Until recently, the federal government typically spent more money every year on defense, education and other federal programs than it received in revenues, chiefly individual income taxes.
In 1992, the budget deficit reached $290 billion, a record in dollar terms. In 1998, however, annual tax revenues began to exceed annual expenditures, thanks to the booming economy. This year, the surplus is expected to reach a record $281 billion. But previous years of deficit spending have left a substantial national debt -- $3.4 trillion -- that has not yet been paid off.
The government finances the national debt by borrowing from the public, a practice begun in 1791 by the first secretary of the Treasury, Alexander Hamilton, to pay off bills from the Revolution. The Treasury Department borrows money through the sale of various securities, such as U.S. Savings Bonds, which workers can buy through payroll savings plans. The Treasury Department also holds public auctions each month, where T-bills, bonds and notes are sold to the highest bidder. All Treasury securities are backed by the “full faith and credit” of the U.S. government, which has never defaulted on any of its obligations. As a result, Treasury securities are considered among the safest investments in the world.
Different Treasury securities mature, or come due, at different times. There are, for example, 30-year securities, two-year notes and one-year, six-month and three-month bills. When these portions of the national debt come due, the Treasury must either raise cash by taxation or borrow more money to pay off the bondholder.
Total Treasury borrowing makes up the outstanding public debt, or the equivalent of an individual's credit card balance. Since the national debt peaked in 1997 at around $3.8 trillion, budget surpluses have reduced the overall obligation to about $3.4 trillion. That means that there are $3.4 trillion worth of bonds, notes and other Treasury securities in the hands of investors.
The Treasury also borrows from certain government trust funds that are running surpluses. For example, it issues special-issue securities to the Social Security trust fund as a way to invest the excess revenues from workers' payroll contributions until they are needed to pay for retiree benefits.
“Essentially, Social Security ends up with $100 billion more than it needs [every year] and it has to invest that money in something, so it invests the money in special-issue Treasuries,” explains Alicia H. Munnell, an assistant Treasury secretary during the Clinton administration who now directs the Center for Retirement Research at Boston College. “That way, the trust fund has $100 billion of special-issue Treasuries, and the Treasury has $100 billion of cash.”