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August 17, 2016
The Federal Budget: Understanding Fiscal Outcomes
The budgetary power of Congress is a core responsibility
and include matching wage taxes on employers and
that affects national economic conditions and future policy
employees that contribute to Social Security and Medicare
choices. This In Focus summarizes the role of Congress in
trust funds. The government also receives money from
the federal budget process, describes the key budget
hundreds of other taxes, fees, and fines, including excise
categories, and discusses recent budgetary trends and
taxes (taxes on certain consumption), estate and gift taxes
projections.
(taxes on transfers of certain property), customs duties
(taxes on imports), and Federal Reserve earnings.
Framework and Major Components
The legislative powers of Congress over the federal budget
The federal government incurs a deficit when outlays
are collectively known as the “power of the purse.” These
exceed revenues in a given year. If instead federal revenues
powers include the ability to collect and disburse resources
exceed outlays, then the difference generated is known as a
and to borrow from the public, and are more formally
surplus. As deficits and surpluses are measured over the
defined as spending, revenues, and debt in federal budget
course of a defined period of time (the fiscal year), they are
terminology. Spending moves resources from the
sometimes referred to as “flow” variables. Debt
government to individuals, firms, and institutions.
measurements may be taken at any point in time and
Revenues move resources in the opposite direction. Debt
represent the accumulation of all previous net government
results from federal government borrowing. Budget
borrowing activity (sometimes described as “stock”
outcomes (like how much revenue is raised or outlays are
variables). Federal debt increases when there are net budget
spent) are often measured annually over a fiscal year,
deficits and outflows made for federal credit programs and
which begins October 1 and ends September 30.
with increases in intragovernmental debt, which is
generated by trust fund surpluses. Budget surpluses, net
Federal spending is measured in two ways. Budget
inflows to credit programs, and decreases in
authority allows for federal agencies to enter into
intragovernmental debt reduce federal debt.
obligations. Outlays are federal funds disbursed to fulfill
obligations paid by the Treasury. For example, if Congress
Recent Trends
appropriates $1 million for a program through legislation,
that $1 million represents budget authority. However, no
Figure 1. Inflation-Adjusted Federal Surpluses and
outlays occur until Treasury makes payments from the $1
Deficits, FY1962-FY2015
million appropriated by Congress. Typically there is a lag
(as a % of Gross Domestic Product)
between when budget authority is granted and when outlays
occur. In some cases, appropriated funds are never
disbursed.
Spending programs are often split into three components in
budgeting discussions. Discretionary spending refers to
spending that is controlled by appropriations acts. This
includes most spending for defense programs and federal
agencies, and is typically approved on an annual schedule
known as the budget cycle. Mandatory spending
represents federal spending controlled outside of
appropriations acts. Social Security, Medicare, and
Medicaid spending comprise most of mandatory spending,
and are not usually tied to the budget cycle. Net interest
spending equals government payments on federal debt
offset by interest payments received from loans and federal
trust funds. The amount of federal debt and interest rates
Source: Office of Management and Budget, Historical Tables, Table
determine the size of net interest payments.
1.2.
Federal revenues come from individual income taxes,
Figure 1 shows the inflation-adjusted federal budget
corporate income taxes, payroll taxes, and many other
outcomes from FY1962 through FY2015. From FY1962
sources. Income taxes include the individual income tax,
through FY2015, federal outlays exceeded revenues by an
which draws from a varying percentage of personal
average of 2.6% of annual gross domestic product (GDP).
earnings; and the corporate income tax, which draws from
(When comparing deficit and debt totals over time,
a percentage of C corporation profits (varying by profit
measuring their values as a percentage of GDP helps to
level). Payroll taxes are another major source of revenue,
account for the effects of inflation.) Over those 54 years,
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The Federal Budget: Understanding Fiscal Outcomes
the budget recorded a surplus on five occasions, most
Figure 2. Inflation-Adjusted Federal Debt Held by the
recently in FY2001. In the other 49 fiscal years, the budget
Public, FY1962-FY2015
produced a deficit. The federal budget recorded inflation-
(as a % of Gross Domestic Product)
adjusted deficits in FY2008 through FY2010 that were
higher than they were at any point since the end of World
War II. Increased federal spending and reduced revenues
related to the Great Recession and spending commitments
to defense- and veterans-related activities were among the
largest contributing factors to those outcomes.
