Federal Debt and the Risk of a Fiscal Crisis
quote:Over the past few years, U.S. government debt held by the public has grown rapidly—to the point that, compared with the total output of the economy, it is now higher than it has ever been except during the period around World War II. The recent increase in debt has been the result of three sets of factors: an imbalance between federal revenues and spending that predates the recession and the recent turmoil in financial markets, sharply lower revenues and elevated spending that derive directly from those economic conditions, and the costs of various federal policies implemented in response to the conditions. Further increases in federal debt relative to the nation’s output (gross domestic product, or GDP) almost certainly lie ahead if current policies remain in place. The aging of the population and rising costs for health care will push federal spending, measured as a percentage of GDP, well above the levels experienced in recent decades.
Unless policymakers restrain the growth of spending, increase revenues significantly as a share of GDP, or adopt some combination of those two approaches, growing budget deficits will cause debt to rise to unsupportable levels.
Although deficits during or shortly after a recession generally hasten economic recovery, persistent deficits and continually mounting debt would have several negative economic consequences for the United States. Some of those consequences would arise gradually: A growing portion of people’s savings would go to purchase government debt rather than toward investments in productive capital goods such as factories and computers; that crowding out of investment would lead to lower output and incomes than would otherwise occur. In addition, if the payment of interest on the extra debt was financed by imposing higher marginal tax rates, those rates would discourage work and saving and further reduce output. Rising interest costs might also force reductions in spending on important government programs.
... Past and Projected Federal Debt Held by the Public Looking forward, CBO has projected long-term budget outcomes under two different sets of assumptions about future policies for revenues and spending. The extended baseline scenario adheres closely to current law...then growth in spending on health care programs and Social Security would cause deficits to increase, and debt would once again grow faster than the economy. By 2035, the debt would equal about 80 percent of GDP.
However, certain changes to current law are widely expected to be made in some form over the next few years, and other provisions of current law might be difficult to sustain for a long period. Therefore, CBO also developed an alternative fiscal scenario...Debt held by the public would exceed its historical peak of about 110 percent of GDP by 2025 and would reach about 180 percent of GDP in 2035. ... Under the alternative fiscal scenario, the surge in debt relative to the country’s output would pose a clear threat of a fiscal crisis during the next two decades.
Crowding Out of Investment One impact of rising debt is that increased government borrowing tends to crowd out private investment in productive capital, because the portion of people’s savings used to buy government securities is not available to fund such investment. The result is a smaller capital stock and lower output and incomes in the long run than would otherwise be the case.
If policymakers wished to maintain government benefits and services while the amount of interest paid grew, tax revenues would eventually have to rise as well. To the extent that additional tax revenues were generated by increasing marginal tax rates, those rates would discourage work and saving, further reducing output and incomes. Alternatively, policymakers could choose to offset the rising interest costs, at least in part, by reductions in benefits and services.
An Increased Chance of a Fiscal Crisis A rising level of government debt would have another significant negative consequence. Combined with an unfavorable long-term budget outlook, it would increase the probability of a fiscal crisis for the United States.
Increasing Taxes and Reducing Spending The later that actions are taken to address persistent budget imbalances, the more severe they will have to be. CBO’s long-term projections for the federal budget indicate that an immediate, permanent cut in spending or increase in revenues equal to about 1 percent of GDP (relative to the policies assumed for the extended-baseline scenario) or about 5 percent of GDP (relative to the policies assumed for the alternative fiscal scenario) would prevent a net increase in the U.S. debt-to-GDP ratio over the next 25 years. The latter would be equivalent to roughly 20 percent of all of the government’s noninterest spending this year.
It's good to see the CBO, clearly stating for the official record the likely consequences of our actions. Wake up congress and pay attention to the trends!
Posts: 4700 | Registered: Oct 2009
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That could work, but what might actually happen is that we increase taxes and by that I mean we raise the tax rates but we increase spending even more than the money some people expect to take in for the government because of the higher tax rates and then on top of that the expected revenues don't materialize (sometimes you lower rates and take in more revenue because you spur investment and entrepreneurship and conversely you can squeeze your grip on the taxpayer and try to soak every last penny out of them but they turn stone miser on you and do various things to confound the taxman) so in the end we may be even worse off than we are now and certainly a lot worse off than the rosy scenarios people are painting with wishful thinking across the skies and clouds.
Posts: 7675 | Registered: Mar 2007
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Or even worse, we could cut taxes and expect it to result in a large increase in the economy, which would increase revenue to cover those cuts, and increase spending in the interm based on the expected increase in the economy, which then never materializes.
Which is how we got into this current mess in the first place.
Posts: 8681 | Registered: Dec 2000
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