Budget Update

CBO’s Analysis of the President’s FY 2017 Budget

The Congressional Budget Office (CBO) released its estimate of the President’s FY 2017 budget, using its own economic and technical assumptions to evaluate the President’s policy proposals. While CBO estimates lower near-term deficits and debt than the President’s own Office of Management and Budget (OMB), it projects that after 2018, deficits and debt will both rise slowly but more or less continuously as a share as Gross Domestic Product (GDP), ultimately in excess of OMB’s estimates.

Specifically, CBO estimates debt held by the public under the President’s budget would fall modestly, from 75.4 percent of GDP in 2016 to 74.1 percent in 2018, before rising to 77.4 percent of GDP by 2026. By contrast, OMB estimates that debt would remain roughly stable over the decade, reaching 75.3 percent of GDP by 2026. This higher estimated debt is in part due to higher nominal-dollar debt but also because OMB uses economic projections that include the economic effects of the President’s policies (most significantly, immigration reform), while CBO does not.

Other major findings from CBO’s estimates include:

  • Deficits would total $6.9 trillion over the next decade under the President’s budget, $2.4 trillion below current law (but $776 billion above OMB estimates)
  • Net savings in the President’s budget are entirely attributable to $2.7 trillion of gross tax increases, partially spent on new spending and tax breaks.
  • Annual deficits under the President’s budget would fall from $529 billion (2.9 percent of GDP) in 2016 to a low of $383 billion (1.9 percent of GDP) by 2018, before rising nearly continuously to $972 billion (3.5 percent of GDP) by 2026.
  • Under the President’s budget, trillion-dollar deficits would likely return by 2027, five years later than under current law.
  • Both revenue and spending under the President’s budget would be above ten-year current law and historical averages. Revenue would average 19.3 percent of GDP, compared to 18.1 percent under current law, while spending would average 22.3 percent of GDP, compared to 22.1 percent under current law. Over the last half-century, revenue and spending have averaged 17.4 and 20.2 percent of GDP, respectively.

Ultimately, CBO shows that while the President’s budget responsibly offsets new spending and produces additional deficit reduction to put the debt on a better path, it does not go far enough to reduce debt from its current post-war record-high level as a share of GDP. The budget needs to go further, particularly by slowing the growth of Social Security, Medicare, and Medicaid, to ensure a sustainable fiscal future.

Spending, Revenue, Deficits, and Debt under the President’s Budget

CBO estimates that under the President’s budget, debt would fall modestly from 75.4 percent of GDP in 2016 to 74.1 percent by 2018 before rising to 77.4 percent by 2026. In dollar terms, debt would rise from $13.9 trillion today to $21.4 trillion by 2026, a $7.5 trillion increase. CBO’s estimates are somewhat worse than OMB’s, which project debt levels of 75.3 percent of GDP by 2026, but CBO’s projections represent a significant improvement over CBO’s current law baseline, which estimates debt levels of 85.6 percent of GDP by 2026.

CBO’s projection of a rising debt path occurs because deficits would widen in the later years of the ten-year window, while they estimate economic growth would fall short of OMB’s projections. After declining to a low of 1.9 percent of GDP in 2018, deficits would rise to 2.5 percent of GDP just one year later and 3.5 percent by 2026. These deficits are an improvement over CBO’s current law deficit in 2026 of 4.9 percent by 2026 but higher than OMB’s estimated deficit of 2.8 percent of GDP in 2026.

CBO projects deficits would also fall and then rise under the President’s budget when measured in dollar terms. Specifically, they would fall from $529 billion in 2016 to $383 billion by 2018 before rising gradually to $972 billion by 2026. Trillion-dollar deficits would return by 2027.

Rising deficits in the President’s budget are the result of both spending and revenue growth over time. Spending would grow from 21.1 percent of GDP in 2016 to 23.0 percent of GDP by 2026, while revenue would rise from 18.2 percent in 2016 to 19.5 percent by 2026. Spending increases are driven by built-in growth under current law (mainly due to population aging and rising interest rates), while revenue increases are the result of policies put forward in the budget.

CBO projects spending under the President’s budget to be 0.1 percent of GDP lower than current law in 2026 (though above current law in all other years), while revenue is projected to be 1.3 percent of GDP higher than current law. Both spending and revenue would also be higher than historical averages of 20.2 percent and 17.4 of GDP, respectively.

Policy Changes in the President’s Budget

Excluding the drawdown of war spending, the President’s budget contains a total of $1.7 trillion of net deficit reduction through 2026, based on CBO’s estimates, which is about $800 billion less than the $2.5 trillion estimated by OMB. The total deficit reduction is the net result of about $2.7 trillion of new revenue, nearly $300 billion of spending reductions, $100 billion from immigration reform, and $250 billion in interest savings to pay for more than $1.2 trillion of new spending and $435 billion of new tax breaks.

We described the changes proposed in the President’s budget in our initial analysis of the budget in February (read the analysis in full here). Some of the biggest differences between CBO and OMB’s estimates come from CBO having lower revenue raised from the budget’s tax increases. These include the 28 percent limit on the value of tax preferences ($104 billion lower revenue), the one-time tax on un-repatriated foreign income ($104 billion lower), the other international tax changes ($52 billion lower), and the $10.25 oil tax ($46 billion lower)1. Some other differences include higher estimated costs for Medicaid and Children’s Health Insurance Program policies ($63 billion higher), lower estimated savings from Medicare Advantage changes ($51 billion lower), and a lower estimated cost for the clean infrastructure proposal ($38 billion lower).

Differences Between CBO and OMB Estimates

In total, CBO estimates 2016-2026 deficits under the President’s budget would be $689 billion higher than OMB’s estimate. This difference, along with 2.3 percent lower nominal GDP, is responsible for the 2.1 percent of GDP higher debt ratio projected by CBO. There are at least three ways to understand the source of the differences between OMB and CBO.

