Download Figure 12.1A Federal Budget Outlays, Receipts, Deficits

Chapter 12
Budget Balance and
Government Debt
1
Budget Terms

A Budget Surplus exists when Tax Revenues
are greater than expenditures and is the
difference between the two.

A Budget Deficit exists when Expenditures
are greater than Tax Revenues and is the
difference between the two.

The National Debt is the sum of deficits
minus the sum of surpluses since 1776.
2
Figure 12.1 Federal Budget Deficits, and Surplus
as a Percent of GDP, 1959-2002
3
Surpluses, Deficits and the Debt as a
Percentage of GDP

Nominal figures are less important than
their relationship to the size of the
economy.

Economists tend to look at these
figures as percentages of GDP.
4
High-Employment Deficit or Surplus

The budget balance is altered significantly by the
state of the economy.

If GDP is rising quickly, then fewer people are
drawing on the welfare state and more are paying
taxes.

The high-employment deficit or surplus is what the
surplus would be if unemployment were low.

Economists often prefer this measure to the actual
level of the deficit or surplus when advocating policy.
5
Measuring Budget Balance
On Budget vs Off Budget

Social Security and the Post Office are run off
budget.

Since 1982 Social Security has run a
considerable surplus.

This money is loaned to the rest of the on
budget side of the government with the bonds
issued to the Social Security Administration
being the Social Security Trust Fund.
6
Unified Budget

The Unified Budget is the sum of the on- and
off-budget deficits and surpluses.

If this is a net deficit, then the government
must borrow new money from the public.

If it is a net surplus, then it is a net provider
of capital to the private sector.
7
National Income and Product Accounts Budget

The NIPA Budget does not include any
transactions that finance preexisting
debts, such as outlays for deposit
insurance.
8
Real Surpluses and Deficits

Real Surpluses and Real Deficits are
expressed in inflation-adjusted terms.
9
Economic Effects of Federal
Budget Deficits

Unified budget deficits require
additional borrowing.
10
Figure 12.2 Government Demand for Loanable
Funds and the Market Rate of Interest
Interest Rate
S
E'
i2
E
i1
D1 + DDG
D1
0
L1 L2
Loanable Funds per Year
11
Ricardian Equivalence

Ricardian Equivalence is the view that
deficits do not alter interest rates
because citizens today see that deficits
today will be financed with higher taxes
tomorrow and citizens save in order to
have the funds to pay those higher
taxes.
12
Figure 12.3 Ricardian Equivalence:
Deficits Do Not Affect Interest Rates
S
Interest Rate
S'
i2
i1
E'
E
E''
D1 + DDG
DL
0
D1
L1 L2 L 3
Loanable Funds per Year
13
Economic Effects of Federal Budget
Surpluses

Unified budget surpluses allow
government to provide capital to the
loanable funds market.
14
Figure 12.4 Impact of a Budget Surplus on Credit Markets
Interest Rate
S
E
I1
S' = S1 + DL
E'
I2
D
0
DL
L1 L2
Loanable Funds per Year
15
Budget Balance, National Saving,
and Economic Growth

An increase in the deficit contributes to a
decrease in national savings, while an
increase in a surplus contributes to a
increase in national savings.

Increases in national savings increase the
potential for the economy to grow.
16
Figure 12.5 The National Savings Rate and its
Components, 1959-2002 (Ratio of Savings to GNP)
17
Incidence of Deficit Finance

Lower growth rates imply lower incomes for
future generations.

If Ricardian Equivalence holds, then this is
not the case.

Deficits may also change political equilibrium
so that there are increases in government
infrastructure that could lead to increased
future growth.
18
The Government Debt

January 2003

Federal Debt $6.4 trillion

State and Local Debt $1 trillion
19
Figure 12.6 Federal Debt Held by the Public as a
Share of GDP (By fiscal year)
20
Net Federal Debt

The Net Federal Debt is the portion of
the debt not held by the federal
government.
21
Gross public Debt of the US Treasury by
Holder January 29, 2003
Holder
Amount of
Debt (Billions
of Dollars)
Percent of
Total
U.S. Govt. Agencies
Trust Funds and
Federal Reserve
2,769.0
43
Private Investors
3,630.3
67
Total
6,399.3
100.0
22
Net Public Debt of the U.S. Treasury by Holder
(Percent Distribution) June 2002
Holder
Percentage of Total
Depositors and Institutions
7.2
Mutual Funds
8.8
Insurance Companies
3.9
Pension Funds
State and Local Governments
10.5
9.5
Foreign and International
39.6
Other Investors
22.5
Total
100.0
23
Internal and External Debt

The Internal Debt is the portion of the
debt owed to our own citizens.

The External Debt is the portion of the
debt owed to people other than U.S.
citizens.
24
State and Local Borrowing

Bonds are issued by state and local
governments to fund large projects.

They are rated by financial companies for
their risk.

Similar to federal debt, much of it is held
externally.
25
General Obligation vs Revenue Bonds

General Obligation Bonds are backed
by the state or local government’s
ability to tax.

Revenue Bonds are backed by the
revenue that a state or local enterprise
would generate.
26
Social Security and the Deficit

Social Security Surpluses are used to purchase
federal government debt.

This will happen until benefits exceed revenues
(estimated to be 2023).

Thereafter it will run deficits and will be forced to sell
off those bonds.

Whether Social Security is on- or off-budget and
whether or not there is a trust fund has no effect on
the net national debt.
27
Burden of the Debt

Impact on future generations:
 People have to pay increased taxes to pay
interest on that debt.
 Some may inherit the original bonds.
 Growth rates are reduced because of higher
interest rates.

These impacts can be offset by the increased
private savings of the generation that does the
borrowing, or by returns that come from programs
that were funded by the borrowing.
28
Financing Capital by
State and Local Governments

Capital expenditures by State and Local
governments (sewers, schools, etc.) tend to
benefit future generations.

The benefit principle suggests that projects that
yield the bulk of their benefits in the future
should be financed through borrowing.
29
National Saving and Government Budget Balance

National saving in the United States
remains low by international standards.

A compelling argument in favor of running
a budget surplus is to help increase national
saving to pay Social Security pensions in
the 21st century.
30