Budget Deficit

Budget Deficit | Terms to Know and Love | Long Term Effects | Outlook for the Future | Comparisons | Data | Works Cited

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Government Budget

website by: Adrienne Mack and Leann Hart, Intermediate Macroeconomics Spring 2006

Link to Budget Deficit Project from Intro. Macro (Fall 2004)

Government Outlays

• government purchases(G): expenditures on currently produced goods and services (government consumption) or capital goods (government investment).

• transfer payments(TR): payments made to individuals, which the government does not receive current goods or services.

examples:

Social Security payments

military and civil service pensions

unemployment insurance

welfare payments

Medicare

• net intrest payments (INT): intrest paid to the holders of government bonds minus the intrest received by the government. (outstanding government loans, which increase with higher rates of government borrowing)

Subsidies

Another minor category included in government outlays is subsidies less surpluses of government enterprises. Subsidies are government payments that are implemented to affect the production and prices of goods

Taxes

• personal taxes- the largest form of government taxes, includes personal income and property taxes

16th Amendment: in 1913 this bill legalized income taxes

• contributions for social insurance- primarily Social Security taxes

• inderect business taxes- sales tax

• corporate taxes- taxes received from corporate profit

Graph

Deficit

A budget deficit occurs when outlays exceed revenue collected from taxes.

current deficit identifies how much the government will have to borrow to cover its expenditures

  current deficit = outlays - tax revenue
                  = (government purchases + transfers + net interest) - tax revenues
                  = (G + TR + INT) - T

primary deficit excludes net intrest from government outlays, since net intrest does not represent current program costs but the cost of past expenditures financed from government borrowing. Primary deficit identifies whether or not the government will be able to aford current programs.

  primary deficit = outlays - net interest - tax revenues
                  = government purchases + transfers) - tax revenue
                  = (G + TR) - T

Graph

Effects on Macroeconomy

Fiscal policies can have real affects on important economic factors, such as output, employment and prices.

Aggregate Demand

?G → ?C → ?S

IS → shifts up & rt.

AD → shifts up & rt.

Ricardian Equivalence

The Classical model assumes that with a lump-sum tax, no changes occur in desired national savings, so the IS and AD curves remain unaffected

Keynesian approach

The Keynesian model shows how taxes can influence household saving decisions, stating taxes directly affect household disposable income and desired consumption. Keynsian economists advocate government intervention and the use of fiscal policy to stabalize the economy and maintain full employment.

Automatic Stabilizers

The budget deficit tends to rise during periods of economic recession and fall during economic booms.

full-employment deficit: what the deficit would be at full-employment level

The government has created provisions, which are inherent to the budget, that cause government expenditures to automatically rise during a recession. This occurs without legislative action.

examples:

• unemployment insurance
• income tax system

Graph

Government Capital Formation

Government capital is long-lived physical assets, which affect future production

Incentives

?T → changes in financial rewards

affects S & I

• average tax rate: taxes/ before-tax income

     ?average tax rate → ? amount of labor supplied

the more you, work the more money you will get; the same % of tax will be removed from your income

• marginal tax rate: fraction of additional dollar of income that must be paid in taxes

  ?marginal tax rate → ? amount of labor supplied

if you work more, after-tax rewards decline

Deficit vs. Debt

• government budget deficit-a flow variable; the difference between expenditures and tax revenues or the change in debt for a current year

• government debt-a stock variable, the total value of government bonds outstanding at any time

Debt-GDP Ratio

GDP is an important aspect when measuring debt. A high GDP means more resources are available to pay principle or intrest payments on government bonds

  debt-GDP ratio = quantity of government debt outstanding
                               GDP

     Q=(B)
      P*Y
  
  Q: ratio of government debt to GDP
  B: nominal value of government bonds outstanding
     (government debt)
  P: price level
  Y: real GDP

growth rate of debt-GDP ratio

Description

Description

Description

equals the primary deficit over government debt plus the nominal intrest rate minus the growth rate of nominal GDP