Tuesday

 

Mostly summarized from Gregory Mankiw’s Principles of Economics, 5th Ed.

PART 9 The Real Economy in the Long Run

Chapter 26 of 36 Saving, Investment, and the Financial System

Section 22 of 25

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Figure 4 - The Effect of a Government Budget Deficit

When the federal government spends more than it receives in tax revenue the resulting budget deficit lowers national saving.

The supply of loanable funds decreases and the interest rate rises.

When the government borrows loanable funds to finance its budget deficit

1· the supply of loanable funds decreases, shown by the supply curve shifting left from S1 to S2

2· the equilibrium interest rate rises from 5% to 6%

3· at this equilibrium the quantity of loanable funds saved and invested has decreased to $800 billion from $1200 billion

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Three government policies that affect the economy's saving and investment:

Policy 1: saving incentives

Policy 2: investment incentives

Policy 3: government budget deficits and surpluses

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Policy 3: Government budget deficits and surpluses.

A budget deficit occurs when government spending exceeds government tax revenue in a given year.

Governments finance budget deficits by borrowing through issuing bonds.

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Consider a case when the government starts with a balanced budget, spending equals tax revenue, with supply curve S1.

Then, because of a tax cut or a spending increase starts running a budget deficit.

We analyze the effects of the budget deficit policy following the three steps

1 - determine whether the policy shifts the supply curve or the demand curve

2 - determine the direction of the shift

3 - determine how the equilibrium changes using the supply-and-demand diagram

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First, determine whether the policy shifts the supply curve or the demand curve.

National savings is the loanable funds supply.

Private saving is savings by households.

Public saving is government tax revenue – government spending, almost always a negative number.

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A change in the government budget from balanced to deficit results in

a change of loanable funds supply because more is taken by government.

Therefore the supply curve shifts.

A budget deficit does not directly influence the amount households and firms

want to borrow to finance investment.

So, a budget deficit does not alter market demand for loanable funds.

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Second, determine the direction of the shift.

When the government runs a budget deficit public saving is negative.

When the government borrows to finance its budget deficit it reduces the supply of loanable funds available to finance investment by households and firms.

Because of resulting higher interest rate, this crowds out some household and firms investment that would have happened at the previous lower interest rate.

Because government borrowing reduces the supply of loanable funds a budget deficit shifts the supply curve for loanable funds to the left from S1 to S2.

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Third, determine how the equilibrium changes using the supply-and-demand diagram.

When the government budget deficit reduces the supply of loanable funds the interest rate rises from 5% to 6%.

This higher interest rate alters the investment behavior of households and firms.

Fewer homes are bought by families and less equipment is bought by firms.

Demand for loanable funds moves along the demand curve from $1,200 billion to $800 billion.

Because household and business investment falls, government budget deficits reduce the economy's growth rate.

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budget deficits and budget surpluses

yosan akaji to yosan yojō

予算赤字と予算余剰

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How big is the U.S. federal government budget deficit currently, and how much higher would U.S. GDP growth be if there was no budget deficit (tax revenues = government spending)? ChatGPT:

The U.S. federal budget deficit is currently running at roughly $1.8–$1.9 trillion per year, which is about 5.8–6.0% of GDP.

In fiscal year 2025, the federal government collected about $5.2 trillion in revenue and spent about $7.0 trillion, producing a deficit of roughly $1.8 trillion.

Mainstream economists’ estimates suggest reducing persistent deficits by about 6% of GDP could raise short-run GDP growth by 0.1 to 0.3 percentage points per year.

Over the long-run even a 0.2% annual increase compounds into a noticeably larger economy.