Following a severe credit freeze, the government of Solaria launched a major national digital-infrastructure initiative, funded entirely through the issuance of long-term sovereign bonds. Critics voiced immediate concerns over "crowding out," warning that massive public sector borrowing would deplete the supply of loanable funds, drive up interest rates, and displace private investment.
However, government economic advisers argued that such concerns were misplaced under current macroeconomic conditions. First, they pointed out that Solaria is in a deep "liquidity trap" where private corporations and households are hoarding cash in commercial bank accounts due to extreme risk aversion, resulting in an exceptionally highly elastic supply of savings. Second, because of a persistent negative output gap, there is a vast pool of unemployed skilled labor and unutilized industrial plant capacity, meaning the public works will absorb idle resources rather than bidding them away from private firms. Finally, the Central Bank of Solaria has committed to a policy of yield curve control, promising to buy unlimited quantities of government debt to cap the interest rate on 10-year bonds at 1.2%.
Using information from the stimulus material, identify two reasons why crowding out may not occur.