One way to understand the difference between CBO and OMB estimates is to determine how much is attributable to differing estimates in policy changes versus how much is attributable to differences in baseline projections prior to policy action. By our estimate, more than the entire difference – $808 billion – is attributable to policy change estimates. In fact, excluding policy changes, CBO’s baseline deficits would be $119 billion lower than OMB.2

Another way to understand the differences is to look at them by budget category. CBO estimates that the budget will have $1.6 trillion of lower revenue, $612 billion of lower primary spending, and $298 billion of lower interest spending than OMB estimates. In other words, CBO’s higher deficits are more than entirely driven by lower revenue estimates, with lower spending offsetting about half of that effect.

Finally, one can look at the source of the differences in assumptions. CBO’s more pessimistic economic projections – including GDP that is 2.3 percent lower in 2026 – explain $490 billion of higher deficits. Technical differences – which include things like demographics, program enrollment, and average benefits – increase CBO’s deficits above what OMB estimated by another $199 billion. Some of these differences are due to different conventions. For instance, OMB projects what the economy would look like with the President’s policies in place; CBO does not take them into account.


Conclusion

CBO’s analysis of the President’s budget generates similar findings to OMB’s, but it suggests a somewhat bleaker fiscal outlook – particularly in later years.

CBO shows that the President’s budget would commendably pay for all of the initiatives it proposes with real savings and include significant deficit reduction to prevent the sharp rise in debt that CBO projects over the next decade.

However, CBO’s analysis also shows that the budget includes too little net savings to reduce debt below today’s post-WWII record-high as a share of GDP. In fact, unlike OMB’s estimates, CBO finds the President’s budget would result in a small but continuous rise in deficit and debt levels after 2018, with trillion-dollar deficits returning by 2027.

While the President’s budget does include some important health reforms, it does not go far enough to put entitlement spending on a sustainable long-term path. It is particularly disappointing that even in his final budget, the President has no plan to shore up Social Security, a program within 15-20 years of insolvency.

On a positive note, the budget offers helpful deficit reduction policies and may set a minimum standard (roughly stable debt) for the next President to build from. We hope that many of the policies put forward by the President will be used by policymakers to address the unsustainable growth of the national debt – not simply to pay for new costly initiatives. And we would encourage policymakers to go beyond what the President’s budget proposes and pursue serious structural entitlement reforms that would help the long-term debt situation. This means not only identifying further health care reforms but also making Social Security sustainably solvent over the long term. In addition to tax reform and other spending cuts, these reforms will be necessary to put the country on a sustainable fiscal course for this and future generations.

Read the full paper as a printer-friendly PDF. (6 pp.)


1This paper originally cited CBO not counting savings from reducing the tax gap as one of the differences with OMB. However, CBO does count those savings; they are just considered non-scoreable for budget enforcement purposes. Both the text and Figure 3 have been modified to correct the original error.
2
This assumes identical baseline conventions. Our “baseline assumptions” figure does not include policies which are included in the baseline (such as the Administration’s war drawdown) or the treatment of sequestration after 2021. Those differences in policy estimates are counted with the other changes in policy.

Analysis of the President’s FY 2017 Budget

The President has released his final budget today, laying out his priorities and proposals for fiscal year 2017 and years to come. The budget includes proposals to reform immigration, taxes, and Medicare, expand education and infrastructure, reduce middle- and working-class taxes, repealing a portion of future sequester cuts, raise new revenue and make other tax and spending changes.

Our main findings from the budget are:

  • The President’s budget includes sufficient revenue and spending cuts to pay for his new initiatives and reduce projected deficits. The administration estimates net deficit reduction of $2.9 trillion through 2026, which would be about $2.5 trillion relative to Congressional Budget Office (CBO) scoring conventions.
  • The President’s estimates show debt remains relatively stable as a share of gross domestic product (GDP), settling between 75 and 76 percent of GDP after 2021. In dollar terms, debt would rise from $13.7 trillion today to $21.3 trillion by 2026.
  • Deficits under the President’s budget would grow in dollar terms from $438 billion in 2015 to $793 billion in 2026. As a share of GDP, deficits will grow modestly – from 2.5 percent of GDP in 2015 to 2.8 percent by 2026.
  • Between 2015 and 2026, spending will grow from 20.7 percent of GDP to 22.8 percent and revenue from 18.3 percent of GDP to 20.0 percent. Historically, they have averaged 20.2 and 17.4 percent, respectively.
  • Interest costs alone will triple in dollar terms, doubling relative to GDP from $223 billion (1.3 percent of GDP) in 2016 to $787 billion (2.8 percent of GDP) in 2026. As a share of the budget, interest would double from 6 percent to 13 percent.

The President’s budget should be commended for not only responsibly paying for new initiatives, but identifying significant deficit reduction to stabilize the debt. Preventing the debt from growing faster than the economy is an important first step to achieving sustainable fiscal policy.

Unfortunately, the President’s budget does not go far enough in terms of actually reducing the debt from its current record-high levels, nor does if sufficiently address the long-term growth of entitlement spending, particularly Social Security.

As the economy continues to normalize, high debt levels are likely to slow the growth of wages, increase cost-of-living, and leave the government less prepared to react to future needs or crises. Failure to address Social Security, in particular, will leave the program unable to pay full benefits as soon as 2029, when today’s newest retirees are reaching age 75 and today’s 54 year-olds are retiring at 67.

Spending, Revenue, Deficits, and Debt in the President’s Budget

Based on its own estimates, the President’s budget would roughly stabilize the debt as a share of GDP while allowing it to grow in nominal dollars. Specifically, debt would grow from less than $13.7 trillion today to $21.3 trillion by 2026 under the President’s budget. As a share of GDP, debt would grow from 73.7 percent of GDP last year to 76.5 percent of GDP this year, and stabilize between 75 and 76 percent of GDP between 2021 and 2026.

At 75.3 percent of GDP in 2026, debt is significantly below Office of Management and Budget’s (OMB) baseline of 87.6 percent of GDP and our “PAYGO baseline” of 83.4 percent.1  Still, debt remains near post-World War II record highs, nearly twice the historical average.

