A budget deficit is the amount by which an individual, business, or

government's income falls short of the expectations set forth in its

budget over a given time period. In most cases, those who experience a
budget deficit must borrow funds to make up the difference between
projected and actual income and expenses. The borrower must pay
interest on this amount, known as its debt, which further increases
expenses for the following time period. In this way, budget deficits tend
to grow over time with the accumulation of loans and interest payments.
If a business fails to take action to correct a budget deficit and restore
the balance of cash inflows and outflows, bankruptcy can result.

Why Do Deficits Occur?

Deficits occur because cash is not available to cover expenses. Sources of cash might
include collections, the sale of assets, investment income, or receipts from planned longterm financing. Expenses or cash disbursements/payments exceed incoming cash during a
budget deficit. These cash disbursements may be greater than budgeted amounts
inaccounts payable for supplies and materials, wages and taxes, purchases of capital
equipment, interest payments on long-term debt outstanding, or dividend payments to
shareholders.
Without some outside financing, a deficit will carry over into the next period. Often the
deficit may be the result of delays in collections on sales or a capital expenditure that was
not planned, like the purchase of a new piece of equipment. Deficits could also result
when sales are worse than the forecast due to a downturn in the economy or lost sales to
competitors. Since budgets are based on prior forecasts, it is common for the actual
amounts to differ from the forecasted or budgeted amounts. When deficits occur,
management should attempt to determine the reason for the inconsistencies.

Using Budgets to Avoid Deficits

Without clearly outlined budgets, corporations are unable to predict profits or losses or
create plans for the future. Managers should work to understand how the budget is related
to the other functional areas of strategic planning and to the general economic
environment. Within the company, the budget is an element of internal control and can
help set cost behavior and policies in the organization. From a human resources
perspective, performance compensation can even be tied to budgets, particularly in the
functional areas. For example, companies might pay on the basis of performance as
compared to the sales and marketing budget, the manufacturing budget, the research and
development budget, the administrative-expense budget, the payroll budget, etc.
Budgeting is important for managing cash so an organization can avoid deficits. Because
deficits are often detrimental in any environment, budgeting is necessary in all types of
businessesand not just in the for-profit arena, but also in non-profit organizations,
higher education, the health-care industry, and any type of organization that must manage
expenses and revenues.
Planning is a management responsibility of crucial importance to business success.
Budgeting is the process used by management to formalize its plans. Budgeting promotes
analysis by management and focuses its attention on the future. Budgeting also provides a
basis for evaluating performance, serves as a source of motivation, acts as a means of
coordinating business activities, and communicates management's plans and instructions
to employees.

Year GDP - real growth rate Rank Percent Change Date of Information
2003
4.50 %
48
FY01/02 est.
2004
5.50 %
45
22.22 %
2003 est.
2005
6.10 %
47
10.91 %
2004 est.
2006
6.60 %
48
8.20 %
2005 est.
2007
6.60 %
59
0.00 %
2006 est.
2008
5.30 % 104
-19.70 %
2007 est.
2009
2.70 % 139
-49.06 %
2008 est.
2010
4.30 %
41
59.26 %
2009 est.
2011
2.70 % 135
-37.21 %
2010 est.

Definition: This entry gives GDP growth on an annual basis adjusted

for inflation and expressed as a percent.
ISLAMABAD, Sept 1 (Reuters) - Pakistan's budget deficit is expected to climb to 6-7
percent of gross domestic product in the fiscal year 2010/2011 as a result of floods, the
prime minister said on Wednesday.
"The budget deficit before the flood crisis was estimated to reach 4.5 percent of GDP.
Now it is estimated to be as much as 6-7 percent of the GDP," Prime Minister Yusuf Raza
Gilani told the cabinet.
Gilani said the disaster would hit the economy hard.
"The floods have inflicted damage to the economy which may by some estimates reach
$43 billion, while affecting 30 percent of all agricultural land," he said.
Pakistan's budget deficit for the fiscal year 2009/10 (July-June) was 6.3 percent of GDP,
the Finance Ministry said on its website on Tuesday.
This compared with a deficit of 5.2 percent in fiscal year 2008/09.
The monsoon floods have affected an estimated 18 million people, ravaged an area larger
than England and destroyed over 3.4 million hectares of crops.
Agriculture is the mainstay of the economy, which was fragile before the floods hit over a
month ago. (Writing by Michael Georgy; Editing by Tomasz Janowski) (For more
Reuters coverage of Afghanistan and Pakistan.

