The Federal Budget
1
Who Decides?
•
•
•
•
Law
President
Realities of political system
“Power of the Purse” with Congress
– Constitution does not specify HOW Congress does
this
2
Appropriation Bills
• Specify how much money will go to different
agencies and programs
• Legislation must be passed to give the federal
government the legal authority to spend the
money (authorization bills)
3
Mandatory Spending
• Government must (by law) pay out benefits to
all eligible recipients
– Example: Social Security
– Made up of mostly earned – benefit programs
– Spending is determined by eligibility rules
4
Mandatory Spending
• Example:
• Congress decides to create a program like the
Supplemental Nutrition Assistance program
(SNAP) (know as food stamps)
– Set a criteria for who is eligible
– Amount of money is determined each year is
determined by how many people are eligible
– Congress can change the eligibility rules
5
• Mandatory spending makes up nearly 2/3s of
total federal budget
– Social Security is the largest
6
Discretionary Spending
• Spending that goes through annual
appropriations process each year
• Congress sets the level of spending on
discretionary programs
• (Congress can choose to increase or decrease)
8
TAX BREAKS
• When the government gives a tax break it is
choosing to give up tax revenue
• This is done to benefit society
• Tax breaks are expected to cost the federal
government 1.24 trillion in 2015
– Examples: low taxes on capital gains, home
mortgage interest
10
The Federal Budget
Two Key Terms needed for
understanding the Budget:
Contrast Deficit versus Debt (how related?)
Budget Deficits
The amount by which
government spending
exceeds government
revenues in a single
year.
National Debt
The total amount of
money the federal
government owes to
pay for accumulated
deficits.
Over $9,500,000,000,000
(Almost 70% of GDP)
13
Debt/Deficit
• Government debt is the total of all past
government deficits. For example, if the
government runs deficits of $1 billion a year
for ten years, the addition to debt is $10
billion
• The federal debt is held by the public, as a
percentage of GDP
14
Budgets, Deficit Spending, & National Debt
• The Growing Federal Budget (Outlays):
–
–
–
–
–
–
–
–
–
–
–
–
George Washington’s Budget=> $3-5M per year
Post Civil War costs=> $1B+ then down again
WWI=> back up to $1B
1962=> $100B
1987=> $1 Trillion ($1,000,000,000,000)
2001=> $1.8 Trillion
2003=> $2.212 Trillion
2004=> $2.272 Trillion
2005=> $2.338 Trillion
2006=> $2.5 Trillion
2007=> $2.77 Trillion
2008=> $2.8885 Trillion
– 2009=> $3.1 Trillion
(President Bush’s Budget submit- Feb 2008)
15
The Rise and Fall of Deficit Spending
• 19th Century=> Balanced Budget (w/few exceptions)
• Budget Deficits => Key contributing events:
– 1930s => FDR’s New Deal programs
– 1940s => WWII
– 1960s => LBJ’s War on Poverty & Vietnam War
– 1980s => Reagan Tax cuts & rise of Defense spending
– 1990s => Clinton Tax increase & Economic growth
• (Brief period of budget surplus- late 1990s-early 2000)
– 2003-09 => Bush Tax cut, Econ downturn, 9/11, Iraq War,
Katrina & other natural disasters, oil shock, etc
– (Return to budget deficits for indefinite future)
16
The Ideal Budget?
Receipts ($$$ in) = $pent (Outlays)
Balanced Budget
Budget Surplus
OR
A federal budget in
which spending and
revenues are equal.
A federal budget in
which revenues
exceed spending.
How has Federal Government faired in meeting this “ideal” criteria?*
17
Budget Deficits & Surplus Over Time
2005 2006 2007 2008 2009 2010 2011 2012
e
d
p
r
o
j
e
c
t
e
d
P
r
o
j
e
c
t
e
d
P
r
o
j
e
c
t
e
d
P
r
o
j
e
c
t
e
d
P
r
o
j
e
c
t
e
d
P
r
o
j
e
c
t
e
d
239B
248B
$427B
410B
377B
407B
415B
457B
18
Consequences of a Large National Debt
• Is debt always bad? (investment vs. consumption)
– Depends: Tuition for College versus Spring Break Vacation
• When Government borrows $$$ => from whom?
– Pays Interest on $$=> US & Foreign investors, Fed. Pensions
• The trade offs:
–
–
–
–
–
–
Lost opportunities (discretionary spending)
Impact on interest rates?
($$ too expensive)
Impact on private sector growth?
Impact on jobs? => consumer spending?
