Budget Balance and Government Debt

1
Chapter 12

• Budget Balance and Government Debt

2
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.

3
Figure 12.1 Federal Budget Deficits, and Surplus
as a Percent of GDP, 1959-2002
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
Figure 12.2 Government Demand for Loanable Funds
and the Market Rate of Interest
8
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.

9
Figure 12.3 Ricardian Equivalence Deficits Do
Not Affect Interest Rates
10
Figure 12.4 Impact of a Budget Surplus on Credit
Markets
11
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.
•  

12
Figure 12.5 The National Savings Rate and its
Components, 1959-2002 (Ratio of Savings to GNP)
13
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.
•  

14
The Government Debt

• January 2003
• Federal Debt 6.4 trillion
• State and Local Debt 1 trillion

15
Figure 12.6 Federal Debt Held by the Public as a
Share of GDP (By fiscal year)
16
Gross public Debt of the US Treasury by Holder
January 29, 2003
17
Net Public Debt of the U.S. Treasury by Holder
(Percent Distribution) June 2002
18
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.
• Much of the debt is held externally.
•  

19
General Obligation vs Revenue Bonds

• General Obligation Bonds are backed by the state
  or local governments ability to tax.
• Revenue Bonds are backed by the revenue that a
  state or local enterprise would generate.

20
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.

21
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.