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Budget Deficits and the National Debt
Transcript of Budget Deficits and the National Debt
Responding to Budget Deficits
Responding to Budget Deficits Continued
Balancing the Budget
The federal budget is the basic tool of fiscal policy. There are two fundamental parts: revenue (taxes) and expenditure (spending programs). When the government's revenue equals its expenditures in any particular fiscal year, the federal government has a balanced budget. In reality, the budget is almost never balanced; it is either running s surplus or a deficit. A budget surplus is when revenues exceed expenditures while budget deficit is when expenditures exceed revenues.
The National Debt Continued
The deficit is the amount of money the government borrows for one budget representing one fiscal year. The debt is the sum of all the government borrowing from that time minus the borrowing that has been rapid. Each deficit adds to the debt while each surplus subtracts from it. Since debt is such a large number, it is measured as a percentage of gross domestic product (GDP). Historically, debt rises during wartime and falls during peacetime.
Treasury bill- a government bond with a maturity date of 26 days or less
Treasury note- a government bond with a term from 2 to 10 years
Treasury bond- a government bond that is issued with a term of 30 years
The government runs a deficit when it doesn't take in enough revenue. There are two basic actions the government can take to pay for the extra expenditures. The government can either create money or borrow money. When the government creates money they electronically deposit money in people's bank accounts. However, this causes the increase of money in circulation.
The increase of money increases the demand and output of goods and services. However, this will mean more money but the same amount of goods and services, so the price for them will rise. Inflation will occur. Because of this, the government usually borrows money by selling bonds, Treasury bills, Treasury notes, and Treasury bonds.
The National Debt
When the government borrows money they go into debt. The national debt is the total amount of money the federal government owes to bondholders. Every year there is a budget deficit the national debt grows. Since the United States is viewed as stable and trustworthy, the federal government can borrow money at a lower rate of interest. Lower interest rates benefit taxpayers by reducing the cost of government borrowing. Deficit and debt are two different things.
Problems of a National Debt
The first problem is that it reduces the funds available for businesses to invest. This problem is called crowding-out effect. This is the loss of funds for private investment caused by government borrowing. A national debt can hurt investment and slow economic growth over the long run.
The second problem is that the government must pay interest to bondholders. Paying interest is called servicing the debt. This is an opportunity cost, dollars spent servicing the debt cannot be spent on other US needs.
Problems of a National Debt
A third problem could be foreign ownership of the national debt. Some people fear that countries like China could use its large bond holding as a tool to extract favors from the US, while others argue that foreign countries own too little of the debt to cause a concern. In short term deficit, spending helps create jobs and encourages economic growth. However, the costs of the growing debt will eventually outweigh the benefits.
Effort to Reduce Deficits
In the mid-1980s Congress passed the Gramm-Rudman-Hollings Act. This created automatic across-the-board cuts in federal expenditures if the deficit exceeded a certain amount. Later, this law was seen to be unconstitutional. Then, in 1990 George H. W. Bush and congressional leaders established the Budget Enforcement Act. This Act established a system called PAYGO. This required Congress to raise enough revenue to cover increases in direct spending that would contribute to the budget deficit.
Efforts to Reduce Deficits Continued
Finally, in the late 1990s the government was running a surplus due to tax increase by Clinton in 1993, a strong economy, and a low unemployment rate. Then, with the end of the stock market boom and the 9/11 attack, deficit spending returned. The war of terrorism alone approached $200 billion.