ECONOMICS (CBSE/UGC NET)

Detailed explanation-1: -Increased interest rates affect private investment decisions. A high magnitude of the crowding out effect may even lead to lesser income in the economy. With higher interest rates, the cost for funds to be invested increases and affects their accessibility to debt financing mechanisms.

Detailed explanation-2: -When governments borrow, they compete with everybody else in the economy who wants to borrow the limited amount of savings available. As a result of this competition, the real interest rate increases and private investment decreases. This is phenomenon is called crowding out.

Detailed explanation-3: -It depends on the support that RBI extends to the government’s borrowing programme. If RBI buys some of the bonds issued by the government, the economy will be benefitted as interest rates will not rise. But if the economy does not grow, the excess money sloshing around in the system can cause inflation.

Detailed explanation-4: -The crowding out effect is a theory that suggests that increased government spending ultimately decreases private sector spending. This is due to the higher cost of loans and reduced income that can result when the government increases taxes or borrows by selling Treasuries to obtain more revenue for its own spending.

Detailed explanation-5: -Crowding in is more likely to occur in a recession when the private sector has unused savings. Crowding in may prove to be a temporary effect. Crowding out will occur when the economy is close to full capacity and limited spare savings.