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Do Deficits Crowd Out Private Borrowing? Evidence From Flow Of Funds Accounts

  • John J. Heim


    (Department of Economics, Rensselaer Polytechnic Institute, Troy, NY 12180-3590, USA)

Heim (2010) found a strong negative relationship between deficits and private consumer and investment spending, controlling for other key variables. The study did not directly test the mechanism by which deficits were related to consumer and investment spending, only the result. Crowd out theory hypothesizes the mechanism is consumer and investment credit shortages induced by borrowing -financed government deficits. This paper examines that mechanism directly, testing to see if private borrowing is related to deficits. It uses Federal Reserve Flow of Funds accounts data on borrowing. The paper finds a strong negative relationship between deficits and private borrowing, with deficits reducing private borrowing dollar for dollar. The borrowing estimates are very similar to the Heim (2010) estimates of deficit effects on consumer and investment spending, suggesting crowd out effects work through the borrowing channel and fully offset the stimulus effects of deficits. Flow of Funds data on savings and investment, for accounting reasons, confirm the econometric findings of full crowd out, provided savings remain constant.

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Paper provided by Rensselaer Polytechnic Institute, Department of Economics in its series Rensselaer Working Papers in Economics with number 1102.

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Date of creation: Jun 2011
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Handle: RePEc:rpi:rpiwpe:1102
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  1. John J. Heim, 2010. "Do Government Deficits Crowd Out Consumer And Investment Spending?," Rensselaer Working Papers in Economics 1005, Rensselaer Polytechnic Institute, Department of Economics.
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