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Suppose the government borrows $20 billion more nextyear than this year.(a) Use a Supply-Demand diagram to analyzethis policy. Does the interest rate rise or fall?
(b) What happens to investment? To private saving?To public saving? To national saving? Compare the size of thechanges to the $20 billion of extra government borrowing.
(c) How does the elasticity of supply ofloanable funds affect the size of these changes?
(d) How does the elasticity of demand for loanable funds affect the size of these changes?
(e) Suppose households believe that greatergovernment borrowing today implies higher taxes to pay off thegovernment debt in the future. What does this belief do toprivate saving and the supply of loanable funds today? Does itincrease or decrease the effects you discussed in part (a) and(b)?
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