Conventional wisdom has it that large deficits in the United States budget cause interest rates to rise. Two main arguments...
GMAT Reading Comprehension : (RC) Questions
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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. Financing the deficit by increasing the money supply should cause inflation only when there is not enough room for economic growth. Currently, there is no reason to expect deficits to cause inflation. 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. This effect, however, is due to ignorance, not to the deficit itself, and could be lessened by educating financiers on this issue.
Ques. 1/4
Which of the following best summarizes the central idea of the passage?
Solution
1. Passage Analysis:
Progressive Passage Analysis
| Text from Passage | Analysis |
|---|---|
| Conventional wisdom has it that large deficits in the United States budget cause interest rates to rise. | What it says: Most people believe that when the government spends much more than it takes in, it makes borrowing costs go up. What it does: Introduces the main topic and sets up a widely-held belief that the author will examine. Source/Type: General belief/conventional wisdom (not necessarily the author's view) Connection to Previous Sentences: This is our starting point - no previous information to connect to. Visualization: If government deficit = $500 billion more spending than revenue → borrowing costs for everyone increase Reading Strategy Insight: Note that this is "conventional wisdom" - the author is setting up someone else's view to examine, not stating their own position yet. What We Know So Far: There's a common belief about deficits and interest rates What We Don't Know Yet: Whether this belief is correct, what evidence supports it |
| Two main arguments are given for this claim. | What it says: There are two reasons people give to support this belief. What it does: Previews the structure of what's coming next - signals organization. Source/Type: Author's organizational statement Connection to Previous Sentences: This directly builds on sentence 1 by promising to explain WHY people believe deficits cause higher interest rates. Visualization: Belief: Deficits → Higher Interest Rates Support: Argument 1 + Argument 2 Reading Strategy Insight: This is a helpful roadmap sentence - the author is telling us exactly what to expect next. Feel confident here. |
| According to the first, as the deficit increases, the government will borrow more to make up for the ensuing shortage of funds. | What it says: First argument: When government spends more than it has, it needs to borrow money to cover the gap. What it does: Begins explaining the first of the two promised arguments. Source/Type: Explanation of others' reasoning (not author's view) Connection to Previous Sentences: This delivers on the promise from sentence 2 - giving us the first of two arguments for why people believe deficits raise interest rates. Visualization: Government Revenue: $4 trillion Government Spending: $4.5 trillion Deficit: $500 billion → Government must borrow $500 billion Reading Strategy Insight: This is straightforward logic - when you spend more than you earn, you need to borrow. Nothing complex yet. |
| 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. | What it says: If the total amount of money available to borrow stays the same, and private borrowers want the same amount as before, but government now wants more, then the cost of borrowing will go up. What it does: Continues building the first argument with the logical next step. Source/Type: Continuation of others' reasoning Connection to Previous Sentences: This builds directly on the previous sentence - we learned government needs to borrow more, now we see what happens when government competes for limited funds. Visualization: Available Credit: $2 trillion (stays same) Private Borrowing: $1.5 trillion (stays same) Government Used to Borrow: $300 billion Government Now Needs: $800 billion Result: More competition → Higher interest rates Reading Strategy Insight: The parenthetical explanations like "(money available for borrowing)" are the author helping you - they're defining terms, not adding complexity. |
| 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. | What it says: This follows a simple economic rule: when there's the same amount of something available but more people want it, the price goes up. Here, credit is like any other product. What it does: Restates and simplifies the previous complex sentence using basic supply and demand. Source/Type: Economic principle (supporting the argument) Connection to Previous Sentences: This is NOT new information! It's taking the complex previous sentence and restating it as simple supply and demand. The author is helping us understand. Visualization: Like concert tickets: Available tickets: 20,000 (fixed supply) People who want tickets: increases from 15,000 to 25,000 Result: Ticket prices go up Same with credit/borrowing Reading Strategy Insight: Feel relieved here - this is simplification, not new complexity. The author just explained a complex borrowing situation using simple supply and demand that everyone understands. |
