Government deficits, capital flows, and interest rates

Different factors are analyzed that affect interest rates in a loanable funds framework that includes the foreign sector. Time series data for the US for the period 1950-1982 are used. Empirical results demonstrate more than just the relationship between excess deficit over personal saving and net capital outflow on interest rates; they offer confirmation to many loanable funds factors as determinants of nominal interest rates. The significant effect of all major flow variables on long-term and medium-term rates as well as most flow variables on short-term rates can be shown. When unadjusted Livingston data are used, inflationary expectations add to the rise in interest rates but with a one-period lag. Excess government deficits over personal savings are shown to affect long-term and intermediate-term rates. The findings lend support to the claim that the capital inflows into the US from abroad have contributed to lower interest rates than would have prevailed otherwise.