DeficitsSurplusesPublic Debt Deficits, Surpluses and the Public Debt

Public debt – is the total accumulation of each years deficits (minus surpluses) the Federal government has incurred through time. The Federal budget deficit is found by subtracting government tax revenues from government spending in a particular year. The public debt is held as Treasury bills, Treasury notes, Treasury bonds, and U.S. savings bonds.

War; during wars government expenditures increase. Three options are available to finance the spending: -Increase taxes, which would hurt the incentive to work. -Print money, which would cause high inflation. -Borrow the funds Recessions; when national incomes decline, tax revenues decline. Tax Cuts; tax cuts account for much of the growing debt since 1980, and Congress failed to cut spending. Factors that cause public debt

Some economists argue that the debt although big is nothing to worry about. 1. Debt to GDP ratio; a wealthy, highly productive nation can incur and carry a large public debt more easily than a poor nation can. It is more meaningful to measure the national debt in relation to our GDP. Understanding the National Debt:

Japan Italy Belgium Canada France Spain Sweden Germany United States Netherlands United Kingdom Finland Denmark Australia Although the U.S. has the world’s largest public debt, a number of other nations have larger debts as percentage of their GDPs, and they are fine. Source: Organization for Economic Cooperation and Development

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2. Interest payments; the primary burden of the debt is the annual interest charged on the debt. This interest must be paid each year and thus leaks budgetary funds that could go to other programs. Interest payments are now the fourth- largest item in the Federal budget. However, since 75% of the debt is owed to Americans, that interest goes to us, and is consumed. Understanding the National Debt:

PUBLIC DEBT OWNERSHIP, % 26% 11% 25% 11% 17% Debt held By Federal Reserve & Government Agencies Debt held Outside the Federal Reserve & Government Agencies Federal Reserve U.S. Government Agencies Other, Including State & Local Governments U.S. Banks & Financial Institutions Foreign Ownership U.S. Individuals Foreigners hold $3.5 Tril. Japan-$751 B, China-$799 B, Britain-$249 B, OPEC-$185 B, S. Korea-$39 B, H. Kong –$132 B, Taiwan-$78 B, Mexico-$22 B, Thailand-$30 B, & India-$36 B. China holds 23% of our foreign debt

False Concerns about the debt 1. Bankruptcy; the Federal government will not go bankrupt for two good reasons. Print Money; the government can print paper to buy back its bonds (paper). Taxation; the government can increase taxes to pay interest payments or the principle of the public debt. Refinancing; the government refinances the debt by selling new bonds to pay off maturing bonds.

False Concerns about the debt 2. Burdening Future Generations; the debt is not a future burden. Since 75% of the debt is owned by American citizens, it is a liability to Americans (as taxpayers) and an asset to Americans (as investors). By paying off the debt we would just be transferring money from Americans to Americans. Only the foreign owned portion of the debt would negatively impact U.S. purchasing power.

Real Concerns about the debt 1. Income distribution; most of the ownership of the public debt is concentrated among the wealthier Americans who are the citizens that buy stocks and bonds. Thus paying off the debt would transfer income from lower income taxpayers to higher income people, increasing the nation’s income inequalities.

Real Concerns about the debt. 2. Incentives; large debt hurts economic growth. As the debt grows, the interest paid on it will grow. Government spending must be cut or taxes must increase to pay that interest. Either action will dampen economic growth.

Real Concerns about the debt. 3. Foreign-Owned Public Debt; interest payments to debt owners outside the U.S. enables foreigners to buy some of our economic output. Thus the U.S. transfers goods and services to foreign lenders.

DIDIDIDI Investment (billions of dollars) Real interest rate (%) Real Concerns about the Debt CrowdingOutEffect AS AD2 AD1 4%2%4%2% Y IGIGIGIG 4. A large public debt results in higher interest rates, which reduce I g. The most likely way the public debt burdens future generations, if at all, is by reducing the current level of investment.

Budget Philosophies 1.Annually Balanced Budget –Fiscal conservatives favor an annually balanced budget primarily because they believe deficit financing leads to an undesirable expansion of the public sector of the economy. A balanced budget amendment would require decreased G or increased T in recessionary periods. If government adhered strictly to an annually balanced budget, the government's budget would intensify the business cycle. “Earth Orbits Sun” “G”

Recession “Tax cut” Inflation “Raise taxes” 2.Cyclically Balanced Budget – run deficits in recessions & surpluses during expansions so the budget is balanced not each year but over the course of the business cycle. The government could conduct counter-cyclical fiscal policy and balance its budget over a period of years. A major criticism of a cyclically balanced budget is that upswings and downswings of the business cycle are not always of equal magnitude and duration. “Deficit Spending” “Balanced” TaxCuts RaiseTaxes

3. Functional Finance – balance the economy not the budget. It views the public budget primarily as a way to Stabilize the economy. The important thing is to provide for non-inflationary, FE & ensure the economy produces its potential GDP. If there are chronic deficits or surpluses, so be it. Deficits are minor problems, compared to inflation or recessions. U.S.Economy

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