Budget deficits declined for five consecutive years from
FY2011 through FY2015. Contributors to that decline
include decreased spending and increased revenues
attributable to the economic recovery, reductions in
discretionary spending in accordance with statutory caps
established by the Budget Control Act of 2011 (P.L. 112-
25), and low interest payments (due to historically low
interest rates).
Persistent and occasionally large budget deficits since
FY2001 have contributed to historically high levels of
Source: Office of Management and Budget, Historical Tables, Table
federal debt held by the public (which includes all debt
7.1.
except intragovernmental debt). Federal debt held by the
Outlook
public declined from 74.4% of GDP at the end of FY2014
to 73.7% of GDP at the end of FY2015. The FY2014 total
Although inflation-adjusted deficits have declined in recent
represented the largest stock of inflation-adjusted publicly
years, forecasts produced by both the Congressional Budget
held debt since FY1950 (78.5% of GDP). Figure 2 displays
Office (CBO) and Office of Management and Budget
federal debt held by the public amounts from FY1962 to
(OMB) project deficit increases in the 10-year budget
FY2015.
window. Increases in real outlays (through rising mandatory
spending commitments due in part to increased Social
Fiscal Outcomes
Security and Medicare payments) and net interest
Many economists support the use of budget deficits as an
obligations (due largely to projected increases in real
economic stimulant during a downturn, particularly in cases
interest rates) more than offset continued inflation-adjusted
where standard monetary policy options are unavailable.
declines in discretionary spending. Revenues are projected
However, experts caution that structural deficits, which
to remain relatively level over the 10-year period. In March
describe budget conditions that produce deficits in all
2016, CBO’s forecast projected a budget deficit equal to
economic conditions, may lead to adverse outcomes. In
2.9% of GDP in FY2016 and 4.9% of GDP in 2026. The
prosperous economic periods, deficit spending may replace,
July 2016 OMB budget forecast projected deficits of 3.3%
or “crowd out,” private investment and, as those deficits
of GDP in FY2016 and 4.8% of GDP in FY2026.
will incur borrowing costs, could dampen long-run
economic productivity. As borrowing costs rise with
Forecasts over a longer time horizon also project increases
in deficit and debt levels. CBO’s June 2016
interest rates, deficit spending has a larger effect on the
Long-Term
long-term budget outlook when interest rates are relatively
Budget Outlook projects that publicly held federal debt,
high than it does when interest rates are low. Debt financing
which was 74% of GDP at the end of FY2015, will equal
in prosperous economic periods may also reduce the ability
141% of GDP in FY2046 under present law. The projected
to utilize deficit spending when faced with poor economic
increase is attributable to growth in outlays outpacing that
conditions.
of revenues (resulting in increasing real deficits) and to
interest rates returning to levels that are roughly in line with
In the future, extremely high deficit or debt levels may have
their historical averages.
unintended macroeconomic effects if individuals and firms
lose confidence in the ability of the federal government to
CBO projects that in order for inflation-adjusted publicly
fulfill its borrowing obligations, which may increase federal
held federal debt to reach its 50-year historical average of
borrowing costs and have implications for financial
39% of GDP in FY2046, revenue would need to increase or
markets. There are past examples of foreign governments
noninterest spending would need to decrease by
experiencing the adverse effects of a deteriorated fiscal
approximately 2.9% of GDP every year for the next 30
position. There are, however, no examples of such an
years.
occurrence taking place in modern U.S. history.
Grant A. Driessen, Analyst in Public Finance
D. Andrew Austin, Analyst in Economic Policy
IF10453
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The Federal Budget: Understanding Fiscal Outcomes
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