Impact on economic growth=>
Impact on the National Economy (GDP)?
19
Government Revenue
• Where Does Government Revenue Come From?
• Government Revenue in Historical Perspective:
– Changes over time*
– Social Security Act of 1935 (FICA)*
• The *Federal Insurance Contributions Act (FICA) tax is a
United States payroll (or employment) tax[1] imposed by
the federal government on both employees and
employers to fund Social Security and Medicare
• FICA contributions have increased over time=>
– (increased deductions from your paychecks)
• Result: FICA contributed more & more to Federal
revenues*
20
Government Revenue Sources- 1900
45%
55%
Custom Duties
Excise Taxes
21
Government Revenue Sources- 1960
23%
44%
4%
Income Taxes
Excise Taxes
Payroll Taxes
Estate, Customs
Corporate
16%
13%
22
Government Revenue Sources- 2005
What tax source has increased the most in a relatively short time?
23
Payroll Taxes versus Income Taxes
Contrast the different types of taxes:
 Progressive tax (what is it & why is it progressive?)
 Regressive tax (what is it & make makes it regressive?)
?_____________ Tax
A tax system in which those
with high incomes pay a
higher percentage of their
income in taxes than those
with low incomes.
?_____________ Tax
A tax system in which
those with high incomes
pay a lower percentage of
their income in taxes than
those with low incomes.
How does US Tax burden compare with other Industrial Nations?
24
Comparing Tax Burdens
25
Where Does Government Spending Go?
• The Changing Nature of Government Spending:
– Changes over time
– Shift from Cold War Defense spending to Human Resources
Federal Spending by Type
26
Federal Spending
What has triggered this increase in Federal spending on individuals?
27
Entitlement Expenditures
Discretionary vs.
Non-discretionary
_______________________
$1.481 Trillion
$857 Billion*
19%
9%
*How has Discretionary spending changed over time?
28
Decreasing Discretionary Spending
How can we increase Discretionary spending?
29
Limiting Entitlement Programs
• Areas requiring special attention:
– Long term budget problems
(the Baby Boomers)
• Social Security concerns & escalating Health Care costs
– Difficulty restraining growth of entitlement programs
– Need for more revenue (Taxes vs. Economic growth)
• Cutting costs: Political will vs. political costs
– Political Costs of cutting Entitlement Programs is normally
greater than the political benefits & will necessary to do it
• Another problem in the Budget Process is:
– Controlling Pork barrel (“ear marks”) politics *
30
Problem in the Budget Process
Pork Barrel
Spending
Legislation that appropriates
Federal money for local
projects of questionable
value that may ingratiate a
legislator with his or her
constituents.
• Controlling Pork barrel* politics:
– Easier said than done=> conflicting objectives:
– One man’s pork is another’s vital program
– Incumbent objective: improve reelection chances:
• Vehicle for “pork” => bill riders & “ear marks” – Example?
• Senator Ted Stevens & Alaska’s “Bridge to nowhere”
31
Corporate Welfare
• Another example involves Government subsidies
or tax breaks for businesses
– AKA: Corporate Welfare
Corporate Welfare
Government subsidies or
tax breaks of
questionable value to
private corporations.
32
Responsibility for Budget Deficits
• Congress and the President
– Role in perpetuating budget deficits=>
– Decisions on programs, spending levels, & taxes
• Congressional appropriations & Presidential veto
• Pork Barrel politics. Earmarks, & Budget riders*
• *Usually attached to last minute Omnibus “must pass” Bills
– Classic example: April 2007 Defense Supplemental
• The American Public
– Congress responds to the wishes of the voters
– Balancing the budget vs. preserving key programs
• Top tax breaks favored by public (Figure 16-8)*
33
Top Tax Breaks
$400+ Billion in lost
annual revenue
34
The Budgetary Process - Historic overview
• Budgetary Process from George Washington to Nixon:
– Key Change: Budget & Accounting Act of 1921 =>
• Power of President’s control over Executive Branch enhanced
• The President submits consolidated Budget to Congress from then on…
– Office of Management & Budget (OMB) – Nixon reforms in 1970
• Little change in Budget process until 1974:
– (The President proposes and Congress disposes):
The President
submits a budget
to Congress
Lets examine in more detail
Congress must
then approve
the budget(or not)
35
The (2 Year) Budget Process
FY 2008 Budget
FY 2009 Budget
FY 2010 Budget
Theory vs. reality!
