PRINCIPLES OF MACROECONOMICS LECTURE 8 Deficits, Surpluses, & the Public Debt

In this chapter you will learn  What a budget deficit and a budget surplus are, and their connection to the public debt  The misconceptions about budget deficits and the national debt  The substantive issues about budget deficits and the public debt  The effect of the recent budgetary surplus

Topics  Deficits & Debt: Definitions  Budget Philosophies  The Public Debt: Facts & Figures  False Concerns  Substantive Issues  Deficits & Surpluses: 1990 to the Present  Options for the Surpluses

Deficit & Debt: Definitions Budget Deficit  Annual amount by which government expenditures exceed taxes  E.g. 1996/97 deficit = $13.5 billion Public Debt  Accumulation of all past deficits  E.g public debt =$650 billion

Budget Philosophies  Annually Balanced Budget  G = T every year  Intensifies the cycle (pro-cyclical)  Politically responsible?

Budget Philosophies  Cyclically Balanced Budget  G = T over each business cycle  Deficits in recessionary downswings  Surpluses in inflationary upswings  Counter-cyclical (stabilizes the cycle)  Not workable in practice n Annually Balanced Budget

Budget Philosophies  Cyclically Balanced Budget n Annually Balanced Budget n Functional Finance –Balancing the budget is of secondary importance –Primary focus is on stabilizing economy (counter- cyclical policies) –May result in a large public debt

The Public Debt : Facts & Figures

Causes  Wars  Recessions  Lack Of Political Will

The Public Debt : Facts & Figures Quantitative Aspects  Debt & GDP  relative size of the debt now decreasing  International Comparisons  our debt has grown rapidly

The Public Debt : Facts & Figures Quantitative Aspects  Debt & GDP  International Comparisons n Interest Charges –recently have begun to decline

The Public Debt : Facts & Figures Quantitative Aspects  Debt & GDP  International Comparisons n Interest Charges n Ownership –foreign-owned debt an issue

The Public Debt : Facts & Figures Quantitative Aspects  Debt & GDP  International Comparisons n Interest Charges n Ownership n Accounting & Inflation

Substantive Issues  Income Distribution  Incentives  External Debt  Crowding Out & the Stock of Capital

IgIg Investment (billions of dollars) Real interest rate (percent) Increasing the debt may put upward pressure on interest rates. The higher interest rates may reduce private Investment (I g ) The Crowding Out Effect Figure

The Crowding Out Effect Qualifications  Public Investment  Public-Private Complementarities

IgIg Real interest rate (percent) The Crowding Out Effect The crowding out effect may be partially offset by increased private investment, due to improvements in infrastructure Investment (billions of dollars) Figure

Deficits & Surpluses:  deficits were enormous during the early 1990s  budget surpluses appeared in late 1990s  surpluses expected to grow through the 2000s

19 Source: Department of Finance Annual budget deficits throughout most of the 1980s & the first half of the 1990s gave way to surpluses in the late 1990s

Options for the Surpluses  Paying Down the Public Debt  Reduce Taxes  Increase Public Expenditures  Combinations of Policies

Topics 3 Deficits & Debt: Definitions 3 Budget Philosophies 3 The Public Debt: Facts & Figures 3 False Concerns 3 Substantive Issues 3 Deficits & Surpluses: 1990 to the Present 3 Options for the Surpluses