Budget and Economic Policy Study Guide

Explain the process of creating the federal budget, include the role POTUS, the OMB(Office of Management & Budget), the CBO(Congressional Budget Office), the House and the Senate

• Agency Requests: Federal agencies prepare detailed budget requests and submit them to the OMB, often a year before

• Executive Budget Formulation: The OMB compiles and reviews these requests, working with agencies to ensure they align with the POTUS's policy and budget objectives. The OMB is instrumental in drafting the President's full budget proposal.

• President Submits Budget: The POTUS sends the comprehensive budget proposal to Congress, typically in early February. This proposal outlines the administration's projected spending, revenue, and borrowing levels.

• Congressional Review and Budget Resolutions: The House and Senate Budget Committees review the President's proposal. The Congressional Budget Office (CBO) provides independent, nonpartisan analysis and economic information to Congress regarding the proposal. The House and Senate each draft and vote on their own separate budget resolutions, which set the overall spending limits.

• Appropriations Process: Funding is divided among 12 subcommittees in both the House and Senate, which then draft detailed appropriations bills. Each chamber votes on these bills, and differences are negotiated and reconciled in a joint conference.

• Presidential Approval: The final, approved appropriations bills are sent to the POTUS, who can sign them into law or issue a veto. A signed bill provides the legal authority for federal agencies to spend money. 

What are the Ways and Means Committee?

• the oldest, most powerful tax-writing committee in the U.S. House of Representatives (1789)

• has primary jurisdiction over all revenue-raising legislation, including taxes, tariffs, Social Security, Medicare, and welfare programs

What are appropriations? How do appropriations relate to the budget process?

• annual, legally binding acts passed by Congress that provide budget authority for federal agencies to spend money from the Treasury for specific purposes

• critical component of the federal budget process

• specifically fund discretionary programs (defense, education, etc.) following, or in conjunction with, the approval of authorizing legislation

What is a continuing budget resolution?

• temporary law Congress passes to fund the U.S. gov. when regular annual appropriations bills aren't enacted by the October 1st fiscal year start, preventing shutdowns by allowing agencies to operate at previous funding levels or a set rate for a limited time until full budgets are agreed upon.

• a CR is a legislative tool to keep the government running smoothly when the normal budget process stalls, as seen when lawmakers need more time for negotiations

What is discretionary spending? Provide examples.

the portion of the U.S. federal budget authorized annually by Congress through 12 appropriation bills, totaling roughly one-third of total federal spending

this funding is optional and reviewed yearly

Ex:

• defense spending

• education

• transportation

• homeland security

• NASA and EPA activities

• foreign aid

What is mandatory spending? Provide examples.

direct spending, U.S. federal funding authorized by permanent law rather than annual appropriations, representing roughly two-thirds of the total budget

covers entitlement programs for those meeting eligibility criteria

Ex:

• social security

• medicare

• medicaid

• veterans’ benefits

• interest on debt

• income security programs (SNAP, unemployment insurance)

What are entitlements? Why is it so difficult to change reform entitlements.

• entitlements are federal programs that guarantee specific benefits to individuals who meet certain eligibility requirements, such as age, income, or disability. They are a form of mandatory spending, meaning the government is legally required to pay out benefits to all eligible recipients, regardless of what is happening in the annual budget

Why It Is Difficult to Change or Reform Entitlements

• 1. Immense Political Popularity
  Programs like Social Security and Medicare are extremely popular among voters

• 2. Organized Interest Groups
  Powerful lobby groups, such as AARP, representing millions of older Americans, are prepared to fight any attempt to cut benefits

• 3. Automatic Nature of Mandatory Spending
  It is not something that can be easily reduced during routine, annual budget negotiations

• 4. Demographic Shifts
  An aging population means more people are entering the entitlement system while fewer workers are paying into it

• 5. "Pain" is Immediate, Benefits are Long-Term

• 6. Legal and Moral Obligations

What is the difference between a budget deficit and national debt? How do they relate to one another?

• A budget deficit is the annual shortfall when government spending exceeds revenue

• the national debt is the cumulative total of all borrowed money remaining unpaid

• Deficits are a "flow" variable (yearly), whereas debt is a "stock" variable (total owed). Deficits increase debt; consecutive annual deficits raise the total national debt. 

Why is mandatory spending increasing?

primarily due to an aging population increasing beneficiary numbers for Social Security and Medicare

What is GDP? How is it calculated?

• GDP (Gross Domestic Product) measures a country's economic output, representing the total monetary value of all final goods and services produced within its borders in a specific time, calculated primarily by summing up spending (Consumption + Investment + Government Spending + Net Exports)

• It's a key indicator of a nation's economic health, revealing growth or contraction, and can also be measured through income or production methods

What is an external shock and how might it affect GDP?

