The Evolution of Federal Budget Rules and the Effects on Fiscal Policy: How Informal Norms Have Trumped Formal Constraints

Abstract

Today’s fiscal policy challenges are rooted in the way that fiscal policy rules have evolved over the history of the United States. This paper demonstrates that two shifts of informal norms occurred in the decades surrounding the turn of the 20th century. First, public expectations shifted from requiring a balanced budget to instead using the federal budget to promote economic security at the household level and economic stability at the macro level. Simultaneously, norms for elected office shifted from temporary service to careerism, and the federal government became increasingly professionalized. Both shifts increased demand on the expenditure side of the federal budget while creating fiscal commons problems on taxation and appropriations. Through a series of legislative milestones, Congress codified both shifts into entitlement programs and macroeconomic objectives. The combined effect has been to exert relentless pressure to increase public expenditures through debt finance. Despite four decades of legislative attempts to constrain spending relative to taxes, the informal norms have trumped the formal constraints. Viewed through the lens of public choice economics, fiscal policy rules have evolved into a complex system of incentives that instill a strong bias toward systematically greater deficit spending, whether or not policymakers intend for that outcome to result. Furthermore, by creating intergenerational redistribution, the pattern of deficit spending is morally suspect. Reform discussions must recognize that today ’s fiscal policy challenges can be met only by addressing these deep changes in federal budget rules.