But why, exactly, have Federal deficits not driven up interest rates? Cue this handy graph:
As you can see, private saving has increase substanitally relative to private investment since 2008 (for background check out my previous recent post on the Savings = Investment identity). Since private borrowers have not been absorbing those private savings, they have flowed into Treasury securities in a large enough volume to more than absorb the torrent of bonds coming out of Washington.
What this all means is that we need to take a more hollistic perspective on the stance of fiscal policy. Just as changes the monetary base are not enough to tell you the stance of monetary policy, changes in the Federal debt are not enough to tell you if fiscal policy is "expansionary" or not. Instead, deficits need to be evaluated in relation to conditions in the broader market for savings; for depending on those conditions, Federal deficits can either "crowd out" private investment OR allow for private savings that would otherwise not take place.
The lesson is that in fiscal policy, as in all things in economics, prices, not just quantities, matter. And when the price of fiscal expansion (the real interest rate on new government debt) is negative, its a different ballgame than most pundits would have you believe.