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The fiscal cliff

The video explores the fiscal cliff, comparing Obama's 2013 budget proposal and the Republicans' ideal budget. It explains how both plans aim to reduce the deficit, but through different methods: Obama's through increased spending and taxes on the wealthy, and the Republicans' through spending cuts. The fiscal cliff scenario, which could lead to a recession, is also discussed. Created by Sal Khan.

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  • male robot hal style avatar for user Jack Lotito
    Why are we playing political games and not balancing the budget? Why would they propose budgets with 900 billion dollar deficits? We haven't had a balanced budget since 2001, we keep it adding to it. With me being 12 years old, My generation will be inheriting all this debt, so I'm curious. What is keeping us from getting the budget balanced?

    Thank you
    (265 votes)
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    • blobby green style avatar for user xoviat
      With all of this talk about "moral imperatives" and the need to balance the budget, I would just like to make sure that you know what you are talking about and that there are no conflicts inside of your mind.

      1) If you are in favour of deficit reduction, you are for the "fiscal cliff." Some of you may be in favour of deficit reduction, but want to avoid the "fiscal cliff." This is a hypocritical position that results from a conflict of presumptions and conclusions, probably due to the media's general position that the "fiscal cliff" will be the end of the world. (Just to illustrate the true nature of this hypocrisy, I remember a CNN commercial that says "we must stop spending" from some grass roots person, and now that same network is trying to convince people to continue spending).

      2) The "fiscal cliff" is a term that came from the chairman of the fed, in case anyone was wondering (As a side note, you know someone is powerful when he can get almost all of America to take his position without any questions asked).

      3) Deficit reduction may not be helpful to the economy, especially if the deficits are for investment spending. This is not a simple issue, and smaller deficits are not the priority for most people, economic growth is. Deficit reduction can be helpful, but this isn't always the case.

      4) The most important number to keep in mind is the debt-to-GDP ratio, and this number is actually going down. As long as congress ensures that this number continues to decrease, we will NEVER have a problem with the debt. People should only start to get concerned (and very concerned if the increase is significant) if the debt-to-GDP ratio starts to increase.

      5) I would strongly encourage everyone to watch this video: http://www.youtube.com/watch?v=ihUoRD4pYzI

      I hope this has cleared up some misconceptions about the debt and the deficit, and why it may not be the end of the world as most of the media has told you.
      (6 votes)
  • winston baby style avatar for user Patrick
    What does the GDP stand for, and what does it mean?
    (21 votes)
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  • leaf red style avatar for user Noble Mushtak
    In school, we learned that during Bill Clinton's time, the government was in a surplus; but Bush brought America into a deficit. Our social studies book was made soon after Obama's presidency and doesn't talk about him much. Why hasn't Obama been able to get us back to surplus again if, during his first year, both chambers of Congress were controlled by his party?
    (7 votes)
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    • piceratops ultimate style avatar for user 하늘
      I think also a big factor that needs to be taken into account was how good the economy was when Clinton went into office. There was a huge trade and technology boom that he was able to take advantage of to make the American economy stronger and better. In Bush's time, that was when many of the wars started and also natural disasters such as Hurricane Katrina. The economy began falling at this time, and through this combination America fell into the deficit. I don't know whether this applies so much to Obama's term, but it's important to keep in mind important events and overall trends in the world economy when looking at the overall economy of presidential terms.
      (6 votes)
  • blobby green style avatar for user Jonathan Chao
    How much do we owe the other countries? Will we EVER pay them back? With the USA borrowing more and more money from other nations, what will our next generation have to do in order to return this huge sum?
    (9 votes)
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    • leaf green style avatar for user Ryan
      The money does not need to be repaid. The USA has no problem meeting the interest payments required to keep all of this debt. Interest payments make up a very small portion of the federal budget. As long as the economy continues to grow, the debt will continue to grow with the economy.
      (3 votes)
  • leaf grey style avatar for user Bill S
    I'm confused. Some people say the fiscal cliff is bad news but others say it might be okay to go over it. I can now see both sides of the argument, but which one is the right action to take? Is there even a correct way to approach the fiscal cliff issue?
    (5 votes)
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  • leafers tree style avatar for user AutoTurtle
    At about , Sal mentions that Obama considers the middle class to be those making less than $250,000 a year. But isn't that still upper-class? From what I understand, 70% of households in the US make less than $100,000 a year, and 50% of households make less than $55,000 a year. It seems $250,000 puts someone in or near the upper quartile...
    How did the government come to the conclusion of defining class ranges as they are now?
    (5 votes)
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    • mr pants teal style avatar for user joy.portis
      Yes, for someone who's making $250,000 yearly is someone who you would consider to be relatively wealthy, although let me stress the importance that depending on the location in your area and your living lifestyle that the income differs. Let's say you have two people who are both making roughly $250,000 per year, one person lives in Florida and is paying $60,000 every year for their household income, and the other guy living in Oregon is paying about $40,000 for theirs. Which would you consider richer? The government will most likely define class ranges by their location and their situations, e.g., medical disabilities, family, etc.
      (1 vote)
  • piceratops ultimate style avatar for user Ari Mendelson
    How can you say "2012 Budget"? I thought Congress hasn't passed a budget in the last few years. Isn't our government being funded by "continuing resolutions"?
    (5 votes)
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  • leaf green style avatar for user Carrie
    I've been reading a number of posts in this section and it seems that some people are saying that we should not worry about the deficit at this time because deficit spending will stimulate the economy. Presumably the stimulative effect of the spending will cause the economy to grow at a faster rate and thereby reduce or at least slow the rate of our deficit growth. The belief is that as long as the deficit doesn't grow to be too big relative to the size of our economy, we really have nothing to worry about. So I have two questions.

