AP Macro Unit 5 Review- Topic 5.5: Crowding Out

why does private investment decrease when gov. increases deficit spending?

private sector spending is interest sensitive, and increase in deficit spending---> increase in real interest rate, so private investment goes down

what happens to public investment if gov. increases deficit spending?

public investment goes up

crowding out

when gov. borrowing/deficit spending leads to a decrease on interest-sensitive private sector spending

long-run impacts of higher real interest rates?

less economic growth because investment falls. less capital stock.

what happens to real interest rate, private investment, and demand for loans when the gov. increases deficit spending?

demand for loanable funds increases (D shifts right), real interest rate increases, private investment decreases (quantity of private loans goes down)