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Glossary

# Government Budget Value

## What is the government budget balance?

The government budget balance, often referred to as the general government balance, public budget balance, or public fiscal balance, is a measure that indicates the overall difference between government revenues and government expenditures within a specific time period, typically a year. It provides insights into the financial health of a government and its ability to manage its finances and is often analyzed by institutions like the Congressional Budget Office for comprehensive fiscal assessments.

A positive government budget balance indicates a surplus, which means that government revenues exceed government expenditures during that period. This surplus can be used to pay off existing debts, invest in various projects, or be saved for future needs.

Conversely, a negative government budget balance indicates a deficit, which means that government expenditures exceed government revenues. This deficit is usually financed through borrowing, which can lead to an increase in public debt over time.

The government budget balance is an important economic indicator as it reflects the government’s fiscal discipline, ability to manage its finances, and impact on the overall economy. A consistent pattern of deficits might lead to concerns about the government’s ability to meet its financial obligations, while surpluses can contribute to reducing debt and increasing economic stability.

## How is the government budget balance calculated?

The government budget balance, also known as the fiscal balance, is calculated by finding the difference between a government’s total revenues and its total expenditures over a specific time period, usually a year. This calculation provides insight into whether the government is running a surplus or a deficit. The formula for calculating the government budget balance is as follows:

The equation used to compute the budget balance is expressed as follows:

S = T - G - TR

In this budget balance formula:

• S represents Government Savings, which is also known as the Budget Balance.

• T signifies Tax Revenue collected by the government.

• G stands for Government Purchases of Goods and Services.

• TR represents Transfer Payments made by the government to individuals or other entities.

The resulting number can be either positive or negative:

1. If the calculated balance is positive, it indicates a government budget surplus. This means that the government’s total revenues are greater than its total expenditures during the specified period.

2. If the calculated balance is negative, it indicates a government budget deficit. This means that the government’s total expenditures exceed its total revenues.

To provide a better perspective on the government’s financial position relative to the size of the economy, the fiscal balance is often expressed as a percentage of Gross Domestic Product (GDP). This ratio is known as the fiscal balance as a percentage of GDP. It helps in understanding the government’s fiscal performance in relation to the country’s overall economic output.

Mathematically, the fiscal balance as a percentage of GDP can be calculated as follows:

Fiscal Balance (% of GDP) = (Government Budget Balance / GDP) * 100

Where GDP represents the Gross Domestic Product for the specified time period.

This ratio is used as a measure to assess a government’s ability to manage its finances and meet its financing needs. A positive fiscal balance as a percentage of GDP suggests fiscal prudence and the potential for debt reduction, while a negative ratio might indicate a need for adjustments in fiscal policies to reduce deficits.

## What is a balanced budget in a government setting?

The budget balance of a government takes into account various factors including tax revenue, government expenditures, transfer payments, and debt service payments.

In a government setting, a balanced budget refers to a situation where the total revenues from taxes of the federal government and other sources are equal to or greater than its total expenditures and outlays for a specific period, usually a fiscal year. This means that the government is not running a deficit and is not accumulating additional debt during that period.

A balanced budget is achieved when:

Total Revenues ≥ Total Expenditures

In other words, the government is living within its means and is not relying on borrowing to cover its expenses. A budget surplus occurs when total revenues exceed total expenditures, while a budget deficit occurs when total expenditures surpass total revenues.

A few key points to note about balanced budgets and their implications:

1. Budget Surplus. A budget surplus occurs when the government’s revenues exceed its expenditures. This surplus can be used to pay off existing debts, invest in infrastructure, create a savings fund, or be returned to taxpayers through tax cuts.

2. Budget Deficit. A budget deficit happens when the government’s expenditures exceed its revenues. To cover the deficit, the government may need to borrow money, which contributes to the accumulation of national debt.

3. Impact on Debt. Persistent budget deficits lead to an increase in the national debt over time, as the government continuously borrows to finance its operations. The national debt represents the total amount of money the government owes to creditors.

4. Economic Considerations. Achieving a balanced budget can have economic implications. During periods of economic growth, governments may have higher revenues due to increased economic activity, making it easier to achieve a balanced budget. In contrast, economic downturns can lead to reduced revenues and higher expenditures, making it challenging to maintain a balanced budget without having to reduce government spending or raising taxes.

