Deficits and Debt
This paper was updated on October 15, 2015 to reflect the final end of year deficit as announced by the Treasury Department.
The Fiscal Year (FY) 2015 budget deficit totaled $439 billion, according to today’s statement from the Treasury Department. Although this is roughly 10 percent below the FY 2014 deficit and nearly 70 percent below its 2009 peak, the country remains on an unsustainable fiscal path.
In this paper, we show:
- Annual deficits have fallen substantially over the past six years, largely due to rapid increases in revenue (largely from the economic recovery), the reversal of one-time spending during the financial crisis, small decreases in defense spending, and slow growth in other areas.
- Simply citing the 70 percent fall in deficits over the past six years without context is misleading, since it follows an almost 800 percent increase that brought deficits to record-high levels.
- Even as deficits have fallen, debt held by the public has continued to rise, growing from $5.0 trillion in 2007 and $7.5 trillion in 2009 to $13.1 trillion today. As a share of GDP, debt rose from 35 percent in 2007 to about 74 percent in 2014 and 2015.
- Both deficits and debt are projected to rise over the next decade and beyond, with trillion-dollar deficits returning by 2025 or sooner and debt exceeding the size of the economy before 2040, and as soon as 2031.
Unfortunately, the recent fall in deficits is not a sign of fiscal sustainability.
The Deficit in FY 2015
According to the Treasury Department, the federal deficit totaled $439 billion in FY 2015 (an initial report from the Congressional Budget Office on October 7th estimated the deficit at $435 billion), with $3.25 trillion of revenue, $3.69 trillion of spending.
Since 2009, the budget picture has changed significantly, with deficits falling by 70 percent, from $1.4 trillion to $439 billion. This reduction was driven mainly by the 54 percent ($1.1 trillion) increase in tax collections that has come largely as a result of the economic recovery but also due to real tax bracket creep, new taxes from the American Taxpayer Relief Act, the Affordable Care Act, and increased remittances from the Federal Reserve.
At the same time, nominal spending is only slightly higher than in 2009, even as the economy has grown, and inflation has eroded the value of this spending. Indeed, nominal spending has decreased in a number of areas, particularly due to the absence and reversal of financial rescue and economic recovery programs through the Troubled Asset Relief Program (TARP), the rescue of Fannie Mae and Freddie Mac, and the expiration of stimulus spending. Defense spending has also fallen as a result of the drawdown in war spending along with spending caps (further reduced under “sequestration”) on base defense spending. Meanwhile, non-defense discretionary spending has remained relatively flat in nominal terms since 2009, while Medicare, non-ACA Medicaid, and interest costs have all grown slowly relative to their historical trends.
With spending growing at a relatively slow pace, revenue has largely caught up – leading to a substantial reduction in deficits between 2009 and 2015. However, at $439 billion (2.5 percent of GDP), the deficit in 2015 was still significantly higher than the pre-recession deficit of $161 billion (1.1 percent of GDP) in 2007.
Deficits Fell From Record Levels, And They Will Rise Again
A 70 percent drop in annual deficits since 2009 is certainly significant, but it is less impressive than some would suggest when put in context. The rapid fall was from record-high levels and followed an even more rapid increase. At $1.4 trillion, the 2009 deficit was the highest ever in both real and nominal dollars, and the largest as a share of the economy except during World War II. The 2009 deficits represented a 779 percent increase from 2007 – only two years earlier.
While legislated spending reductions, tax increases, and other factors have played a role in reducing deficits from since 2009, the end of trillion-dollar deficits was largely the expected result of the recovering economy and the fading of measures intended to boost the recovery. As unemployment rates have fallen and GDP risen, revenue collection has returned to more normal levels and countercyclical spending has subsided in areas such as unemployment insurance and food stamps. Meanwhile, stimulus and financial rescue measures enacted to speed the recovery have mostly ended and are in some cases now generating income for the government.
Unfortunately, even with these gains, the deficit remains about 270 percent as high as in 2007 (1.4 percentage points higher as a percent of GDP) and is projected to grow over time. Under CBO’s current law baseline, annual deficits will return to trillion-dollar levels by 2025. In 2016 deficits are projected to fall slightly however the likely continuation of tax extenders – even if only retroactively – means deficits will almost certainly rise that year. Under the more pessimistic Alternative Fiscal Scenario in which policymakers fail to pay for new spending and tax cuts, the deficit will reach $1.3 trillion in 2025, rapidly approaching the nominal-dollar record set in 2009.
As Deficits Fall, the Debt Keeps Rising
Arguably the most important metric of a country’s fiscal health is its debt-to-GDP ratio. And unfortunately, even as deficits have fallen the last six years, debt has grown. Indeed, over the same period that deficits fell by 70 percent, nominal debt held by the public grew by about 75 percent – from $7.5 trillion to $13.1 trillion. As a percent of GDP, debt has also grown rapidly, from 35 percent of GDP in 2007 to 52 percent of in 2009 and nearly 74 percent in 2015. This puts debt at just under twice the 50-year historical average of 38 percent of GDP, and leaves it near record-high levels never seen other than around World War II.
