English (India)

The U.S. CBO projected another financial crisis in the absence of fiscal prudence

calendar 23/09/2020 - 15:35 UTC

On Monday, the U.S. CBO director said:

In this statement, I focus on the long-term fiscal challenges facing the nation that are the subject of today’s report. Those challenges are daunting. At the same time, the United States is not facing an immediate fiscal crisis. The current low-interest rates indicate that the debt is manageable for now and that fiscal policy could be used to address national priorities if Congress chose to do so. In our projections, interest rates remain low for several years as the economy recovers from the effects of the pandemic, partly because the Federal Reserve is working to keep them low.

I want to make two main points about the long-term outlook: Federal debt is high and is projected to rise substantially. Over the longer term, actions are needed to address the nation’s fiscal challenges.

Here are some of the numbers underlying my first point:

Federal debt held by the public is projected to increase to 98 percent of gross domestic product (GDP) at the end of this year, up from 79 percent of GDP in 2019 and 35 percent in 2007, before the start of the previous recession. held by the public is projected to increase to 98 percent of gross domestic product (GDP) at the end of this year, up from 79 percent of GDP in 2019 and 35 percent in 2007, before the start of the previous recession. In our projections, debt continues to rise, reaching 195 percent of GDP by 2050, far exceeding the previous high of 106 percent recorded just after World War II.

What has happened in 2020?

The year began with a strong economy and labor market but also with a projected budget deficit of $1 trillion that was already high by historical standards. The pandemic changed the situation dramatically. Our projection of the 2020 deficit has increased to $3.3 trillion, mostly reflecting the budgetary effects of legislation enacted to address the pandemic and the resulting economic downturn. At 16 percent of GDP, the deficit relative to the size of the economy will be the largest since 1945.

Why will debt rise over the next 30 years?

In our projections, federal spending grows from 21 percent of GDP in 2019 to 31 percent in 2050, with interest costs contributing the most to that growth. Interest rates are projected to remain low for several years as the economy recovers from the pandemic, holding down borrowing costs. But continued deficits drive up the cost of servicing the debt.

Spending growth also reflects rising costs for health care programs and for Social Security, spurred by both the aging of the population and projected growth in health care costs. Federal revenues increased from 16 percent of GDP in 2019 to 19 percent in 2050.

My second point is about long-term fiscal policy:

The fiscal path over the coming decades is unsustainable. The costs of financing deficits and servicing the debt cannot consume an ever-growing proportion of the nation’s income.

What are the consequences of high and rising debt for the economy in the long term?

The government’s borrowing costs eventually rise, reducing business investment and slowing economic growth. Larger interest payments to foreign holders of U.S. debt subtract from the nation’s income. A fiscal crisis, in which interest rates abruptly escalate or other disruptions occur, becomes a greater risk. Higher rates of inflation and a loss of confidence in the dollar have greater chances of occurring.

How soon is action required?

There is no set tipping point at which a fiscal crisis becomes likely or imminent, nor is there an identifiable point at which interest costs as a percentage of GDP become unsustainable. But as the debt grows, the risks become greater.

The status of federal trust funds is one indication that some action may be needed soon. In our projections, the balances in four trust funds are exhausted within the next 11 years: the Highway Trust Fund in 2021, Medicare’s Hospital Insurance Trust Fund in 2024, Social Security’s Disability Insurance Trust Fund in 2026, and Social Security’s main fund—the Old-Age and Survivors Insurance Trust Fund—in 2031.

How large would the changes need to be to stabilize the debt?

If the Congress wanted to adopt policies that would take effect in 2025 and return the debt in 2050—30 years from now—to its level this year (about 100 percent of GDP), it could reduce noninterest spending or increase revenues (or some mix of the two) in each year by a total of 2.9 percent of GDP. Those changes in fiscal policy would amount to about $730 billion, or $2,200 per person, in 2025. Waiting longer would require larger changes and impose a still-greater burden on future generations.

Because future economic conditions are uncertain and budgetary outcomes are sensitive to those conditions, CBO analyzed how those outcomes would differ from its projections if productivity growth or interest rates were higher or lower than the agency expects. Even if economic conditions were more favorable than CBO currently projects, debt in 2050 would probably be much higher than it is today.

 

 

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