Explain the theory that crowding out can weaken or nullify the effect of expansionary fiscal policy financed by federal government borrowing.
Suppose the federal government has no national debt and spends $100 billion, while raising only$50 billion in taxes.
a. What amount of government bonds will the U.S. Treasury issue to finance the deficit?
b. Next year, assume tax revenues remain at $50 billion. If the government pays a 10 percent rate of interest, add the debt-servicing interest payment to the government’s $100 billion expenditure for goods and services the second year.
c. For the second year, compute the deficit, the amount of new debt issued, and the new national debt.