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5.2.2 distinction between a government budget deficit and a government budget surplus

5.2.2 distinction between a government budget deficit and a government budget surplus

Deficit versus surplus

Definition

Budget deficit: when government spending exceeds revenue over a period.

Budget surplus: when government revenue exceeds spending over a period.

The two positions

  1. A budget deficit must be financed by borrowing, which adds to the national debt.
  2. A budget surplus means revenue is greater than spending, so the government can repay debt or save.
  3. Between them lies a balanced budget, where revenue exactly equals spending.
Key Idea
  • A deficit is expansionary and a surplus is contractionary in their effect on demand.
    • A deficit injects more into the circular flow than it withdraws, while a surplus withdraws more than it injects.

Why they arise

  1. A deficit can arise deliberately when a government runs expansionary fiscal policy to boost demand.
  2. A deficit can also arise automatically in a recession, as tax revenue falls and welfare spending rises.
  3. A surplus is more likely in a boom, when high incomes lift tax revenue and welfare spending falls.
Example
  • A recession cuts tax revenue from £500 billion to £460 billion and raises welfare spending from £550 billion to £580 billion.
Budget balance=revenue−spending \text{Budget balance} = \text{revenue} - \text{spending} Budget balance=revenue−spending
  • So 460 − 580 = −120: the deficit widens to £120 billion, up from £50 billion before.
  • The deficit has widened with no change in policy, because the weaker economy cut revenue and raised spending.

What follows

  1. Each yearly deficit is financed by borrowing that adds to the national debt.
  2. A run of surpluses allows a government to pay debt down over time.
  3. A deficit is not automatically bad: it depends on why it arises, since borrowing to fund productive investment can raise future output.
Exam technique
  • Compute the balance as revenue − spending, then label the sign.
    • A negative balance is a deficit and a positive balance is a surplus.
  • Link a widening deficit either to a policy choice or to the economic cycle.
Common Mistake
  • Do not treat the deficit and the national debt as the same thing.
    • The deficit is a flow added each year, while the debt is the accumulated stock.
Self review
  • Define a budget deficit and a budget surplus.
  • Why might a deficit widen in a recession without any policy change?
  • How is a deficit financed?
  • Give one reason a deficit need not be harmful.
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A government budget compares government revenue, mainly from taxation, with government spending over a period. The budget balance is calculated as:

Budget balance=government revenue−government spending \text{Budget balance} = \text{government revenue} - \text{government spending} Budget balance=government revenue−government spending

A negative balance is a budget deficit because spending exceeds revenue. A positive balance is a budget surplus because revenue exceeds spending, while a balance of zero is a balanced budget.

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What happens to government spending and revenue during a budget deficit?

5.2.2 distinction between a government budget deficit and a government budget surplus Revision Guide

  1. Intl A Level
  2. /Economics
  3. /5.2.2 distinction between a government budget deficit and a government budget surplus

Revision notes for CIE Intl A Level Economics 5.2.2 distinction between a government budget deficit and a government budget surplus: explanations and worked examples.