A government decides to implement a significant increase in public spending to stimulate the economy. As a result, the demand for loans rises sharply. How would this scenario most likely affect the interest rates in the loanable funds market, and what implications might this have for private investment?

When a government increases public spending, it often needs to borrow money to finance this spending, which raises the demand for loans in the loanable funds market. As more people and the government seek loans, the competition for available funds increases, leading to higher interest rates. For example, if the government wants to borrow $100 billion, this increased demand can push interest rates up from 3% to 5%. Higher interest rates can make borrowing more expensive for private businesses and individuals, which may discourage them from taking loans for investments. As a result, private investment might decrease, slowing down economic growth in the long run, even if the initial government spending boosts demand.