The Economics of the Federal Budget Surplus

Publication Date: March 2001

Publisher: Library of Congress. Congressional Research Service

Author(s):

Research Area: Economics

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Abstract:

Fiscal 1998 marked the first year that total receipts exceeded outlays in the federal budget since 1969. Since then, the budget has been in surplus and official projections expect the budget to remain in surplus for the foreseeable future. Congressional Budget Office (CBO) baseline projections indicate that the budget surpluses are expected to grow steadily over the next 10 years.

Over fairly short periods of time, say three or four years, fiscal policy can affect the rate of economic growth by adding to, or subtracting from, aggregate demand. For a time, the effect on the economy may even be larger than the initial change in the budget. These effects, however, tend eventually to diminish because of either higher interest rates or rising prices. Estimates of the multiplier effect on the economy of a change in fiscal policy vary, but most of them suggest that it reaches a peak somewhere between one and one-and-a-half times size of the change in the budget. In most economic models, that peak effect is realized within one or two years of the initial change in policy.

One measure economists use to assess fiscal policy is the structural, or standardized-employment, budget. This measure estimates, at a given time, what outlays, receipts and the surplus would be if the economy were at full employment. Although the actual budget has been in surplus since 1998, the standardized measure first registered a balanced budget in 1999. Between 1992 and 2000, the actual budget surplus increased from -4.7% to 2.4% of gross domestic product (GDP), a shift of 7.1 percentage points. Over the same period the standardized measure rose from -2.9% to 1.1% of GDP. That suggests that a little more than half of the shift was the result of changes in policy, and a little less than half was attributable to the economic expansion.

In the long run, economic growth is determined primarily by three factors; growth in the labor force, the rate of technological advance, and the amount of capital available to the workforce. Of the three, the last one may be the most susceptible to the influence of policymakers. The larger the capital stock is, the more productive the labor force tends to be. While it is possible for fiscal policy to have an effect on the rate of technological progress in the way public money is spent, it probably has a much larger effect on growth through its influence on the size of the domestic stock of capital and the amount of capital available for each worker in the labor force.

In 1996, the public sector contribution to national saving was small. By 2000, public sector saving had risen to 5.3% of GDP. Over the same period, private sector saving fell from 16.5% of GDP to 13.0%. Net inflows of foreign capital rose from 1.4% to 4.3% of GDP. Total funds available for investment in the U.S. from all sources rose from 18.7% to 22.6% of GDP.