Surplus, Federal

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SURPLUS, FEDERAL

SURPLUS, FEDERAL. Federal budgets have varied considerably over our history. As indicated in the accompanying table, our first and second centuries were very different in terms of budget surpluses. Through our first 134 years, surpluses were the norm; in the last 75 years, they have been rare. A number of factors affect our budgetary history. The most pronounced are wars and economic recessions. However, philosophical and partisan values and beliefs also were critical.

Table 1

Years in Surplus or Deficit, 1792–2000
SOURCE: U.S. Dept of Commerce, 1970, pp. 1104–1105
Years	Years in Surplus	Years in Deficit
1792–1800	5	4
1801–1825	17	8
1826–1850	16	9
1851–1875	17	8
1876–1900	19	6
1901–1925	14	11
1926–1950	8	17
1951–1975	5	20
1976–2000	3	22

For example, when the Jeffersonian Democrats defeated the Federalists in 1800, their philosophy of a limited national government replaced the Federalists' more activist role. As a result, the budget deficits that Treasury Secretary Alexander Hamilton was willing to run to provide federal services were replaced by Thomas Jefferson's desire to run surpluses to reduce the total public debt. His (and James Madison's) Secretary of the Treasury, Albert Gallatin, was able to produce surpluses in ten of fourteen years from 1801 to 1824, with the exceptions coming primarily during and after the War of 1812. Because Democrats were in power for most of the period prior to the Civil War, there were thirty-three years of budget surpluses from 1801 to 1850.

Since the total public debt was essentially eliminated by 1835, but both the Democrats, and especially the Whigs, believed in high protective tariffs, revenue consistently outpaced spending. The answer of what to do with the excess funds came in the form of the Deposit Act of 1836, which required the federal government to distribute any surplus over $5 million to the states in proportion to their electoral votes (hence their population). That act was short-lived because of major economic downturns commencing with the Panic of 1837. That recessionary period resulted in deficit spending during six of the next seven years.

Surpluses returned by 1844 and were common until the military buildup prior to and during the Civil War. The war resulted in eight years of deficits and an unimaginable increase in government spending and government debt. The latter rose from $64 million in 1860 to $2.8 billion in 1866. That debt was partly paid for by issuing war bonds, authorized by Lincoln's hard-driving Secretary of the Treasury, Samuel Chase. Tariff revenue declined substantially during the war. Thus, to help finance the war effort and to begin paying off the debt, Congress passed the first income tax in 1862, which remained in effect until its repeal in 1872.

Because of the income tax, the nation was able to return to surpluses in 1866. The fiscally conservative nature of the post–Civil War period, for both Republicans and Democrats, led to continuous surpluses from 1866 to 1894. As in the pre–Civil War period, surpluses eventually ended due to the nation's economic woes, which in the 1890s were much worse than anything the country had experienced before. Because of the enormity of the debt built up during the Civil War, the total debt had only been reduced to $1 billion by 1894 from the $2.8 billion that existed in 1866. Spending in the 1890s on the Spanish American War and veterans pension legislation contributed to five straight years of deficits at the end of the nineteenth century.

A mixed pattern of deficits and surpluses marked the period beginning in 1900 and ending in 1918 with U.S. entry into World War I. The war again produced a historic level of debt that was completely beyond anything previously imagined. It stood at $24 billion by 1921. However, the income tax had been reenacted in 1913 and was expanded dramatically during the war. By the end of the war it accounted for 56 percent of federal revenues. Using that tax engine, Secretary of the Treasury Andrew Mellon was able to produce surpluses in every year he was in power, which included three presidential administrations from 1921 to 1932. As the surpluses were acquired, Mellon would subsequently support reduction in taxes, with income tax rate reduction the primary target. Because of the strength of the economy during this period, even as tax rates were reduced, more taxes were collected and more surpluses created.

Those surpluses ended with the depression, and with the willingness of Franklin Roosevelt to use the federal government to help alleviate the nation's suffering—and to run deficits while doing so. Later during his thirteen years in office Roosevelt embraced the philosophy of John Maynard Keynes, which lent academic endorsement to the concept of deficit spending in times of recession.

The combination of growing expenditures for New Deal programs; the philosophical acceptance of Keynesian deficit spending; and wars in Europe, Korea, and Vietnam, along with a cold war with Russia, created a phenomenal period of growth in U.S. government, and with it an omnipresent budget deficit.

Beginning in the 1980s both the origin of deficits and the drive for budget surpluses took on a new dimension. For the first time in budget history, deficits were an unintended consequence of a major peacetime tax reduction occurring in 1981. The influence of Keynesian macroeconomic theory had waned in policy circles and for a short period was replaced by a supply-side theory in which tax reductions were viewed as the major engine of capital formation, and therefore economic growth. Some of the empirical evidence supporting the supply-side theory included the results of the surplus-generating actions of the Mellon era in the 1920s. Supply-siders argued that cutting tax rates would ultimately increase tax collections. The debate over supply-side theory continues, but the short-term effects are not subject to debate. Deficits exploded, reaching $290 billion in 1992. The political result was a consistent effort to return the nation to surpluses. That legislative goal dominated legislative and presidential politics from 1982 to 1997. Spending restraints were imposed and peacetime tax increases were enacted for the first time since 1931.

With government having achieved the goal of returning to surpluses by the 1998 fiscal year, politics seemed to be returning to a prior period, as political pressures supporting tax reductions (accomplished in early 2001) and pent-up spending demands crowded the political agenda.