| 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. | What it says: The second argument says government might print more money to pay for deficits, without caring whether this will cause prices to rise throughout the economy. What it does: Introduces the second of the two promised arguments. Source/Type: Explanation of others' reasoning (second argument) Connection to Previous Sentences: This delivers the second argument promised in sentence 2. We've completed the first argument (government borrowing competes for limited credit), now we get a different approach (government printing money). Visualization: Option 1 (from first argument): Government borrows money from existing pool Option 2 (this argument): Government prints new money Risk: Printing money → Too much money in economy → Inflation Reading Strategy Insight: This is still explaining what "conventional wisdom" believes, not what the author thinks. We're getting a second route to the same conclusion (higher interest rates). |
| 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. | What it says: Lenders will expect inflation from deficits, so they'll charge higher interest rates because they expect the money paid back to them will be worth less due to inflation. What it does: Completes the second argument by explaining how expected inflation leads to higher interest rates. Source/Type: Continuation of the second argument Connection to Previous Sentences: This completes the logic chain for argument 2: deficit → government prints money → inflation → lenders charge more to compensate. Visualization: Lender thinks: "If I loan $100 today, inflation will make that $100 worth only $95 when paid back" Solution: Charge higher interest rate to compensate for loss If normal rate = 5%, might charge 7% to offset inflation Reading Strategy Insight: Now we have both complete arguments for why conventional wisdom says deficits raise interest rates. The setup phase is complete. What We Know So Far: Two complete arguments supporting conventional wisdom What We Don't Know Yet: What the author thinks about these arguments |
| Unfortunately for the first argument, it is unreasonable to assume that nongovernment borrowing and the supply of credit will remain relatively stable. | What it says: The first argument has a problem: it's wrong to assume that private borrowing and available credit stay the same. What it does: MAJOR SHIFT: Author stops explaining others' views and starts giving their own critique. Source/Type: Author's opinion/critique Connection to Previous Sentences: This directly attacks the key assumption from the first argument (sentences 3-4) that credit supply and private borrowing stay stable. Visualization: First argument assumed: Available Credit: $2 trillion (STAYS SAME) Private Borrowing: $1.5 trillion (STAYS SAME) Author says: These don't actually stay the same in real life Reading Strategy Insight: The word "Unfortunately" signals we're switching sides. The author is about to tear down the arguments they just explained. |
| Nongovernment borrowing sometimes decreases. | What it says: Private companies and individuals sometimes borrow less money. What it does: Begins providing specific evidence against the first argument's assumption. Source/Type: Author's factual observation Connection to Previous Sentences: This supports the previous sentence's claim by showing one way the first argument's assumption fails (private borrowing can decrease, not stay stable). Visualization: Year 1: Private borrowing = $1.5 trillion Year 2: Private borrowing = $1.2 trillion (decreased by $300 billion) Reading Strategy Insight: Simple, concrete example of why the first argument's assumption is wrong. |
| When it does, increased government borrowing will not necessarily push up the total demand for credit. | What it says: When private borrowing goes down, government borrowing more won't necessarily increase the total amount of borrowing. What it does: Explains the implication of the previous sentence - shows how this breaks the first argument. Source/Type: Author's logical conclusion Connection to Previous Sentences: This completes the thought from the previous sentence and shows exactly how it undermines the first argument. Visualization: Private borrowing decreases: $300 billion less Government borrowing increases: $300 billion more Net effect: Total borrowing unchanged Result: No pressure on interest rates Reading Strategy Insight: This is the "aha" moment - the author shows how the first argument falls apart with a concrete scenario. |
| 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. | What it says: On the flip side, when more money becomes available to borrow (like from other countries), interest rates don't have to go up even if both government and private borrowing increase. What it does: Provides a second scenario that undermines the first argument. Source/Type: Author's reasoning with example Connection to Previous Sentences: This gives an alternative scenario to the previous one - another way the first argument's assumptions can fail. Visualization: Credit supply increases: $500 billion more available (foreign lending) Private borrowing increases: $200 billion more Government borrowing increases: $200 billion more Net effect: Still $100 billion surplus → No rate pressure Reading Strategy Insight: The author is being thorough - showing the first argument fails whether private borrowing goes up OR down, as long as assumptions about stability are wrong. |
