The Lost Decade Public Debt as Percent of GDP 100 90 80 70 60 50 40 30 20 Debt Hits 60 Percent of GDP This Year 12 Years Sooner CBO With Policy, January 2010 CBO With Policy, December 2007 1980 1985 1990 1995 2000 2005 2010 2015 2020 2025 2030
The Debt Clock Is Ticking Joe Minarik Committee for Economic Development February 3, 2009
Questions for today: How much has the federal budget picture changed in the last year? Is the President s budget realistic? Is the outlook for the public debt improving? Is Washington up to the task of fixing the budget?
Quick, up-front conclusions: The budget outlook has improved marginally from last year, but it remains dire. Continuing anomalies raise questions about the the current budget projections. The deficit and debt outlook is more troubling than it appears. Perhaps most troubling is how quickly the debt already has increased. We have lost much of the already limited time that we had to face up to the problem. If we do not act before a crisis hits, the consequences will be enormous.
A refresher: The most common presentation of the budget the baseline... and its limitations.
CBO s Baseline Budget Outlook 0-200 September 2008-400 January 2009 Billions of Dollars -600-800 -1000-1200 January 2010-1400 -1600 August 2009-1800 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020
After a major worsening in the previous year, the budget outlook seems to have stabilized. CBO s ten-year baseline has improved by about $400 billion dollars since a year ago. The sources of that improvement are not definitive for FY 2010, but suggest some modest optimism for the later years.
The FY 2010 picture has improved, but for temporary reasons. 200 150 Billions of Dollars 100 50 0-50 -100 TOTAL NET IMPROVEMENT TARP Stimulus Bill and Other Legislation All Other
The improvement in the current year is caused mostly by temporary factors. The improved TARP outlook does suggest that the financial sector is stabilizing. However, it is a one-time benefit to the budget. Other factors are smaller, but adverse.
Through 2019, the economic outlook has improved. (Will it last?) 800 600 Billions of Dollars 400 200 0-200 -400-600 TOTAL IMPROVEMENT TARP Stimulus Bill and Other Legislation Economy All Other
The longer-term improvement in CBO s outlook is encouraging, but uncertain. The improvement in the economic outlook is welcome, but the staying power of the recovery remains doubtful. Other factors are temporary (TARP) or adverse (the technical reestimates that dominate all other ).
So, the assessment today: The baseline outlook hasn t gotten any worse. It has stabilized. But as you recall from last time, the baseline is only a part of the overall picture.
The baseline budget projection assumes current law. All tax cuts scheduled to expire under current law go away. The alternative minimum tax, which has been postponed for years, takes effect. The sustainable growth rate restraint under Medicare, which has been postponed since 2003, takes effect. War costs continue forever at the level at which they have been appropriated.
So what would the picture look like if we eliminated those unrealistic assumptions?
CBO Budget Outlook With Likely Policy Changes, Percents of GDP -2% -3% Baseline -4% -5% -6% -7% -8% -9% -10% -11% With Policy 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020
What Are the Major Causes? A War Drawdown Improves the Baseline -1% -2% Deficit With Drawdown -3% -4% Percent of GDP -5% -6% -7% -8% War Drawdown* Baseline -9% -10% -11% 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 *Reduce the number of troops deployed in Iraq and Afghanistan and other war-related activities to 30,000 by 2013.
What Are the Major Causes? Other Factors Worsen the Picture -1% -2% Deficit With Drawdown -3% -4% -5% -6% -7% -8% Medicare SGR Extend Tax Cuts Index the AMT -9% -10% -11% 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020
The Administration s new budget confirms the worries in CBO s baseline outlook. Despite modest underlying improvements, the picture this year is more troubling than that from last year.
Last year, the budget brought the deficit down to 3 percent of GDP and held it there. This year, the deficit never comes down to that level, and by the end of the ten-year window it is getting bigger.
The Budget s Deficit This Year Is Larger 0% -2% FY 2010 Budget Percent of GDP -4% -6% -8% -10% -12% -14% 2008 2009 2010 2011 2012 2013 2014 2015 2016 FY 2011 Budget 2017 2018 2019 2020
Last year s budget deficits were just small enough (about 3 percent of GDP) to stabilize the ratio of the public debt to the GDP. With this year s larger deficits, the debt continues to grow faster than the economy over the entire ten-year budget window.
Debt Rises in the New Budget 80% 75% FY 2011 Budget Percent of GDP 70% 65% 60% 55% 50% 45% 40% 2008 2009 2010 2011 2012 2013 2014 2015 FY 2010 Budget 2016 2017 2018 2019 2020
Why did the Administration not show a sustainable budget, as they did last year? Arguably, a stable debt reflects much better on the Administration s policymaking.
