The Federal Debt: Who Bears Its Burdens?

Publication Date: December 1999

Publisher: Library of Congress. Congressional Research Service

Author(s):

Research Area: Government

Type:

Abstract:

U.S. government debt held outside government accounts quintupled from FY1980 to FY1995 and went from 26% to 50% of GDP. Net interest payments rose from 9% to 15% of federal outlays. These percentages fell somewhat from FY1997 to FY1999 with a smaller budget deficit and then surpluses. Taxpayers and beneficiaries of federal spending must accept sacrifices to make the larger interest payments while keeping the budget in surplus.

Even as surpluses replace deficits, refinancing today's debt of roughly 40% of GDP burdens credit markets more than yesteryear's debt of 26% of GDP. Heavy flotations of government securities hold down securities prices, raising interest rates not only on federal borrowing but also on other new and variablerate loans. Although nominal interest rates now seem moderate, they remain high compared to low inflation. This raises payments from younger, middle-income households, who bear heavy debt, to older and wealthy households, who receive most of the investment income.

When federal deficits exceeded net federal investment through periods of high employment, such as the late 1980s and mid1990s, government impeded modernization and expansion of the economy by raising the cost of and crowding out private investment. Real interest rates rose steeply in the late 1980s and in 1994, suggesting that crowding out intensified as the economy reached high employment. Over a long period, such a budget policy has hampered the rise of U.S. living standards.

Elevated interest rates attract foreign capital. Without such inflows, U.S. interest rates would have been higher, and budget deficits would have displaced more private investment. Capital inflows, which continue due to low private saving, despite budget surpluses, bring spreading foreign ownership of U.S. assets and a transfer of resources to the United States via an international trade deficit.

The budget agreements of 1990 and 1993 raised taxes and imposed caps on discretionary spending (that under annual appropriations) and restraints on legislation affecting revenues and entitlements. These policies, plus sustained economic growth and booming stock markets, cut deficits steadily from FY1992 on. Spending cuts in FY1996 also played a role. In 1997 Congress enacted a tax reduction and further limits on entitlements and future discretionary spending extending through 2002. Appropriations for FY2000, however, exceeded the spending limits by $37 billion, and the limits for future years may have to be raised.

With budget surpluses federal debt was reduced by $49.5 billion in FY1998 and $88.3 billion in FY1999. Growing surpluses are projected for the next several years. As debt is retired, or even if the budget remains only balanced or shows small deficits with no debt retirement, debt will fall as a share of GDP, and interest payments will take smaller shares of outlays, because GDP and outlays grow over time.

Even if the budget shows surpluses for t he next several years, they are unlikely to continue for long after the baby-boom generation begins retiring in 2008. Preventing a resurgence of large deficits after that time will prove very difficult.