5. Government Policies. Government policies, including taxation, federal spending, and fiscal measures, play a crucial role in achieving and maintaining a balanced budget. These policies need to consider both short-term economic conditions and long-term fiscal sustainability.

While a balanced budget can be a desirable goal for fiscal responsibility, achieving it consistently can be challenging due to economic fluctuations, unforeseen events, and varying policy priorities. Many governments aim to strike a balance between responsible fiscal management and addressing the needs of their citizens and the broader economy.

## Understanding the causes of budget deficits and surpluses

The budget deficit occurs when expenditures surpass revenue, while the fiscal deficit is a specific type of budget deficit that arises when the annual income is insufficient to cover the accrued expenses.

The size of a nation’s budget deficit or surplus is primarily influenced by both the state of the economy and the policies enacted by the government related to spending and revenue. The collaboration between Congress and the President sets these factors. The health of the economy is typically assessed through indicators such as the growth of the country’s gross domestic product (GDP), fluctuations in employment rates, and the stability of prices. Essentially, when the income of individuals and businesses decreases, the government’s revenue also declines. Conversely, when the economy is thriving and earnings increase for individuals and businesses, the government collects more revenue. On the expenditure side, changes in government spending can also affect the budget, leading to either deficits or surpluses.

Legislation that increases spending on areas like Social Security, healthcare, and defense beyond the scope of available revenue can increase the budget deficit. For instance, during the COVID-19 pandemic, although there was an increase in revenue (rising from approximately \$3.5 trillion in 2019 to \$4 trillion in 2021), the significant rise in government spending due to widespread unemployment and healthcare needs resulted in spikes in the budget deficit.

## Fiscal policy and budget balance

The interaction between fiscal policy and the budget balance is crucial in understanding how government actions influence economic conditions. Fiscal policy involves the government’s use of taxation and government spending to influence the overall economy. As previously mentioned, the budget balance is the difference between government revenues and government expenditures. Let’s delve deeper into the relationship between fiscal policy and the budget balance, as well as how the government’s actions can impact the economy:

1. Expansionary Fiscal Policy and Budget Balance

• Expansionary fiscal policies involve measures that aim to stimulate economic activity during periods of economic downturn or recession.

• These policies typically include reducing taxes, increasing government spending, or boosting transfer payments (such as unemployment benefits).

• The budget balance tends to decline when the government engages in such policies. This can lead to a shift from a surplus to a deficit or from an existing deficit to a larger deficit.

• The reduction in taxes and increased government spending lead to higher economic activity, which can help counteract the negative effects of a recession. However, this may also lead to higher government expenditures and a lower budget balance.

2. Contractionary Fiscal Policy and Budget Balance

• Contractionary fiscal policies are implemented to cool down an overheating economy and control inflation.

• These policies often involve increasing taxes, reducing government spending, or decreasing transfer payments.

• When the government adopts contractionary measures, the budget balance tends to increase. This can result in a shift from a deficit to a surplus or from an existing surplus to a larger surplus.

• Increasing taxes and reducing government spending can reduce overall demand in the economy, which might help control inflation but could also lead to slower economic growth.

3. Automatic Stabilizers and Budget Balance

• Automatic stabilizers are changes in the budget balance that occur naturally as a result of economic fluctuations, without deliberate changes in fiscal policy.

• During economic recessions, the budget balance tends to decrease due to lower tax revenues (due to reduced income and corporate profits) and increased government spending on transfer payments (unemployment benefits, food subsidies).

• Conversely, during economic expansions, the budget balance tends to improve as higher tax revenues (from increased income and corporate profits) and reduced government spending on transfer payments occur.

• These automatic stabilizers help soften the impact of economic fluctuations without the need for explicit policy changes.

4. Government Intervention and Economic Impact

• The government’s decision to take action or "do nothing" during economic crises depends on the severity and speed of economic changes.

• During significant economic downturns like the Global Financial Crisis of 2007-2009, allowing the economy to "self-correct" might take a prolonged time and lead to severe consequences such as prolonged unemployment and economic depression.

• In such situations, the government often intervenes through both monetary policies (central bank actions) and fiscal policies (government spending and taxation) to stabilize the economy and prevent a deeper crisis.

