Description                                  
The narrator discusses the effect the federal budget has on government spending and taxation. 

Narrator: 
Politicians are always debating how to balance the federal government budget. The federal budget details every item of government spending and revenue. 

Narrator: 
Although the budget has great impact upon the economy, it is not a purely economic document. In fact, the way it is fought over and formulated in Washington shows that it is driven largely by political demands. 

Narrator: 
Also, the budget depends upon economic conditions as much as it determines them. For instance, the amount that the government pays in unemployment benefits is much higher during a depression than during a boom. And, the government is likely to collect larger tax revenues during an expansion than during a contraction. The budget, therefore, needs to be understood as an instrument that both shapes and is shaped by the overall economy. 

Narrator: 
The budget might reflect a surplus or a deficit, but as we can see from the graph, the United States government has run a deficit for many years. 

Narrator: 
The annual deficit is the amount by which government expenditure exceeds government revenue by over a one-year period. If government runs a deficit, then it must cover that deficit either by increasing tax revenues or by borrowing money through the sale of government securities. 

Narrator: 
Net borrowing contributes to the federal debt, which is the accumulation of all deficits, less any surpluses over time. This is also referred to as the national debt. 

Narrator: 
The federal deficit and debt are key factors in the government's deliberations about how and when to use fiscal policy tools like government spending and taxation. A little algebra illustrates why these relationships are so significant. 

Narrator: 
Remember, that disposable income equals consumption plus savings, and also equals aggregate income minus taxes. These equations can be combined and rearranged to solve for aggregate income in terms of consumption, savings and taxes. We know that aggregate income is also equal to aggregate expenditure, which in turn equals consumption plus government spending plus investment plus net exports. These three equations can also be combined and algebraically rearranged to derive a formula for government spending minus taxes. This is precisely the definition of the deficit. 

Narrator: 
From the equation, it is clear that when government spending exceeds taxes, we're faced with a deficit. If taxes exceed government spending, we have a negative deficit or a budget surplus. 

Narrator: 
An increase in government spending can be financed in several different ways: through a tax increase; an increase in savings; a reduction in domestic investment; or, an increase of foreign capital flowing into the country... in other words, a fall in net exports.  

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