Under the President’s budget, annual deficits decline for the next couple of years before growing modestly in the future. Deficits fall from $616 billion in 2016 to $454 billion in 2018, before rising to $793 billion in 2026. As a share of GDP, deficits fall from 3.3 percent in 2016 to 2.4 percent by 2021, but then rise to 2.8 percent by 2026. By comparison, OMB’s baseline projects deficits of 5.0 percent of GDP by 2026, and our PAYGO baseline projections deficits of 4.2 percent. 

Both spending and revenue rise under the President’s budget in order to maintain deficits below 3 percent of GDP. Spending would grow from 21.4 percent of GDP in 2016 to 22.8 percent by 2026 while revenue would grow from 18.1 percent of GDP in 2016 to 20.0 percent by 2026.

Spending growth is due in part to new spending initiatives, but more significantly to rising interest rates and growing entitlement costs baked into current law. As the population ages and health costs grow, Social Security, Medicare, and Medicaid together under the President’s budget grows by 1.3 percent of GDP over the next decade, while interest spending grows by 1.5 percent of GDP. The remainder of the budget shrinks by a combined 1.4 percent of GDP.

On the other hand, while built in “real bracket creep” explains part of the rise in revenue, growing revenue is largely the result of the significant tax increases proposed in the President’s budget.

At 20.0 and 22.8 percent of GDP in 2026, respectively, revenue and spending would both grow to well above their 50-year historical averages of 17.4 and 20.2 percent of GDP. Revenue would be higher than if the administration’s proposals were not enacted and spending about the same; under current law with the President’s war drawdown, revenue and spending would be 18.5 and 22.8 percent of GDP, respectively. A portion of this difference – 0.3 and 0.2 percentage points of GDP, respectively – is due to the higher revenue and spending from immigration reform.


Proposals in the President’s Budget

The President’s budget includes a large number of tax and spending proposals reflecting the Administration’s many priorities. Among these changes include over $3.1 trillion of tax increases, $170 billion from immigration reform, and more than $460 billion of health and other mandatory savings in order to pay for nearly $1.6 trillion of new initiatives.

Relative to our “PAYGO baseline,”^ which reflects current law with a war drawdown, net deficit reduction totals $2.5 trillion with interest. As the Administration estimates it, that number climbs to $2.9 trillion, or $3.6 trillion including the war drawdown. Below we describe some of the major policies proposed in the budget.

New Spending Initiatives – The President’s budget includes several major new initiatives that increase spending by about $1.2 trillion over the next decade. Most significantly, the budget reverses a large portion of the “sequestration” cuts which are in effect on the mandatory side and scheduled to return in FY 2018 on the discretionary side. Through 2026, this would cost $201 billion on the mandatory side and relative to CBO’s budget conventions would cost $325 billion on the discretionary side (which is $440 billion less than a full repeal of the sequester caps).2

The budget further proposes a major $312 billion increase in infrastructure spending, focusing on transportation and clean energy infrastructure. In addition, the budget proposes more than $150 billion to fund universal pre-K and expand access to child care, over $60 billion to expand access to community colleges and fund minority-serving institutions, another $60 billion to reform unemployment insurance, and nearly $30 billion to help meet climate change goals agreed to in the Paris Climate Change Conference. Many of these initiatives are paid for with specific offsets – for example the infrastructure spending with an oil tax and a deemed repatriation tax and the universal pre-K with a cigarette tax increase.

New Tax Breaks – The President’s budget proposes to expand several existing tax breaks while creating a few new ones as well. Perhaps most significantly, the budget expands the Earned Income Tax Credit (EITC) for childless workers and create a $500 “second earner” tax credit, costing $150 billion combined. The budget would consolidate and expand tax breaks for college students and double the maximum child care tax credit. On the business side, the President’s budget would increase the amount of investments that small businesses can immediately expense, simplify and increase the research credit, and expand clean energy tax breaks.

Revenue Increases – To pay for new initiatives and reduce the deficit, the President’s budget includes nearly $3.2 trillion in tax increases. New to this budget is a $10.25 per barrel oil tax that raises almost $320 billion for infrastructure projects and a proposal to apply the 3.8 percent Medicare investment surtax to pass-through businesses, which when combined with other closing related loopholes would raise more than $270 billion. The budget also raises over $900 billion from higher earners by limiting tax expenditures to the 28 percent bracket, enacting a 30 percent minimum tax(“Buffett rule”), increasing the top capital gains and dividends rates by 4.2 percent, and taxing capital gains at death. The budget would generate more than $225 billion by increasing the estate tax in a variety of ways, $110 billion from a fee on financial institutions, $115 billion from higher tobacco taxes, and a number of other tax increases and loophole closers. 

On the business side, the budget raises $300 billion from a one-time 14 percent “deemed repatriation” tax and proposes to raise $550 billion more to retroactively pay for the business portion of last year’s tax extender bill. This includes more than $480 billion from international tax reform – largely generated from a 19 percent minimum tax – and over $225 billion from closing domestic corporate tax breaks. Of that revenue, about $160 billion would be used for new (or expanded) tax breaks.  The Administration continues to support using additional business revenue to finance reducing the corporate tax rate.

Health Care Reforms – Overall, the budget would reduce projected health spending by about $375 billion, with even larger savings in Medicare and a modest expansion of Medicaid. Nearly $175 billion of this savings comes from reducing prescription drug costs, mainly by requiring drug companies to effectively offer Medicare Part D’s discounted prices through “drug rebates.” The budget saves nearly $100 billion from reducing payments to post-acute care facilities, building on small reductions enacting in last year’s “doc fix” legislation. The budget also builds on that legislation by further expanding Medicare’s income-related premiums and reforming its cost-sharing (saving over $50 billion on a combined basis). And finally, the budget saves over $75 billion from Medicare Advantage by setting rates through competitive bidding. These and other savings are primarily used to reduce health care cost growth, but also to increase Medicaid spending – most significantly by removing the cap on Medicaid funding to expand eligibility and increase federal support to Puerto Rico and other territories. Additional savings are used to allow states that have not yet expanded Medicaid under the Affordable Care Act to take advantage of the 3-year 100-percent matching rate that was available to states that expanded earlier.

