Why the Deficit Increased

The deficit increased over the last 2 years, but it wasn’t because of any “surge” or “explosion” in government spending.  It was because the real economy, which generates the tax revenues, collapsed because of a financial crisis, as the following graph shows.  It wasn’t an increase in govt spending. Spending continued to increase at the same rate as it did during the “boom” years of 2005 and 2006.  Instead, when the financial crisis on Wall Street in 2008 spilled over into the real economy it collapsed tax revenues.  Fiscal stimulus to drive recovery really hasn’t been tried yet on a scale commensurate with the problem.

Govt Receipts vs. Govt Expenditures, 2005-10In this graph, the gap between the blue and red line represents the deficit.  Yes, it got bigger in 2008, but it’s because tax receipts dropped.

So how did that $780 billion stimulus bill of the administration that passed in Feb 2009 disappear?  Easy.  First it wasn’t $780 of spending.  It was a little over $400 billion in spending over 2.5 years.  The rest was tax cuts.  Second, it was only Federal government spending.  At the same time, state and local governments and school boards cut spending.  Net: no change.