Macro L22 Deficts and National Debt

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Information about Macro L22 Deficts and National Debt

Published on March 5, 2008

Author: Vilfrid


Deficits, Surpluses and the National Debt :  Deficits, Surpluses and the National Debt Definitions Policy Objectives Terms Economic Impact The National Debt National Surplus, Deficit & Debt:  National Surplus, Deficit & Debt Budget Effects of Fiscal Policy 1. Deficit Spending – Use of borrowed funds (Treasury Bonds) to finance government when spending exceeds revenue 2. Budget Deficit – How much govt spending exceeds revenue in a given time period 3. Budget Surplus – How much govt revenue exceeds spending in a given time period The Deficit Dilemma :  The Deficit Dilemma 12-38 Deficits and Surpluses: The Record Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved. The Federal Budget Deficit, Fiscal Years 1970-2001 Macro Policy:  Macro Policy Goal is to balance the economy at full employment not the government budget Therefore, budget deficits and budget surpluses are to be expected Indeed, because government expenditures are locked in by legislation, only about 20% of the government budget is “discretionary” Terms:  Terms Fiscal year – the 12 month accounting cycle. Federal fiscal year begins October 1 and ends September 30 Discretionary fiscal spending – that 20% of the federal budget that is not determined by past legislative or executive commitments Automatic Stabilizers – Those elements of the federal budget that change counter to the business cycle * unemployment benefits * welfare benefits * income taxes More Terms:  More Terms Cyclical Deficit: that portion of the budget balance attributable to short run changes in economic conditions -- the cyclical deficit widens when GDP growth slows or inflation decreases -- the cyclical deficit shrinks when GDP growth accelerates or inflation increases Structural Deficit: Reflect fiscal policy decisions -- outlays and receipts that would occur if the economy were at full employment Economic Effects of Deficits:  Economic Effects of Deficits Opportunity cost to government spending -- the most desired goods and services foregone in order to obtain goods generated via government spending Interest Burden Increasing Dependence upon foreign dollar holders to finance the deficit Crowding Out – a reduction in private-sector borrowing and spending caused by increased government borrowing 1. implies less private-sector output 2. risk of crowding out is greater as economy nears full employment 3. Risk of increasing interest rates Crowding-In Verses Crowding-Out Keynesian verses the Monatarists:  Crowding-In Verses Crowding-Out Keynesian verses the Monatarists Monetarist View Keynesian budget deficits drive up interest rates, thus discouraging private investment The more money government borrows, the less is available to the private sector Therefore, government deficits crowd-out private borrowers Will be aggravated if Fed maintains a “tight money supply” Keynesian View In recessions there is no lack of loanable funds Government spending causes aggregate spending to increase, thereby increasing prospects for private investment Therefore, government deficits actually crowd-in private borrowing Economic Effects of Surpluses:  Economic Effects of Surpluses Only four options 1. Spend the surplus 2. Cut taxes and give the money back to the people 3. Increase transfer payments 4. Pay off old debt (save it) “Crowding in” -- An increase in private-sector borrowing (and spending) caused by decreased government borrowing The National Debt:  The National Debt Accumulated years of budget deficits add up to more than accumulated years of budget surpluses. The accumulated debt of the federal government is called the national debt (about $8 trillion) U.S. Treasury Department issues bonds called Treasury bonds -- Promissory notes (IOUs of the federal government) The Public Debt:  The Public Debt 12-49 Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved. National Debt, 1975-2000 Economic Report of the President, 2000 The National Debt 1900-2005 :  The National Debt 1900-2005 Ownership of the National Debt:  Ownership of the National Debt The debt is a liability of the U.S. Government; however, The debt is an asset for those who own the bonds Therefore, the national debt creates as much wealth as it creates obligations Neither money nor any other form of wealth disappears when the government borrows money Burden of the National Debt:  Burden of the National Debt For thirty years the national debt has continued to grow without apparent economic damage As Treasury bonds come due, new bonds are issued to replace them The burden of the national debt 1. The ever increasing interest burden reduces the ability of the government to balance the budget or fund other public-sector activities 2. The opportunity costs incurred when public goods are chosen over private-sector goods and services The Real Trade-Offs:  The Real Trade-Offs The decision of the government to spend will have real impact on the mix of goods and services produced by the economy (Optimal Output Mix) Deficit spending tends to change that mix in the direction of more public-sector goods Primary burden is not on future generations but is created at the time the debt financed activity takes place – the real burden cannot be passed on to future generations Economic growth may be adversely impacted if investment spending is sacrificed External Debt:  External Debt When we borrow from abroad, we increase our ability to consume, invest and finance government activity As long as foreign lenders are willing to hold U.S. Treasury bonds, external financing poses no real cost However, if foreign lenders demand repayment, they will sell their bonds and probably purchase real goods and services with the cash – External goods must be repaid with exports of real goods and services Attempts to Set Deficit and Debt Limits:  Attempts to Set Deficit and Debt Limits In policy debates the size of the national debt is the main concern Goal – Stop the growth of the national debt by eliminating the budget deficits that cause them -- Balanced Budget & Emergency Deficit Control Act of 1985 (Gramm-Rudman-Hollings Act) Set a lower ceiling on each year’s deficit Called for spending cutbacks if deficits were above the ceiling Attempts to Set Deficit and Debt Limits:  Attempts to Set Deficit and Debt Limits The Budget Enforcement Act (BEA) of 1990 -- Set separate spending limits on defense spending, discretionary domestic spending and international spending (Structural Spending), and -- New spending initiatives to be offset with increased taxes or cutbacks in other programs Social Security and the Baby Boomers:  Social Security and the Baby Boomers Baby Boomers are in their peak earning years, but will rapidly reach retirement Currently, the Baby Boomers are keeping the Social Security System in the black, but By 2014, Social Security will start to see deficits To save Social Security, Congress will have to raise future taxes significantly or make substantial cuts in other programs

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