The consequences aren't immediate. Creditors are satisfied, because they know they will get paid. Government legislators don't have to decide who gets paid, and who doesn't, because the Federal government has the ability to pay everyone. Elected officials just keep promising the voters in their district more and more benefits, military bases, and tax cuts. Telling voters that they will get less from the government would be political suicide. To voters, elected officials, and creditors, the government's ability to run deficits means no pain, and all gain -- year after year after year.
The Deficit and the Debt
However, each year the deficit adds to the national debt. As the debt grows, it increases the deficit in two ways. First, the interest on the debt must be paid each year. This is added to Federal budget spending. This, in turn, increases the deficit without providing any benefits. This creates a bit of a drag on economic growth, as those funds could have been used to stimulate the economy.Second, higher debt levels can make it more difficult for the government to raise funds. As the debt to GDP ratio approaches 90%, creditors become concerned about a country's ability to repay the debt. Interest rates rise to give investors a higher return on this higher risk. This can increase the deficit each year. For more, see How the Deficit and Debt Affect Each Other.
This can become a self-defeating loop, as countries go deeper into debt to repay their debt. At some tipping point, interest rates on new sovereign debt can skyrocket, as it becomes ever more expensive to countries to roll over debt. If it continues, long enough, a country may default. This is what caused the Greece debt crisis in 2009.
How Is the Deficit Financed?
In the U.S., the budget deficit is financed from U.S. Treasury bills, notes and bonds. This is the government's way of printing money. Actually, it is creating more credit denominated in the U.S. dollars. However, it has the same effect -- it lowers the value of the U.S. dollar. That's because, as dollars/Treasury notes flood the market, the supply outweighs the demand.The U.S. is fortunate, because the dollar is a global currency. That means it is used for most international transactions. For example, almost all oil contracts are priced in dollars.
This means that the U.S., and its currency the dollar, do not face the same consequences as other countries and their currencies do for running up a huge debt. The stability of the U.S. economy means that investors will invest in the dollar as a safe haven when there is global economic uncertainty. During the 2008 financial crisis, the dollar's value strengthened by 22% when compared against the euro. It happened again in 2010 as a result of the eurozone debt crisis. The U.S. doesn't have to worry about have to rising Treasury note yields, even as the debt rises. For this reason, the U.S. will probably never default on its debt. For more, see U.S. Debt Default.
Now that you understand the budget deficit, find out what the current U.S. budget deficit is, and compare it to the Federal budget income, Federal budget spending. There you'll find past budget deficits as well.
