Potential problems of high government borrowing.
Higher debt interest payments.
As borrowing increases, the government have to pay more interest rate payments on those who hold bonds.
Higher interest rates.
Why does increased government borrowing increase interest rates?
As borrowing increases, the government have to pay higher interest rate payments to those who hold bonds (lend government money).In some circumstances, higher borrowing can push up interest rates because markets are nervous about governments ability to repay. This means they have to pay even higher interest rate costs.
Why is crowding out bad?
This leads to lesser investment ultimately and crowds out the impact of the initial rise in the total investment spending. Usually the initial increase in government spending is funded using higher taxes or borrowing on part of the government.
How do rising interest rates cause crowding out?
In each case, the extent of crowding out is greater the more interest rate increases when government spending rises. When the economy is operating near capacity, government borrowing to finance an increase in the deficit causes interest rates to rise.
What are the effects of government borrowing on the economy?
Government borrowing may lead to crowding out effect; the possible tendency for government spending on goods and services to put upward pressure on interest rates, borrow at high rate of interest curtail their investment and consumption spending.