    [A Citizen's Guide to the Federal Budget]
    [4. The Budget Surplus and Fiscal Discipline]
    [From the U.S. Government Printing Office, www.gpo.gov]

    4. The Budget Surplus and Fiscal Discipline

    In 1998 the Federal budget reported a surplus of $69 billion, the
    first surplus since 1969, and reduced Federal debt held by the public
    by over $50 billion. With continued prudent fiscal policies, the budget
    can remain in surplus for many years. The turnaround from deficit to
    surplus can be attributed to fiscal discipline and strong economic
    growth. The change from deficit to surplus is an important milestone.

       Put simply, a surplus occurs when revenues exceeds spending in any
        year--just as a deficit occurs when spending exceed revenues.
        Generally, to finance

    Chart 4-1.  Past and Future Budget Deficits or Surplus

    Deficits began increasing dramatically in the 1980s, but have
    now been reversed.

    [[Page 22]]

    past deficits, the Treasury has borrowed money. With certain
    exceptions, the debt is the sum total of our deficits minus our
    surplus, over the years.

    The Government incurred its first deficit in 1792, and it generated
    70 annual deficits between 1900 and 1997.

    Chart 4-1 provides the history of budget surplus and deficits since 1940.

    For most of the Nation's history, deficits were the result of either
    wars or recessions. Wars necessitated major increases in military
    spending, while recessions reduced Federal tax revenues from businesses
    and individuals.

    The Government generated deficits during the War of 1812, the recession
    of 1837, the Civil War, the depression of the 1890s, and World War I.
    Once the war ended or the economy began to grow, the Government followed
    its deficits with budget surplus, with which it paid down the debt.

    Deficits returned in 1931 and remained for the rest of the decade--due
    to the Great Depression and the spending associated with President
    Roosevelt's New Deal. Then, World War II forced the Nation to spend
    unprecedented amounts on defense and to incur unprecedented deficits.

    Chart 4-2.  Outlays as a Percent of GDP

    Between 1965 and 1998, spending on Social Security, Medicare and
    Medicaid, and interest as a percentage of GDP grew, while spending
    on defense fell.

    [[Page 23]]

    Since then--with Democratic and Republican Presidents, Democratic and
    Republican Congresses--the Government has balanced its books only
    nine times, most recently last year.

    Nevertheless, the deficits before 1981 paled in comparison to what
    followed. That year, the Government cut income tax rates and greatly
    increased defense spending, but it did not cut non-defense programs
    enough to make up the difference. Also, the recession of the early
    1980s reduced Federal revenues, increased Federal outlays for
    unemployment insurance and similar programs that are closely tied
    to economic conditions, and forced the Government to pay interest
    on more national debt at a time when interest rates were high. As
    a result, the deficit soared.

    Why have we been able to move from deficit to surplus? Because
    spending growth has been restrained. Outlays are growing slower
    and revenues are holding steady.

    Revenues have stayed relatively constant, at around 17 to 21 percent
    of GDP, since the 1960s. In that time, however, outlays have grown
    from about 17 percent of GDP in 1965 to up to nearly 24 percent in
    1983 before falling below 20 percent today.

    Since 1983, spending had been reduced or held constant as percent
    of GDP across a wide variety of programs. The most significant
    reduction has occurred in discretionary spending, which has fallen
    from 10.3 percent to 6.6 percent of GDP. Combined spending on social
    security and net interest has remained roughly constant at about
    7-1/2 percent of GDP since 1983. A similar path has been followed in
    the rest of mandatory spending in total, but only because the growth
    in Medicare and Medicaid has been offset by declines in other
    mandatory spending (see Chart 4-2).

    Why a Budget Surplus is Important

    As Chart 4-3 illustrates, this Nation has a good record when compared
    to the recent history of six other major developed economies. (To make
    accurate comparisons with the governments of other nations, the U.S.
    data include the activities of State and local governments.)

    Should we worry about the possibility of a return to budget deficits?

    The 2000 Budget forecasts surplus for decades to come, if we maintain
    the policy of fiscal discipline and strategic investments in the
    American people.

