AP Econ Module 30 Deficits Debt - Sunny Hills High School

where Iis the yalue of ta-r revenues, G is government purchases ofgoods and services,
and TR is the value ofgovernment transfers. A budgeisurplus is a p-ositive budget bal_
ance, and a budget deficit is a negative budget balance.
Other things equal, expa-nsionary fiscal policies-increased governmenr purchases of
goods and services, higher government transfers, or lower ta-xei_reduce the budget bal_
ance forth-at year. Thar is, expansionary fisca.l policies ma,ke a bud.get surplus smal'ier or a
budget deficit bigger. Conversely, contracrionary fiscal policies-r"d,lced govemment pur_
chases of goods and services, lower government tr.rr"f"rr, o, higher ta-res_increase the
budget balance for that year, making a budget surplus bigger or a budget deficit smaller.
You might think this means rhat changes in the budger balance can be used to
measure fiscal policy. ln fact, economists often do just rhat: rhey use changes in rhe
budget balance as a "quick-and-dirry'' way to assess whether currenr fiscal p;liry is expansionary
or contracrionary. But they always keep in mind rwo reasons this quick_
and-dirry approach is sometimes misleading:
r Two differenr changes in fiscal policy that have equal-size effects on the budget bal_
ance may have quite unequal effects on the economy. As we have already seen,
changes in government purchases ofgoods and services have a larger effect on real
GDP than equal-size changes in taxes and government rransfers.
r Often, changes in the budget balance are rhemselves the result, not the cause, of
flucruarions in the econom).
To understand the second point, we need to examine the effects ofthe business cycle
on the budger.
The Business Cycle and the Cyclically Adjusted
Budget Balance
Historically, there has been a strong relationship between the federal government,s
budget balance and the business cycle. The budget tends to move into deficit when rhe
economy experiences a recession, but deficits tend to get smaller or even rurn inro sur_
pluses when the economy is expanding. Figure 30.1 shows the federal budget deficit as
a percentage ofGDP from 1970 to 2009. Shaded areas indicate recessions; unshaded
areas indicate expansions. As you can see, the federal budget deficir increased around
the time ofeach recession and usually declined during expansions. In fact, in rhe late
The U.S. Federal
Budget Deficit and
the Business Cycle
The budget deficitas a percen!
age of GDP tends to rise during
recessions {indicated by shaded
areas) and fall during expansions.
Sourcer Blreau of Economic Analysis;
Nalional Burcau of Economic Research.
Budget deficit
(percent of GDP)
10%
8
6
4
2
0
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sp
gr"
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Year
m0dule 30 Long-run lmplications of Fiscal Policy: Def ic its and the Public Debt 297