Other Mandatory Savings – Outside of the above proposals, the budget finds savings in other mandatory programs by reducing subsidies in the crop insurance program, allowing the Pension Benefit Guaranty Corporation to raise multiemployer premiums, and improving program integrity. The President’s budget would also enact various reforms to the Postal Service that would improve operations and increase revenue, such as increasing the authority for the Post Office to increase the price of stamps and reducing delivery from 6 to 5 days per week, to save the Postal Service from financial default. Finally, the budget includes a small amount of Social Security savings – largely from reducing fraud and overpayments. Sadly, these changes will do little to improve the solvency of Social Security, which is currently projected to exhaust its trust funds as soon as 2029, according to CBO.

Immigration Reform – The President’s budget calls for comprehensive immigration reform, supporting the approach in the 2013 Senate-passed bill. That reform would increase the size of the population and labor force, both increasing spending on those individuals as well as revenue collected from them. As a result, OMB assumes revenue would rise by $420 billion over the next decade and spending by $250 billion, resulting in $170 billion of total savings.

War Spending –The President’s budget requests $73.7 billion for overseas contingency operations (OCO) for FY 2017, the same amount as for last year and the amount specified in the Bipartisan Budget Act of 2015. Beyond 2017, the budget assumes a placeholder of $11 billion of war spending per year through 2021, acknowledging that the placeholder does not reflect decisions about future year’s funding. Although this placeholder is consistent with the Administration’s long-standing policy to limit total OCO spending between 2013 and 2021 to $450 billion, it is likely unrealistically low and therefore unlikely to materialize. Technically, these numbers would generate about $640 billion of savings over ten years relative to OMB’s baseline. However, this number is a combination of policy changes that are already in effect (the war drawdown) and policy changes that are unlikely to occur (the steep drop in spending starting in FY 2018) – and as a result should not be considered deficit reduction when generating savings estimates.

Economic Assumptions

Ultimately, fiscal and economic choices are intertwined. Manageable debt levels and smart tax and spending policies can promote economic growth, while strong economic growth can improve the budget picture. In the President’s budget, unlike estimates made by CBO, the presumed economic impact of the President’s policies are baked into OMB’s economic assumptions.

At least in part as a result, OMB projects a somewhat more optimistic economic picture over the next decade than CBO. For example, OMB projects average real growth to total 2.3 percent per year, compared to CBO’s estimate of 2.1 percent. That gap is even more significant late in the budget window, when OMB projects annual growth of 2.3 percent and CBO only 2.0 percent. As a result of these differing growth projections – as well as differences in inflation -- OMB projects nominal GDP to be 2.3 percent higher than CBO.

This difference is due to a number of factors, including that OMB projects more robust growth over the next few years than CBO (likely due to the President’s proposed policies), assumes the economy reaches potential (CBO assumes it remains modestly below potential to account for the likelihood of a recession), and assumes faster growth in potential GDP – due largely if not entirely to its immigration reform policy.

As a result of this growth, OMB projects the unemployment rate to dip further from 4.9 percent today to 4.5 percent by 2017 and then stabilize at about 4.9 percent.  By comparison, CBO projects the unemployment rate will settle around 5.0 percent.

Conclusion

By reducing Medicare cost growth, reforming the immigration system, and enacting a large number of tax increases, the President’s budget would not only pay for his new initiatives, but reduce projected deficits in order to stabilize the debt as a share of the economy.

It is encouraging that the budget would stem the growth of the debt, yet disappointing it does not go further. At 75 percent of GDP, debt would remain at record-high levels not seen other than during and just after World War II, and more than twice as high as in 2007. Such high levels of debt will tend to slow economic growth and perhaps more importantly would leave the federal government under prepared to face the next recession, war, or other national emergency.

The budget takes important steps to control Medicare cost growth, but does not go far enough on this front and fails to address the looming insolvency of the Social Security program altogether.

Though the President deserves much praise for paying for all of his new initiatives – and we strongly urge Congress to follow his lead – his budget simply doesn’t do enough to put our record-high debt levels – or our entitlement programs – on a sustainable long-term path.

We hope that Congress and the President will work together over the next year, combining the best parts of this budget with other reforms to restore the country’s fiscal and economic health.

See a printer-friendly version (8 pp.)

 


1 CRFB’s “PAYGO Baseline” adjusts OMB’s baseline to remove claimed savings from a drawdown of OCO and to treat the so-called “sequester” under CBO’s conventions by assuming discretionary levels continue at sequester-levels, adjusted for inflation, beyond 2021.

^ PAYGO baseline assumes continuation of current law, including inflation adjustments of the 2021 post-sequester discretionary levels, along with a drawdown in war spending as in the President’s budget.

2 The Administration estimates discretionary sequester relief will save $77 billion over ten years, rather than costing $325 billion; their “baseline” projections assume that after budget caps and sequestration disappear in 2022, spending jumps roughly $100 billion to pre-sequester levels. By contrast CBO assumes that spending continues to grow with inflation from post-sequester levels based on a long-stranding convention of discretionary spending projections.