An opinion: The Administration ran out of marginally credible, politically tolerable policies to improve the bottom line. (Example: Last year, the budget assumed that climate change policy would save money. This year, it is deficit-neutral.)
Instead, the Administration must rely on a Fiscal Commission to find the additional necessary savings.
In other words, the budget outlook is significantly worse: It is harder this year than last year to achieve a stable bottom line. The situation is worse in one additional dimension: We have lost valuable time.
The Lost Decade Public Debt as Percent of GDP 100 90 80 70 60 50 40 30 20 Debt Hits 60 Percent of GDP This Year 12 Years Sooner CBO With Policy, January 2010 CBO With Policy, December 2007 1980 1985 1990 1995 2000 2005 2010 2015 2020 2025 2030
As unattractive as it is, is the Administration s bottom line actually optimistic relative to likely outcomes? A comparable outlook based on CBO s projections is far worse.
CBO Versus the Budget Percent of GDP -2% -3% -4% -5% -6% -7% -8% -9% -10% -11% -12% Administration Deficit CBO Deficit With Likely Policy 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020
Why Is the Administration s Projected Deficit Smaller? In the later years, the Administration s baseline is more optimistic than CBO s by more than 0.5 percent of GDP per year. As was the case last year, the Administration assumes higher nominal GDP than CBO, contributing to this result.
Administration Deficit Is Lower Because of Higher Assumed GDP 26 Trillions of Current Dollars 24 22 20 18 16 14 12 Administration CBO 10 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020
Why Is the Administration s Projected Deficit Smaller? The Administration proposes ambitious (perhaps politically unrealistic in today s Washington) policies to reduce the deficit. Over 10 years: $150 billion in savings from health reform. $468 billion in tax compliance and reform. $970 billion in higher taxes on upper-income persons (including middle-class AMT victims). $50 billion in taxes and spending cuts on banks and telecom.
Policies Reduce the Deficit -2% -3% -4% -5% -6% -7% -8% -9% Health Reform Tax Reform Administration Deficit Baseline Effect High-Income Taxes Administration Deficit Without Policies -10% Banks and Telecom -11% -12% 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020
Even with these ambitious policies, the Administration s budget leads to an unsustainable increase in debt. Without those policies, deficits are more than 1 percent of GDP per year greater, piling on even more debt.
Debt Held By the Public 95% 90% 85% CBO With Policy Percent of GDP 80% 75% 70% 65% 60% 55% 50% Administration 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020
My point is not that these policies are wrong. They or others like them are essential. But the situation is so bad that even these politically ambitious policies are not enough.
A further point: Once these policies (particularly the upper-income tax increases) are used, it will be harder to go back to the same kinds of policies again to do the rest of the job.
Some argue that there is no problem, or at least no need for action. From the February 2, 2010 New York Times:
One source of that absence of will is that the political warnings are contradicted by the market signals. The Treasury has borrowed money to finance the government s deficits at remarkably low rates, the strongest indicator that the markets believe they will be paid back on time and in full.
The absence of political will is also facilitated by the fact that, as Prof. James K. Galbraith of the University of Texas puts it, Forecasts 10 years out have no credibility.
He is right. In the early years of the Clinton administration, government projections indicated huge deficits over the sustainable level of 3 percent by 2000. But by then, Mr. Clinton was running a modest surplus of about $200 billion
Much may depend on whether we put in place the financial reforms that can rebuild a functional financial system, Mr. Galbraith said, to finance growth in the private sector the kind of growth that ultimately saved Mr. Clinton from his own deficit projections.
His greatest hope, Mr. Galbraith said, was Stein s law, named for Herbert Stein, chairman of the Council of Economic Advisers under Presidents Richard M. Nixon and Gerald R. Ford. Stein s law has been recited in many different versions. But all have a common theme: If a trend cannot continue, it will stop.
Is today like the 1990s? Today s economy and budget are much weaker: Housing Consumer fear Business investment Baby-boom retirement underway Public debt already higher than 1993
If a sound financial system is key, do you expect the financial system to be healthier if the federal government is hemorrhaging debt?
But if you choose to make that bet, and you are wrong, what are the consequences?
The problem with running continuing big deficits is that they pile up debt. A larger debt increases debt service costs. Higher debt service costs increase the deficit. A larger deficit increases the debt
A rising debt is dangerous In the long run, rising deficits and debtservice costs drain the pool of available savings, crowding out investment and thereby reducing economic growth. At some point, a rising national debt load could frighten both domestic and foreign investors, causing them to run for the exits on the nation s paper, public and private.
