Learning Objectives

• Identify U.S. budget deficit and surplus trends over the past five decades
• Explain the differences between the U.S. federal budget, and state and local budgets

Total U.S. Government Spending

Federal spending in nominal dollars, that is, dollars not adjusted for inflation, has grown by a multiple of more than 38 over the last four decades, from $93.4 billion in 1960 to $3.9 trillion in 2014. Comparing spending over time in nominal dollars is misleading, because it does not take into account inflation or growth in population, or the real economy. A more useful method of comparison is to examine government spending as a percentage of GDP over time.

The top line in Figure 16.2 shows the level of federal spending since 1960, expressed as a share of GDP. Despite a widespread sense among many Americans that the federal government has been growing steadily larger, the graph shows that federal spending has hovered in a range from 18 percent to 22 percent of GDP most of the time since 1960. The other lines in Figure 16.2 show the major federal spending categories: national defense, Social Security, health programs, and interest payments. From the graph, we see that national defense spending as a share of GDP has generally declined since the 1960s, although there were some upward bumps in the 1980s buildup under President Ronald Reagan and in the aftermath of the terrorist attacks on Sept. 11, 2001. In contrast, Social Security and healthcare have grown steadily as a percentage of GDP. Healthcare expenditures include both payments for senior citizens (Medicare) and payments for low-income Americans (Medicaid). Medicaid is also partially funded by state governments. Interest payments are the final main category of government spending, as shown in the figure.

Figure 16.2 Federal Spending, 1960–2014 Since 1960, total federal spending has ranged from about 18 percent to 22 percent of GDP, although it climbed above that level in 2009 but quickly dropped back down to that level by 2013. The share spent on national defense has generally declined, whereas the share spent on Social Security and on healthcare expenses—mainly Medicare and Medicaid—has increased. (Executive Office of the President Council of Economic Advisors, 2014)

Each year, the government borrows funds from U.S. citizens and foreigners to cover its budget deficit. It does this by selling securities, such as Treasury bonds, notes, and bills—in essence, borrowing from the public and promising to repay with interest in the future. From 1961 to 1997, the U.S. government has run budget deficits, and thus borrowed funds, in almost every year. It had budget surpluses from 1998 to 2001, and then returned to deficits.

The interest payments on past federal government borrowing were typically 1–2 percent of GDP in the 1960s and 1970s, but then climbed above 3 percent of GDP in the 1980s and stayed there until the late 1990s. The government was able to repay some of its past borrowing by running surpluses from 1998 to 2001, and, with help from low interest rates, the interest payments on past federal government borrowing had fallen back to 1.4 percent of GDP by 2012.

We investigate the patterns of government borrowing and debt in more detail later in this chapter, but first we need to clarify the difference between the deficit and the debt. The deficit is not the debt. The difference between the deficit and the debt lies in the time frame. The government deficit—or surplus—refers to what happens with the federal government budget each year. The government debt accumulates over time; it is the sum of all past deficits and surpluses. If you borrow $10,000 per year for each of the four years of college, you might say that your annual deficit was $10,000, but your accumulated debt over the four years is $40,000.

These four categories—national defense, Social Security, healthcare, and interest payments—account for roughly 73 percent of all federal spending, as Figure 16.3 shows. The remaining 27 percent wedge of the pie chart covers all other categories of federal government spending: international affairs; science and technology; natural resources and the environment; transportation; housing; education; income support for the poor; community and regional development; law enforcement and the judicial system; and the administrative costs of running the government.

Figure 16.3 Slices of Federal Spending, 2014 About 73 percent of government spending goes to four major areas: national defense, Social Security, healthcare, and interest payments on past borrowing. This leaves about 29 percent of federal spending for all other functions of the U.S. government. (credit: Office of Management and Budget)

State and Local Government Spending

Although federal government spending often gets most of the media attention, state and local government spending is also substantial—at about $3.1 trillion in 2014. Figure 16.4 shows that state and local government spending has increased during the last four decades from around 8 percent to around 14 percent today. The single biggest item is education, which accounts for about one-third of the total. The rest covers programs like highways, libraries, hospitals and healthcare, parks, and police and fire protection. Unlike the federal government, all states—except Vermont—have balanced budget laws, which means that any gaps between revenue and spending must be closed by higher taxes, lower spending, drawing down their previous savings, or some combination of all of these.

Figure 16.4 State and Local Spending, 1960–2013 Spending by state and local government increased from about 10 percent of GDP in the early 1960s to 14–16 percent by the mid-1970s. It has remained at roughly that level ever since. The single biggest spending item is education, including both K–12 spending and support for public colleges and universities, which has been about 4–5 percent of GDP in recent decades. (credit: Bureau of Economic Analysis)

U.S. presidential candidates often run for office, pledging to improve the public schools or get tough on crime. However, in the U.S. system of government, these tasks are primarily the responsibilities of state and local governments. Indeed, in fiscal year 2014, state and local governments spent about $840 billion per year on education, which included K–12 and college and university education, compared to only $100 billion by the federal government, according to usgovernmentspending.com (Chantrill, 2013). In other words, about 90 cents of every dollar spent on education happens at the state and local levels. A politician who really wants hands-on responsibility for reforming education or increasing security might do better to run for mayor of a large city or for state governor rather than for president of the United States.