• an unexpected event originating outside a country’s domestic economy—such as pandemics, war, or commodity price shifts—that causes significant volatility/change in economic performance

• these shocks typically reduce real GDP by disrupting trade, lowering investment, and curbing consumer confidence

What is the function of Federal Reserve?

• ("the Fed") acts as the central bank of the United States, managing the nation's monetary policy to achieve maximum employment, stable prices, and moderate long-term interest rates

• regulates financial institutions, maintains financial system stability, and provides banking services to the U.S. government

What is the Federal Reserve’s “target” unemployment rate and inflation rate?

• long-term average inflation rate of 2% based on the Personal Consumption Expenditures (PCE) index

• Fed does not set a specific numerical target for unemployment, typically considered an unemployment rate of around 4.0% to 4.3%. 

What is the federal funds rate?

• the interest rate depository institutions (banks) charge each other to lend reserve balances overnight

• Set by the Federal Open Market Committee (FOMC), it is a primary tool of monetary policy used to influence short-term interest rates, economic activity, and control inflation

• As of December 2025, the target range was 3.50% to 3.75%. 

What are reserve requirement?

• central bank regulations setting the minimum liquid assets (cash in vaults or deposits at the central bank) commercial banks must hold against customer deposits

• They ensure financial institutions have sufficient cash to handle daily customer withdrawals and unexpected, large-scale demand

What is the Federal Open Market Committee?

• the primary monetary policymaking body of the Federal Reserve System, responsible for setting U.S. monetary policy, including influencing interest rates and managing the money supply through open market operations, to promote price stability and maximum employment.

• Its key tool is setting a target for the federal funds rate, which affects borrowing costs across the economy, and it meets about eight times a year to make these crucial decisions

How does the Federal Reserve use the three items above to increase and decrease the money supply?

• The Federal Reserve (Fed) manages the money supply primarily through the Federal Open Market Committee (FOMC) adjusting the federal funds rate and using tools like reserve requirements. To increase money supply, the Fed lowers the federal funds rate and reserve requirements, encouraging lending. To decrease it, the Fed raises these rates and requirements, restricting lending

Under what circumstances would the Federal Reserve seek to increase the money supply or reduce the money supply?

• adjusts the money supply to fulfill its dual mandate of maximum employment and stable prices

• It increases the money supply (expansionary policy) to combat recessions, high unemployment, or low inflation

• it reduces the money supply (contractionary policy) to fight high inflation or cool down an overheating economy. 

How does the Federal Reserve maintain its independence from both Congress

and POTUS?

• financial autonomy (self-funding, no Congressional appropriations), staggered 14-year terms for governors, and a "for cause" removal restriction that limits presidential control

• It operates as an "independent within the government" entity, focusing on long-term stability rather than political cycles

What is fiscal policy?

• a government's strategy using taxation and spending to influence the economy, aiming for stable growth, low unemployment, and controlled inflation by adjusting revenue collection and public expenditure

• expansionary (cutting taxes, increasing spending during downturns) to boost demand

• contractionary (raising taxes, cutting spending during booms) to cool down an overheated economy

How can Congress respond to the business cycle through fiscal policy?

• adjusting spending and taxes to stabilize the economy

• During recessions, Congress uses expansionary policy (increased spending, lower taxes) to boost demand

• during inflationary expansions, it employs contractionary policy (decreased spending, higher taxes) to prevent overheating. 

What is Keynesian (Demand Side) economic policy?

• argues that active government intervention—specifically increasing government spending and cutting taxes—is necessary to stimulate demand, reduce unemployment, and end recessions. It emphasizes that aggregate demand drives economic growth, advocating for countercyclical policies to boost spending when private sector activity weakens. 

• supported by many Democrats, liberals, and social democrats, who favor government spending and intervention

What is Supply Side economic policy?

• increasing an economy's ability to produce goods and services (aggregate supply) by cutting taxes, reducing regulations, and investing in productivity

• Tax cuts/Deregulation: Make it cheaper and more attractive to produce and invest

• Increased Investment: Businesses expand, hire more workers, and develop new products

How do Supply Side and Demand Side policies relate to political ideology?

• Supply-side policies, focusing on deregulation, tax cuts for businesses, and reduced government spending to boost production, are strongly aligned with conservative, right-wing, and libertarian ideologies

• demand-side (Keynesian) policies, which emphasize government spending and tax relief for lower/middle classes to boost consumption, align with liberal or left-wing ideologies