less when paid back.

Unfortunately for the first argument, it is unreasonable to assume that nongovernment borrowing and the supply of credit will remain relatively stable. Nongovernment borrowing sometimes decreases. When it does, increased government borrowing will not necessarily push up the total demand for credit. Alternatively, when credit availability increases, for example through greater foreign lending to the United States, then interest rates need not rise, even if both private and government borrowing increase.

The second argument is also problematic.&nbsp; Financing the deficit by increasing the money supply should cause inflation only when there is not enough room for economic growth.&nbsp; Currently, there is no reason to expect deficits to cause inflation.&nbsp; However, since many financiers believe that deficits ordinarily create inflation, then admittedly they will be inclined to raise interest rates to offset mistakenly anticipated inflation.&nbsp; This effect, however, is due to ignorance, not to the deficit itself, and could be lessened by educating financiers on this issue.

Can someone expalin why A is not correct for question 1? Thanks!

Q1)It can be inferred from the passage that proponents of the second argument would most likely agree with which of the following statements?

A)The United States government does not usually care whether or not inflation increases.
B)People in the United States government generally know very little about economics.
C)The United States government is sometimes careless in formulating its economic policies.
D)The United States government sometimes relies too much on the easy availability of foreign credit.
E)The United States government increases the money supply whenever there is enough room for growth to support the increase.

Q2)The author uses the term "admittedly" (see highlighted text) in order to indicate that

A)the second argument has some truth to it, though not for the reasons usually supposed
B)the author has not been successful in attempting to point out inadequacies in the two arguments
C)the thesis that large deficits directly cause interest rates to rise has strong support after all
D)financiers should admit that they were wrong in thinking that large deficits will cause higher inflation rates
E)financiers generally do not think that the author's criticisms of the second argument are worthy of consideration

[Reveal] Spoiler:
C, A
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Re: GPREP - US budget [#permalink]

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27 Apr 2010, 07:02
Looks like it should be A, A to me. C isn’t supported in my humble opinion. In order for C to be true the US would have had to act irresponsibly according to the text. The text just gives hypotheticals. It says in no place that the US actually acted irresponsibly.
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Re: GPREP - US budget [#permalink]

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06 May 2010, 00:42
Why is A correct for Q2?

IMO C. Because to increase interest rates they would be admitting "the thesis that large deficits directly cause interest rates to rise has strong support after all"
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Re: GPREP - US budget [#permalink]

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19 May 2010, 11:17
Ans C, C

For 1 it is not A because it is too exteme.

For 2 i am opting C because
Currently, there is no reason to expect deficits to cause inflation.&nbsp; However, since many financiers believe that deficits ordinarily create inflation, then admittedly they will be inclined to raise interest rates to offset mistakenly anticipated inflation

then admittedly here sounds as if it says since deficits ordinarily cause inflation, and that causes intrest rates to go up therefore i.e. because that is a accepted norm that deficits inc inflation inc, intrests rates inc the financers will follow the norm

BUT A says that the second argument has some truth i.e. the norm to it but not for reasons usually supposed which means that the financers mistakenly anticipated inflation is the fault.

This dosent summarize why admittedly is used, instead it summarizes the 3rd passage.
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Re: GPREP - US budget [#permalink]

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19 May 2010, 14:10
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Re: GPREP - US budget [#permalink]

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26 Jun 2010, 16:57
How can C be the OA for q1?
As propenents will weaken their own arguement if they most likely agree with C.
As per q1, we need to weaken the arguement by evaluating the details as mentioned in para 3 & para 1. As para 3 says:
Financing the deficit by increasing the money supply should cause inflation only when there is not enough room for economic growth

It seems that E directly contradicts the stated premise and thus proponents will likely agree with option E.

Please correct my reasoning if wrong.
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Re: GPREP - US budget [#permalink]

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01 Aug 2010, 18:53
C,A
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Re: GPREP - US budget [#permalink]

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02 Nov 2010, 17:00
Agree with C,A

increasing the money supply with insufficient regard for whether there is enough room for economic growth to enable such an increase to occur without causing inflation.

This point is highlighted to tell there is something more than "not ..care abt inflation"
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Re: GPREP - US budget [#permalink]

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29 Jun 2012, 00:36
For 2nd question why option D is wrong... Plz explain
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Re: Conventional wisdom has it that large deficits in the United [#permalink]

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02 Jan 2013, 04:48
Can you please explain what is the difference between option A & C from q1?

Both show that they are careless ...
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Re: Conventional wisdom has it that large deficits in the United [#permalink]

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13 Dec 2013, 08:09
I marked E for the 1st question.
Can anybody explain what is wrong with E.

I marked D for the 2nd question.
Can anybody explain what is wrong with D. Why is A the correct answer?
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Re: Conventional wisdom has it that large deficits in the United [#permalink]

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07 Jan 2014, 09:34
For me it's A, A. Choice C for Q1 seems out of scope to me, we are talking only about policy to reduce deficit, economic policies are too general, it might include policies regarding unemployment, for example, then we have no evidence that the government is careless. A is not the perfect answer, but it makes way more sense than C, IMO
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Re: Conventional wisdom has it that large deficits in the United [#permalink]

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08 Jan 2014, 02:46
I thought it is E and A. OE please??
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Re: Conventional wisdom has it that large deficits in the United [#permalink]

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10 Jan 2014, 10:09
Answers are E and A too.

And C does not make sense: proponents of the second argument would most likely agree with of the following statement: The United States government is sometimes careless in formulating its economic policies.

The proponent will agree that the government is carless about economic policies????

They only admit that the educational skills of the government is not optimal (or efficient), but this does not necessary involve an economic policy!

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Re: Conventional wisdom has it that large deficits in the United [#permalink]

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27 Sep 2016, 11:48
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Re: Conventional wisdom has it that large deficits in the United   [#permalink] 27 Sep 2016, 11:48
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