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Budget Deficit

February 8, 2017

Budget Deficits

The Congressional Budget Office recently released its budget deficit forecast for the period from 2017-2027.  The budget deficit for fiscal year 2016 came in at $587 billion.  For the current fiscal year (FY 2017)  the budget deficit is projected to be $559 billion.  It will remain fairly steady during the next couple of years, but will begin to climb again about 2020 primarily as more and more baby boomers retire and begin to draw Social Security and become eligible for Medicare.  By 2027 it is expected to be $1.4 trillion.

It is important to remember that the U.S. actually had modest budget surpluses in FY’s 2000 and 2001.  And from 2002 to 2007 the deficits were consistently in a range from $200-300 billion.  The recent widening of the deficit  was largely the result of the extraordinarily deep recession that lasted from the end of 2007 through mid-2009.

The best way to determine whether a deficit is “big” or “small” is to look at the deficit in relation to the size of the economy, or the deficit as a percent of GDP.  Over the course of the past 50 years, the budget deficit as a percent of GDP has averaged about 3.0%.  This should be regarded as a “sustainable” deficit.  Unfortunately, by 2027 — a decade from now — the deficit will  climb to 5.0% of GDP.  That is too large and if something goes wrong it could be even bigger.  The goal should be to shrink it to no more than 3.0% of GDP during the course of the next decade.

Budget Deficits -- as per cent of GDP

 

While the normal budget forecasting cycle is 10 years, if one looks just beyond that 10-year horizon the situation gets significantly worse.  If nothing is done to correct the situation by 2047 the annual budget deficits will climb to 9.0% of GDP.

Budget Deficits -- as per cent of GDP (long)

None of these charts reflect policy changes that the Trump Administration would like to make.  We know that he wants to cut both individual and corporate income tax rates which, by themselves, would boost the budget deficit.  But he expects GDP growth to pick up to 4.0% within a few years which would (he hopes) generate enough tax receipts to offset the tax cut.  On the spending side he has said that he intends to increase defense spending.  But that is only about 17% of total government spending.  We do not know what the rest of the spending side will look like.  When his proposals are clearer, the CBO will score those policy changes.  We simply do not know enough to be able to come up with any meaningful estimate at this time.

 

Stephen Slifer

NumberNomics

Charleston, SC


Debt Outstanding

February 8, 2017

Debt Outstanding as Pct GDP

The Congressional Budget Office recently released its  budget deficit projections for the decade from 2017-2027.  For the current fiscal year it projects a budget deficit of $559 billion.   A deficit of that magnitude will push debt held by the public to 77.3% of GDP.  For the first seven years of the previous decade debt held by the public averaged about 35% of GDP.  But the depth of the recession changed all that and debt as a percentage of GDP has exploded.

The budget outlook shows roughly comparable deficits for the next couple of years, but they begin to rise again by 2020.  As a result, by 2027 the debt to GDP ratio is expected to climb to 89% of GDP.  Most economists would agree that a debt to GDP ratio of 50% would be sustainable, but if it should climb to 90% of GDP it could easily become a problem.  At the 90% mark investors would be less willing to buy that country’s debt, interest rates would rise, the interest expense for the Treasury would increase, and budget deficits would widen.  At 89% the debt ratio gets close to the 90% danger level during the next 10 years.

However, the real deficit and debt problems begin immediately after the CBO’s 10-year forecast horizon.  This is because the baby boomers continue to retire.  They will start to receive Social Security payments and become eligible for Medicare.  If one looks ahead 30 years rather than 10, the debt to GDP ratio climbs significantly higher.  Indeed, by 2047 the CBO estimates that the debt to GDP ratio will be 144% rather than the 89% that they expect at the end of 10 years.  That is way beyond the so-called 90% danger level.

Debt Outstanding as Pct GDP -- Long

To prevent this from occurring Congress and the President need to come to an agreement to shrink the deficit so that debt outstanding relative to GDP shrinks to a manageable level of 50% or less over the course of the next 30 years.  It is do-able, but the question is whether our policy makers have the will to do what is necessary.

None of these charts reflect policy changes that the Trump Administration would like to make.  We know that he wants to cut both individual and corporate income tax rates which, by themselves, would boost the budget deficit (and debt outstanding).  But he expects GDP growth to pick up to 4.0% within a few years which would (he hopes) generate enough tax receipts to offset the tax cut.  On the spending side he has said that he intends to increase defense spending.  But that is only about 17% of total government spending.  We do not know what the rest of the spending side will look like.  When his proposals are clearer, the CBO will score those policy changes.  We simply do not know enough to be able to come up with any meaningful estimate at this time.

Stephen Slifer

NumberNomics

Charleston, SC