A Longer-Term View: Debt Approaches World War II Levels 120 100 January 2010 CBO with Policy Changes Percent of GDP 80 60 40 20 0 1946 1950 1954 1958 1962 1966 1970 1974 1978 1982 1986 1990 1994 1998 2002 Budget January 2010 Baseline January 2009 Baseline March 2009 Baseline 2006 2010 2014 2018
U.S. Already Ranks High in Debt Relative to the Developed World 200 180 Percent of GDP, 2009 Estimates 160 140 120 100 80 60 40 20 0 Australia Luxembourg New Zealand Korea Slovak Republic Finland Switzerland Denmark Czech Republic Sweden Poland Spain Norway Ireland United Kingdom Netherlands Austria Germany Canada Portugal United States France Hungary Belgium Greece Iceland Italy Japan Source: OECD Economic Outlook No. 86, Annex Table 32, General Government Gross Financial Liabilities
U.S. Loses Debt Advantage Over Rest of Developed World 90 80 70 United States OECD Total Percent of GDP 60 50 40 30 20 10 0 1980 1992 2000 2008
Foreign Investors Have Purchased Most New U.S. Debt Billions of Dollars, March 2001 - September 2009 4,500 4,000 3,500 3,000 2,500 2,000 1,500 1,000 500-3,889.9 All New Non-Federally Held Debt 2,467.1 Portion Purchased By Foreigners 1,422.8 All Other Joe Minarik, Committee for Economic Development Source: U.S. Treasury, Treasury Bulletin, December 2009 02/03/2010
A rising debt is unfair to future generations, who will have to pay higher taxes to service that debt.
Public Debt Matures Quickly (Privately Held Marketable Debt, September 2009) Percentage of Total 45% 40% 35% 30% 25% 20% 15% 10% 5% 41.8% 33.3% 24.9% 0% Less Than One Year One Year to Five Years More Than Five Years Joe Minarik, Committee for Economic Development Source: U.S. Treasury, Treasury Bulletin, December 2009 02/03/2010
What is the economic outlook, and what are the implications for budget policy? We need to maintain the economic recovery in the short run, but establish fiscal responsibility for the long term.
Fred and Ginger could start out in one place
but know where they wanted to wind up. We can, too.
The economy may be on the point of beginning to add jobs.
Monthly Change in Employment 1,500 1,000 500 Thousands 0-500 -1,000 Jan 1970 Mar 1971 May 1972 Jul 1973 Sep 1974 Nov 1975 Jan 1977 Mar 1978 May 1979 Jul 1980 Sep 1981 Nov 1982 Jan 1984 Mar 1985 May 1986 Jul 1987 Sep 1988 Nov 1989 Jan 1991 Mar 1992 May 1993 Jul 1994 Sep 1995 Nov 1996 Jan 1998 Mar 1999 May 2000 Jul 2001 Sep 2002 Nov 2003 Jan 2005 Mar 2006 May 2007 Jul 2008 Sep-09
The recovery could surprise to the upside. Employment fell more than the drop in output would suggest. The stock market has come back. Business inventories are way down. Business investment and consumer auto replacement has been postponed. A lower dollar strengthens U.S. exports. The household saving rate already has adjusted substantially.
Or not. Asset-backed lending is still frozen. Household balance sheets are still weak. Many displaced workers (autos, construction) won t be re-hired. Many mortgages are still under water; many unsound ARMs are still to re-set. All national economies are weak. As the economy begins to strengthen, the price of oil will rise.
If we make it, it s half a bottle of beer for each.
Conclusions The budget deficit and debt problem continues critical. Thirty years ago, we could brush off criticism of our fiscal behavior because there was plenty of time to mend our ways. The baby boom began to retire last year. Thirty years ago, the debt was 25 percent of GDP. Now it is 60 percent, and rising.
We need health-care reform. The long-term budget problem is overwhelmingly rising health costs.
Outlays As Percents of GDP 35 30 25 20 15 10 5 0 1962 1968 Medicare and Medicaid Social Security Other 1974 1980 1986 1992 1998 2004 2010 2016 2022 2028 2034 2040 2046 2052 2058 2064 2070 2076 2082
However, the budget outlook complicates the effort. Budget savings that finance expanding coverage are not available to reduce the deficit. If health-reform offsets are not found within the health care system, deficitreduction options will be reduced. Health reform must bend the cost curve, that is, reduce health-cost growth.
If Budget Savings for Health Reform Simply Reduced the Deficit -2% P e rcent o f G D P -3% -4% -5% -6% -7% -8% -9% -10% Senate Health Reform Offsets Deficit After Savings CBO Deficit With Policy -11% 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019
Next Steps Concerns for the economic recovery are valid. However, control of the debt is essential. Action must be taken in the next few years, and the market must be signaled to that effect. Leaders must explain why the best responses in the short run and the long run, though seemingly contradictory, are both consistent and essential.
Two Essential Messages Our nation asked the greatest generation to give their lives and their limbs. Now, some say that deficit reduction is too hard. It s only money The cost of a debt panic would be catastrophic. Can any politician possibly think, If the nation loses, my party wins! What an opportunity!