    [[Page 24]]

              Chart 4-3.  Total Government Surplus or Deficit as a Percent
                                        of GDP

        Of the seven nations shown above, only the United States and Canada eliminated their total Government budget deficits in 1997.

    We must do all we can to keep the days of deficits in the past.
    Budget deficits force the Government to borrow money in the private
    capital markets. That borrowing competes with (1) borrowing by
    businesses that want to build factories and machines that make
    workers more productive and raise incomes, and (2) borrowing by
    families who hope to buy new homes, cars, and other goods. The
    competition for funds tends to produce higher interest rates.

    Deficits increase the Federal debt and, with it, the Government's
    obligation to pay interest. The more it must pay in interest, the
    less it has available to spend on education, law enforcement, and
    other important services, or the more it must collect in taxes--
    forever after. As recently as 1997, the Government spent over 15
    percent of its budget to pay interest, in contrast to a projected 12
    percent for 2000. Continuing surplus will reduce these interest
    payments further in future years.

    [[Page 25]]

    In the end, the surplus is a decision about our future. We can
    provide a solid foundation for future generations, just as parents
    try to do within a family. For a Nation, this means a strong economy
    and low interest rates and debt. Alternatively, we can generate
    large deficits and debt for those who come after us.

    Surplus and Debt

    If the Government incurs a surplus, it generally repays debt held by
    the public.

    Table 4-1 summarizes the relationship between the budget surplus or
    deficit and the repayment of Federal debt.

    Federal borrowing involves the sale, to the public, of notes and
    bonds of varying sizes and time periods until maturity. The cumulative
    amount of borrowing from the public--i.e., the debt held by the
    public--is the most important measure of Federal debt because it
    is what the Government has borrowed in the private markets over the
    years, and it determines how much the Government pays in interest to
    the public.

    Debt held by the public was $3.7 trillion at the end of 1998-roughly
    the net effect of deficits and surplus over the last 200 years.
    Debt held by the public does not include debt the Government owes
    itself--the total of all trust fund surplus and deficits over the years,
    like the Social Security surplus, which the law says must be invested
    in Federal securities.

    Because of the progress in eliminating the budget deficit, the debt
    held by the public has been reduced for the first time in 29 years.

               Table 4-1. Federal Government Financing and Debt
                           (in billions of dollars)
    ----------------------------------------------------------------------------
                                  1998                  Estimate
                                         -----------------------------------------
                                        Actual  1999  2000  2001  2002  2003  2004
    ------------------------------------------------------------------------------
    Federal Government financing:
     Budget surplus..............           69    79   117   134   187   182   208
     Other means of financing....          -18   -29   -19   -17   -17   -16   -15
                                         -----------------------------------------  Repayment of debt held by the public    51    50    98   117   170   166   193
    Federal Government debt:
     Debt held by the public............ 3,720 3,670 3,572 3,455 3,285 3,119 2,926
     Debt held by government
       accounts......................... 1,759 1,945 2,140 2,326 2,530 2,736 2,948
                                         -----------------------------------------
      Gross Federal debt.......          5,479 5,615 5,711 5,781 5,815 5,856 5,874
     Debt subject to legal limit........ 5,439 5,577 5,674 5,745 5,780 5,821 5,842
    ------------------------------------------------------------------------------
    Note: Numbers may not add to the totals because of rounding.

    [[Page 26]]

    The sum of debt held by the public and debt the Government owes itself
    is called Gross Federal Debt. At the end of 1998, it totaled $5.5 trillion.

    Another measure of Federal debt is debt subject to legal limit, which
    is similar to Gross Federal Debt. When the Government reaches the
    limit, it loses its authority to borrow more to finance its spending;
    then, the President and Congress must enact a law to increase the limit.
    Because the budget has returned to surplus and debt is being reduced,
    there will be no need to increase the statutory limit in 2000.

    The Government's ability to finance its debt is tied to the size and
    strength of the economy, or GDP. Debt held by the public was 44
    percent of GDP at the end of 1998. As a percentage of GDP, debt held
    by the public was highest at the end of World War II, at 109 percent,
    then fell to 24 percent in 1974 before gradually rising to a peak
    of 50 percent in the middle 1990s.

