(By the Pragmatic Pundit)
The deficit is determined by the amount of money the government spends and the amount of revenues it collects in taxes. Both income and revenue are affected by the state of the economy and both are affected by the tax and spending policies made in the federal budget process.
During difficult economic times, government spending automatically increases because of an increase in the number of people eligible for need-based programs like food stamps and unemployment benefits. At the same time, tax revenues tend to decrease because fewer people are employed and therefore pay less in taxes. Corporations also earn less profit, and they too pay less in taxes.
Spending and Revenues
Spending can be divided into three groups:
Mandatory spending is what everyone calls “entitlement programs”. The amount of money spent is determined by how many people apply and are eligible for benefits. So the increase or decrease in these programs is not determined by Congress, but largely by the state of the economy and population.
Discretionary spending goes through an annual appropriations process that allows Congress to increase or decrease spending in a given year. The discretionary budget is usually around one-third of total federal spending.
Interest on the debt that the government pays on its accumulated debt.
Revenues come from three major sources:
1. Individual income taxes – 47 percent of tax revenues are spent during the annual appropriations process. More than 100 million American households file a federal tax return each year, making up the federal government’s single largest revenue source. While, the wealthy are meant to pay a larger percentage of their earnings than middle- or low-income earners, this is not the way it works out.
2. Payroll taxes – paid jointly by workers and employers become trust funds used to pay for specific programs like Social Security and Medicare. Established as payroll deductions (FICA), employees and employers each pay 6.2 percent of wages into Social Security and 1.45 percent into Medicare. Clearly, Social Security and Medicare are not “entitlements”, but earned benefits. There is also a contribution for unemployment insurance.
3. Corporate income taxes paid by businesses receive the same designation as income taxes paid by individuals. They pay a tax rate from 15 to 35 percent.
When you hear Republicans bellyaching about the effects of a tax increase on small businesses, keep in mind that the 35 percent rate applies to taxable income over $18.3 million. Even then, the percentage varies because of “loopholes” , deductions, tax credits and tax havens to avoid tax liability.
There are also smaller sources of revenue, like taxes on imports and taxes levied on specific goods, like gasoline. In 2011, individual income taxes made up 47% (there’s that 47 percent, again), while corporations contributed 7.8% of all federal tax revenues.
The Debt to GDP
Politicians, pundits and economist talk a lot about the debt to GDP or gross domestic product. Simply put, it is a measure of the debt compared to the total output of the economy. According to the CIA World Factbook, at the end of 2011 the United States had a public debt to GDP of 67.8%.
I concentrate on public debt because it includes Treasury securities held by investors outside the federal government; individuals, corporations, the Federal Reserve System and foreign, state and local governments. Think about that…67.8% of our debt is considered public debt, but only 47% of that total public debt is owned by international investors, which means foreign investors only really account for about 32% of our total indebtedness. The rest is held by State and local governments, individuals and corporations. I’m not even certain it should be called debt, but all other obligations are intra-government or debt the federal government has borrowed from itself . These are loans from surpluses owned by trust funds, such as Social Security, Medicare and the Civil Service Retirement Trust Fund.
One-third of the federal debt is held by our own federal accounts, while two-thirds is held by the public. When you buy a Treasury bond, you are effectively loaning money to the federal government. There are many different kinds of Treasury bonds, but they all represent a loan to the U.S. government. The greatest percentage of our debt is actually money that we owe to ourselves! What do you suppose would happen if the government failed to repay itself? Would Treasury foreclose on the White House and repossess Air Force One?
When you include debt held in government accounts (Social Security, Medicare, etc.), the debt to GDP is approximately 105%. In simple terms, our indebtedness exceeds the total worth of of our assets by 5%. Don’t panic. We’ve been here before. After World War II in 1945, the debt to GDP reached 122.7%. How did we overcome? It didn’t require trimming expenditures, revamping Medicare or Social Security. The answer was jobs. People went to work…remember “Rosie the Riveter”?