In summary, the budget balance can be influenced by government actions through fiscal policy, which in turn affects the overall economic conditions. Fiscal policies can lead to changes in the budget balance by adjusting government revenues and expenditures. Moreover, automatic stabilizers play a role in naturally offsetting economic fluctuations. During severe economic crises, government intervention through fiscal and monetary measures is often necessary to prevent more severe consequences for the economy.

Supporters of a balanced budget assert that maintaining a balanced budget is crucial to prevent burdensome debt from being passed down to future generations. Similar to how households and businesses must manage their expenditures in relation to their income to avoid financial troubles, governments should also aim to balance tax revenues and spending.

Many economists agree that an excessive level of public sector debt can present a significant systemic risk to an economy. Over time, measures such as raising taxes or artificially increasing the money supply—leading to currency devaluation—might be required to service this debt. These actions could result in unfavorable consequences, including higher tax obligations, elevated interest rates that hinder access to credit for businesses and consumers, or even rampant inflation that disrupts the entire economy.

However, running consistent budget surpluses might not always be politically popular. While saving surpluses for emergency situations is prudent, governments are not expected to operate purely for profit, unlike businesses.

The existence of surplus funds within the government can lead to calls for either reduced taxes or, more frequently, increased spending. This is because accumulated funds in public accounts become an attractive target for special interest projects. Maintaining a balanced budget might help governments avoid the pitfalls associated with deficits and surpluses.

Conversely, some economists believe that budget deficits and surpluses have an important role to play, particularly through fiscal policy. They contend that the potential benefits of engaging in deficit spending outweigh the risks of amassing excessive debt, at least in the short term. Proponents of Keynesian economics argue that during economic downturns, deficit spending can be a vital tool for governments to counteract the effects of recessions.

According to this view, when demand declines during an economic contraction, it leads to a gross domestic product (GDP) drop. Deficit spending can compensate for diminished private demand or stimulate spending within key sectors of the economy.

Furthermore, Keynesian economists suggest that during periods of economic prosperity, governments should aim to achieve budget surpluses to temper excessive optimism-driven private sector demand. For Keynesians, maintaining a balanced budget could be seen as relinquishing the government’s responsibility to utilize fiscal policy to guide the economy in a specific direction. In essence, they view a balanced budget as a missed opportunity for the government to wield fiscal policy effectively.

## Example of a balanced budget

Let’s examine an illustrative scenario involving a government’s budget, the potential steps it could take to achieve a balanced budget, and how adhering to a balanced budget rule would impact its strategies.

Suppose we have the following figures for a government:

• Total Government Revenues (T): \$1 trillion

• Total Government Expenditures (G): \$1.5 trillion

• Transfer Payments (TR): \$0.2 trillion

Using these values, the budget balance (S) can be calculated as follows: S = T - G - TR = \$1 trillion - \$1.5 trillion - \$0.2 trillion = -\$0.7 trillion

Since the calculated budget balance (S) is negative, this situation represents a budget deficit. Now, let’s explore how the government could achieve a balanced budget:

1. Increasing Tax Revenue

• The government can raise tax revenue by \$0.7 trillion.

• This would result in the following calculation: S = \$1.7 trillion - \$1.5 trillion - \$0.2 trillion = \$0 (balanced budget)

2. Reducing Government Spending

• Alternatively, the government could cut its spending by \$0.7 trillion.

• This would lead to the following calculation: S = \$1 trillion - \$0.8 trillion - \$0.2 trillion = \$0 (balanced budget)

In a real-world context, the government has numerous options to achieve a balanced budget through combinations of revenue increases and spending reductions. However, these choices can be complex and have varying impacts on the economy.

In the scenario of a recession, increasing taxes or cutting spending might exacerbate the economic downturn. In such cases, the government might consider alternative strategies to address the deficit, such as borrowing funds to cover the \$0.7 trillion shortfall. However, borrowing comes with the cost of interest payments, especially if the government’s debt level is already high or it is perceived as a risky borrower.

If a balanced budget rule were in place, mandating that the government’s expenditures cannot exceed its revenues, the government would face challenges during economic downturns. Adhering to this rule might worsen the recession by limiting the government’s ability to stimulate the economy through increased spending. On the other hand, if no such rule existed, the government could use borrowing to bridge budget gaps. However, this could potentially hinder future economic growth due to high-interest payments on accumulated debt.

• ## Has the US government ever had a balanced budget?

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