Budget Projections

Telling the Whole Story on Interest and Long-Term Debt

In a recent blog, New York Times columnist and economist Paul Krugman criticized Donald Trump's recent suggestion that he'll "negotiate forgiveness on U.S. debt." We too have questioned that idea. He also questioned why politicians are worrying about the debt in the first place. Unfortunately, Krugman completely misses the mark on this latter criticism by not showing the whole picture when it comes to interest spending and our nation's long-term debt challenges.

In his blog, Krugman uses data from the Congressional Budget Office (CBO) to show that federal net interest payments have declined in the last two decades. As he points out in a related column, "federal interest payments are only 1.3 percent of G.D.P." in 2015.

Yet Krugman's graph focuses only on today and fails to look at what is projected to happen tomorrow. When using CBO projections as well as historical data, it shows that interest rates are projected to grow significantly in the coming years. CBO projects interest payments to grow from 1.3 percent of Gross Domestic Product (GDP) last year to 3.0 percent by 2026 and 6.1 percent by 2050. In other words, interest payments will hit a post-war record-high by 2027 and nearly quintuple relative to GDP by 2050. These aren't the signs of a sustainable debt situation.

Interest Spending Looms Large in the Next Decade

In a recent blog post on The Wall Street Journal's Washington Wire, director of Brookings Institution's Hutchins Center David Wessel outlines a major reason why the high and growing level of federal debt is a concern: growing interest spending. Wessel makes a few points that we have also made previously: high debt leaves the federal government susceptible to rising interest rates, and higher interest spending will crowd out other spending. It's worth expanding on his discussion of the reasons for and consequences of higher interest spending.

Wessel notes that interest spending in CBO's latest budget projections will rise rapidly as a share of spending over the next decade, from just over 6 percent in 2016 to 13 percent by 2026. This is primarily due to interest rates rising from their current low levels and returning closer to pre-recession rates but also because debt is expected to climb. By the end of the ten-year period, interest as a share of federal spending will be the highest since the 1985-1999 period when interest rates were much higher but debt was lower. Interest will also rise from 1.4 percent to 3 percent of GDP by 2026, the highest total since 1995 and the sixth-highest total in modern history. Wessel points out that within a decade, interest will exceed the size of all non-defense appropriated spending.

How The March Baseline Reiterates Our Distressing Fiscal Path

The Congressional Budget Office's (CBO) updated March baseline confirms the era of declining deficits is over. This year's deficit is expected to rise for the first time in seven years.

Despite deficit reduction enacted in recent years, deficits will approach 2009 levels by 2026, making it the largest nominal-dollar deficit ever outside of a recession.

CBO Updates The Baseline Ahead of President's Budget Estimate

In advance of its scheduled release of an analysis of the President's budget, the Congressional Budget Office (CBO) has updated its budget projections through 2026. Their new estimate shows a very similar picture to their last baseline in January: essentially unchanging debt as a share of Gross Domestic Product (GDP) in the near term but rising debt after that, with $1 trillion deficits still returning by 2022. This blog goes into further detail about CBO's March budget projections and what has changed since January.

Over the next ten years, deficits are projected to total $9.3 trillion, or 4.0 percent of GDP. Deficits will rise nearly every year in dollar terms over this time period. The deficit will stay around 2.9 percent of GDP through 2018 but rise steadily to 4.9 percent by 2026. These widening deficits drive the rapid rise in debt after 2018, when it increases from 75.4 percent in 2018 to 85.6 percent by 2026. The previous projection had debt reaching 86.1 percent in 2026.

Driving the rise in debt over the next decade is rising spending coupled with stagnant revenue. Spending is projected to rise from 21.1 percent of GDP in 2016 to 23.1 percent by 2026, driven entirely by increases in Social Security, health care, and interest spending. At the same time, though, revenue will essentially be flat, falling slightly from 18.2 percent in 2016 to 18.0 percent in 2019 and back up to 18.2 percent in 2026, as growing individual income tax revenue is largely offset by falling corporate revenue and Federal Reserve remittances. Spending and revenue average 22.1 and 18.1 percent of GDP, respectively, over the next ten years, similar to their totals in the January baseline.

