The Mystery of the Incredible Shrinking Budget Deficit
Read more: http://business.time.com/2013/05/15/...#ixzz2TeLJa3rX
The Obama Administration is having pretty much the worst week ever, but somewhere amidst the fog of scandal lies some pretty good news about the budget deficit, namely that the Congressional Budget Office (CBO) is predicting it will be much smaller in 2013 than was projected just a few months ago.
That’s right, the federal budget deficit, which topped $1.4 trillion in 2009, or 10.1% of GDP, and dominated the political discourse over the past several years, is shrinking rapidly. The CBO is now saying that the deficit will be less than half that amount in 2013: $642 billion, or 4% of GDP. That’s $200 billion less than the CBO predicted just a few months ago.
Basically, the change can be explained by a combination of a recovering housing market — which has improved the finances of government-owned Fannie Mae and Freddie Mac — combined with a better-than-expected economy overall, which is boosting corporate and personal income tax revenues. This economic improvement is happening despite higher taxes and budget cuts enacted as part of the fiscal cliff deal reached in December, and the sequestration-related budget cuts that went into effect recently.
This change is yet another vindication of economists and commentators who argued that large budget deficits are the natural outgrowth of effective economic policy in the wake of a severe recession.
Economic recession reduces employment and corporate profits, lowering tax revenues. At the same time, safety net programs like unemployment insurance and food stamps must spend more to accommodate the larger number of people who need them.
Congress and President Obama did take measures to permanently increase taxes and government spending through the healthcare overhaul, but it’s clear now that the historically large budget deficits we saw immediately following the financial crisis were mostly a result of the recession rather than new government programs.
In addition, the CBO notes that the growth in healthcare spending has slowed in recent years. For instance, spending on Medicare and Medicaid in 2012 was 5% below what the CBO predicted it would be in 2010. In a response to this slowdown, the CBO has reduced its estimates for the growth of such spending, projecting that those programs will cost $225 billion less than previously thought over the next ten years.
(MORE: Austerity Strikes Back: Budget Hawks Regroup After the Reinhart/Rogoff Affair)
That being said, none of these improvements change the hard reality that after 2023, spending on so-called entitlement programs will continue to rise faster than the payroll taxes which support them. Federal debt — that is, the accumulation of the government’s annual deficits, which must be financed with borrowing — relative to the size of the economy is expected to stabilize over the course of the next decade, but then begin to rise steadily thereafter.
Ideally, this temporary reprieve of the declining deficit should create enough breathing room for Congress to have a mature conversation about how to address the longer-term problem. A decade from now, taxes will have to rise above their historical norm, or benefits to future retirees will have to be cut. Likely, some combination of the two will have to be enacted. Crafting a solution will of course be politically difficult, but the CBO report shows that it need not be done under duress.
Originally Posted by Direckshun
A paper written last year by Carmen Reinhart and Growth in a Time ” has been widely quoted for its analysis of 44 countries over 200 years, which found that when government debt exceeds 90% of GDP, countries suffer slower growth, losing about one percentage point on the annual rate.
This study, the austerity Study Paul Ryan based his Budget on, had multiple errors in it:
"Using the same spreadsheet that Reinhart and Rogoff used for their research, Herndon, Ash and Pollin found that "Growth In A Time Of Debt" was built around a handful of significant errors. Correcting for those errors changes the findings dramatically: Average GDP growth for high-debt countries jumps from negative 0.1 percent to 2.2 percent"