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Reducing the Budget Deficit: Overview of Policy Issue

Reducing the Budget Deficit: Overview of Policy Issues. Marc Labonte, Specialist in Macroeconomic Policy. August 7, 2014.

“The federal budget has been in deficit (i.e., spending has exceeded revenues) since 2002, and deficits were significantly larger from 2009 to 2012 than in any other year since World War II. As a result, the federal debt held by the public increased from 39% of gross domestic product (GDP) in 2008 to 72% of GDP in 2013, which was its highest share of GDP since after World War II. From 1946 to 2008, budget deficits averaged 1.7% of GDP and exceeded 5% of GDP only three times (equaling 7.2% in 1946, 6.0% in 1983, and 5.1% of GDP in 1985). The budget deficit was 10.1% of GDP in 2009, falling to 7% of GDP in 2012. The fiscal outlook has improved  significantly since then, although the budget is projected to remain in deficit under current policy. In 2014, the baseline deficit is projected to be $492 billion or 2.8% of GDP. Not since the end of World War II has the deficit fallen so much, so quickly. Despite the improvement, the deficit still remains above its historical average.
In the past, persistent deficits have proven sustainable because periods of moderate growth in the debt relative to GDP have been followed by periods when debt fell relative to GDP (typically, because the debt grew more slowly than GDP). Current policy is unsustainable because projected deficits are large enough to cause the federal debt to continuously grow faster than national income. This increase is projected to be gradual—the debt does not increase relative to GDP until 2019, is five percentage points higher by 2024, and reaches 100% of GDP by 2036 or sooner. At some point, spending cuts or revenue increases will be needed to restore fiscal sustainability, although the recent decline in the deficit has provided policymakers more flexibility on the timing of these changes. Congress has expressed interest in examining policy options to reduce the deficit. The Congressional Research Service (CRS) does not take a position on the best way to reduce the deficit. This report organizes and presents information to help policymakers frame the debate. This report first discusses the size of projected budget deficits, then discusses how much the deficit would need to be reduced to return to long-term sustainability, then analyzes alternative time frames for reducing the deficit, and finally discusses broad policy choices for reducing the deficit.”

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