Essay Example on Government Debt and Budget Deficit

a.    What is a budget deficit and how is it related to Government debt?

A budget deficit is usually an indication that the money spent is more than the revenue being brought back. The term refers to the government spending instead of the business or an individual spending. When the deficits by the government have accrued, this budget deficit is referred to as government debt(Roubini, & Sachs,1989).

When the budget deficit has been identified, some revenues are less than the expenses that a company has incurred for production at standard level. To recover from such deficits, the government cut back on expenditures and may opt to increase revenue-generating activities. The opposite of a budget deficit is a budget surplus. This happens when the revenues exceed the amounts incurred for production which results in more than funds. When the revenue and the amounts of production are equal, then the budget is said to be balanced.

b. What is cyclical adjustment to deficit and how does it help to understand the stance of fiscal policy

A cyclical adjustment to the deficit is a projection that the government does to the budget deficit with the assumption that the economy is at its normal level. The assumption here is that the spending of the consumer and the taxes remitted do not change. The rationale, however, does not take into consideration the effect of the change in the national income to costs acquired in the national debt.

There are three primary stances of fiscal policy; a neutral fiscal policy is usually taken when the economy is neutral, expanding of fiscal policy is when the taxes remitted are lower than the government spending, and lastly, contractionary fiscal policy is when the tax is more than the government spending. The definitions could be misleading because cyclical fluctuations affect tax. Cyclical adjustment government spending and cyclical adjustment government tax are used to define the terms(Alesina & Perotti,1995).

c. What is crowding out? How does budget deficit crowd out investment?

Crowding out is a theory in economics that argues that the rising of spending in the public sector drives down or cut shot spending in the private sector. The most common way crowding out is done when a government has budget deficits. The budget deficits if are incurred more, lenders increase the interest rates(Buiter,1977). In turn, the economy of a country goes down, and the lending capabilities are also affected. The rates for application of loans for private companies is discouraged due to the cost. The main financiers of private corporations are the banks. Therefore, the budget deficits crowd out investment.

d. Why is a high level of government debt a matter of concern?

High government debts cause instability of a country economically. The countries that have very high debts lose the confidence of the investors which puts the government under pressure to reduce spending. When there are cases of high debts, the countries could opt in the printing of money, which causes inflation. When investors sell out of a country, foreign exchange is lost and causes instability economically due to lack of funds for production. There is also the possibility of a government borrowing from its private sector which comes cheap than external borrowing(Seater,1985). When the situation is carefully assessed the government could stabilize, but if the economy still incurs debts, it could fall. A good example is the Zimbabwe economy where the government has made more paper money. Therefore, the value of the currency there is not as much.

References

Roubini, N., & Sachs, J. (1989). Government spending and budget deficits in the industrial countries. Economic policy, 4(8), 99-132.

Alesina, A., & Perotti, R. (1995). Fiscal expansions and adjustments in OECD countries. Economic policy, 10(21), 205-248.

Buiter, W. H. (1977). Crowding outand the effectiveness of fiscal policy. Journal of public economics, 7(3), 309-328.

Seater, J. J. (1985). Does government debt matter? A review. Journal of Monetary Economics, 16(1), 121-131.