Report: Analysis of CBO’s January 2016 Budget and Economic Outlook

The Congressional Budget Office (CBO) released its January Budget and Economic Outlook, today, adding more detail to a brief summary released on January 19. These budget projections show that the era of declining budget deficits is over, with deficits projected to rise by over $100 billion this year and exceed $1 trillion by 2022. CBO also projects the debt will continue to rise well above today’s record-high levels, growing unsustainably. The report shows:

  • The deficit will grow from $439 billion (2.5 percent of GDP) in 2015 – the lowest levels since 2007 – to $544 billion (2.9 percent of GDP) in 2016.
  • By 2026, deficits will double as a share of GDP to 4.9 percent and more than triple in dollar terms to $1.37 trillion.
  • CBO projects debt will rise by $10.7 trillion between 2015 and 2026, from $13.1 trillion (73.6 percent of GDP) to $23.8 trillion (86.1 percent of GDP). Previously, CBO projected debt rising to $21 trillion (77 percent of GDP) by 2025.
  • These projections are significantly worse than previous projections, with deficits $130 billion higher in 2016 and $1.55 trillion higher through 2025.
  • About half of the deterioration in the fiscal outlook is from legislative changes, mainly December’s unpaid-for tax extenders and omnibus legislation.
  • Although fiscal irresponsibility has worsened the budget outlook, the long-term driver of rising debt remains the rapid growth of entitlement spending and interest on the debt. CBO projects 83 percent of the $2.7 trillion spending rise between 2015 and 2026 is from Social Security, health care, and interest.
  • The budget outlook could be even worse than projected if lawmakers continue to pass legislation without truly offsetting its costs. For example, if lawmakers fully repeal (and don’t offset) future “sequester” cuts, continue various temporary tax breaks, and repeal the Affordable Care Act taxes delayed last December, debt would rise well beyond the projected $23.8 trillion (86 percent of GDP) by 2026, to $25.5 trillion (92 percent of GDP) in that year.

Last year, lawmakers took for granted temporarily declining deficits and added significant new borrowing. In part as a result, rising deficits have now returned, and the debt is on an even more unsustainable path than previously projected. Hopefully, the newest projections will serve as a wakeup call for serious action on spending and tax reform in order to put the debt to a downward, sustainable path.

Here, we have updated our January 19 analysis to also include information about the drivers of projected spending growth, CBO’s economic forecasts, and the drivers of the worsening fiscal outlook as compared to CBO’s August 2015 baseline.

Spending, Revenue, Deficits, and Debt

While deficits have declined considerably since their 2009 peak, that trend will reverse itself after 2015. The decline of deficits had been largely due to the economic recovery, continued low interest rates, and deficit reduction efforts. However, with borrowing on the rise, the era of declining deficits is now over, and trillion-dollar deficits will return by 2022.

Moreover, as a result of last year’s fiscally irresponsible legislation, a weaker economic outlook, and technical changes, deficits through 2025 are now expected to be $1.5 trillion higher than in CBO’s most recent projections from August.

According to CBO, the deficit will rise by more than $100 billion between 2015 and 2016 – nearly a quarter – and continue to rise every year thereafter. Specifically, the deficit is expected to rise from $439 billion (2.5 percent of GDP) in 2015 to $544 billion (2.9 percent of GDP) in 2016, $1.04 trillion (4.4 percent of GDP) in 2022, and $1.37 trillion (4.9 percent of GDP) in 2026. Thought of another way, deficits will double as a share of GDP and triple in nominal dollars.

Outside of the Great Recession and its immediate aftermath, the 2026 deficit will be the highest ever in nominal dollars and the third-highest deficit as a share of GDP since World War II.

CBO projects debt held by the public will also rise dramatically, from $13.1 trillion at the end of 2015 to $17.8 trillion by the end of 2021 and $23.8 trillion by the end of 2026 – a $10.7 trillion increase. As a share of the economy, debt will rise from below 74 percent of GDP in 2015 – more than twice what it was in 2007 – to almost 79 percent by 2021 and 86 percent by 2026. Debt would therefore reach more than twice its 50-year historical average of less than 40 percent and be significantly higher than at any point in history other than around World War II.

Underlying the increases in debt are higher spending and stagnant revenue projections. CBO estimates spending will grow from 20.7 percent of GDP in 2015 to 23.1 percent of GDP in 2026, much higher than the historical average of 20.2 percent. This spending growth is largely the result of an aging population, rising health care costs, and rising interest rates.

Based on CBO projections, Social Security, federal health care spending, and net interest are responsible for 83 percent of the $2.7 trillion growth in annual spending between 2015 and 2026. Social Security and health care by themselves represent about three fifths of this growth, while interest on the debt is responsible for over one fifth. This means that growth in all other areas of the government – including defense spending, welfare, food stamps, education, federal employment, farm subsidies, foreign aid, and others – are only responsible for less than a fifth of the nominal growth in spending.

As a share of GDP, this trend is even more pronounced, with Social Security, health spending, and interest responsible for far more than the entirety of the spending increase. Specifically, while total spending will grow by 2.4 percent of GDP between 2015 and 2026, Social Security will grow by 0.9 percent of GDP, health spending by 1.4 percent of GDP, and interest – the fastest growing part of the budget – will grow by 1.7 percent of GDP. All other spending will actually shrink as a share of the economy by a combined 1.6 percent of GDP.

Revenue, meanwhile, will remain virtually flat as a share of the economy over the next decade at around its current level of 18.2 percent of GDP. While individual income tax revenue will rise from 8.7 percent of GDP in 2015 to 9.6 percent by 2026, other sources of revenue will fall by an equal amount. Overall, revenue will remain modestly above the 50-year historical average of 17.4 percent of GDP.

Compared to the most recent baseline update in August 2015, the budget outlook is significantly worse in both nominal dollars and as a share of the economy. For example, debt in 2025 is projected to reach $22.4 trillion or 84.3 percent of GDP under current projections, compared to $21 trillion and 76.9 percent of GDP in CBO’s August projections.

Importantly, these projections are based on CBO’s current law baseline, which assumes Congress and the President do not continue to enact deficit-financed tax and spending packages like they have in recent years and did so especially in 2015. Were Congress to cancel future spending reductions from “sequestration,” continue those temporary tax breaks not made permanent in the recent extenders package, and permanently repeal the Affordable Care Act (“Obamacare”) taxes delayed in the recent package, an additional $1.7 trillion would be added to the debt by 2026. As a result, debt would rise from 74 percent of GDP last year to 92 percent by 2026.

Economic Projections1

In addition to updated budget projections, today’s report also includes CBO’s latest economic projections, which similarly show a gloomier picture than their previous estimates. In turn, the lower projections increase cumulative deficit projections through 2025 by $437 billion. Economic growth will be lower than previously projected, but so will unemployment and inflation.

