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.
14-2
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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
14-4
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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.
14-5
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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.
14-6
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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.
14-8
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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.
14-9
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Evaluating the Rising
Public Debt (cont'd)
• 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.
14-10
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Evaluating the Rising
Public Debt (cont'd)
• 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.
14-11
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Evaluating the Rising
Public Debt (cont'd)
• 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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Evaluating the Rising
Public Debt (cont'd)
• 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
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