What does a surplus or deficit mean in practice? Is there any good political reason to run a surplus if it just benefits the next guy? Does it depend on the financial clout of the country involved?
A surplus can be used to benefit a current political administration, or it can, as you wrote, be held over to grow larger and benefit the next guy, or the guy after that, etc… However, whether or not that’s a problem for you really just depends upon who you support politically.
If you’re a Democrat, you probably want the surplus to be used to pay down the national debt and fund social welfare programs (including off-budget ones), and you most likely accept that it won’t be used to support a tax cut (at least not a huge one). If, on the other hand, you’re a Republican, you probably want the surplus to be used to support tax cuts, issue tax “refunds” (in quotes to accomodate the current adminstration’s quixotic definition of the word…), increase defense spending, etc., as well as pay down the debt, and you understand that the money won’t be spent on funding medicare or the AmeriCorps. If you’re a Libertarian, you’re probably just upset that the government took so much of your money, and you want it back.
As for the economics, well, I’m no expert, and the ifs and buts can really get out of hand here. Generally, running a deficit (presumably you mean Keynesian deficit spending in an attempt to “jump-start” a sluggish recession-leaning economy) opens up a market for an increased GDP, which leads to a boost in business productivity. This creates jobs, creates greater personal income, boosts consumer confidence, increases consumer spending, which, in turn, creates a need for more business productivity, which creates more jobs, etc… On the bad side, deficit spending can also drive up inflation, which at low levels is generally considered okay, but at higher levels should be avoided.
As for running a surplus, in addition to providing quite a bit of spending cash to the government, a surplus usually does drive down inflation. However, the fact that the government has plenty of money means that there’s no demand for an increase in the GDP and thus no increase in the corresponding demand for an increase in labor. This means that too much of a good, fat surplus can create an increase in unemployment, a decrease in personal income, a decrease in consumer and business spending and a fall in consumer confidence.
With regard to your comment on the “clout of the nation involved,” I don’t quite understand. Are you referring to the clout of the nation from which the US may be borrowing or with which the US may be trading on credit? Generally, the US borrows (when deficit spending) by selling T-bills to its own citizens, and T-bills are just about the most stable investment you can purchase in the US. If, however, you’re referring to the national security implications of running a deficit, then it bears pointing out that we do make a lot of deficit purchases from questionable states (one state in particular comes to mind), who, if they determine that our national security interests conflict with their terrorist-sponsoring proclivities, often threaten to manipulate their US investments in ways that would be devastating to our economy. But that’s a discussion for another post. Read “The Fall of the House of Saud,” by Robert Baer if you’re so inclined.
If you have a debt, you have to pay interest on it, and that reduces what you can spend on other things. A surplus reduces debt; a deficit increases debt; and both affect future interest payments.
Personally, I think that the US should worry a lot more about the trade deficit, which is unhealthily large, and has been so for a long time.
Guy_Incognito, that was a great reply. Thanks. With regards to the “financial clout of the country involved” I was wondering if smaller economies than the US’s need a different fiscal approach. I guess that the same rules apply across the board, but wondered if being the powerhouse behind the world’s economy might change the ground rules.
Theoretically, the budget can act as a macroeconomic tool in the hands of the president & legislature. Whether they can really meaningfully respond is doubtful, to me, since the budget is done only once a year.
A federal government debt per se is not a bad thing. Generally speaking, one takes on a debt because it allows them to consume today what they would prefer to not wait for until tomorrow. It is not obvious that it is bad to have debt and, in fact, a little can be considered a good thing because the price of US debt instruments are an important part of asset pricing in capital markets.
One also has to deal with the issue of Ricardian Equivalence. The basic idea is that those who borrow are paying themselves back, so it’s no big deal. In the States, most of the taxes are paid by the rich and most of the people buying US bonds are the rich, so they’re lending the money to the gov’t and getting paid back by the gov’t.
What the deficits are spent on makes a difference, I’m sure. If the federal gov’t were building pyramids, we should be more concerned. But the federal government builds highways, funds education, funds police, and all sorts of other stuff. In this light, it is entirely possibly that a fair portion of the federal government debt is worth carrying.
Theoretically, the federal defecits & surplusses affect interest rates and therefore affect business. If the federal gov’t is borrowing money in the private market, they’re adding to demand and driving up the cost of money, which will affect the ability of private firms and individuals to borrow money. I don’t know how big this effect is.
