Knowing and Making

Brad DeLong has solved the financial crisis (co-opting the help of Keynes, Bernanke, Trichet, Brown, King, Geithner and Summers). I must admit the conclusion he came to was not the one I expected. Note particularly that: he disagrees with me on crowding-out - he thinks there is still net business investment to be crowded regardless, he believes that business investment will not be a substantial source of demand in the near term That's a bit disappointing, if he is right. I was hoping for a more positive outcome but I suppose that's why it's called a depression.

I read Paul Krugman's latest NYTimes column (via Economist's View ) and it got me wondering. Why does crowding out not happen? In other words, why does an increase in long-term public debt not result in a reduction in long-term business investment? There's a school of thought which argues that there is money which would otherwise go into productive private investment, but instead is diverted into lending to government (which is likely to lead to less productive spending). Due to less money being available, this pushes up the price of borrowing for businesses and means some otherwise-viable investments will not happen. Krugman gives part of the answer - that a (successful) stimulus encourages economic growth which in turn makes business investment more, not less, likely. But there's another reason. This is that business investment is not  happening anyway. There is not a large pool of money going into long-term business investment now. Why? Because investors weight shor...