Chapter 15-2
Part 2
Deficit and Debt
Chapter Goals
 Define the terms deficit, surplus, and debt and
distinguish between a cyclical deficit and a
structural deficit
 Differentiate between real and nominal deficits and
surpluses
 Explain why the debt needs to be judged relative to
assets
 Describe the historical record for the U.S. deficit
and debt
Defining Deficits and Surpluses
 A deficit is a shortfall of revenues under payments
 A surplus is an excess of revenues over payments
 In the short run, if the economy is below potential,
deficits are good because deficits increase
expenditures moving output closer to potential
 Long-run surpluses are good because they provide
saving for investment
Financing the Deficit
The government finances its deficits by selling
bonds to private individuals and to the central
bank
Bonds are promises to pay back the money in the
future
The central bank can print an unlimited amount of
money to buy bonds, but printing too much
money can cause serious inflation
Short Run vs. Long Run
Arbitrariness in Defining Surpluses and
Deficits
Whether a nation has a deficit or
surplus depends on what is
included as
revenues and expenditures
There are many ways to measure
expenditures and receipts, so there
are many ways to measure deficits
and surpluses
Deficit and surplus figures are
summary measures of the
financial health of the economy
To understand the summary,
you must understand the
methods that were used to
calculate it
Expenditures are not straight forward!
Many government revenues and
expenditures depend on the level of
income in the economy
What? .
Structural and Cyclical Deficits and
Surpluses
Structural deficit is the part of the
budget deficit that would exist even if the
economy were at its potential level of
output
Cyclical deficit is the part of the deficit
that exists because the economy is
operating below its potential level of
output
The Federal Budget Deficit & The Business Cycle
The budget deficit as a percentage of GDP tends
to rise during recessions (indicated by shaded
areas) and fall during expansions.
These Deficits
help end the
recessions
ACTUAL DEFICIT =
STRUCTURAL DEFICIT +
CYCLICAL DEFICIT
Actual deficit = structural deficit + cyclical deficit
CYCLICAL DEFICIT = TAX
RATE X (POTENTIAL –
ACTUAL OUTPUT)
Cyclical deficit = tax rate x (potential – actual output)
STRUCTURAL DEFICIT =
ACTUAL DEFICIT – CYCLICAL
DEFICIT
Structural deficit = actual deficit – cyclical deficit
Structural and Cyclical Deficits and
Surpluses
There is disagreement about what
percentage of a deficit is structural
and what percentage is cyclical
According to your textbook
• Much of the current deficit is
structural and will have to continue
to keep the economy where it is
today; however, it cannot continue
indefinitely
Cyclical Deficits
• During Recession the
number of unemployed
.
Tax Revenue
• # of Unemployed
….
.
Government .
Spending on
Transfer payment
A Depressing Idea
• Structural Stagnation Theory sees
Much of the unemployment as
Structural
NOT Cyclical
Projections for the Budget Deficit
Percent of GDP
4
History
2
Forecast
2009
Projection
Actual
0
-2
-4
-6
-8
2012 CBO
Projection
-10
-12
-14
1990
1994
1998
2002
2006
2010
2014
2018
Nominal and Real Deficits and
Surpluses
A nominal deficit is the difference
between expenditures and receipts
A real deficit is the nominal deficit
adjusted for inflation
Inflation reduces the value
of the debt
Side Effects Include
• Lowering the real deficit by inflation is
not costless to the government
• Persistent inflation becomes built into
expectations and causes higher interest
rates
?
Next Slide Covers Debt! The Debt is different from the Deficit…..
But wait…
There’s More!