From a Treasury publication called the Financial Report of the U.S. Government.
The projections in this Report indicate that current policy is not sustainable. The debt-to-GDP ratio is projected to reach 395 percent in 2087 and to rise continuously thereafter. Preventing the debt-to-GDP ratio from rising over the next 75 years is estimated to require some combination of spending reductions and revenue increases that amount to 2.7 percent of GDP over the period. While this estimate of the “75-year fiscal gap” is highly uncertain, current fiscal policies cannot be sustained indefinitely.
It is important to address the Government’s fiscal imbalances soon. Delaying action increases the magnitude of spending reductions and/or revenue increases necessary to stabilize the debt-to-GDP ratio. Relative to a reform that begins immediately, for example, it is estimated that the magnitude of reforms necessary to close the 75-year fiscal gap is nearly 20 percent larger if reforms are delayed by just ten years, and more than 50 percent larger if reform is delayed 20 years.
Thanks to James Pethokoukis for the pointer.
The Treasury report says that its projections show that the primary deficit (excluding interest payments) is
projected to fall rapidly between 2013 and 2018 as the economy recovers and spending reductions called for in the Budget Control Act of 2011 (BCA) take effect, reaching primary balance in 2018 and remaining relatively flat and near zero through 2021. Between 2022 and 2039, however, increased spending for Social Security and health programs due to continued aging of the population and anticipated rising health costs is expected to cause the primary balance to steadily deteriorate and reach 2.3 percent of GDP in 2039. After 2039, the primary deficit-to-GDP ratio slowly declines to 1.7 percent as the impact of the baby boom generation retiring dissipates.
A couple of questions.
1. In order in order to avoid the “fiscal cliff”, did Congress effectively override the BCA? (This is not a rhetorical question. I genuinely wonder whether the BCA should still be considered operative.)
2. Although economic growth helps the primary deficit, will it help the overall deficit? The conventional macro view would suggest that as the economy recovers, real interest rates will rise. Because debt is now high, a rise in real interest rates really makes a difference to the interest burden.
Excellent point 2. For most countries, through most of history, the real rate versus higher tax revenues tradeoff sort of worked because the real rate reflected a significant credit risk component (and this premium would come down with growth). The US is currently paying no credit risk premium, so one would have to assume that the upward pressure on real rates will be strong. So if Obama thinks we don’t have a spending problem, could someone convince him that, at a minimum, we have a term structure problem (which actually affords his Treasury an opprotunity to minimize the damage already done).
One wonders two things.
1. Is it possible to have (a) reasonable GDP growth and high employment AND (b) low interest rates out to at least 10 years AND (c) stable prices with at most mild inflation? Such a combination would “escape” the trap noted above, at least for a while.
2. Is there *any* policy or government behavoir that can plausibly be expected to last for 37 years? Such very long term fiscal management may have the same problems as any credible plan to manage CO2 emissions – it would have to be sustained for decades in the face of literal unknown unknowns as well as spectacular known pressures for revision.
As a personal aside, there are relatively good chances I’ll still be alive in 2039, and I will try to save this post and reference, and be interested to see if I can remember it, find it, or if it’s at all relevent. (I’m not being snarky – I really wonder. In 2039 will worries about debt look like 19th century worries about the volume of horse feces on city streets? Or will we all be going “you know, if we’d adjust policy a little bit in 2013 the fiscal collapses of 2027, 2033, and 2038 could have been avoided..”)
You are correct to point out the difference between the deficit (including interest payments) and the “primary deficit” (excluding interest). You are also correct to assume that if the economy improves, as one hopes it will, interest rates will rise and offset some (or all?) of the improvement in the deficit due to the increase in GDP, increased tax revenues and lower stabilizer payments.
It also makes little sense to this reader that the fiscal focus should be on the “primary deficit” rather than the overall deficit. Interest expenses are a cost just like any other item in the budget (in fact, a more serious cost because much of that interest is paid to foreigners). However, this piece seems to suggest that the Treasury (and perhaps the CBO) ignore this point in their reports. That’s not entirely true.
