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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. 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).
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.
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.
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.
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.
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.
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.
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.
This paper was updated on 12/16/15 to correct a typo
This paper was updated on December 7th to reflect the Continuing Resolution that expires December 11th.
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.
August 14 marks the 80th birthday of the Social Security program, which was established in the Social Security Act of 1935. Over the past 80 years, Social Security has provided important cash benefits and income security to seniors, survivors, individuals with disabilities, and their families – including to nearly 60 million people today.
Yet Social Security is on a financially unsustainable course – and is not on track to be able to pay full benefits through its 100th birthday. Last year, the program paid $73 billion more in benefits than it raised from taxes. As the more of the baby boom population retires and Americans continue living longer, that gap is projected to grow – depleting the trust fund reserves of the disability program late next year and the old age program in the early- to mid-2030s. Failure to address the gap between spending and revenue could result in an immediate 19 percent cut to all workers with disabilities, and a 20 to 30 percent across-the-board cut to retirees.
Sadly, instead of identifying solutions to prevent depletion of the trust funds, many commenters have relied on myths and half-truths to avoid having a conversation about the necessary choices. In this paper, we identify eight such myths – though there are many more:
- Myth #1: Social Security does not face a large funding shortfall
- Myth #2: Today’s workers will not receive Social Security benefits
- Myth #3: Social Security would be fine if we hadn’t “raided the trust fund”
- Myth #4: Social Security cannot run a deficit
- Myth #5: Social Security has nothing to do with the rest of the budget
- Myth #6: We don’t need to worry about Social Security for 20 years
- Myth #7: Social Security reform is code for slashing benefits, especially for the poor
- Myth #8: Social Security is too hard to fix
Below, we debunk these myths in the hopes that an honest discussion of the facts will lead policymakers to come together and put Social Security on a sustainable path for the next 80 years.
See the full document below or download it here.
Update 8/17/2015: The original version of this paper described the changes needed to fix Social Security as “modest” while describing the changes that could gradually take place over time. We've updated the language to “incremental” for clarity.
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.