Deficit Spending, Its Causes and Why It's out of Control

Deficit spending is common in government, understand its function

Presidents Bush, Obama, and Bush
••• Photo by Ron Sachs-Pool/Getty Images

Deficit spending is when purchases exceed income. It happens to individuals and businesses, but it usually refers to governments. Governments have strong incentives to spend more than they take in and few reasons to balance the budget. 

When government spending exceeds government revenue, it creates a budget deficit. Each year's deficit is added to the sovereign debt. There is a difference between deficit and debt. An unbalanced budget on the expense side for the fiscal year incurs a deficit. The failure to pay or make up for this imbalance or deficit becomes a debt or loan. 

Causes 

Deficit spending is not an accident. The president and Congress intentionally create it in each fiscal year's budget. That's because government spending drives economic growth. For example, the government buys defense equipment, medical supplies, and buildings. The businesses it contracts with hire people. The government hires people directly. Its spending is a crucial component of gross domestic product.

Deficit spending is part of expansionary fiscal policy. Job creation gives more people money to spend, which further boosts growth. Tax cuts are the other tool to expand the economy.

The opposite is contractionary fiscal policy. That is when the government spends less than it receives in revenue to achieve a balanced budget. Contractionary policy also includes tax increases. 

There is a more powerful cause of deficit spending. Politicians get elected for creating jobs and growing the economy. They lose elections when unemployment is high and when they raise taxes.

U.S. Deficit Spending 

Most people blame deficit spending on entitlements. To some extent, that's true. Social Security, Medicare, and Medicaid cost $2 trillion a year. Those payments consume more than two-thirds of the revenue received each year. This mandatory spending must be paid to legally fulfill the acts of Congress that created them. Congress must pass another Act to amend or reduce them. This is rarely done since millions of current beneficiaries will have their incomes reduced. 

Recessions usually cause deficit spending in order to end them. For example, Congress passed the $787 billion economic stimulus package in March 2009 to end the 2008 financial crisis. It paid for extended unemployment benefits and public works projects.

Most people don't realize that wars create more deficit spending than recessions. For example, President Franklin D. Roosevelt only increased the deficit by $3 billion a year to fight the Great Depression. He spent around $50 billion a year to fight World War Two. If FDR had spent more on the New Deal, he would have ended the Depression. If the global economy had improved sooner, then perhaps World War II could have been avoided.

The attacks on 9/11 increased deficit spending more than the Great Recession. The War on Terror drove military spending to new heights. The War in Afghanistan cost $28.7 billion in 2001. The War in Iraq drove overseas military costs up to $72.5 billion by 2003. By 2008, total costs grew to $186.6 billion. That is in addition to annual budgets for the Departments of Defense, State, and Homeland Security.

Deficit spending under President Obama escalated. He had a reputation as a "peace" President. But he didn't reduce military spending. His first year in office, he increased it to a record $816 billion. He kept it above $800 billion a year until 2012. He lowered it to around $750 billion annually through 2016. 

Until 2016, the United States could afford deficit spending because the interest on the debt was so low. One reason was that China, Japan, and other countries demanded U.S. Treasurys. But that began to change in late 2016 as the economy improved. They were still the largest foreign owners of the U.S. debt, but their appetite is slackening.

Deficit Spending and the Debt

Deficit spending should only be used to boost the economy out of a recession. When the GDP growth is in the healthy 2-3 percent range, it should be curtailed. Otherwise, it creates a frightening debt level. When the debt-to-GDP ratio approaches 100 percent, owners of the debt will become concerned. They will worry that the county won't generate enough income to pay the debt.

But attempts to lower deficit spending created conflict within Congress. They argued over which programs should be cut. In 2013, tea party Republicans shut down the government over this issue. They also hinted Congress would allow the United States to default on its debt in 2013 and in 2011.