Although these projections do not incorporate the very latest data, CBO generally projects the pace of the economic recovery to be moderately healthy this year and next but to slow over the next few years. Thereafter, the economy will grow at a relatively slow and steady pace.

CBO estimates real economic growth of 2.3 percent in 2016, 2.6 percent in 2017, and an average of 2.1 percent over ten years. By 2023, CBO projects an annual growth rate of 2.0 percent, which is about 0.1 percent lower than in prior projections. With this change in economic growth and other changes in inflation, nominal GDP is projected to be 2.7 percent smaller in 2025 than projected in August.

Meanwhile, CBO projects the unemployment rate to continue its rapid fall in 2016 and 2017 bottoming out at 4.4 percent, notably lower than the 5 percent bottom predicted as recently as last August, though higher than its potential. By 2020, CBO assumes unemployment will return to just above its natural rate over the business cycle – at 5.0 percent – rather than the 5.3 percent level projected in August.

For inflation, CBO estimates the price index for personal consumption expenditures – which grew only 0.5 percent in 2015 – to grow by 0.9 percent in 2016 and by 2.0 percent per year from 2018 onward.

Finally, interest rates will begin to rise once again after the Federal Reserve announced in December that they would start raising the targeted federal funds rate, but they will do so at a slower pace than previously projected. CBO projects rates on three-month and ten-year Treasuries to rise from 0.1 and 2.2 percent, respectively, in 2015, to 3.2 and 4.1 percent in 2020 and throughout the rest of the ten-year window. This is lower than in previous projections; for example, in August, CBO projected the ten-year rate to reach 4.3 percent.

The report’s economic estimates were completed late last year and exclude some positive economic reports that were published since December, as well as the enactment of a year-end bill setting discretionary spending and continuing many expired tax breaks. If these economic effects were included, GDP would likely be slightly larger in the near-term, while long-term economic growth might be very slightly slower.

Changes in the Budget Projections

CBO’s latest budget projections are significantly worse than prior estimates. Ten-year deficit projections are now $9.38 trillion, nearly $2.4 trillion higher than in CBO’s August report. Perhaps more meaningful is the change in projections over a fixed budget window. From 2016 through 2025, deficits are projected to be $1.55 trillion higher than in CBO’s August projections as a result of $1.23 trillion less in revenue and nearly $325 billion more in spending.

About half of this deterioration – roughly $750 billion – is the result of legislative changes. In particular, the tax extenders package added $680 billion to deficits – before interest – through reduced revenue and increased spending on refundable tax credits. Discretionary spending increases enacted in the Bipartisan Budget Act (BBA) and omnibus appropriations bills added more than $105 billion to spending. In addition, the defense authorization’s reforms to the military retirement system will add $30 billion to spending, though they are expected to reduce spending over the long term. Other legislative changes – including changes in spending on overseas contingency operations and offsets from the BBA and the highway bill – reduced CBO baseline deficits by about $205 billion, though most of this change is due to gimmicks and baseline quirks.2  All of these changes come on top of a permanent and largely unpaid for “Doc Fix” bill, passed in April, which added roughly $160 billion to the debt but was incorporated into the August baseline.

Changes in economic projections are also responsible for a large share of the deterioration in the deficits – more than $435 billion through 2025. With GDP growth about 0.1 percent slower per year and inflation slightly slower during the next two years, CBO now projects about $770 billion less in revenue. Partially offsetting this loss is about $335 billion less in spending. Nearly $230 billion of this is the result of lower projected interest rates, while the remainder largely stems from lower health care payment updates, lower unemployment benefits, and lower cost-of-living adjustments.

Finally, CBO estimates that technical changes will raise ten-year deficits by about $365 billion, primarily due to increasing outlays. Most of the increased spending – $340 billion – comes from higher-than-expected enrollment in Medicaid through the Affordable Care Act and an expanded population of veterans who are eligible for veterans’ disability benefits.

Conclusion

In many ways, CBO’s latest projections confirm what should have been expected at the end of 2015: ignoring fiscal responsibility in order to pass tax extenders and other policy preferences without paying for them will drive up the debt. But due to economic changes and other factors, debt is now projected to rise even faster than the passage of irresponsible legislation alone would suggest.

Whereas prior projections suggested the debt would rise from just below post-war record-high levels of 74 percent of GDP last year to 77 percent by 2025, CBO now projects debt will grow to 86 percent of GDP by 2026 – and deficits will reach near their all-time record levels of $1.4 trillion in that year.

Such debt growth is ultimately unsustainable, and it could have serious economic consequences in the meanwhile. Moreover, the debt situation could be even worse if lawmakers continue on the path of fiscal irresponsibility undertaken in 2015. By one measure, debt could reach 92 percent of GDP by 2026 under that scenario.

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Update 1/26/16: The initial version of this paper stated the percent of nominal spending growth that is due to Social Security, health care programs, and interest as 90 percent. That was for gross health care programs. The paper has been updated to reflect offsetting receipts and now refers to net health care spending.  The correct figure is 83 percent.

Update 2/1/16: While we previously corrected for net health care spending (see below) we neglected to update the rest of the statistics in the paragraph in the “Spending, Revenue, Deficits, and Debt” section that relied upon that change. That has now been corrected.

 


1 In updating this section, CRFB switched from presenting fourth quarter over fourth quarter data to instead presenting fiscal year averages.

2  For example, CBO’s baseline assumes unfinanced highway spending continues and war spending grows with inflation regardless of the drawdown underweight – and therefore counts what is essentially an increase in war spending as a reduction while not counting an increase in current law highway spending. As another example, CBO counts a transfer of reserve from the Federal Reserve to Treasury – which it describes as increased “remittances to the Treasury from the Federal Reserve” – as deficit reduction.

