Motivation

The candidates in the 2004 presidential election espoused two very different visions of fiscal policy. George Bush was alleged to have been “un-republican” in his first term of office. Many people associate fiscal prudence with Republican presidents. Fiscal prudence suggests balanced government budgets.

Bush Kerry
George Bush saw a government surplus morph to a very large deficit. He defended this turn of events by saying that he had to deal with a recession and a war against terrorism Says Bush should have done a lot of things differently. With respect to fiscal policy, Kerry promised to be fiscally prudent despite the fact that the Democratic Party has a reputation for creating government deficits. Kerry proposed policies to reduce the government deficit.

We all know that politicians don’t always deliver all they promise. But these different campaign themes about fiscal policy suggest that it is possible that we might move from one fiscal regime to another one. No matter who won the election there are several questions we can ask about fiscal policies.

How did the large past government deficits impact the U.S.? Will they continue to impact us? If deficits are turned around, how will that change impact the business environment in the future?

Fiscal policy issues also illustrate how events that seem far off in the future can impact us today. For example, it is no secret that the baby boom generation is going to retire in large numbers starting around 2010. Increases in number of retirees for the next 20 years will have profound effects on the U.S. and many other countries with similar older populations. With more people on government retirement programs and more people demanding services from government healthcare systems, governments will find their expenditures rapidly increasing while their tax revenues will not keep pace. Some of the projections of the size of government deficits in the distant future are impacting the business environment today.

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Why does the future impact us today? Because if people today believe the government is not handling the fiscal challenges of tomorrow, then they lose confidence in the strength of the country. Worries about tomorrow manifest themselves in behavior today. Behavior today impacts interest rates, exchange rates, and much more.

Business planners today, therefore, have to know a lot about fiscal policy if they are to make plans for the near-term and distant future. How will policymakers today approach both current and future fiscal challenges? How will people’s confidence today be impacted by these government actions? How will the actions and the changes in confidence together influence changes in the economy?

A good example of keeping up with the situation is the update made by the Congressional Budget Office (CBO) in early 2005. In their report they predicted that Social Security revenues and expenditures will be equal by the year 2020. After that spending will exceed targeted revenues. At that time, it will meet the underage by calling due its debt from the “other part” of the government. For many years, Social Security had a surplus of funds and they lent them to the government. After 2020, the government will have to start paying back. The CBO estimates that by 2052 they will have been totally paid back and the fund will essentially be bankrupt. What are the implications? First, the government must get the “other part” of its budget into good shape before 2020. As of 2005, that part had a very large deficit. If the government is to pay back what it owes to Social Security, then it needs to start moving towards smaller deficits and surpluses in the “other part’. Second, the importance of fiscal soundness grows as we approach 2052. At that point the burden of Social Security on the “other part” gets even bigger. The full report can be found here If you go to www.cbo.gov you will see that things have not changed much since 2005. The government continues to struggle with solutions to current and future budget deficits.