    1. How big can the deficit get relative to the size of the economy before we have a problem?
    2. It seems me that eventually the deficit will have to be paid back either through higher taxes, higher interest rates, or inflation. At that point, the money is taken out of the economy. What would happen if the government did not spend the money in the first place, but left in the hands of the American people to spend? If Americans buy goods, invest in their children's education, or invest in a new business wouldn't that have a stimulative effect on our economy? My question is not about the value of government spending and stimulus for our economy. Rather is government spending the best way to stimulate the economy versus private spending?
    (5 votes)
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    • leaf green style avatar for user Ryan
      1. There is no way of telling how big the deficit can get. If inflation is under control there is literally no constraint on how much a government can spend. Some very smart people have claimed the deficit could be at least twice as large without any side effects. Here's one that can explain it better than myself: http://pragcap.com/how-much-larger-could-the-budget-deficit-be

      2. There really isn't a difference in terms of economic growth whether the government or the private sector spends money. In order for an economy to grow people just have to buy what others are selling. Usually corporations are the ones selling and either government or individuals are buying. The reason the US is running such a large deficit is because households can't spend when they're paying down the debts they accumulated over the last 30 years. But whether that deficit is the result of government spending, or tax cuts that put money back in individual's pockets doesn't really matter. It's just a matter of personal preference.
      (4 votes)
  • leaf grey style avatar for user Tim
    If the government is spending more money than they have, and have been for years, where is the extra money coming from?
    (2 votes)
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  • piceratops ultimate style avatar for user Kim
    If we were to decrease our spending and increase taxes, it seems like the people would have less money, and the things government needs to spend money on would have to get fewer resources again. The people would have a lot less money and resources, and the only improvement in government would be that they're not in negative figures. Would the only way to make sure the inhabitants of a country are wealthy enough to do all the things necessary for them and ensure money for the government be to increase our GDP? If so, why isn't that what Obama and other leading members of our country are trying to do?
    (1 vote)
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Video transcript