Report: Analysis of CBO’s Updated Budget and Economic Outlook August 2015

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The Congressional Budget Office (CBO) today released its updated budget and economic projections for the coming decade, showing that while short-term deficits are down, the debt continues to grow unsustainably over the long term. The report focuses on a “current law” baseline, which assumes policymakers generally pay for passing any new or extended tax cuts or spending increases. Under this scenario, CBO shows the following:

  • Deficits will fall to $426 billion (2.4 percent of GDP) in 2015 and $414 billion (2.2 percent of GDP) in 2016, but will grow from there with trillion-dollar deficits returning by 2025, when annual borrowing will total 3.7 percent of GDP.
  • Debt held by the public will grow by nearly $8 trillion between now and 2025, from over $13 trillion today to $21 trillion by 2025. As a share of GDP, debt will remain near its post-World War II record high of 74 percent through 2021, before rising to about 77 percent of GDP by 2025.
  • Spending will grow from 20.6 percent of GDP in 2015 to 22.0 percent in 2025 while revenues will remain at about 18.3 percent of GDP.
  • Interest spending represents the fastest growing major part of the budget, rising from $218 billion (1.2 percent of GDP) in 2015 to $755 billion (2.8 percent of GDP) by 2025. Spending on the major health and retirement programs will grow from 10 to 12 percent of GDP.
  • CBO’s projections are quite similar to those made in March, with  lower interest rates improving the forecast but being largely offset by various technical changes and the recent permanent “doc fix” legislation.
  • Extrapolating forward, we project debt would likely exceed the size of the economy by around 2040, and continue to grow thereafter.
  • We project under the assumptions of CBO’s Alternative Fiscal Scenario, where Congress extends various expired and expiring tax provisions and eliminates ”sequestration,” debt would exceed 85 percent of GDP by 2025 and exceed the size of the economy by around 2030.

CBO shows an unsustainable fiscal outlook under current law, and an even more dangerous one if policymakers continue to act irresponsibly. Lawmakers will therefore need to strictly abide by pay-as-you-go rules and take steps to control the growth of entitlement spending, while enacting other tax and spending reforms to put debt on a downward path over the long run.

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Report: Analysis of the 2015 Social Security Trustees' Report

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Today, the Social Security and Medicare Trustees released their annual reports on the financial health of the programs. Although these projections show some improvements relative to last year, they nonetheless show both programs continue to face large shortfalls that will grow over time. With regards to Social Security, the Trustees show that:

  • The Social Security Disability Insurance (DI) trust fund is on the brink of depletion, and is projected to be exhausted in late 2016 – just over a year from today. Absent legislation, beneficiaries in that program would face an immediate 19 percent across-the-board benefit cut.
  • On a combined basis, or assuming reallocation or interfund borrowing, the Old Age, Survivors, and Disability Insurance (OASDI) trust funds are projected to be exhausted in 2034. At that point, all beneficiaries would face an immediate 21 percent across-the-board benefit cut, which would grow to more than 27 percent by 2090.
  • Over 75 years, Social Security’s actuarial imbalance totals 2.68 percent of taxable payroll, or about 0.96 percent of GDP.
  • The gap between Social Security spending and revenues is projected to grow from 1.3 percent of payroll (0.46 percent of GDP) this year to 3.5 percent of payroll (1.26 percent of GDP) by 2040 and 4.7 percent of payroll (1.62 percent of GDP) by 2090.
  • Overall, this year’s report represents an improvement over last year’s, which showed a combined trust fund exhaustion date of 2033 (one year sooner) and a 75-year actuarial imbalance of 2.88 percent of payroll (0.20 percentage points higher).

Although the projections have slightly improved, Social Security’s long-term outlook is fundamentally unchanged. The SSDI trust fund will be depleted next year, and the combined trust funds by the time today’s 48-year-olds reach the normal retirement age – or when today’s newest retirees turn 81.

Policymakers must act quickly to put Social Security on a path toward solvency. As time goes on, it will be more difficult to secure the Social Security programs for current and future generations with thoughtful changes instead of abrupt benefit cuts or tax increases.

Read the full report below, or at this link (pdf).

Report: CBO's Analysis of the President’s FY 2016 Budget

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Today, the Congressional Budget Office (CBO) released its re-estimate of the President’s FY 2016 budget, using its own economic and technical assumptions. While CBO generally shows lower debt in the near term than the Office of Management and Budget (OMB) did, it also shows debt on a slight upward path as a share of GDP after 2020. Thus, it is less likely that the budget would stabilize debt over the long term, as OMB’s projections showed.

According to CBO, debt held by the public in the President’s budget would reach 73.1 percent of GDP by 2025, 1 percentage point lower than in 2014 (and about what OMB estimated), but 1 percentage point higher than in 2020. In dollars, debt would rise from about $13.1 trillion today to $20.1 trillion by 2025.

CBO projects debt under the President’s budget would be $1.1 trillion lower than in CBO’s current law baseline in 2025. Those savings can be mostly attributed to two factors: increased revenue and reductions in war spending that are largely already expected to occur.

CBO projects annual deficits would fall from $486 billion (2.7 percent of GDP) in 2015 to $380 billion (2.0 percent of GDP) in 2016 before rising in every subsequent year to over $800 billion (2.9 percent of GDP) by 2025. Both spending and revenue will be growing as a share of GDP over this period, but spending will increase slightly faster, from 20.5 percent in 2015 to 22.1 percent in 2025, while revenue will rise from 17.8 percent to 19.2 percent. These increases are the result of both current law trends and policy changes proposed in the President’s budget.

CBO estimates deficits through 2025 will be $206 billion higher under the President’s budget than OMB estimates, with more than the entire difference ($345 billion) coming from differences in economic projections. In the other direction, $139 billion of technical differences reduced deficits relative to what OMB estimated. In addition, using CBO’s GDP instead of OMB’s results in the 2025 debt-to-GDP ratio being one percentage point higher.

Ultimately, CBO shows that while the President’s budget responsibly offsets its new spending, it does not go far enough in reducing the debt to ensure fiscal sustainability over the long term.

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Report: Analysis of the President’s FY 2016 Budget

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Today, the President released his FY 2016 budget, laying out his priorities and proposals for the coming year. The budget includes policies and initiatives to reform immigration, taxes, and Medicare, while promoting early and higher education, reducing low-income and middle-class taxes, repealing a portion of future sequester cuts, and implementing other tax and spending changes.