Budget Metrics in CBO's Updated Baseline (Percent of GDP)
  2017 2018 2019 2020 2021 2022 2023 2024 2025 2026 Ten-Year
Outlays
March 21.0% 20.8% 21.4% 21.8% 22.0% 22.5% 22.5% 22.4% 22.8% 23.1% 22.1%
January 21.1% 20.9% 21.5% 21.8% 22.0% 22.5% 22.4% 22.3% 22.8% 23.1% 22.1%
Revenue
March 18.2% 18.1% 18.0% 18.1% 18.1% 18.1% 18.1% 18.1% 18.2% 18.2% 18.1%
January 18.2% 18.1% 17.9% 18.0% 18.0% 18.0% 18.0% 18.1% 18.1% 18.2% 18.1%
Deficits
March -2.8% -2.7% -3.4% -3.7% -3.9% -4.4% -4.4% -4.3% -4.6% -4.9% -4.0%
January -2.9% -2.8% -3.5% -3.7% -4.0% -4.4% -4.4% -4.3% -4.6% -4.9% -4.0%
Debt
March 75.5% 75.4% 76.2% 77.2% 78.3% 79.8% 81.2% 82.4% 83.9% 85.6% N/A
January 75.7% 75.7% 76.7% 77.8% 78.8% 80.3% 81.7% 82.8% 84.3% 86.1% N/A

Source: CBO

Viewing the President's Budget Through a CBO Lens

The President’s Budget relies on assumptions from the Office of Management and Budget (OMB), but we estimate that when it is estimated by the Congressional Budget Office (CBO), debt would be slightly lower but on a more upward path.

CBO typically weighs in on the budget using their own budget projections and estimates of the President's policies. Sometimes these estimates vary wildly if the budget uses a lot of magic asterisks or very favorable economic assumptions, but CBO and OMB have generally been close in recent years. We predict that they will be similarly close this year.

To construct the estimate, we used CBO's January budget projections and OMB's estimates of the cost of all the budget's policies, only adjusting the policy estimates for the different baselines CBO and OMB use to calculate the sequester. OMB's estimate of the President's budget shows debt jumping from 74 percent of GDP in 2015 to 76.5 percent in 2016 before falling slightly to 75 percent and stabilizing at that level in the last few years.

Our estimate of what CBO would say shows debt jumping to only 75.6 percent in 2016, then falling to a low of 73.7 percent in 2021 before rising slightly to 74.5 percent by 2026. These different paths reflect the difference in CBO's and OMB's baselines: OMB projects higher debt in the near term but CBO projects a less favorable path of debt in later years.

Five Takeaways from the President's Final Budget

Moments ago, President Obama released the final budget of his presidency. In the coming hours, days, and weeks, CRFB will be publishing analysis of the Fiscal Year (FY) 2017 budget. Below, we start with five quick takeaways. Based on our first look, the President's budget includes:

1. A Stable Debt, But at Record High Levels

Under the President's budget, debt held by the public will grow from almost $13.7 trillion today to $21.3 trillion by the end of 2026. Yet as a share of the economy – the measure generally preferred by economists – debt under the President's budget is projected to remain relatively stable at about 75 percent of Gross Domestic Product (GDP). Stabilizing the debt is an important first step to putting it on a sustainable path and is certainly an improvement over current law, under which (according to the Office of Management and Budget's adjusted baseline) debt will rise to just under 88 percent of GDP. Yet even under the President's budget, debt would remain the highest it has been in American history other than around World War II at nearly twice the historic average over the past 50 years.

How Lawmakers Could Make the Budget Outlook Even Worse

CBO's summary of its budget outlook included a short summary of the long-term debt outlook, which showed debt rising continuously and eventually exceeding the size of the economy. With the full budget report being released earlier this week, CBO has put out a little more detail on what the budget will look like over the next 30 years. Not surprisingly, it shows debt rising significantly in the coming decades with Social Security and particularly health care spending being the main drivers. The fuller detail in the report also allows us to estimate what happens if policymakers don't adhere to fiscal responsibility. The answer: debt goes even higher, reaching 185 percent of GDP in 2050 instead of 150 percent.

CBO's report shows debt reaching 116 percent of GDP by 2036 and 155 percent by 2046, including the negative effects of debt and higher marginal tax rates on the economy. Excluding the economic effects, we estimate that debt would reach 150 percent of GDP by 2050. However, CBO's baseline includes some policy assumptions that may not actually hold up, such as policymakers keeping the sequester in place and allowing temporary tax provisions that have routinely been extended to expire.

