A federal deficit occurs when the government's
expenditures for the year exceed its income. The government then
pays for those excess expenditures by borrowing money, adding
to the national debt. With so much stimulus money being spent
to prod the economy out of recession, the federal deficit will
reach record levels this year. According to the Congressional
Budget Office, the federal deficit will quadruple in 2009, from
$459 billion last year to $1.845 trillion this year (Source: The
Economist, June 10, 2009). While the president vows to slash
the deficit in half within four years, the Congressional Budget
Office estimates the deficit will still total more than $1 trillion
per year by 2019. Are these huge deficits cause for concern? It's
tough to decide, since opinions range from "deficits don't
matter at all" to "deficits will ultimately result in
federal bankruptcy." It might help to put the federal deficits
in perspective.
In 1998, for the first time in 28 years,
the federal government ran a budget surplus. Those surpluses lasted
four years. During that time, concerns about the viability of
the Social Security system seemed less urgent, and there was talk
about what would happen to the bond market if the federal government
paid off all its debt. These discussions were short lived. Following
two tax cuts, the September 11 terrorist attacks, the Afghanistan
and Iraqi wars, and a recession, the federal deficits were back
and have not gone away since.
Of course, a federal deficit results in
an increase in the national debt. Currently, the gross national
debt is approximately $11 trillion. A significant portion of that
debt is owed to the Federal Reserve and other government accounts.
But the public holds $6.8 trillion, or 62%, of the total debt
(Source: Region Focus, Winter 2009). China and Japan are
the largest foreign holders of this publicly held debt.
While the dollar amounts of the deficits
and national debt are enormous, these numbers are often presented
as a percentage of gross domestic product (GDP) to compare to
past deficits and debt levels. The 2009 deficit of $1.8 trillion
is 13.1% of GDP, twice the post-World War II record of 6% set
in 1983 (Source: Fortune, June 22, 2009). The Congressional
Budget Office's estimate of a $1.2 trillion deficit for 2019 would
represent 5.7% of GDP, an extremely high number for a healthy
economy.
In 2008, federal borrowing totaled 42% of
GDP, about average for post-war years. By 2019, it could reach
82% of GDP, close to double the current level. At that point,
one out of every six dollars the government spends will go to
interest payments (Source: Fortune, June 22, 2009).
The general consensus is that the government
needs to spend money now to stimulate the economy out of the current
downturn. Without running deficits, the recession is likely to
last longer and become more severe. When recessions cause a rise
in unemployment rates, people spend less, which causes more people
to lose their jobs, precipitating a downward spiral in the economy.
Using short-term deficits to stimulate the economy helps reverse
this cycle.
The problem is that even if the short-term
deficits lift the economy out of recession, projected increases
in Social Security, Medicare, and Medicaid expenditures make it
difficult to envision a scenario where the government can operate
without deficits. Spending is growing astronomically, while revenues
as a percentage of GDP are basically flat. Spending is primarily
driven by entitlements, such as Social Security, which are projected
to grow enormously as the population ages. Revenues, on the other
hand, are based heavily on the individual income tax, which typically
rises and falls with GDP.
What impact will these huge deficits have
on the economy if they continue? No one knows for sure. But perhaps
the federal government should pay special heed to what got us
into the current recession in the first place - consumers living
beyond their means, incurring debt to support a lifestyle they
couldn't afford. Will the government be next?
