The Economy and the Budget: A Devoted Relationship

There is an unending number of ways that the economy and the budget are tied together. The budget itself serves as a tool in economic stabilization, particularly at the federal level (for instance, trying to prevent private companies or enterprises from failing, like Freddie and Fannie). The budget can provide for economic development by allocating money to help businesses relocate to a municipality, or to construct a shopping mall.

A number of economic factors influence the budget, including economic cycles, in which revenues might decline and/or a recession might occur, affecting intergovernmental aid. Inflation also causes affects the budget, and when the cost of living rises, expenditures tend to rise higher than increased revenue because of the labor-driven nature of the private sector. Also, because service-sector jobs are such a huge slice of the pie, when the economy is down, people pay for fewer services, which impacts service jobs and can lead to a shrinking middle class. Jobs (especially industrial jobs) are also being lost through globalization and outsourcing/offshoring (facilitated by government deregulation), new economic trends. Trade deficits and balance of payments is something to consider, for when a nation imports more than it exports, it often may find itself borrowing money when it doesn’t have the funds to back it up; this affects the budget by reducing the amount of money available.

Interest rates also have an effect (though not so much at the local level, as local governments are more able to anticipate changes in interest rates); high interest rates force governments to borrow more after a while, which means less money available in the long run when the governments have to pay the loans back with interest. Governments may use tax anticipation notes to meet the needs of the budget.

Interactions between governments have an impact; exporting the tax burden is an example (as through out-of-state tuition, sales taxes, and car dealerships), and the City of San José does this through its TOT tax (which it is considering increasing to raise more revenue to help reduce its $116 million budget deficit!). Also, local governments may use other cities as examples of what they can or should be doing (which is often a poor idea, as there are many factors that do not correspond exactly between cities). Competition between cities may improve management, which can affect the budget positively and can keep taxes down. Because of the unpredictable nature of the economy, budget planners and staff must account for this through flexibility. Changes in the economy may lead to a shift in budget priorities, and may cause higher levels of government to impose mandates on municipalities. Mandated programs can mean more expenditures out of the budget; for instance, a poor economy may mean lost jobs, and a city may be mandated to provide job training assistance, and such programs cost money.

In many instances, what is good for the economy is good for the budget. For instance, a better economy can mean more jobs, which means more people can pay more in taxes and there are more tax handles, and the tax revenue goes right back into the economy and can support a greater budget that can support more programs and services for the public. Payroll taxes can bring in revenues when the economy is good and people make more money at their jobs through their salaries. If the economy is poor, however, people have less money and spend less on things that can be taxed, like gasoline or cigarettes.

Taxes, which bear on private consumption, are certainly a big part of this. For instance, in supply-side economics, reducing taxes means more money available to use and spend, resulting in more jobs and profits.

The government has methods of affecting the economy, including pump-priming by spending to infuse money in the system. The government can target certain industries to help achieved its desired effects. The Fed has great influence, if not control, over the interest rate (the impact of which has been described above).