U.S. March fiscal report: deficit and debt rising but at slower pace.

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1 Contacts Felix Boni Chief Credit Officer Jordy Juvera Economics Associate Cynthia Pérez Economics Analyst HR Ratings comments on the U.S. fiscal report for the first half of the fiscal year with deficit and debt continuing to rise but at slightly slower pace. The fiscal deficit for the federal government continues to show substantial increases with strong growth in primary spending relative to weak growth in receipts and even stronger rises in net interest expense. We calculate that the LTM deficit reached 4.20% of our estimate of LTM GDP through the first quarter. This is larger than the 3.75% observed through 1T18. As for publicly held federal government debt, this has held relatively steady reaching 78.1% of our GDP estimate. In March 2018 it totaled 78.3% of GDP. In addition to the relative, and presumably temporary, stabilization in the debt to GDP ratio it is also possible to see improvement in terms of the growth of the deficit as the fiscal year has progressed with smaller cumulative fiscal year increases. In Table 1 we provide a breakdown of the increases in receipts and expenditures, with the latter divided into primary and interest outlays. Thus, for receipts we see the decline in corporate tax revenues that had been expected from the recent changes in tax legislation. We also see a modest decline in individual income tax receipts. For outlays, there are strong increases in defense spending. We assume that some of these non-defense spending numbers (mostly other ) might still be affected by the government shutdown. Significantly, net interest increased by a substantial 14.8%. Table 1: Federal Government Budget Report (US$ billions) FY up to March In Month of:* % Change % Change Total Receipts 1, , % % Individual Income Taxes % % Corporate Income Taxes % % Payroll Taxes % % Other % % Total Outlays 2, , % % Social Security % % Medicare % % Medicaid % % Defense % % Other % % Total Primary spending 1, , % % Net Interest % % Primary Balance % % Financial Balance % % Source: HR Ratings based on data from Monthly Treasury Statement (MTS), using revenue and spending catgegories shown in the CBO's Monthly Budget Review. *Data based on change in cumulative amounts derived from current and previous MTS. The result of these changes is the 15.3% increase in the primary balance and the virtually identical expansion in the financial balance, once net interest expense is included. Although this increase is substantially larger than the nominal expansion in GDP of roughly 5%, it represents an improvement over those of previous months. Thus, for the first four months of the fiscal year (through January) we estimate that the cumulative deficit was up 173%. For the first five months it increased by 39% and now for the first half of the year the advance is a smaller although still substantial 15.3%. Hoja 1 de 7

2 In Table 2 we provide relevant LTM metrics, first showing how the deficit has risen as a percentage of GDP from 1T18 to 1T19. However, versus 2018 it has actually declined marginally. A similar evolution can be seen in the publicly held debt to GDP ratio which is now at 78.1%, percentage lower than the 78.6% seen at the end of 2018, but higher than the 78.3% observed at March In terms of the cost of the debt, we estimate that it reached 2.21% for the LTM through March 2019 vs. the 1.93% a year earlier. Table 2: Federal Government LTM Budget Metrics Dec-18 LTM Financial Deficit (US$ bilions) LTM Deficit as % of LTM GDP* 3.75% 4.26% 4.20% Publicly Held Debt (US$ billions) 15,428 16,102 16,204 Debt as % of LTM GDP* 78.3% 78.6% 78.1% Additional change in debt.** LTM Chg. in Debt as % of LTM GDP 5.37% 6.28% 3.74% Average effective cost of debt 1.93% 2.20% 2.21% Estimated LTM GDP (US$ billions) 19,705 20,494 20,750 Source: HR Ratings with information from the Treasury Department and the Bureau of Economic Analysis (for quarterly GDP data). Fiscal Year from October through September. *Includes HR Ratings estimate for 1Q19 GDP. **Change in publicly held debt beyond deficit in LTM period. In evaluating the increases in the publicly held debt, we also note the changes that it might show apart from the size of the deficits. Thus, for the LTM through March 2018 the debt increased by US$320bn more than the deficit of US$739bn. The total increase equaled 5.37% of GDP. However, the debt is now experiencing a period in which the debt is increasing at less than the deficit. Thus, while the deficit was 4.2% of GDP through March 2019, the increase in the debt was a smaller 3.74%. The relationship between the increase in the public debt and the deficit is seen in Graph 1 below. Over the last four years or so the relationship, once relatively close appears to have broken down. With the LTM data through March 2019 we now have a situation in which the publicly held debt is rising by more than the deficit, partially compensating for previous periods in which the opposite was the case. In the case of the total public debt (including intragovernmental) the misbalance is even larger. Thus, during the four-year period that ended in March 2019 the cumulative deficit was US$2.7 trillion (tr), yet the publicly held debt rose by US$3.1tr or 14.4% more. The total debt increased by US$3.9tr. In the previous four-year period, the cumulative deficit was US$3.2tr with increases in the publicly held and total debt of US$3.4tr (8.9% more) and US$3.9tr. Hoja 2 de 7

