Crowding Out or Crowding In

Econintersect:  A frequently quoted hypothesis that is presented in basic macroeconomics courses is the principle that the issuance of government debt “crowds out” private investment.  The idea is that the government “uses” money that would otherwise be invested by the private sector.

See this (full sized) and other cartoons at The Cagle Post.

The following slides present an overview of the theory of crowding out.

Crowding_Out_Effect

The following slides give a more comprehensive review of literature about crowding out.

crowding ppt Crowding In or Crowding Out Deficit

Econintersect comments:

• The direct effect of crowding out appears to depend on accepting the discredited validity of the loanable funds theory of banking.

• The indirect effect of crowding out appears to depend on government deficits producing higher interest rates.

• The concept of crowding out appears to ignore the creation of additional money through the mechanism of federal deficits.

• Explanations of how crowding out operates depend on the use of IS-LM logic.  IS-LM logic is not  supported by empirical evidence and has been redupiated by its creator, Nobel lauriate John R. Hicks (Hicks, 1980 and Syll, 2013).

For a discussion of how crowding out was treated on a recent macroeconomics course exam, see Menzie Chinn, GEI Analysis.

For a discussion of how banks lend money, see Rogue Economist Rants.

John Lounsbury

Sources:

• IS-LM: An Explanation (John Hicks, Journal of Post Keynsian Economics, Vol. 3 No.2, Winter 1980-1981)

• IS-LM is bad economics no matter what Krugman says (Lars Syll, Real World Economics Review Blog, 20 March 2013)

• Assessing the Crowding Out Hypothesis: An Undergraduate Textbook Analysis (Menzie Chinn, GEI Analysis, 20 November 2013)

• Banks don’t lend reserves, it’s bank loans that create deposits (Rogue Economist Rants, 25 August 2011)

Additonal Reading about IS-LM and Crowding Out:

• Krugman Doesn’t Understand IS-LM, Part 1 (Steve Keen, GEI Analysis, 15 March 2013)

• Krugman Doesn’t Understand IS-LM, Part 2 (Steve Keen, GEI Analysis, 16 March 2013)

• Economists: State-Owned Banks “Hamper Fiscal Discipline” (GEI News, 28 October 2013)

• ‘Crowding Out’ is Coming to Get You (John Lounsbury, GEI Opinion, 15 October 2013)

• The Picture That Quashes 50 Years of Economic Malarky (Dirk Ehnts, GEI Opinion, 17 July 2012)