Chapter 16:Chapter 16:Deficits, Surpluses, and Debt: Deficits, Surpluses, and Debt:

Past, Present, and FuturePast, Present, and Future

By: Varanessa DixonBy: Varanessa Dixon

Budgets and Budget ConceptsBudgets and Budget ConceptsTable 16.1: Federal Government Unified Budget, 2001 (in Billions of Dollars)

Receipts OutlaysIndividual Income Taxes 994.3 Discretionary, total 649.3

National defense 306.1Corporation Income Taxes 151.1 International affairs 22.5

Domestic 320.8Social Insurance and retirement receipts, total 694.0 Entitlements and other mandatory, total 1095.2 Social Security (OASDI) 508.0 Means-tested, total 248.7 Medicare (HI) 150.0 Medicaid 129.4 Unemployment insuruance 28.0 Other 119.3 Other 9.0 Non-means-tested, total 846.5

Medicare (HI and SMI) 237.9Excise taxes, total 66.1 Social Security (OASDI) 429.4

Other retirement and disability 92.7Estate and gift taxes 28.4 Unemployment compensation 27.9

Farm price supports 22.4Customs duties 19.4 Other 23.8

Miscellaneous receipts 37.8 Net interest 206.2

Offsetting receipts -86.8

Total receipts 1991.0 Total outlays 1863.9

Budget Balance (receipts-outlays) Unified budget 127.1 Social Security (off-budget) 78.6 On-budget 48.5

DiscretionaryDiscretionary

The government The government sets a spending sets a spending limit annuallylimit annually

MandatoryMandatory::

Annual Annual expenditure expenditure

depends on how depends on how many people meet many people meet the requirementsthe requirements

Federal Budget: A statement of income (receipts) and expenditures (outlays) for a specific period of time (a year).

Unified Budget: The federal budget with Social Security included

Net Budget Balance:Net Budget Balance:

The bottom-line; total The bottom-line; total receipts minus total receipts minus total

outlaysoutlays

Off-budget surplus: Off-budget surplus: The surplus The surplus regarding the Social Security portion regarding the Social Security portion of the unified budgetof the unified budget

On-budget surplus:On-budget surplus: The surplus The surplus regarding the Non-Social Security regarding the Non-Social Security portion of the unified budgetportion of the unified budget

Note:

Receipts > Outlays = Budget Surplus

Receipts < Outlays = Budget Deficit

Receipts = Outlays = Balanced Budget

Historical Budget PerspectiveHistorical Budget Perspective

19801960 1970 201020001990

1962-1997: Almost an unbroken

string of budget deficits

2020

1998-2001: The federal government achieves a surplus in the unified budget

How to fix the budget is a:

1. Pocket Book Issue 3. Fairness Issue

2. Productivity and Economic-Growth Issue 4. International Issue

In 2001, tax cuts, a recession, and growing demands for money to fight terrorism depleted the surplus

Historical Budget Perspective: The Historical Budget Perspective: The Inclusion of Social SecurityInclusion of Social Security

•Figure 16.2 illustrates the differences between the On-Budget and the Unified Budget.

•Including Social Security understates the budget, but only by a small portion

The Public DebtThe Public DebtThe Gross Federal Debt In November 2002

44%

56%

Debt The GovernmentOwes Itself

Debt The GovernmentOwes The Public

Gross Federal Debt: The debt of the federal government held by both the public and government agencies

Public Debt: The portion of the gross federal debt held by the public; the value of all government securities that have been sold to the public and are still outstanding

3.5 Million

2.7 Million

Public Debt is a major concern for businesses and financial markets because it effects the economy.

1962-1997: Growing period for public debt

1998-2001: Public debt fell due to the Treasury using the surpluses to

redeem maturing securities

Burden of the Public DebtBurden of the Public Debt

Smaller in 2001 than in 1962 due to increasing GDP and a shrinking

deficit

The public debt as a percentage of GDP

Public Debt

GDPX 100

The Long-Run Budget and Debt The Long-Run Budget and Debt ProjectionsProjections

•The Congressional Budget Office (CBO) projected in 2001 a 10-year surplus.

•September 11 and a recession caused the CBO to change their forecast to deficits from 2002-2005 and surpluses from 2006-2012

CBO Projections from 2012-2075:

1. Tax policy will remain unchanged (including the expiration of the tax cut provision in 2001)

2. SS, Medicare and Medicaid, and Net interest are primary drivers of expenditures and will constrain other areas of the budget

3. There will be surpluses from 2006-2025. A negative budget balance will cause the deficit to grow as a percentage of GDP for the next 50 years

Measurement IssuesMeasurement IssuesSome economists say the federal budget deficits are

overstated due to:

Structural Deficit: The deficit at full employment

Actual Deficit: The amount by which actual government expenditures exceed actual government revenues

1. Inflation

2. Business Cycles

3. Government Investment

4. State and Local Government Deficits and Surpluses

Consumption-type Expenditures: Food stamps and farm subsidies

Investment-type Expenditures: Education, Research, and Highways

Eliminate this portion

Economic Effects of a DeficitEconomic Effects of a Deficit

Keynesian View

Modern

View

Deficits are desirable in recessions because the increase disposable

income

Depends on the way a deficit is financed:

-Public

-Social Security

-The Federal Reserve

Increase in Output and Employment if the economy is at less than full-

employment

The Public: Expansionary, but by

less than the Keynesians thought

Social Security: Does not affect the

budget due to no market transactions

The Federal Reserve: No harmful effect to the deficit if the economy is operating at less than

full-employment

Modern

View

Increase in Output and Employment if the economy is at less than full-

employmentKeynesian

View

Deficits are desirable in recessions because the increase disposable

income

Increase in Output and Employment if the economy is at less than full-

employment

Public and Federal Reserve Public and Federal Reserve Financing EffectsFinancing Effects

Public Financing

Inte

rest

Rate

Demand for and Supply of Loanable Funds

D0.

S0

i0

D1.

S1

i1

D0. D1

S0

Demand for loanable funds (funds available for borrowing by households, firms, and government

= Interest Rates

Higher Interest rates lead to:

Reduced investment

Effect on Net Exports and Imports

-Increased demand leads to dollar appreciation

-Dollar appreciation= Decreased US Exports and Increased US Imports

Federal Reserve

Increases the money supply causing demand to increase if the economy is operating at less than full-employment

If the economy is operating at full-employment, the price level will increase, causing inflation to rise

The Burden of the DebtThe Burden of the DebtInvalid Arguments About the Budget Deficits:

•The federal government should be required to balance its budget annually.

•The federal government should make the debt zero

•The national debt is owed to ourselves

Burden to Tax Payers:

•Burden on tax payers

•If tax rates are high enough, incentives to work, save, invest, and innovate could be distorted

Taking StockTaking Stock

Establishing separate capital and operating budgets could lead to better deficit measurement

Three Ways to Turn Surpluses From Social Security and On-Budget:

1. Using Them to Finance Public Debt

2. Finance Government Investment

3. Turn Them Into Tax Relief

Future strains on the budget are showing up faster than the government can deal with