Economic Effects of Sustained Budget Deficits

Peter R. Orszag and
Peter R. Orszag Vice Chairman of Investment Banking, Managing Director, and Global Co-Head of Healthcare - Lazard
William G. Gale
William G. Gale The Arjay and Frances Fearing Miller Chair in Federal Economic Policy, Senior Fellow - Economic Studies, Co-Director - Urban-Brookings Tax Policy Center

July 17, 2003


The effects of fiscal policy on the economy have received substantial attention in academic
and policy circles. We review this literature in light of recent policy debates and new research and
obtain three results. First, other things equal, deficits reduce national saving and future national
income, even if international capital inflows avert an increase in interest rates. Second, the recent
fiscal deterioration implies significant declines in future national income. Third, studies
incorporating the best available information about expected future deficits tend to find significant
effects of expected deficits on current long-term bond yields, controlling for other factors.