U.S. Federal Budget Deficit:
How Big Is It and Where Did It Come From?
Disclaimer: Nothing in this essay should be viewed as advocating any ideological or policy position on proper levels for federal budgets or deficits. All I’ve done in this essay is evaluate the accuracy of political complaints about the size and source of federal budget deficits by comparing these criticisms with official data and information from public records.
The Current Debate Over the Federal Budget Deficit
Government budget deficits occur when the amount of money the government spends (expenditures) exceeds the amount of money the government accumulates from taxes (revenues). So budget deficits can occur because taxes are too low, because government spending is too high, or both. Since 1960, the US federal government has run a budget deficit in all but five years (in 1969, 1998, 1999, 2000, and 2001 the federal government ran a budget surplus).
While the US federal government almost always runs a budget deficit, citizens rarely pay much attention to this fact. Things are different today. For the first time in 25 years, significant numbers of American citizens appear to be concerned about the federal budget deficit. Much of the rhetoric surrounding the 2010 Congressional Elections focuses on the budget deficit. In addition, Tea Party activists are mobilized by the dramatic increase in the federal budget deficit. In this essay we will take a look at the size of the federal budget deficit (it’s really, really big), and try and figure out where this budget deficit came from.
How Big is the Federal Budget Deficit?
In three words, the federal budget deficit is “really, really big.” But what do we mean by big? Think about when people incur debt. If your neighbor incurs a debt of $1 million, is this a large debt? This depends upon how wealthy your neighbor is. If I’m your neighbor, this is a huge debt. If your neighbor is Brett Farve, the debt isn’t quite so big. If your neighbor is Warren Buffett (or even Jimmy Buffett), the debt is trivial. The same thing is true of government budget deficits. Whether they are “big” depends upon the wealth of the government. The best way to measure the size of the budget deficit is by looking at these deficits as a percentage national wealth, or Gross Domestic Product (GDP).
The 2009 federal budget deficit was 9.9% of GDP. The 2010 federal budget deficit is estimated to be 8.9% of GDP. These are very big numbers. To put this in perspective, between 1960 and 2009, the largest federal budget deficit was 6% of GDP (in 1983 under President Reagan). So, the current federal budget deficit is 50% larger than the previous record.
New Presidents and Budget Deficits
Since the 1970s, budget deficits have tended to get larger during the first couple of years of a new presidential administration. I’m not sure why this is the case, but the data are pretty clear. Here I report the percentage increase in the federal budget deficit between the last year of an outgoing President and the second year of a new President:
Jimmy Carter’s First 2 Years: Deficit decreased 36% compared to Ford
Ronald Reagan’s First 2 Years: Deficit increased 48% compared to Carter
G.H.W. Bush’s First 2 years: Deficit increased 26% compared to Reagan
Bill Clinton’s First 2 Years: Deficit decreased 38% compared to Bush
G.W. Bush’s First 2 Years: Deficit increased 163% compared to Clinton
Barack Obama’s First 2 Years: Deficit increased 178% compared to Bush
Sources of the Federal Budget Deficit
Even in this historic context, the current growth of the federal budget deficit is very large. In short, during the Presidency of Barack Obama we have seen historic increases in the federal budget deficit. Why is this? Where did these huge budget deficits come from? Let’s take a look.
The Legacy Budget Deficit
New Presidents don’t come into office facing a balanced budget. Reagan inherited a budget deficit from Carter. Clinton inherited a budget deficit from George H.W. Bush. George W. Bush inherited a budget surplus from Clinton. Therefore, budget deficits are caused by something more than the policy decisions of new Presidents.
The 2009 federal budget deficit was 9.9% of GDP, or $1.41 trillion. This is a huge figure. Why is the budget deficit so large? In January 2009, before President Obama took office, the US Congressional Budget Office predicted that with no new policy changes, the 2009 federal budget deficit would be $1.2 trillion, or 8.3% of GDP (CBO contains the nonpartisan budget experts in the federal government). That is, if President Obama or President McCain would have simply continued the policies of President Bush, the federal budget deficit would have been $1.2 trillion. This figure is often called a “legacy deficit”. The difference between this projection and the actual 2009 budget deficit of $1.41 trillion -- $201 billion – can plausibly be attributed to the policies of President Obama.
The same CBO report predicted that the 2010 budget deficit would be $717 billion, or 4.9% of GDP. Projections get less accurate as they move farther into the future, but let’s assume this estimate was on target. The actual budget deficit in 2010 will probably be $1.29 trillion. The difference between the CBO projection and the actual 2010 budget deficit is $573 billion.
In total, then, the difference between the CBO’s 2009-2010 estimates of budget deficits and actual budget deficits add up to $774 billion. This increase in the total 2009-2010 budget deficit can plausibly be attributed to the policies of President Obama. This is a very large number, equal to roughly 5.3% of GDP.
The Deficit and the Stimulus Plan
What policy actions did President Obama (and the Democratic Congress) take to create this $774 billion increase in the federal budget deficit? It turns out that this increase in federal debt is almost exactly the same size as the 2009 “stimulus plan” (the American Recovery and Reinvestment Act, or ARRA). ARRA increased federal spending by $499 billion and included tax cuts of $288 billion. Together, these increased expenditures and reduced revenues added $787 billion to the federal budget deficit (this back of the envelope calculation ignores the more complicated ways in which the ARRA affected revenues and expenditures). It’s fair to say, then, that President Obama’s “stimulus plan” is largely responsible for the $774 billion increase in the federal budget deficit in 2009 and 2010 above the legacy deficit.
Why did President Obama push so hard for a stimulus plan that increased federal debt by over 5% of GDP? Lots of explanations have been offered, but the fact is that Presidents don’t make these decisions on their own. They respond to the input of experts and representatives of important interests that are affected by these decisions. In late 2008 and early 2009 the US economy was in the midst of the largest economic downturn since the Great Depression. There was real fear that a second Depression was right around the corner. Faced with this situation, the overwhelming majority of experts and many powerful interest groups argued that the stimulus plan was essential if we were to avoid this Depression. This recommendation is also consistent with the dominant theory of how economies work. Here are some examples of experts and groups asserting that the stimulus plan was needed:
· Paul Krugman, George Stiglitz, Ken Arrow, Dan McFadden, and Robert Solow, all winners of the Nobel Prize in Economics
· Private economists Alan Sinai (chief economist for Decision Economics), Mark Zandi (chief economist for Moody’s), and David Wang
· Paul Volker and Ben Bernanke, past and present chairmen of the Federal Reserve Board
· Economists who advise politicians from both parties, including Alice Rivlin (Budget Director for President Clinton), Laura Tyson (Chair of the Council of Economic Advisors under President Clinton), Greg Mankiw (Chair of the Council of Economic Advisors under President Bush), and Mark Zandi (economic advisor to Presidential candidate John McCain).
· A majority of Democratic state governors and a majority of Republican state governors
· The U.S. Chamber of Commerce
To be sure, not all economists thought the stimulus plan was a good idea. But on balance, a large majority of experts supported the stimulus plan, and the majority was even larger among the “more famous” economists and analysts. Couple this with support from a majority of Governors of both parties and strong support from representatives of the business community, and it would have been tough for President Obama to ignore this advice and not push for the ARRA.
One final note. While no Republican members of the US House of Representatives voted for the ARRA, they did offer an alternative $490 billion “stimulus plan” that would have increased the federal budget deficit by this amount. The ARRA, then, increased the federal budget deficit roughly $300 billion more than the Republican proposal. Had the Republican proposal carried the day, the federal budget deficit would still be above 8% of GDP – a record.