There are various claims that the debt is too large. If the federal gov’t has to miss payments, then the quality of its credit drops and so does its ability to borrow. If it can’t borrow, it has to either cut spending or raise taxes. In a worst-case scenario, there’ll be a meltdown.
I don’t know if being a big player is what lets the US carry so much debt so much as the mere size of the economy. A rich guy may have shit-loads of debt without being in financial trouble; I can only carry a few bucks of debt before I’m going down the shitter. The difference isn’t that the rich guy can throw more weight around; the difference is that he’s operating on a larger scale.
Hope that helps.
I don’t quite follow this. How exactly would a government surplus increase unemployment, decrease personal income, etc.? I thought GDP increased because more goods and services are produced (I don’t quite know what a “demand for an increase in the GDP” is), and I don’t really see why a government surplus would cause the economy to produce fewer goods and services. (Unless you mean that the government surplus is produced by levying crushing taxes on economic activity.)
Since “the next guy” is our own children, that’s a good reason in my book. Imagine for a minute there was no national debt. That money that we’re spending on interest could be used for better purposes or be refunded to the people. When we retire, a great percentage of the national budget is going to be spent paying off the debts run up by Reagan and the Bushes. Don’t forget that Reagan ran up more debt than presidents Washington thru Carter combined. Thus, this huge debt that we have is nearly all due to Reagan and the Bushes.
The idea with this is think of money as another commodity on the supply curve. With an over abbundance of money it isn’t as valuable, thus inflation sets in. For instance, if you have 1$, a 1$ price tag on a loaf of bread is pretty rough, but if you have 100$ you have no trouble paying it, but pretty soon the guy making the bread is going to take it to 2$ or 3$. People start to get raises, but not everyone, and eventually some people can’t afford the bread. This pushes inflation. Because raises in income are based on more money not more productivity there is no increase in productivity to cover the extra money. There are ways to keep all of this from happening though.
When does a gov’t bond mature? If you bought a bond in 1980 that matured in twenty years, then it’d be paid off by now.
Additionally, suppose there are two people: rich and poor. Rich buys a bond to fund a gov’t deficit. Now each person has one child. Rich bequeaths his cash to his kid, likewise poor guy does the same. The rich kid gets the bond and the bill for it. He pays off the bill with the bond. It’s hard to argue that he’s much worse off than he would be without the previous generation having a deficit. The poor family neither benefits from the bond, nor pays for it.
Obviously, in the real world things are more complicated; however, the idea is, at least arguably, essentially there: The wealthy are generally the ones who buy these bonds and the wealthy are the ones who pay the majority of the taxes. In the mean time we get roads, defense, universities, yadda, yadda.
Deficits aren’t prima facie bad things. If they’re well managed and used on good things, then they’re good; if they’re poorly managed and used on bad things, then they’re bad.
MEBuckner, the idea is that taxes put a drag on the economy, so to speak. Technically, the following two sentences is not accurate! If the budget is balanced, then the drag and the push are even. If there is a deficit, then the push is larger; if there is a surplus, then the drag is larger.
Now, because of the way the math works out, a balanced budget is actually a net push, which, off the top of my head, might allow for a perpetual surplus to be run while allowing the drag and push to be the same. However, let’s not muddy up the waters and cloud the essential point of ME’s question: Taxes take money out of circulation and slow down economic activity, hence a surplus would cause the economy to cool down.
With regard to my comment that a surplus can result in a decreased GDP, an example: when a government attempts to deficit spend its way out of a sluggish economy, part of that deficit spending is the awarding of government contracts to US companies. These contracts necessarily call for an increase in the productivity of the companies to which they are awarded. As a result of that increased demand for productivity, the companies must hire more workers. This generates income for both the companies and the workers, which the government may later tax to raise its own revenue and decrease the deficit.
When a government has a surplus, there is always the possibility that the opposite may happen: the government doesn’t need the tax revenue generated by an increased GDP to pay for roads, schools, etc.; it pays for those things with the surplus. This has the potential to create a lull in the demand for productive labor, which leads to unemployment.
Obviously, there are mechanisms designed to prevent unemployment in times of surplus, just as there are mechanisms to control demand-pull inflation in times of deficit. Of course, there are also experts who say that fiscal policymaking is simply a bad way to attempt to manipulate a nation’s economy altogether.
Good answers…
I’d just like to add that even if a deficit is the answer to a sluggish economy… how you spend the money your taking from future generations is also important. Did Bush spend that extra money well ? Did he spread it in a way that really helps bring back economic growth ? (My opinion… no…)
Its one thing to run a deficit… another to run it “well”.