Falling deficits have not prevented the debt from growing; rather, they have only slowed down the growth trend. While the debt-to-GDP ratio was essentially stable between 2014 and 2015 and may remain so for the next few years, debt is projected to continue growing faster than the economy over the long run. As the population ages, health care costs grow, and interest rates rise to more normal levels, CBO projects debt will rise from 73 percent of GDP in 2018 to 77 percent of GDP by 2025, and will exceed the size of the economy before 2040. Under CBO’s Alternative Fiscal Scenario (AFS), debt will exceed the size of the economy by 2031.
The fact that deficits have fallen from their trillion-plus dollar levels is encouraging, but more a sign of the economic recovery than enacted deficit reduction. And unfortunately, Washington’s myopic focus on near-term deficits has led to savings which will do little to alter the trajectory of our growing debt.
The significant decline in the deficit followed a massive increase in response to the economic crisis. Moreover, this decline does not suggest the country is on a sustainable fiscal path as debt levels are near historic highs and are projected to grow unsustainably over the long run. In only a decade, deficits are projected to again exceed $1 trillion, and within 15 to 25 years debt is projected to exceed the entire size of the economy.
Policymakers must work together on serious tax and entitlement reforms to put debt on a clear downward path relative to the economy, and should not declare false victories while sweeping the debt issue under the rug.
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This paper was updated on October 15, 2015 to reflect the final end of year deficit as announced by the Treasury Department. In addition, the paper is an update of “Deficit Falls to $483 Billion, but Debt Continues to Rise” from October 2014
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.
See the full document below or download it here.
In early 2015, the Committee for a Responsible Federal Budget (CRFB) warned of the upcoming Fiscal Speed Bumps, explaining “lawmakers will face a number of important budget related deadlines…that will require legislative action.”
Inaction and postponed deadlines have created a gathering storm where Congress and the President must address four remaining Fiscal Speed Bumps before the end of the year:
- The end of 2015 appropriations and return of sequester caps (October 1)
- The expiration of the highway bill and insolvency of the Highway Trust Fund (October 30 & Summer 2016)
- The exhaustion of extraordinary measures to avoid raising the Debt Ceiling (mid-Fall)
- The deadline to renew tax extenders retroactively (December 31)
Although deadlines vary, political considerations may cause lawmakers to combine these issues – leading to a double, triple, or even quadruple cliff.
An irresponsible approach could add up to $2.5 trillion to the debt by 2025 above what current law allows, after interest. Instead, lawmakers should take advantage of this gathering storm to make sensible reforms to improve policy, accelerate economic growth, and address the overall fiscal situation.
Appropriations End. Sequester-Level Caps Return (October 1)
When the government’s fiscal year ends on September 30, so too will the laws that provide discretionary dollars. In theory, Congress is supposed to pass 12 appropriations bills before October in order to fund the government for Fiscal Year 2016 (FY 2016). However, the House has passed only six so far, while the Senate has not passed any. Failure to pass appropriations bills or a Continuing Resolution (CR) would result in a government shutdown.
Assuming policymakers avoid a shutdown, they will still need to decide at what level to fund the government. The Ryan-Murray Bipartisan Budget Act set spending levels for only FY 2014 and FY 2015. For FY 2016, current law spending caps will be dictated by automatic spending reductions commonly referred to as the “sequester.”
Under sequestration spending levels, nominal discretionary caps will rise only $3 billion (0.3 percent) next year – and remain about $90 billion below the pre-sequester caps set in the Budget Control Act. A number of policymakers and outside analysts have called for repealing or reducing the impact of this sequester.
Permanent sequester repeal would cost $1 trillion before interest over the next decade – although policymakers could enact a partial and/or temporary reduction of the sequester cuts. In any case, lawmakers should fully offset the costs with more thoughtful permanent savings that grow over time, without relying on gimmicks.
Legislation increasing the discretionary caps could also be accompanied by budget process reforms to strengthen their enforcement and restrict the use of gimmicks – such as the use of the Overseas Contingency Operations in the Congressional budget to effectively circumvent the defense caps. We describe such reforms in Strengthening Statutory Budget Enforcement.
In September, CRFB will release a plan to replace a portion of the sequester cuts over the next two years and on a permanent basis with savings elsewhere in the budget.
To learn more, read Everything You Should Know About Government Shutdowns, Appropriations 101, and Understanding the Sequester.
Highway Bill Expires and Trust Fund Runs Low (October 30 & Summer 2016)
At the end of October when the current highway bill expires, no new funds may be obligated to transportation projects without additional legislation. If highway spending is continued at current levels without additional revenue, the Highway Trust Fund will run out of money in the fourth quarter of FY 2016, or next summer.
Ultimately, policymakers should close the structural gap between dedicated tax revenue (e.g., the gas tax) and highway spending, which is projected to total about $13 billion this year and $175 billion through 2025. Preferably, this gap would be closed permanently with structural changes to revenue and/or spending, although a fully-offset general revenue transfer could be used to buy time, as it was this July.
