You may have heard about the increasing government debt. However, did you know that the effect is not only burdening the state budget, but can also affect the investment climate as a whole.

This phenomenon is known as crowding out, which is when the government is in too much debt, causing interest rates to soar, and ultimately the private sector has difficulty obtaining funding.

For those of you who are active in the investment world, including in crypto assets, this is important to note. Here is a complete review.

What is Crowding Out?

In the context of macroeconomics, crowding out refers to a condition when increased government spending, especially that financed through debt, actually reduces the capacity of the private sector to invest.

This phenomenon reflects the tug-of-war between the need for public financing and access to financing by the non-government sector.

Crowding out generally occurs when the government increases state spending and requires additional funds.

To meet these needs, the government can take two paths, namely increasing taxes or issuing debt securities such as Government Securities (SUN).

Both of these strategies have an impact on overall economic activity, especially for the private sector.

The issuance of large amounts of debt securities will drive up the yield on government bonds.

This causes the public and institutional investors to be more interested in placing their funds in these instruments because they are considered safer and provide relatively high returns.

As a result, funds that should be channeled through banking to the business sector become limited.

This situation encourages banks to raise deposit interest rates in order to attract public funds back. However, an increase in deposit interest rates will be followed by an increase in credit interest rates.

It is at this point that crowding out begins to be felt in real terms, namely the business sector faces higher borrowing costs, which can ultimately hamper business expansion and investment plans.

The crowding out phenomenon can occur in both developing and developed countries such as the United States and Indonesia.

The impact is immediately felt through rising interest rates, which make it difficult for the private sector to access financing and risk suppressing investment growth.

Crowding Out Mechanism: Why Does It Happen?

Crowding out occurs through a mechanism involving the dynamics of demand and supply of funds in the financial market.

When the government needs funds to finance state spending, one way is to issue bonds, such as Government Securities (SUN).

This instrument is absorbed by the market, both by financial institutions and retail investors, which automatically divert funds from the private sector to the public sector.

This step increases the demand for money in the financial market. Because the amount of funds available is limited, increased demand will drive up interest rates.

This increase in interest rates is an obstacle for the private sector, because the cost of borrowing (cost of capital) also increases. As a result, many business actors postpone or even cancel their investment plans.

In the long term, this condition can reduce productivity and hinder economic growth.

A simple illustration, when the government is too aggressive in spending through debt, the private sector seems to lose room to move and breathe to develop because access to financing becomes increasingly expensive and limited.

Another interesting article for you: How to Get Crypto Loans Without Collateral 2025

Types of Crowding Out

Crowding out does not always have an absolute impact. In practice, this effect can be divided into several forms based on the level of influence on private investment, namely:

1. Full crowding out

Occurs when private investment decreases drastically due to the absorption of large-scale funds by the government so that there is almost no room for the private sector to obtain financing.

2. Partial crowding out

Private investment continues, but its growth slows because some of the funds in the market have been allocated to finance government needs.

3. Crowding in

Is the opposite condition, where government spending actually encourages an increase in private investment.

This can happen if state spending is directed to productive sectors that support long-term economic activity.

Still around this topic, also see: What is Interest Rate? A Detailed Guide to Economics

Impact of Crowding Out on the Investment World

Crowding out has broad implications for the dynamics of financial markets, including the world of conventional investment and digital assets such as crypto. One of the most visible direct impacts is the increase in interest rates.

When the government increases the issuance of debt securities to finance state spending, demand for funds in the market increases, which then drives up overall interest rates.

This increase in interest rates has the potential to depress stock prices and other risky assets, including crypto.

This is because institutional investors tend to shift their portfolios from volatile instruments to government bonds which are considered safer and more stable, especially when the yields are quite attractive.

This situation also narrows access to funding for the private sector, especially startups and productive projects that are highly dependent on external financing.

When borrowing costs rise, many expansion or innovation plans must be postponed or even canceled, thus hampering long-term growth.

In addition, crowding out can trigger volatility in exchange rates and global capital flows.

When foreign investors see the potential for high returns in the government bond market, they tend to shift their funds to these instruments.

This condition can strengthen the domestic currency in the short term, but at the same time increase dependence on foreign funds.

In the context of crypto assets, the impact of crowding out is indirect, but still significant.

Many institutional funds previously allocated to risky assets such as Bitcoin or Ethereum can shift to conservative instruments such as government bonds.

This can reduce liquidity in the crypto market and increase selling pressure, especially in a period of tight fiscal policy.

How to Anticipate Crowding Out

In facing pressure due to the crowding out phenomenon, both investors and business actors need to take strategic steps to maintain portfolio stability and business continuity. Here are some ways that can be done, namely:

1. Diversification of Investment Assets

One of the main steps in reducing the impact of crowding out is to not rely on just one type of investment instrument.

Diversifying into various types of assets, such as crypto, digital gold, and money market mutual funds, can help balance risk.

When interest rates rise and the stock market weakens, some alternative assets may remain stable or even strengthen.

2. Monitor Macroeconomic Indicators Regularly

Indicators such as Bank Indonesia’s benchmark interest rate (BI Rate), government bond yields, and inflation rates can be important signals in reading the direction of economic policy.

An increase in bond yields, for example, could indicate a potential shift in funds from the stock market and risky assets to more conservative instruments. By continuing to monitor this indicator, investors can make early strategy adjustments.

3. Understanding the Fiscal Cycle and Government Budget

Crowding out generally occurs when the government experiences a large budget deficit and covers the shortfall by issuing debt.

Investors who understand the country’s spending and financing patterns will be better prepared to anticipate market pressures.

Paying attention to the development of the State Budget and annual fiscal policies can provide an idea of ??whether crowding out pressures will strengthen or subside.

4. Exploring Alternative Funding Sources Outside of Banking

For business actors, especially MSMEs and startups, it is important to start considering non-banking funding.

When loan interest rates increase due to crowding out, alternatives such as venture capital, equity crowdfunding, peer-to-peer lending, or strategic partnerships can be solutions to maintain operational continuity or business expansion.

Conclusion

Well, that was an interesting discussion about Crowding Out, which you can read in full at the Crypto Academy at INDODAX Academy.

In conclusion, crowding out is not just a theoretical concept in economics books, but a real phenomenon that can affect the dynamics of money circulation in the financial market.

When the government increases spending through debt, the impact can be felt directly by the private sector through rising interest rates and limited access to financing.

For investors, both in conventional financial markets and in digital assets such as crypto, understanding the mechanisms and impacts of crowding out is an important key in developing an investment strategy.

With the right insight, investors can take anticipatory steps to keep their portfolios resilient amidst fiscal policy pressures and global economic turmoil.

In addition to broadening your horizons about the investment world, you can also stay updated with the latest crypto news and directly monitor the price movements of digital assets on the INDODAX Market. Don’t forget to activate notifications so that you always get the latest information about digital assets and blockchain technology only at INDODAX Academy.

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FAQ

1.What is crowding out in economics?
Crowding out is a condition when government spending reduces private investment because interest rates rise due to massive fund absorption.

2.Why is crowding out considered negative?
Because it can slow economic growth by reducing the private sector’s opportunities for expansion.

3.Does the crowding out effect only occur in poor countries?
No. Developed countries like the US can also experience crowding out when the fiscal deficit is too large.

4.What is the relationship between crowding out and crypto?
Investment funds can move from risky assets such as crypto to government bonds when interest rates rise due to crowding out.

5.How do investors deal with the crowding out effect?
By diversifying assets, monitoring interest rates, and choosing instruments that continue to grow even though market liquidity is tight.

Author: Boy