Deficit Finance
Plan
n
n
n
The size of the debt
The burden of the debt
The choice between the debt and taxation
Deficit and Debt
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n
Debt is the accumulated deficit ($3.4
trillion=35% of yearly GDP)
Deficit (during a fiscal year) the excess of
spending over revenues over the year
q
q
n
on-budget deficit (surplus of $86.4 billion in 2000)
off-budget deficit (Social Security Trust, for
example) (surplus of $149.8 billion in 2000)
The off-budget accounts generate a surplus.
This surplus is used to buy some of the
government securities issued by Treasury
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Measuring the debt
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n
n
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n
(-) Holdings: part of the debt is held by the
Federal Reserve Bank ($489 bill in 1999). It
is counted as a debt held by public
(+) State and Local governments also
borrow. ($1.7 trillion in 1999)
(-) Inflation reduces the debt
(-) Current and capital accounts are unified
(+) Implicit obligations do not enter the
calculation (say, promises of future benefits)
Effect of Inflation (“Inflation tax”)
n
Inflation reduces the debt:
q
n
Example: federal debt in 2000 was $3.6 trillion,
inflation being 2.1%, the “real debt” by the end of the
year is $76 billion lower (3.6 trillion times 0.021)
Treasury has traditionally issued bonds with
fixed (nominal) yield. A small fraction of bonds
(TIB) are indexed for inflation (the principle is
increased each year by the rate of inflation).
q
Example: in April 1997 a 10 year TIB had the yield of
3.3%, the yield on an equivalent non -indexed
Treasury bond was 6.9%
Capital versus Current Accounting
n
n
n
n
Current spending are the expenditures for
goods and services consumed within a year
Capital spending refers to “investment” in
durable items (roads, dams, etc.)
Standard accounting procedures classify
capital depreciation to be an “expense” or
“loss”, rather than the whole cost of the
investment.
If a government borrows to finance the
“investment” or capital spending, it may be a
positive sign.
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Burden of the Debt .
q
q
“We (each generation) owe to ourselves”
What if there is an external debt?
n
n
q
q
if the money is used to finance current consumption, then
current generation puts burden on the future generations
If the money is used to finance investment, the outcome
depends on the return from the investment.
Government borrowing “crowds out” private
investment (Neoclassical model)
Debt is just deferred taxes. Individuals, expecting the
future taxes to rise when government borrows,
increase their savings. No effect on private
investment. (Barro-Ricardo)
To tax or to borrow?
n
n
n
n
n
Benefits -received principle
Inter-generational equity
Efficiency (it is better to smooth taxes over
time)
Macroeconomic stability (can fiscal and
monetary tools stabilize the economy?)
Moral and Political Considerations (if the debt
does impose a burden on future generations, is
it moral to decide on it in the absence of the
future generations?)
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