Our main findings from the budget are:

  • The President’s budget includes sufficient revenue and spending cuts to pay for his new initiatives and reduce deficits by about $930 billion relative to current law over the next decade. Relative to the President’s baseline, the budget includes $2.2 trillion of deficit reduction.
  • Based on its own projections, debt under the President’s budget would remain relatively stable as a share of GDP, reaching 73 percent of GDP in 2025 compared to 74 percent today. In dollar terms, debt will rise from about $13 trillion today to over $20 trillion by 2025.
  • Deficits under the President’s budget would remain steady over the course of the decade at about 2.5 percent of GDP each year.
  • Between 2015 and 2025, spending will grow from 20.9 percent of GDP to 22.2 percent and revenue from 17.7 percent of GDP to 19.7 percent. Historically, they have averaged 20.1 and 17.4 percent, respectively.

Interest costs alone, in the budget, will grow from under $230 billion (1.3 percent of GDP) today to nearly $800 billion (2.8 percent of GDP) in 2025.

The President’s budget should be commended for responsibly identifying tax and spending offsets sufficient to pay for new spending and tax cuts, and setting aside additional savings for deficit reduction beyond that.

However, the budget does far too little to reduce current debt levels nor slow the growth of entitlement spending over the long-run. Under the President’s budget, debt remains roughly twice as high as in 2007 and higher than any time in history other than around World War II. Meanwhile, Social Security and Medicare remain on paths toward insolvency and both programs – along with interest spending – will continue to grow rapidly.

Ultimately, significant entitlement reforms will be necessary to put the debt on a sustainable path. And the longer we wait to enact these reforms, the larger and more abrupt they will need to be.

Update (2/4): Figure 3 has been updated to incorporate official Treasury Department estimates on the extension of the refundable tax credit expansions.

Report: CBO's January 2015 Budget and Economic Outlook

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The Congressional Budget Office (CBO) released its Budget and Economic Outlook today, showing their budget and economic forecasts through 2025. After falling to post-recession lows below $470 billion this year and next, CBO projects deficits will again start to rise, exceeding $1 trillion by 2025.

Over the next decade, CBO projects deficits of $7.6 trillion (3.3 percent of GDP), with deficits growing from a low of $467 billion (2.5 percent of GDP) in 2016 to $1.09 trillion (4.0 percent of GDP) by 2025.

As a result, debt will rise over the next decade, from $13 trillion today to $16.6 trillion at the end of 2020 and $21.6 trillion by the end of 2025. As a share of GDP, debt will remain stable at current post-war highs of about 74 percent of GDP through 2020, but then rise continuously to almost 79 percent of GDP by 2025 and continue to grow unsustainably over the long run.

The gloomy debt and deficit outlook is the result of rising spending and relatively flat revenue collection. Despite discretionary spending falling as a share of GDP, Social Security, health care, and interest spending will grow substantially, pushing spending from 20.3 percent of GDP in 2015 to 22.3 percent by 2025. At the same time, revenue will remain roughly flat at near 18 percent of GDP through most of the next ten years, reaching 18.3 in 2025.

Compared to their prior projections, released last August, deficits are about $175 billion lower through 2024 – almost entirely due to changes in 2016 through 2018. However, long-term economic projections have also worsened – with nominal GDP about 1 percent lower in 2024 – resulting in a slightly higher debt-to-GDP ratio by 2024.

Even these projections assume that lawmakers do not enact new deficit-increasing policies. If they act irresponsibly and extend temporary policies and repeal scheduled cuts, debt would be much worse and could reach 88 percent of GDP by 2025.

Overall, CBO’s baseline shows a fiscal outlook which is clearly unsustainable. Correcting this course will require reducing the gap between spending and revenue by enacting serious tax and entitlement reforms. The longer policymakers wait, the more difficult they will find it to put our fiscal house in order.

Report: Analysis of CBO's Updated Budget and Economic Forecast

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Today, the Congressional Budget Office (CBO) released updated budget and economic projections for the coming decade, showing today’s record-high debt levels continuing to rise over the next decade. The report focuses on a “current law” baseline, which assumes policymakers break with the current practice of deficit-financing extensions of various expired or expiring policies. Even under this somewhat optimistic scenario, CBO shows the following:

  • In nominal dollars, deficits will grow from $506 billion in 2014 to $960 billion in 2024, and debt will grow from $12.8 trillion to $20.6 trillion.
  • As a percent of GDP, debt will stabilize around its post-World War II record high of 74 percent through 2020, before rising to above 77 percent of GDP by 2024.
  • Deficits will remain below 3 percent of GDP through 2018, but rise to 3.6 percent of GDP by 2024.
  • Federal revenues will stabilize at about 18 percent of GDP, while spending will grow from 20.4 percent of GDP in 2014 to 21.8 percent in 2024.
  • The fastest growing part of the budget is interest payments, which will rise from 1.3 to 3.0 percent of GDP by 2024. Spending on the major health and retirement programs will grow from 9.8 to 11.5 percent of GDP.
  • Compared with prior estimates, CBO expects the economy to be somewhat weaker, mostly due to 2014 growth being 1.2 percentage points lower.
  • Compared with prior projections, CBO expects the debt to be about $400 billion lower in 2024, reaching 77.2 percent of GDP rather than 78 percent.
  • If extrapolated forward, we find CBO would project debt to exceed the size of the economy before 2040 and reach nearly 150 percent of GDP by 2060.

CBO continues to show an unsustainable outlook for federal debt, even under current law. Under CBO’s Alternative Fiscal Scenario, where Congress extends various expiring tax provisions, continues “doc fixes,” and eliminates sequestration, debt would reach 85.7 percent of GDP in 2024 instead of 77.2 percent. Lawmakers will therefore need to strictly abide by pay-as-you-go rules and take steps to control the growth of entitlement spending, while enacting other tax and spending reforms to put debt on a downward path over the long run.

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