| The second argument is also problematic. | What it says: The second argument also has problems. What it does: Signals transition from critiquing argument 1 to critiquing argument 2. Source/Type: Author's opinion Connection to Previous Sentences: Parallel structure to "Unfortunately for the first argument" - author is systematically dismantling both arguments for conventional wisdom. Visualization: ✗ Argument 1: Debunked ✗ Argument 2: About to be debunked Reading Strategy Insight: Expect the same pattern as with the first argument - the author will identify flawed assumptions and provide counterexamples. |
| Financing the deficit by increasing the money supply should cause inflation only when there is not enough room for economic growth. | What it says: Printing money to pay for deficits should only cause inflation when the economy can't grow enough to absorb the new money. What it does: Identifies the key condition that the second argument ignores. Source/Type: Author's economic reasoning Connection to Previous Sentences: This challenges the second argument's assumption that printing money automatically causes inflation by showing it depends on economic conditions. Visualization: Growing economy: Can absorb new money → No inflation Stagnant economy: Cannot absorb new money → Inflation Key: Economic growth capacity matters Reading Strategy Insight: The author is showing the second argument is too simplistic - it ignores whether the economy has room to grow. |
| Currently, there is no reason to expect deficits to cause inflation. | What it says: Right now, we shouldn't expect deficits to lead to inflation. What it does: Applies the previous sentence's principle to current conditions. Source/Type: Author's assessment of current economic conditions Connection to Previous Sentences: This follows logically from the previous sentence - if inflation only happens without room for growth, and currently there IS room for growth, then no inflation expected. Visualization: Current economy: Has room for growth Therefore: Printing money for deficits → No inflation expected Therefore: Second argument doesn't apply now Reading Strategy Insight: Direct contradiction of conventional wisdom - deficits should NOT cause inflation currently. |
| 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. | What it says: But because many lenders wrongly believe deficits always cause inflation, they will raise interest rates to protect against inflation that won't actually happen. What it does: Acknowledges that the conventional wisdom might still affect interest rates, even though it's wrong. Source/Type: Author's concession about practical effects Connection to Previous Sentences: This creates nuance - even though the author proved the arguments wrong, they acknowledge those wrong beliefs still have real effects. Visualization: Reality: Deficits won't cause inflation Lenders' belief: Deficits will cause inflation Result: Lenders raise rates anyway (based on wrong belief) Reading Strategy Insight: Important sophistication - the author admits conventional wisdom can be wrong but still influential. |
| This effect, however, is due to ignorance, not to the deficit itself, and could be lessened by educating financiers on this issue. | What it says: But this happens because lenders don't understand economics correctly, not because deficits actually cause problems. Teaching them better economics could solve this. What it does: Concludes the argument by reinforcing that conventional wisdom is wrong and offering a solution. Source/Type: Author's final conclusion and recommendation Connection to Previous Sentences: This completes the author's systematic takedown of conventional wisdom and offers a path forward. Visualization: Problem: Lenders' incorrect beliefs → Higher interest rates Root cause: Lack of economic understanding Solution: Education about real economics Result: More accurate rate-setting Reading Strategy Insight: The author ends constructively - not just criticizing conventional wisdom but proposing how to fix the problem. Final Summary: The passage systematically debunks conventional wisdom about deficits and interest rates, showing both main arguments rely on false assumptions, but acknowledges these false beliefs still affect markets until people learn better economics. |
2. Passage Summary:
Author's Purpose:
To challenge and disprove the widely-held belief that government budget deficits cause interest rates to rise by examining and finding flaws in the two main arguments supporting this belief.
Summary of Passage Structure:
In this passage, the author builds their argument by first presenting opposing views and then systematically tearing them down:
- First, the author introduces the common belief that budget deficits cause higher interest rates and explains that this belief is supported by two main arguments.
- Next, the author carefully explains both arguments - one about government borrowing competing for limited credit, and another about government printing money leading to inflation fears among lenders.
- Then, the author attacks each argument by pointing out their false assumptions - showing that credit supply and private borrowing don't actually stay stable, and that deficits don't necessarily cause inflation when the economy has room to grow.
- Finally, the author acknowledges that even though these beliefs are wrong, they still affect interest rates because lenders act on incorrect information, but suggests this problem could be solved through better education.
Main Point:
The common belief that budget deficits cause interest rates to rise is based on flawed economic reasoning, and while these mistaken beliefs may still influence markets, the real problem is that financial professionals need better education about how economics actually works.