There's been a lot of talk lately about the fiscal cliff, which sounds very dramatic. And what I want to do in this video is at least lay out the numbers so that we're all on the same page. And then the next few videos, think about the implications or how the negotiations between the president and Congress might actually work out. So the first thing to frame this conversation is just where the budget is right now. And so let me draw a little graph. So let me make this axis right over here represent our budget. I want to make it as big as possible so that we can get a little bit of granular detail on how much the budget might move based on how the negotiations work out. So let's say that this line is roughly $4 trillion long. So that's $4 trillion, and halfway would be about $2 trillion. And then in between two and four, you've got $3 trillion. And then $1 trillion would be right over here, $1 trillion. And then I'm going to do some bar charts to show the different scenarios. And as I do this, keep in mind the size of the US economy. The US economy is approximately $15.5 trillion. So that is roughly our GDP, depends on which year you're measuring. But that gives us at least a frame of reference for what chunk of GDP we are talking about when we talk about the federal budget. So let's start with the 2012. Let's start with the 2012 budget. So in 2012, the US government is spending $3.6 trillion. So let me make my graph a little bit more granular. So this would be 3.5. So 3.6 is going to be right around here. So let me draw that. And I'll do it in this purple color for the expenditures. So this is how much the federal government spent or I guess is spending in 2012. So just like that. All right, there we go. So that's expenditures. Now you are probably aware that we don't have all of the revenue. We didn't bring in the $3.6 trillion in taxes. So this right over here is $3.6 trillion. Our revenue that we get through tax revenue and other things is somewhat less. It, in 2012, was on the order of $2.5 trillion. So I'll draw that right over here. So $2.5 trillion. I'll do it in this green color. So this is how much revenue was brought in. So let me write this down. This is $2.5 trillion. Now let's think about how much might get spent under the different scenarios. So first I'll lay out a rough approximation of Obama's budget proposal for 2013. So Obama in 2013. So on the spending side, he sees, or he would like to see, spending go up by $200 billion. So let's see this. So on the spending side, we're going to add $200 billion. And the next few videos, we could talk about the pros and cons, the arguments for and against something like that. So let me draw that. So relative to the 3.6, we're now that 3.8. So you have a spending increase of-- so plus $200 billion. That gets us to 3.8 billion in total expenditures. If my best estimate of what the Republicans in Congress would want. So let's write. Let's say, a Republicans in 2013 is that they would actually ideally want spending cuts from these levels. So let's draw that out. And roughly on the order of about $100 billion. So roughly on the order of $100 billion. They might even want more than that, but let's just go with that for now. So that gets us to a budget of $3.5 trillion. That's about that right over there. $3.5 trillion. So once again, relative to 2012, you're going down by $100 billion. Let me make clear. You're subtracting $100 billion. Now in the fiscal cliff scenario, the spending will be similar to the Republican ideal right over here. So let me write this over here. Fiscal cliff. We are also spending. We are cutting on the order of $100 billion in government expenditures. So let's draw that. So at least on the expenditure side. And these are all very rough. I'm sure the Republicans who would agree and disagree with this. But I'm trying to get my best sense of kind of an aggregate view on things. So the fiscal cliff. We are also cutting spending by $100 billion. Now let's go to the revenue side of things. In all of these scenarios for 2013, and just to be clear, the fiscal cliff that's also for 2013. And all of these scenarios, we get the same revenue that we got in 2012. So let me draw that. Plus we get about another $100 billion from the growth in the economy. As the economy grows, and even if your tax rates are held completely constant, you're going to get more revenue for the federal government. You get about $100 billion from the federal government. And so that gets us to $2.6 trillion without changing anything. So let me just shade all of these in really fast. So shade that one in. Shade that one in. And then, shade that one in. Now, as you've probably heard on the news, Obama would like to extend the Bush tax cuts for the middle class. And he considers a middle class of those who are making less than $250,000 for a family. But he would like to not extend the Bush tax cuts on the rich. And he would like to actually include a few other tax increases, also on the wealthy. And so you would get an increase of revenue under Obama's plan of $300 billion. This is once again, very rough. Probably $50, $60 billion that I'm not fully accounting for, but it'll give you the rough picture. So this is $300 billion. And what Obama's doing here, or what at least in the proposal, as far as I can believe, none of this is that simple. What they're talking about right over here is extend tax cuts for middle class, which my best reading, seems like we would lose a little under $200 billion of revenue. But then we keep the tax cuts or we let the tax cuts on the wealthy expire. So that gets us 200 of this. And then there are other tax increases and another removing loopholes and whatever else they increase this to $300 billion. So let's compare the deficit. So this gets us to, in the Obama scenario, we end up with $2.9 trillion in revenue. So let's compare what the deficit did from 2012 to Obama's budget plan. So in 2012, if you take $3.6 trillion, subtract out $2.5 trillion, there is a gap $1.1 trillion. This is the deficit. This is how much the government has to borrow in 2012. Under Obama's budget, what would it be for 2013? Well we're spending $3.8 trillion. We are getting a $2.9 trillion. So you have a gap of $900 billion. So there is some of the deficit reduction, although the deficit is still quite large. The deficit reduction is $200 billion. $100 billion of that came from the economic growth. And then, the rest is coming from, or a good chunk of that, is coming from increased taxes. Depending on how you view it, either increase taxes on the wealthy or not letting the tax cuts expire on the wealthy. Now let's think about the Republican situation. Well, you have $2.6 trillion in revenue. And you have $3.5 trillion. Let me write this down. And once again, you have on the order of a $900 billion gap. So in terms of deficit reduction, these things look pretty similar. You have a very similar deficit. Obama is increasing spending. And he would argue that he's investing in things that might help stimulate the economy, or invest in America for the future. And then he's making it up by letting the tax cuts on the wealthy expire for the most part. The Republicans want to cut spending. But they're also letting the tax cuts continue. So you essentially have the same level of deficit reduction. Now I think we are ready to talk about the fiscal cliff. The fiscal cliff, we're spending hundreds billion less. And then we are also letting all of the tax cuts for both the wealthy, those who are earning at a family level more than 250,000. And for the middle class, we're letting them all expire. And so you have the revenue increase by $400 billion. So this goes up by $400 billion. And so that takes us roughly, once again, this is all rough, to about $3 trillion in revenue and $3.5 trillion in expenses. And so your deficit, under the fiscal cliff scenario, the deficit is going to be $500 billion. Now you might say, hey, this is great. Everyone talks about the deficit. The deficit is a scary thing. We are borrowing from the future and all that. Why are people so afraid of the fiscal cliff? The reality is that if you take $500 billion out of the economy. So $100 billion through spending cuts and then $400 billion from tax increases. So the government is deleveraging. But that money's being sucked out of the economy. And you could argue that there's just kind of a multiplier effect as well, that might endanger what's already a very precarious risk of recovery. That the recovery is really just starting to happen. And if we were to suck all of this money out of the economy, that's what the argument would be, then that might throw us into another recession. Or that might make the recovery that much weaker. In the next few videos, we'll discuss that in a little bit more depth. See what people are saying the impact might be. And what the arguments might be in either case.