Learn the toughest concepts covered in your Macroeconomics class with step-by-step video tutorials and practice problems.

Fiscal Policy

Budget Surplus and Budget Deficit


Budget Deficit and Surplus; Cyclically Adjusted

Play a video:
Was this helpful?
now let's discuss the government's budget and discuss a budget surplus and a budget deficit. So the government's budget involves the inflows. Well the government gets its money from taxes, right? So the taxes are the tax revenue and then it's gonna spend money on its purchases, government purchases and they're also gonna have transfers. So when I say transfers, this is generally like welfare payments um or any sort of transfer of money that they're doing, it's not actual spending um maybe unemployment payments that they're making, any sort of uh transfer that they're making without actually getting something in return. Right? No, they're not really receiving anything when they give welfare out to poor people, they're they're basically doing their job as the government to do these transfers. However, purchases is more like when they build a highway system or something like that, that's government purchases. So here's our our general equation for our our budget, we're gonna have the government savings which is uh the budget surplus or deficit. The government savings is equal to the tax revenue, which is the inflows. Right, just like we said, this is the inflows to the government minus the outflows, right? Which is the purchases and the transfers that they give to other people. Okay, so if those inflows are greater than the outflows, if there's more money coming in from taxes than money going out, Well, we have a budget surplus, there's a surplus and the government will be saving money, they'll be they'll have some savings of their own. So this budget surpluses when the inflows from tax revenues exceed the outflows from purchases and transfers, right, that's a surplus. They they have money left in the bank at the end of the day. However, something much more common in the US is the idea of a budget deficit and this is when the inflows from tax revenues are less than uh the outflows from purchases and transfers. So there's more money being spent than money coming in from taxes. Okay. So we have here a graph of um the budget deficit here in the U. S. So when you think of us a think budget deficit. Okay, that's generally the position we've been in for quite a while here. Like you can see on the graph. So here's our R0% of GDP. So any point above this, zero is a time when we were in a budget deficit and noticed this starts all the way back in 1964, all the way through 2013 here on this graph. And we're pretty much always above the zero line. Right, we're pretty much always in a budget deficit. Um except for a short period there in the 1990s. Okay, so these purple spots on the graph are recessions. I wanna point something out about these recessions here on the graph. Okay, what does it look like the trend happens during these recessions during each of these recessions, there's this increase happening, right, There's a there's an increase in in government spending or excuse me in the budget deficit uh during these recessions and that's because of the government spending like I just said so during recessions government spending increases right? Because the government is trying to counteract uh this lull in the economy. There's a decrease in in just consumption and GDP so the government spends money to try and get the economy going again. So these increases in government spending you can imagine are gonna lead to larger budget deficits right? Because they're going to increase their spending, increase their purchases and that's going to increase the budget deficit. So that's the trend that we kind of see happening here during these recessions. Is that the government is trying to counteract the recession by increasing their spending in each of these cases. Okay. And that's that's basically what we're dealing with here in fiscal policy. So the size of the budget deficit as we can see is dependent on the business cycle, right? When we're in a recession we're gonna increase our government spending when we're expanding the government doesn't need to expend so much. So what they do to try and keep this graph from being so volatile, It's kind of staggers a lot. They use the cyclically adjusted budget deficit or surplus. So what they do to kind of kind of tame the graph just a little bit is there going to assume that the government budget deficit or surplus they want to see what the deficit or surplus would be if the government if the economy was at its potential G. D. P. So if we were already at our long run potential at any point in time, remember during a recession were below our long run potential during an expansion during an inflationary period. Right? We could be beyond our potential and assist in a situation of over employment. Um and just rising prices and being somewhere beyond our potential and it needs to be tamed back down. So what they do is they use this cyclically adjusted budget deficit or surplus. They want to take out the effect of those uh temporary spending changes that are going on. So remember that this automatic stabilizer we've talked about this before is this this is when spending and taxes change automatically through the business cycle. So remember that there's gonna be some um some things that are being affected based on our point in the business cycle. Well we want to tame this so that it looks more constant. So in a recession. Remember that income is decreasing, leading to lower taxes and during an expansion income is increasing leading to higher taxes. That's the idea of the automatic stabilizer. There's no change in the fiscal policy. There's nothing being done specifically. However the level of taxes is going up or down now when you look at a cyclically adjusted budget deficit on the graph it doesn't look too much different than the other one. Then the the actual budget deficit. So the purple line here is the budget deficit, the actual and then you can see the orange line is a little bit tamer, right? It's always kind of closer to the inside uh than the than the actual budget deficit. Um And that's because they're adjusting it based on these factors of where we are in the business cycle, They're taking out those changes in taxes that are occurring based on where we are in the business cycle. They want a more clear picture of what's actually happening now. I want to make a point that it's one thing to know what a cyclically adjusted budget deficit or surplus in this class. It's not going to go so deep. It's more about just maybe knowing the definition of what this is and more more likely understanding just what a budget deficit or budget surpluses. I added this in because it's just something that a lot of text books like to talk about and just throw it in there and I just wanted to have it here for you just in case you needed to know it. Just double check uh how deep you're really going to go with this for the most part. You just need to know what a budget deficit or budget surpluses. Cool. Alright guys, nothing to crazy here, let's go ahead and move on to the next video. Mhm