copyright © 2010 pearson addison-wesley. all rights reserved. chapter 14 deficit spending and the...

Copyright © 2010 Pearson Addison-Wesley. All rights reserved.

Chapter 14

Deficit Spending and The Public Debt


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Did You Know That...

• The U.S. federal government spends a total of more than $3 billion per day on Social Security, Medicare, and Medicaid.

• Each of these guaranteed spending programs is individually nearly as large as the entire discretionary portion of the federal government’s budget.


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Public Deficits and Debts: Flows versus Stocks

• Government Budget Deficit

– Exists if the government spends more than it receives in taxes during a given period of time

– Is financed by the selling of government securities (bonds)

• Government Budget Surplus– An excess of government revenues over

government spending during a given period of time


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Public Deficits and Debts: Flows versus Stocks (cont'd)

• Public Debt

– The total value of all outstanding federal government securities

– Accumulation of deficits (minus surpluses)

• Time Squares Debt Clock

• 2008


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Figure 14-1 Federal Budget Deficits and Surpluses Since 1940

*Budgeted items not including 2008–2009 financial institutions bailout expenditures.Source: Office of Management and Budget.


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Figure 14-2 The Federal Budget Deficit Expressed as a Percentage of GDP

*Budgeted items not including 2008–2009 financial institutions bailout expenditures.Sources: Economic Report of the President; Economic Indicators, various issues.


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Government Finance: Spending More than Tax Collections (cont'd)

• Question– Why has the government’s budget recently

slipped from a surplus of 2.5% of GDP into a deficit?

• Answer

– Spending has increased at a faster page since the early 2000s than during any other decade since WWII.

– Recent income, capital gains, and estate tax cuts


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Figure 14-3 Net U.S. Public Debt as a Percentage of GDP

Source: U.S. Department of the Treasury.


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Evaluating the Rising Public Debt (cont'd)

• The government must pay interest on the public debt outstanding.

• The level of these payments depends on the market interest rate.

• Interest payments as a percentage of GDP are likely to rise in the future.


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• If the economy is already at full employment, then further provision of government goods will crowd out some private goods.

• Deficit spending may raise interest rates, which in turn will discourage capital formation in the private sector.


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• Crowding-out may place a burden on future generations.

– Increased present consumption may crowd out investment and reduce the growth of capital goods—which could reduce a future generation’s wealth.

– Taxes may have to be increased; imposing higher taxes on future generations in order to retire the debt.


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• Our debt to foreign residents

– We do not owe all the debt to ourselves: about the nearly 50% owned by foreign residents?

– Future U.S. residents will be taxed to repay principal and interest.

– Portions of U.S. incomes will be transferred abroad.


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• If deficits lead to slower growth rates future generations will be poorer.

• Both present and future generations will be economically better off if… – Government expenditures are really investments

– The rate of return on such public investments exceeds the interest rate paid on the bonds


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Growing U.S. Government Deficits: Implications for U.S. Economic Performance (cont'd)

• In considering how expenditures might be reduced, it is important to look at entitlements.

• Entitlements– Guaranteed benefits under a government

program such as Social Security, Medicare, or Medicaid

– Noncontrollable


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Figure 14-5 Components of Federal Expenditures as Percentages of Total Federal Spending

Source: Office of Management and Budget.


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Myth #14: An irresponsible government has led to our current debt problem

• Review the last slide…• Of course, there are wastes, but• To kill the debt, you have to kill the

entitlements

copyright © 2010 pearson addison-wesley. all rights reserved. chapter 14 deficit spending and the...

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