Bridge from CBO Baseline to Alternative Budget Outlook
  2026 Debt Effect (Dollars)
2026 Debt Effect (Percent of GDP)
CBO Baseline Debt $23.8 trillion 86.1%
     
Repeal Sequester $897 billion 3.2%
Repeal Health Care Taxes $256 billion 0.9%
Extend Bonus Depreciation at 30% $149 billion 0.5%
Extend Other Temporary Tax Provisions $178 billion 0.6%
Interest $233 billion 0.8%
Total Changes $1.7 trillion 6.2%
     
Alternative Budget Outlook Debt $25.5 trillion 92.3%

Source: CBO, CRFB calculations

The Long-Term Debt Picture Looks Much Worse As Well

The Congressional Budget Office's (CBO) summary of their upcoming budget projections showed a much worse ten-year outlook for deficits and debt, so it should come as no surprise that the long-term outlook looks worse too. CBO provides little detail at the moment about the long-term picture but does say that debt held by the public would grow to 155 percent of Gross Domestic Product (GDP) in three decades. That would be much higher than the historical record of 106 percent in 1946 and well above the 110 percent that CBO projected for the mid-2040s last year.

While CBO does not provide a detailed long-term outlook, we have constructed a rough long-term budget projection based on their ten-year numbers and the long-term debt number they do give. As expected, long-term debt, which was already set to rise rapidly, is on a much sharper upward trajectory now. We roughly project it will exceed the size of the economy in the early 2030s (compared to the late 2030s in last year's projection) and will double the size of the economy by around 2060, something that would not have occurred in last year's projection until around the turn of the next century.

Driving this increase in debt are the same forces behind the ten-year numbers. Social Security and health care spending will rise, especially over the next few decades, due to population aging and health care cost growth. Revenue will also rise but from a lower starting point and at a slower rate. And as debt rises, interest spending will do so as well.

It Could Take $8 Trillion to Balance the Budget

Tuesday’s release of the topline numbers for this year's Congressional Budget Office (CBO) baseline is a gut punch to congressional budget writers. The already-difficult task of balancing the budget is now far harder, requiring nearly $1.4 trillion to plug the deficit in Fiscal Year (FY) 2026 alone. By our math, that would mean about $8 trillion of ten-year deficit reduction to balance the budget, and it would take $3.5 trillion just to stabilize the debt at its current record-high levels.

As we show in our paper on the CBO baseline, the debt is on an even more unsustainable path than previously projected, with deficits expected to rise every year going forward, reaching over $1 trillion by 2022. When comparing the 2016 to 2025 budget window in the January report to last August's numbers, the deficit is now expected to be $1.5 trillion worse than projected. Lower interest rate projections will also, somewhat counterintuitively, make budget goals more difficult to achieve since direct spending cuts and increases in revenue will now receive less credit for interest savings.

As a result, last year's budget resolution, which reached balance by 2024, would fall short this year. In fact, enacting the same budget resolution as last year would now lead to a $300 billion deficit in 2024 and a $400 billion deficit in 2026. Getting to balance will now require more than $2.2 trillion more in savings than last year's congressional budget resolution produced – bringing the total to about $8 trillion.* To put this in perspective, Congress would need to cut primary spending by 15 percent, raise revenue by 17 percent, or some combination of the two.

Our Analysis of CBO's January 2016 Budget and Economic Outlook Summary

The era of declining deficits is over. That's the conclusion of our analysis of the Congressional Budget Office's (CBO) January 2016 Budget and Economic Outlook summary. The report shows that deficits will once again start increasing by $105 billion from Fiscal Year (FY) 2015 to 2016. They will balloon to $1.4 trillion by FY 2026. Trillion-dollar deficits will reappear as soon as FY 2022 – 3 years earlier than CBO projected in August.

Read the full analysis.

The paper discusses how this year's forecast is much worse than last year's, largely due to lawmakers' fiscally irresponsible behavior – including passage of the unpaid-for tax extenders and omnibus legislation in December – as well as a gloomier economic picture. At this rate, public debt levels are expected to reach 86 percent of Gross Domestic Product (GDP) by 2026 – an even-more unsustainable level than our current debt of 74 percent of GDP.

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