    That decline, from 109 to 24 percent, occurred because the economy
    grew faster than the debt accumulated; debt held by the public rose
    from $242 billion to $344 billion in those years, but the economy
    grew faster.

    Individuals and institutions in the United States hold two-thirds
    of debt held by the public. The rest is held in foreign countries.

    Returning the Budget to Surplus

    Ever since the deficit soared in the early 1980s, successive Presidents
    and Congresses have tried to cut it. Until recently, they met with
    only limited success.

    In the early 1980s, President Reagan and Congress agreed on a large tax
    cut, but could not agree about cutting spending; the President wanted
    to cut domestic spending more than Congress, while Congress sought
    fewer defense funds than the President wanted. They wound up spending
    more on domestic programs than the President wanted, and more on
    defense than Congress wanted. At the same time, a recession led to
    more spending to aid those affected by the recession, and reductions
    in tax revenues due to lower incomes and corporate profits.

    By 1985, both sides were ready for drastic measures. That year, they
    enacted the Balanced Budget and Emergency Deficit Control Act. It
    set annual deficit targets for five years, declining to a balanced
    budget in  1991. If necessary, GRH required across-the-board cuts in
    programs to comply with the deficit targets.

    [[Page 27]]

    Faced with the prospect of huge spending cuts in 1987, however,
    the President and Congress amended the law, postponing a balanced
    budget until 1993. The President and Congress never achieved those
    revised targets, in part because of the extraordinary costs of returning
    the Nation's savings and loan industry to a sound financial footing.

    By 1990, President Bush and Congress enacted spending cuts and tax
    increases that were designed to cut the accumulated deficits by
    about $500 billion over five years. They also enacted the Budget
    Enforcement Act (BEA)--rather than set annual deficit targets. The
    BEA was designed to limit discretionary spending while ensuring
    that any new entitlement programs or tax cuts did not make the
    deficit worse.

    First, the BEA set annual limits on total discretionary spending
    for defense, international affairs, and domestic programs. Second,
    it created ``pay-as-you-go'' rules for entitlements and taxes: those
    who proposed new spending on entitlements or lower taxes were forced
    to offset the costs by cutting other entitlements or raising other taxes.

    For what it was designed to do, the law worked. It did, in fact,
    limit discretionary spending and force proponents of new entitlements
    and tax cuts to find ways to finance them. But the deficit, which
    Government and private experts said would fall, actually rose.

    Why? Because the recession of the early 1990s reduced individual and
    corporate tax revenues and increased spending that is tied to
    economic fluctuations. Federal health care spending also continued
    to grow rapidly.

    In 1993, President Clinton and the Congress made another effort to
    cut the deficit. They enacted a five-year deficit reduction package of
    spending cuts and higher revenues. The law was designed to cut the
    accumulated deficits from 1994 to 1998 by about $500 billion. The
    new law extended the limits on discretionary spending and the
    ``pay-as-you-go'' rules.

    Although the 1993 plan had exceeded all expectations in reducing the
    deficit, the task of reaching balance would require one final push.
    That would come with the historic 1997 Balanced Budget Act (BBA).

    Originally designed to balance the budget by 2002, the BBA provided
    for $247 billion in savings over five years. It also extended the
    solvency of Medicare's trust fund for at least 10 years while
    providing for the largest investment in higher education since
    the G.I. Bill in 1945, the largest investment in children's
    health care since the creation of Medicaid in 1965, and a
    $500-per-child tax credit for about 27 million working families.

    [[Page 28]]

    Clearly, the President's deficit reduction efforts have paid off.
    The deficit fell from $290 billion in 1992 to a surplus of $69
    billion in 1998.

    The President is now proposing to reserve the surplus until Social
    Security is reformed. His plan for reform uses 62 percent of the
    projected unified budget surplus of the next 15 years to put the
    Social Security system on sound financial footing well into the next
    century. In 2000 the challenge for both the President and the Congress
    is to maintain fiscal discipline and reach comprehensive Social
    Security reform while continuing to invest in the American people.
    The next chapter describes the President's plans for achieving that goal.