How Debt Shrinks The Economy

What is it about a very high debt-to-gross-domestic-product ratio (GDP) that constrains growth?

One of the studies presented at Jackson Hole, Wyo., last week demonstrated that beyond a certain threshold—somewhere between 80 percent and 100 percent of GDP—government debt leads to weaker economic growth.

Advocates of counter-cyclical deficit spending argue that this cannot apply while there is lots of slack in the economy. But if you follow their arguments closely, they aren’t really arguing that public debt doesn’t constrain growth. They’re just arguing that it doesn’t constrain growth through something called “crowding out.”