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ECU ECON 2133 - Exam 2 Study Guide

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Econ 2133 1st Edition Exam # 2 Study Guide Lectures: 4 - 9National Debt—“stock” concept sum total accumulation over time (grand sum of outstanding treasury securities because they were issued and sold by treausury in past to finance past bedget deficits and haven’t been paid back), historical behavior, relation to deficits and surpluses (“flow” concepts), current value, what makes it go down and up, asymmetry between deficits and surpluses for changing the debt, definition. What is the estimated federal budget deficit for this fiscal year? Estimated federal budget = 3.99$ trillion budget for 2015475$ Billion is estimated federal budget deficit for 2015 (below 3% and under 2% would be rad) Debt= 18.5$ Trillion and rising because we have budget deficits Deficit is flow concept and deals with year to year changes (annual budget deficit is the change in debt) because flows make stocks changeHigher deficits = higher debtness = which makes national debt go up Estimated federal budget deficit = Deficits vs. Surpluses - Why are they asymmetric? - Because they have different implications towards the national debtA. Deficits grow by: 1. Borrowing goes up 2. Treasury will issue more government IOUs3. National debt increases B. Surpluses (Had surpluses in 1998, 1999, and 2000 where there was more money than the govt knew how to spend)Surpluses grow by:1. Increase Spending (can always do this)2. Cut taxes and give it back to the people! 3. Pay back some of the national debt (paid back 350 billion $ from 1998-2000) - SO Treasury purchased outstanding debt which made the national debt go down - Give a chance to lower it, can do this Historically Speaking Deficits increase by: 1. Wars (greatest and fastest accumulation of debt) – WW1, WW2, Iraq (1 Trillion $) 2. Recessions (deficits are counter cyclical to Business Cycle) 3. Entitlements (relatively new compared to the others) - Deficit didn’t start to take off until beginning of 1980sEX) FY 2010 – Fed Deficit = $1.4 Trillion (because budget deficits grow during recessions and Great Recession was 2007-2009) - Would have had to raise personal income taxes by $1.4 Trillion, everyone would haveto pay DOUBLE taxes to just balance budget - National debt rises by $1.4 Trillion so does deficitWhat governs the dynamic behavior of the debt-to-GDP ratio over time and what are the implications? Deficit/Debt + Interest compared to the rate of economic growth. Why is the debt-to-GDP ratio the most relevant measure of the impact of debt and deficits? How has it behaved from 1940 until today?Deficit/ debt + interest > rate of GDP; can’t do this forever - Never know what could upset the economy and then it gets messy very quickly- Can refinance national debt forever- People really want to own our debt as long as our debt to gdp measure keeps decreasing (as long as GDP keeps increasing faster than debt rate); it’s a measure of our credit worthinessC. Deficit: GDP Ratio- Important to measure as ratio to GDP (our actual economy) to track actual progress of debt- 13% GDP deficit could not be sustained- 3% or lower GDP deficit ratio could be sustained (friendly) because it is such a small percentage of overall economy that it’s fine! D. Example: Trying to Buy a House ; Debt v income - Debt (what do you owe?) - Tells us how much of what you make that is locked in and committed - Mortgage broker looks at debt to income ratio = credit worthiness - Say Credit Worthiness = 0.3, so 30% of income is tied up but that’s it so can handle a mortgage - Say Credit Worthiness = 0.8, so 80% of income is tied up so it cannot handle mortgage - Income (what do you make) E. Other countries in debta. Japan - #1 in Debt - Debt/ GDP = 250% - “Dearth of Births” federal policy to get paid time off from work to conceive b. Greece - #2 in Debt- Debt/ GDP = 170%- GDP decreased 25% since 2008 with NO chance at reformc. USE - #3 in Debt- Debt/ GDP = 110% What if we just kept accumulating deficits- If debt increases by 10% and GDP increased by 7% then debt becomes so small it doesn’teven matter In measuring economic impact of debt and deficits = Stability of an income stream from fruits oflabors, for a country, that’s GDP “Crowding out story” and the negative impact of federal budget deficits. Must show that deficits lead to higher interest rates and reduced corporate investment for deficits and debt to be a burdento future generations. However, deficits definitely mean higher future tax liabilities without any question. What is the recent history of deficits and surpluses? Top two reasons historically for deficits. Not all borrowing is bad. Why not?Negative Effects of Debt & Deficits?- “Crowding out”: negative effects of deficits! (conventional wisdom)- Deficits mean a rise in demand for credit (higher borrowing)- Increased demand implies higher price for borrowing Price of credit = interest rate - Deficits imply higher interest rates which crowds out private sector activity and reduces investment (lower investment)- Lower investment implies slower future economic growth (dirth of investment) Which is huge problem because it’s economics growth that pays the bills and offers economic opportunities - Also deficits mean increase future tax liabilities - Problem because we spend the money today and pass on bill to future generations - Then we have to pay it with a weaker economy - “Mortgaging the future of our grandchildren” – Walter Jones - Counter Arguments?1. Debt/GDP dynamically that matters - Have budget deficits but if ratio is horizontal or falling then it doesn’t matter because in comparison to economy, our deficit is so small and therefore will most likely be able to pay it back 2. “All borrowing is bad”- Good borrowing = investment occurs which leads to growth, then we can pay it back Also things that increase productivity of private resources because then we will have economic growth to pay it back! EX) Energy transmission, electrical grid, airports, - WWIIHardly burdened by this debt because it protected our freaking country. No good deed goes unpunished - Bush and Medicare Part D, from 2000-2010 costs $1 Trillion - Internet: Department Defense developed it with borrowed funds - Bad borrowing = for consumption purposesHistory of Deficit: - Federal Deficit to GDP = 10% in 2009- Cannot consistently borrow 10% of your GDP - 1945-1973 debt was rising because economy grew intensely (golden age of capitalism)- Debt was


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