New
Fiscal Year
Role of Continuing Resolutions (Reality)
36
Budgetary Reform Attempts (1970-2000)
• Both Congress & the President have attempted to make the
Budget process more rationale & disciplined thru reforms
– Nixon impounded $$$ to slow spending & deficit growth
– Democratic Congressional reaction:
• Congressional Budget & Impoundment Act of 1974
• Establishment of Congressional Budget Office (CBO) vs. OMB
• Divided government (Different Parties hold Executive & Congress)
– Conflicting budget priorities (President vs. Congress)
– Result: Continuing resolutions
• Bottom Line:
– Changing the rules has failed to overcome basic disagreements
between a GOP President and a Democratic held Congress 37
Budgetary Reform in the 1980s
• Congress passed the Gramm-Rudman Reform in an attempt
to bring fiscal discipline to the Budget process:
– Goal: Reduce deficits (result?)
– Growing deficits continued
– Partisan disagreement over budget priorities trumped reforms
• Key influence (again): Divided Government
– Lack of consensus & political will
– President Reagan (GOP) pushed for Tax cuts & strong Defense
– Congress (Democrats) desired to protect domestic programs ($$)
• Result: increased defense spending & tax cuts=> (but)
– Not offset by cuts in domestic programs=> result?
– Historic level deficits ensued
– (And it’s not that much different from what we are seeing now)
38
Deficits to Surpluses & Back Again
• 3 Serious attempts to reduce deficit spending made in 1990s
• Budget Enforcement Act (BEA) of 1990
– Set limits on spending growth & imposed sanctions
– Three separate categories “walled off” from changes
• Defense, domestic policy, & international affairs
• Increases must be offset by program cuts within own “walls”
• (No robbing Defense to pay for domestic program increases)
• Clinton Budget for 1993
– Some program cuts & higher taxes raised- result:*
– Deficits begin to gradually fall very slowly for first time
39
Budget Deal of 1997
• Let’s make a deal: (Clinton & the GOP Congress)
– GOP Aim: balanced budget by 2002
• GOP promise made in Contract with America
• Reality: Presidents have a vote too (veto)
– Forced compromise=> major cuts in Federal programs
– Surplus first appeared in 1998 (first since 1969)
• Combined effects of all of above (Table 16-1)
– Growth of Deficits began to decline & then disappeared
40
Surpluses Until the Bubble Burst
• By 2002: Deficit Spending had returned – why?
• Combination of several factors:
– 2000=> Technology Bubble burst=> $$$ recession
– Stock Market freefalls (NASDQ down by 60%)
– Corporations cut spending & Job losses grew
– 9/11/2001 => another major shock to economy
– People sold more stocks, stop flying=> airlines failed
• Then- additional economic problems emerged:
– Cost of Katrina & other natural disasters
– Growing energy costs (oil & natural gas)
– Rise in DOD spending & growing cost of Iraq War ($500B)
– Finally: Tax cuts not offset by cuts in Federal spending41
Is the Budget Process Irrational?
• Role of past Budgets amount to tinkering at the margins
– Incremental Budgeting=> autopilot budgeting
– Zero based budgeting=> too hard & disruptive
• Mechanical systems of reform as a substitute?
– Conclusion: The Budget cycle was not a
substitute for fiscal discipline
– Political Realities dictate political behavior
• The dirty little secret in Washington is:
– Political priorities determine budget fiscal priorities
– (& Divided Government results in conflicting priorities)
– Politicians respond to conflicting Public (or voter) demands
• & will do whatever is most likely to get them reelected
42
Back-up Slides
43
Actual GDP growth: 2.2% in 2007
& 1.5% projected for 2008 (IMF)
Deficit as a % of GDP
Any Problem with the Administration’s Projections?
Problem: Based on assumptions that GDP will grow 3.3%,
& Federal revenues will steadily increase as a result.
44
Social Security & Medicare Trends
45
Government Revenue Sources- 2000
10%
5%
50%
32%
Income Taxes
Excise Taxes
Payroll Taxes
Estate, Customs
Corporate Taxes
3%
46
Review: Budget Deficits & Surplus Over Time
2005 2006 2007 2008 2009 2010 2011 2012
e
d
p
r
o
j
e
c
t
e
d
P
r
o
j
e
c
t
e
d
P
r
o
j
e
c
t
e
d
P
r
o
j
e
c
t
e
d
P
r
o
j
e
c
t
e
d
P
r
o
j
e
c
t
e
d
239B
248B
379B
377B
382B
$427B
415B
457B
How does Congress contribute to Budget Deficits? What’s the problem?
47