Question Analysis:
This question asks us to identify which choice best summarizes the central idea of the entire passage. We need to find the answer that captures the author's main purpose and overall argument, not just a supporting detail or side point.
Connecting to Our Passage Analysis:
From our passage analysis, we can see the author's clear structure:
- The author introduces conventional wisdom that deficits cause higher interest rates
- The author explains two main arguments supporting this belief
- The author systematically debunks both arguments by showing their flawed assumptions
- The author concludes that while these wrong beliefs may still affect markets, the real issue is financial professionals acting on incorrect economic understanding
The passage analysis shows this is fundamentally a critique - the author's purpose is "to challenge and disprove the widely-held belief that government budget deficits cause interest rates to rise by examining and finding flaws in the two main arguments supporting this belief."
Prethinking:
The central idea should capture that the author is challenging conventional wisdom about deficits and interest rates by showing the supporting arguments are flawed. The correct answer should reflect this critical stance toward the widely-held belief rather than focusing on specific details like education solutions or particular economic scenarios.
Answer Choices Explained
A
A decrease in nongovernment borrowing or an increase in the availability of credit can eliminate or lessen the ill effects of increased borrowing by the government.
Why It's Wrong:
- This focuses only on specific scenarios that could counteract the effects, not on whether the underlying belief is correct
- The author's main point isn't about finding solutions to offset deficit effects, but about showing the belief itself is wrong
- This misses the author's systematic critique of both arguments supporting conventional wisdom
Common Student Mistakes:
- Did you focus on the author's examples of when interest rates might not rise instead of the overall argument structure? → Remember that specific scenarios are used to support the broader critique, not as the main point
- Are you confusing supporting evidence with the central thesis? → The central idea should capture the author's overall purpose, not just one piece of evidence
B
Educating financiers about the true relationship between large federal deficits and high interest rates will make financiers less prone to raise interest rates in response to deficits.
Why It's Wrong:
- This captures only the solution proposed at the very end, not the central argument of the passage
- The education point is mentioned in just the final sentence as a potential remedy
- This ignores the author's main work of systematically debunking both arguments for conventional wisdom
Common Student Mistakes:
- Did you focus on the conclusion instead of the main argument? → While education is mentioned as a solution, the bulk of the passage is devoted to proving the conventional wisdom wrong
- Are you treating a minor recommendation as the central idea? → The central idea should reflect what the author spends most of their time arguing, not a brief suggestion at the end
C
There is little support for the widely held belief that large federal deficits will create higher interest rates, as the main arguments given to defend this claim are flawed.
Why It's Right:
- Accurately captures that conventional wisdom about deficits and interest rates is "widely held" but lacks support
- Reflects the author's systematic approach of examining and finding problems with "the main arguments"
- Matches the overall structure where the author spends most of the passage showing both supporting arguments are "flawed"
Key Evidence: "Unfortunately for the first argument, it is unreasonable to assume that nongovernment borrowing and the supply of credit will remain relatively stable" and "The second argument is also problematic" - showing systematic debunking of both main arguments.
D
When the government borrows money, demand for credit increases, typically creating higher interest rates unless special conditions such as decreased consumer spending arise.
Why It's Wrong:
- This actually supports conventional wisdom rather than challenging it
- The author argues against this view by showing that increased government borrowing doesn't necessarily create higher rates
- This contradicts the author's main thesis that the arguments for conventional wisdom are flawed
Common Student Mistakes:
- Did you confuse the conventional wisdom being explained with the author's own position? → Remember the author explains others' views first, then argues against them
- Are you focusing on the first part of the passage instead of the author's actual argument? → The author's real position comes after "Unfortunately for the first argument"
E
Given that most financiers believe in a cause-and-effect relationship between large deficits and high interest rates, it should be expected that financiers will raise interest rates.
Why It's Wrong:
- This treats conventional wisdom as correct and inevitable rather than challenging it
- While the author acknowledges financiers currently believe this relationship exists, the main point is that they're wrong to believe it
- This misses the author's critique that such beliefs are based on "ignorance, not to the deficit itself"
Common Student Mistakes:
- Did you focus on what financiers currently do rather than what the author thinks they should do? → The author acknowledges current behavior but argues it's based on flawed understanding
- Are you missing the author's critical stance toward conventional wisdom? → The passage is fundamentally a critique, not an acceptance of current beliefs
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