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Abstract: To meet the public deficit, Government of Pakistan has been disproportionately borrowing from the scheduled banks and general public which are also the source of funding for private investment. Even the public sector corporations are doing the same. From the crowding out perspective borrowing and public expenditure are the same, as borrowing is mainly undertaken for financing expenditures. The issue of crowding out or crowding in effect of public borrowing on private investment needs considerable attention. The current study has investigated the crowding-out effect of public borrowing on private investment in the country. An investment function of three independent variables, i.e. public borrowing, GDP and lending rate has been estimated through unit root test, co-integration test and vector error correction model. The time series data of 34 years, i.e. fiscal year of 1971-72 to 2005-06, taken from Federal Bureau of Statistics and Finance Division, Government of Pakistan has been used. The results do not corroborate the crowding-out hypothesis in Pakistan explaining the market imperfections and substantial amount of excess liquidity. The results provide the evidence of crowding-in effect, which explains the direction of public expenditures towards private sector through contractors, politicians and bureaucrats, instea