CRFB released an illustrative plan in May: The Road to Sustainable Highway Spending, which included a fully-offset, short-term cash infusion into the trust fund, a process for tax and transportation reform, a scheduled 9-cent per gallon gas tax increase if alternatives were not identified, and a spending limit to keep future highway costs in line with revenue.
For more background, see our paper Trust or Bust: Fixing the Highway Trust Fund.
Federal Debt Ceiling is Reinstated (Mid-Fall)
The federal debt ceiling – which was suspended in February 2014 – was reinstated this March, limiting gross federal debt to its current level of $18.15 trillion. Through “extraordinary measures,” the Department of Treasury has been able to delay the need to address the debt ceiling even as the federal government continues to borrow. However, those measures are estimated to run out sometime after the end of October.
Policymakers must increase or suspend the debt ceiling to avoid a potentially disastrous government default, and should do so in a timely manner because waiting until the 11th hour could have negative economic consequences. At the same time, the debt ceiling can be – and in the past has been – an opportunity to take stock of the nation’s unsustainable fiscal situation and make fiscal reforms. An increase would ideally be accompanied with improvements to reduce the long-term debt.
Reforms to the debt ceiling itself should also be considered. Through our Better Budget Process Initiative, CRFB has presented a number of ideas for Improving the Debt Limit to better promote fiscal responsibility without generating as much economic risk.
To learn more about the debt ceiling, read Q&A: Everything You Should Know About the Debt Ceiling and Understanding the Debt Limit.
“Tax Extenders” Reach Reinstatement Deadline (December 31, 2015)
At the end of last year, over 50 temporary “tax extenders” expired. These include individual and business tax breaks for research and experimentation, wind energy, state and local sales tax, and many others.
Most are renewed regularly and can be reinstated retroactively through the end of 2015, and possibly later. Doing so for 2015 would cost over $40 billion before interest, and extending them into 2016 would cost about $95 billion. Many of these provisions have been enacted temporarily to hide their costs, but the price mounts if they are continued year after year. A permanent extension would cost roughly $500 billion through 2025 for traditional extenders, $245 billion for bonus depreciation, and $200 billion for expiring refundable credits – about $940 billion total, without factoring in interest costs.
Rather than add to the debt, lawmakers should use this deadline as an opportunity for comprehensive, pro-growth tax reform that simplifies the tax code, reduces tax rates and deficits, broadens the tax base, promotes growth, and makes thoughtful choices about how to address each tax extender. Last year, CRFB proposed the PREP Plan, which combined a temporary extension with a fast-track process for tax reform and offset the cost with tax compliance measures.
To read more about the tax extenders, see The Tax Break-Down: Tax Extenders.
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The gathering fiscal storm facing our country this fall will require legislation to address the important budgetary issues mentioned above. We hope Congress and the President use this as an opportunity to improve, rather than worsen, the nation’s unsustainable fiscal situation.
Update 9/10/2015: This paper was updated for the Department of Transportation's announcement that the Highway Trust Fund would last through the third quarter of FY 2016, and updated to clarify when listed costs included interest.
Update: The original version of this paper had a mathematical typo, saying that Medicare beneficiaries get, on average, 350% more out of the program than they paid in. The average beneficiary actually receives 250% more than they paid in, which is 350% of the taxes paid.
Update 3/16/2015: This document was updated to correct several typographical and formatting errors.
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.
One of the first and most important priorities Congress should be agreeing to a budget resolution conference report that lays out a framework for pursuing priorities and addressing issues in a fiscally responsible manner before making major decisions on spending or revenues. We recommend that Congress move forward under regular order, while adhering to the following principles when crafting a budget resolution.
1.Put the Debt on a Downward Path
- Propose revenue and spending targets sufficient to put the debt on a downward path as a share of the economy over the medium- and long-term
- Make realistic and gimmick-free assumptions to achieve this goal
2.Responsibly Address Upcoming “Fiscal Speed Bumps”
- Recognize and address the need to raise the federal debt limit
- Include a plan to fully offset reforms to the Sustainable Growth Rate (SGR)
- Provide for a plan to make solvent the Highway Trust Fund
- Set achievable and responsible discretionary spending levels and offset any sequester relief with more permanent and thoughtful savings
- Responsibly address tax extenders, preferably through tax reform
3.Provide for Tax and Entitlement Reform, Using Reconciliation Where Appropriate
- Include significant and achievable savings targets to slow the growth of Medicare, Medicaid, and other entitlement programs, along with credible examples to achieve these savings and reconciliation instructions to facilitate deficit reduction
- Include language promoting Social Security reform designed to make the program as a whole solvent and avoid the pending insolvency of the SSDI program
- Call for pro-growth tax reform that is preferably revenue-generating and at least revenue-neutral relative to current law; and include mechanisms to provide for prompt action on tax reform
- Focus on the long term by prioritizing savings that grow over time and avoiding timing shifts that would result in higher deficits beyond the budget window
4.Strengthen Budget Enforcement
- Strengthen prohibitions of timing shifts, phony savings, and other budget gimmicks
- Tighten rules exempting Overseas Contingency Operations costs from budget limits
- Prohibit the passage of legislation that would increase deficits in the long term