Deficit and debt, while related, are not interchangeable terms. Put simply, a deficit is a shortfall of money coming in (income) relative to money going out (expenses). Debt, on the other hand, is the cumulative sum of money borrowed to cover deficits.
For example, if your income after taxes is $75,000 this year but you spend $85,000, you have a deficit of $10,000. To cover the difference, you would likely borrow $10,000, which would add to your debt.
If you reduce your spending next year to $80,000, you’ve cut your deficit in half, but you’re still spending $5,000 more than you’re earning, which means your debt still increased by 50%. In fact, after two years, your debt has grown to $15,000.
It’s likely you’ve heard about deficit and debt in the context of the federal government. When a news article cites the federal budget deficit, it’s referring to a single year’s shortfall, or the difference between what the government takes in from taxes and what it spends.
In order to fund the difference, the government borrows the money and adds to its debt. Each year that the government runs a deficit, it has to borrow more money, which in turn increases the national debt.
The national deficit has improved markedly since the last recession—from about 10% of gross domestic product (GDP) to less than 3% today. National debt, however, stands at around 100% of GDP. “And if you think that’s bad, total credit market debt—which includes public sector, private sector, financial and nonfinancial debt—is about 350% of GDP,” says Liz Ann Sonders, Charles Schwab’s Chief Investment Strategist.1
“History shows that when debt is in this high a zone, economic growth suffers,” says Liz Ann. That’s because as government debt grows, there’s less money to invest in the private sector.
1 Figures are as of 1/13/2016.