For example, here’s an excerpt from the CBO’s Long-Term Budget Outlook:
“In CBO’s baseline, net interest outlays increase from 1.4 percent of GDP in 2012 to 2.0 percent in 2017 and 2.5 percent in 2022. Even though federal debt is projected to decline as a share of GDP under the baseline assumptions, interest spending increases because interest rates are expected to rebound from their current unusually low levels. Under the alternative fiscal scenario, federal debt and the government’s interest costs would be greater, reaching 3.7 percent o GDP in 2022”. (P. 17)
“CBO assumes that the real interest rate on federal debt will rise from less than 1 percent today to an ultimate value of 2.7 percent…
One particular risk is that growing federal debt would increase the probability of a fiscal crisis, in which investors would lose confidence in the government’s ability to manage its budget and government would lose its ability to borrow at affordable rates” (p. 23)
http://www.cbo.gov/sites/default/files/cbofiles/attachments/06-05-Long-Term_Budget_Outlook_2.pdf
Also, on page 165 of the Treasury document you link to, the very issue you cite is discussed under the heading “Effect of Changes in Interest Rates”.
Both the CBO and Treasury include assumptions regarding increased interest rates on the *overall deficit* and these estimates assume rates will go up as the economy improves; however, their primary concern seems to be increased interest rates based on lower confidence of creditors as the debt-to-GDP ratio increases.
The point from the first quote cannot be stressed enough: when you’re spending beyond your means, you need to stop sooner rather than later.
I don’t really get why this perspective is so remote from American politics. If Nicaragua spent like we do, we’d shrug them off as doomed to some sort of economic melt down. The U.S.A. has some sort of aura about it that makes many people think it can’t possibly be screwing up something so basic.
The assumptions of the projection portion of the financial report are far too rosy. They’re assuming nominal GDP growth of 5% per year and real GDP growth of 2% or more per year. They also assume that the real rate of increase in per capita healthcare costs will be around 5%–double the rate of overall growth. I don’t believe they’ve taken into account the large proportion of GDP growth already represented by the healthcare sector and that’s paid for by the government at one level or another.
I do have a question. Doesn’t the report assume the abandoning of Keynesian “pump-priming” as a tactic during economic downturns? To restrain spending growth as the report assumes will be required implies some average rate of growth but, if Keynesian tactics are used, that means that in some years spending will grow much faster than the average which in turn means that in other years spending will need to grow much less. How much less? Their assumption already include substantial growth in Medicare spending. That limits how little the federal government can spend. I don’t see how the numbers add up given the business cycle and our post-war reactions to it.
Two points:
a) How the heck can anyone confidently predict what the deficit or debt will be in 20 years, nonetheless 75 years? Remember that 75 years ago Hitler had not yet invaded Czechoslovakia. Of what value would a 75-year budget projection published then been? Would it have accurately assed the state of our current finances?
b) Even if per-capita economic growth causes a rise in real interest rates (which would only be of limited impact since much of the government’s debt is in long-term securities), the decrease in the primary deficit will probably be much sharper than the increase in interest payments. Deficits during the low-unemployment years of the Bush administration were in the $500b range; should we return to that level of unemployment, especially given that baseline policy is lower-deficit than it was during that time (no more Iraq or Afghanistan; introduction of PPACA; spending cuts negotiated since 2011; increase of top tax bracket) we should expect to see primary deficits much lower than they were during those years as a share of GDP. In fact, this is what many reputable analysts predict will happen very soon:
http://www.businessinsider.com/the-coming-shrinking-of-the-deficit-2013-1
It indeed is hard to make long-term predictions. However, I think that the appropriate response to this difficulty is to be conservative about the promises that government makes. It will be easier to raise benefits for the elderly if we experience a growth windfall than it will be to cut benefits if we experience and adverse shock.
Certainly budgetary theory supports that governments are much worse at cutting in the face of adverse shocks than would be ideal. But I think that is a problem for the 10-year budgetary outlook, maybe 15 years. 75 years is a tremendous amount of time. Even if you assume an average of 1% real GDP-per-capita growth over that time, which is less than half the average rate of real GDP-per-capita growth that the US has seen over the past 50 years, then real GDP-per-capita in 75 years will be more than double what it is today. So as long as real benefits remain roughly constant, there would only be a problem if real-GDP-per-capita remained stagnant or somehow declined over that time. But if the next 75 years see declining real living standards in the developed world I think we have bigger problems than balancing the government’s books.