Question

If political influences, independent of any economic forces, lead to a larger government budget deficit, what will be the effect on the loanable funds market

Answer 1

The government budget deficit will cause the interest rate to rise, reducing both saving and investment.

Another effect will be the crowding-out of the loanable funds market to private investment. This is because a government in deficit will need to issue more debt in the market, taking up many funds that could have been otherwise invested in private companies.