3 Mar-05 Sep-05 Mar-06 Sep-06 Mar-07 Sep-07 Mar-08 Sep-08 Mar-09 Sep-09 Mar-10 Sep-10 Jun-11 Dec-11 Jun-12 Dec-12 Jun-13 Dec-13 Jun-14 Dec-14 Jun-15 Dec-15 Jun-16 Dec-16 Jun-17 Dec-17 Jun-18 Dec-18 Graph 1: Federal Government Deficit and change in Public Debt in billions (LTM) ,100 1,300 Deficit Increase in public debt 1,500 Source: HR Ratings with information from the US Treasury Dept. For the increase in public debt the sign is reversed in order to present data on the same scale as the deficit. In Graph 2 we show the LTM changes in revenues and expenses. Not surprisingly, we see a substantial gap appearing in the aftermath of the financial crisis of 2009, subsequently narrowing. We now see the gap expanding once again although by a substantially smaller degree. The post 2008 crisis period saw both an increase in expenditures and a decrease in revenues. Currently, we are seeing relatively stable growth in outlays but with declining revenue growth. Graph 2: Federal Government Revenues and Expenditures as share of GDP (LTM) 25% 24% 23% 22% 21% 20% 19% 18% 17% 16% 15% 14% Revenues Expenditures Source: HR Ratings with information from the US Treasury Dept. and the BEA (for GDP). Includes an HR Ratings estimate for 1Q19 GDP. Hoja 3 de 7

4 Mar-06 Sep-06 Mar-07 Sep-07 Mar-08 Sep-08 Mar-09 Sep-09 Mar-10 Sep-10 In Graph 3 we see the results of these trends in the dramatic increase in debt to GDP as a consequence of the financial crisis and the current slower paced rise, accelerating a bit over the last four quarters or so. Graph 3: Federal Government Gross Public Debt as share of GDP (LTM) 80% 75% 70% 65% 60% 55% 50% 45% 40% 35% 30% Source: HR Ratings w ith information from the US Treasury Dept. and the BEA (for GDP). Includes HR Ratings estimate for 1Q19 GDP. Finally, in Graph 4 we see the evolution of net interest expense to GDP as well as our estimate of the effective cost of the debt. Thus, as a result of the decline in the effective interest rate in the first half of the graph, interest outlays were stable relative to GDP. This despite a rising debt to GDP ratio. In contrast, we now see both increase in the effective cost of the debt and the rise in interest expense. Hoja 4 de 7

5 Graph 4: Federal Government Net Interest in Billions and Effective Cost of Debt (LTM) Net Interest Outlays Interest Expense to Average Public Debt 2.5% 2.4% 2.3% 2.2% 2.1% 2.0% 1.9% 1.8% 1.7% 1.6% % Source: HR Ratings w ith information from the US Treasury Dept. and the BEA (for GDP). The cost of debt is calculated as LTM interets expense relative to LTM average public debt. Hoja 5 de 7

6 HR Ratings Management Contacts Management Chairman of the Board Vice President Alberto I. Ramos Aníbal Habeica Chief Executive Officer Fernando Montes de Oca Analysis Chief Credit Officer Deputy Chief Credit Officer Felix Boni Pedro Latapí Public Finance / Infrastructure Corporates / ABS Ricardo Gallegos Hatsutaro Takahashi ricardo.gallegos@hrratings.com hatsutaro.takahashi@hrratings.com Roberto Ballinez José Luis Cano roberto.ballinez@hrratings.com joseluis.cano@hrratings.com Financial Institutions / ABS Methodologies Fernando Sandoval Alfonso Sales fernando.sandoval@hrratings.com alfonso.sales@hrratings.com Regulation Chief Risk Officer Head Compliance Officer Rogelio Argüelles Rafael Colado rogelio.arguelles@hrratings.com rafael.colado@hrratings.com Business Development Business Development Francisco Valle francisco.valle@hrratings.com Hoja 6 de 7

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