Budget deficit and public debt

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The budget 

deficit The budget deficit and the amount of public debt are the most important indicators of the state of the economy, so this problem has traditionally received much attention. 

The budget process involves balancing government revenues and expenditures.Budget imbalance means quantitative inequality between revenues and expenditures of the budget. The magnitude of the excess of budget expenditures over its income is called the “budget deficit”. 

It should be noted that an unbalanced budget can lead to a surplus, i.e. the excess of budget revenue over its expenditures. However, in practice, in almost all countries, there is now a significant scale of government expenditure over income. The consequence of this is the rapid growth of budget deficits.

There are many reasons for this (decline in social production, mass production of “empty” money, unnecessarily increased costs for financing the military-industrial complex, significant social programs, large-scale turnover of “shadow” capital, huge overhead costs, losses, registry, embezzlement, etc.), but of paramount importance is the increasing role of the state in various spheres of life, the expansion of its economic and social functions, the increase in military spending, and the size of the state apparatus. 

The budget deficit, of course, refers to the so-called “negative economic categories” such as inflation, crisis, unemployment, which are, however, integral elements of the economic system.

It should be noted that a deficit-free budget does not mean the “health” of the economy. It is necessary to clearly understand what processes are taking place within the financial system itself, what changes in the reproduction cycle reflect the budget deficit. At the same time, any state seeks, if not to fully cover, then partially reduce the budget deficit.

There are several traditional ways to cover the budget deficit – these are government loans and tax tightening. But there is a third method that provides for an increase in the money supply in circulation — this is the own production of money, or “seignorage.” “Seignorage” today does not take the form of the simple printing of money, since it is too obviously connected with inflation. Currently, “seigniorage” is implemented through the creation of reserves of commercial banks. Suppose that the US Treasury needs $ 100 million to cover certain government expenses. It prints on this amount treasury bills and sells them to the Fed, which buys them, paying for bills of exchange by placing a loan at the expense of the Treasury. The Treasury, in turn, writes checks to this account. Recipients of checks invest the received funds in commercial banks. At the end of the process of clearing checks, it turns out that $ 100 million of new bank reserves have been created. They become the basis for a multiple increase in the amount of money in circulation.

Government debt 

The amount of budget deficits accumulated over a certain period of time forms a government debt. There are external and internal public debt. 

External public debt is a debt to foreign countries, organizations and individuals. This debt is the greatest burden for the country, since it is necessary to give away valuable goods, to provide certain services in order to pay interest on the debt and the debt itself.

Domestic debt is the duty of the state to its population. In accordance with the legislation of the Russian Federation, the state internal debt of the Russian Federation is the debt obligations of the government of the Russian Federation expressed in national currency to legal entities and individuals. Debt obligations may take the form of loans received by the government, government loans made through the issuance of securities on behalf of the government, and other debt obligations guaranteed by the government. 

Management and maintenance of the internal and external debt of the Russian Federation is entrusted to the Central Bank of the Russian Federation and the Federal Treasury under the Ministry of Finance of the Russian Federation. All expenses for debt servicing are covered by the republican budget.

Let’s name the main government debt obligations that are secured by the Government of the Russian Federation: 

– government short-term bonds (for a period of 3, 6, 12 months); 

– government long-term bonds (up to 30 years); 

– bonds of the domestic state foreign currency loan; 

– Treasury bills and liabilities. 

The increase in domestic debt is less dangerous for the national economy compared with the growth of its external debt. There is no leakage of goods and services in the repayment of domestic debt, but certain changes in economic life occur, the consequences of which can be significant. This is due to the fact that the repayment of public domestic debt leads to a redistribution of income within the country.

The budget deficit and public debt are closely related, since, first, the state loan is the most important source of covering the budget deficit; secondly, it is impossible to determine how dangerous a given budget deficit is without analyzing the magnitude of public debt. On the other hand, to assess the value of public debt, it is necessary to study the growth of the budget deficit. 

How does public debt and its growth affect the functioning of the national economy? There are usually two dangers in public debt: the bankruptcy of a nation and the danger of shifting the tax burden to future generations. 

Regarding the first “danger”, the following can be noted: no one can forbid the government to fulfill its obligations to service public debt.These financial obligations consist of: refinancing, levying new taxes (in order to generate sufficient income to pay interest on the debt and its principal amount), to issue new money into circulation. 

As for the second “danger,” the specificity of domestic debt is such that the country, as it were, must itself. In most cases, domestic debt is only a relationship between citizens of a country. It is also a government loan. 

Macroeconomic implications of budget deficit and public debt: different points of view on the problem

In modern economics, there are two different points of view on the problem of budget deficit, public debt and their macroeconomic consequences. Most economists believe that the budget deficit and public debt have a significant impact on the development of the economic system, namely, the growth of the budget deficit and public debt entail real negative consequences.

First, the payment of interest on public debt increases income inequality, since a significant part of government obligations is concentrated in the hands of the most affluent part of the population. Repayment of public domestic debt leads to the fact that the money from the pockets of the less affluent segments of the population goes to the more secure, that is, the one who owns the bonds becomes even richer. 

Secondly, raising tax rates (as a means of paying off public domestic debt or reducing it) can undermine economic incentives for the development of production, reduce interest in investing in new risky programs, etc., and also increase social tensions in society.

Thirdly, the existence of external debt implies the transfer (at the repayment of this debt) of a part of the product created domestically abroad. 

Fourth, the growth of foreign debt undoubtedly reduces the country’s international prestige. 

Fifth, when the government takes a loan in the capital market to refinance debt or pay interest on government debt, this inevitably leads to an increase in the interest rate on capital. The growth of the interest rate, in turn, entails a decrease in capitalized value, a reduction in private planned investments. As a result, subsequent generations may inherit an economy with diminishing productive potential and all the negative consequences that this entails.

Sixth, a purely psychological effect can be noted: with the growth of public debt, the uncertainty of the country’s population in the future increases. 

This view of the budget deficit and public debt is called “traditional” and is, in general, dominant. 

But there is another point of view – the point of view of the “Ricardian school”, according to which the budget deficit and public debt may not affect the growth of interest rates, a decrease in investments, etc. 

“Neutrality” of the budget deficit and public debt is a consequence of the fact that tax cuts at a constant level of government spending may not in themselves affect the growth of consumer spending.

This statement follows from the theory of consumer behavior, according to which consumers, when choosing a line of conduct, take into account not only the current interest, but also the interest of the future, i.e. future income. 

Reducing taxes at constant government spending, from the point of view of the consumer, who thinks about the future, means that the government finances this reduction by increasing public debt. In turn, the growth of public debt implies that in the future it will be necessary to increase taxes to cover it. Thus, in fact, taxes do not change, but are simply redistributed in time.

Taxpayers’ expectations regarding future tax growth and lower incomes will lead to the fact that today’s consumption does not increase, only savings of consumers will increase as a protective measure to maintain the “usual” standard of living in the future. The increase in private savings will allow to realize government securities intended to cover the budget deficit without increasing the interest rate.

Or otherwise – the growth of private savings will be equal in magnitude to the decrease in public savings, which was the result of a decrease in tax revenues. The volume of savings within the national economy will remain generally unchanged, only their structure will change (the share of private and public savings in total national savings). Therefore, in this context, tax cuts will not lead to the consequences described by the traditional point of view. The reasoning stated means that financing public procurements with public debt is equivalent to financing them with taxes.