Does a budget deficit matter?

There is a consensus that a persistently large budget deficit can turn out to be a major
problem for the government and the economy. Three of the reasons for this are as
follows:
1. Financing a deficit: A budget deficit has to be financed and day-today, the issue of
new government debt to domestic or overseas investors can do this. But it may be
that if the budget deficit rises to a high level, the government may have to offer
higher interest rates to attract buyers of government debt. In the long run, higher

government borrowing today may mean that taxes will have to rise in the
future and this would put a squeeze on spending by private sector businesses and
millions of households.
2. A government debt mountain? In the long run, a high level of government
borrowing adds to the accumulated National Debt. This means that the
Government has to spend more each year in debt-interest payments to holders of
government bonds and other securities. There is anopportunity cost involved here
because interest payments might be used in more productive ways, for example an
increase in spending on health services. It also represents a transfer of
income from people and businesses that pay taxes to those who hold government
debt and cause a redistribution of income and wealth in the economy
3. Wasteful public spending: Neo-liberal economists are naturally opposed to a high
level of government spending. They believe that a rising share of GDP taken by
the state sector has a negative effect on the growth of the private sector of the
economy. They are sceptical about the benefits of higher spending believing that
the scale of waste in the public sector is high money that would be better off
being used by the private sector.
Potential benefits of a budget deficit
What are the main economic and social justifications for a higher level of government
spending and borrowing? Two main arguments stand out
1. Government borrowing can benefit economic growth: A budget deficit can have
positive macroeconomic effects in the long run if it is used to finance extra capital
spending that leads to an increase in the stock of national assets. For example,
higher spending on thetransport infrastructure improves the supply-side capacity
of the economy promoting long-run growth. And increased public-sector
investment in health and education can bring positive effects on labour
productivity and employment. The social benefits of increased capital spending
can be estimated through use of cost-benefit analysis.
2. The budget deficit as a tool of demand management: Keynesian economists
would support the use of changing the level of borrowing as a way of fine-tuning
or managing the level of aggregate demand. An increase in borrowing can be
a stimulus to demand when other sectors of the economy are suffering from weak
spending. The fiscal stimulus given to the British economy during 2002-2005 has
been important in stabilizing demand and output at a time of global uncertainty.
The argument is that the government can and should use fiscal policy to keep real
national output closer to potential GDP so that we avoid a large negative output
gap. Maintaining a high level of demand helps to sustain growth and keep
unemployment low.

Economic Effects of a Budget Deficit

Increased borrowing
The govt will have to borrow from the private sector, it does this by asking the Bank of
England to sell bonds and gilts to the private sector.

Higher debt interest payments

Selling bonds will increase the national debt, this is currently 300 billion. The annual
interest payments is approximately 23 billion, this has a high opportunity cost because it
requires future generations to pay higher taxes.

Increased AD
A budget deficit implies lower taxes and increased G, this will increase AD and this may
cause higher Real GDP and inflation.

Higher Taxes and lower spending

In the future the govt may have to increase taxes or cut spending in order to reduce the
deficit. This may cause reduced incentives to work

Increased Interest rates

If the govt sells more bonds this is likely to cause interest rates to increase. This is
because they will need to increase interest rates in order to attract investors to buy the
extra debt.
If govt interest rates increase this will push up other interest rates as well.

Crowding Out
Increased govt borrowing may cause a decrease in the size of the private sector (see fiscal
policy)

Inflation:

In extreme circumstances the govt may increase the money supply to pay
the debt, however this is unlikely to occur in the UK

If the govt sells short term gilts to the banking sector then there will be an
increase in the money supply, this is because banks see gilts as near money therefore they
can maintain there lending to customers.