What do budget projections mean for the economy? Some key points to consider

Raymond Keating
Raymond Keating

The Congressional Budget Office recently released its latest monthly budget review. Coupled with the CBO’s long-term budget outlook and historical numbers, let’s take a look at where the U.S. is on federal spending.

Here are some key points to keep in mind:

Spending up in 2015. Through the first 10 months of the 2015 fiscal year, federal outlays have increased 5.3 percent — far in excess of the inflation rate — from $2.935 trillion to $3.134 trillion. Some major federal programs were up significantly: Social Security benefits by 4.4 percent, Medicare by 7.5 percent, Medicaid by 18.3 percent and ObamaCare exchange subsidies by 141.3 percent. Meanwhile, defense spending fell 2.2 percent.

Spending up and down in recent years: The increase and then decrease of federal outlays as a share of gross domestic product in recent years are worth highlighting. Federal outlays as a share of GDP declined, unevenly, from 22.8 percent in 1983 to 17.6 percent in 2000 and 2001. Spending subsequently climbed to 19.1 percent in 2007. But outlays jumped markedly — to 20.2 percent in 2008, 24.4 percent in 2009 and 23.4 percent in both 2010 and 2011. Since then, however, outlays declined to 20.3 percent in 2014. The average over the previous 50 years was 20.1 percent. That’s a noteworthy accomplishment. After a major expansion of government, any time spending comes back down close to previous levels (again, as a share of the economy), that’s a rare occurrence. Unfortunately, at this point this accomplishment looks short-lived.

Spending up looking ahead: Federal outlays are projected to rise. Spending is expected to come in at 20.5 percent of GDP this year. The Obama administration budget points to outlays as a share of GDP rising to 21.7 percent by 2020. Looking further down the road, CBO points to outlays reaching 22.2 percent of GDP in 2025 and 25.3 percent in 2040, if current law holds throughout.

Budget matters could worsen: Finally, the CBO projections come with a big “if.” That is, the ills of ever-mounting federal spending and debt aren’t reflected in long-term projections. As the CBO explained, “The harmful effects that such large debt would have on the economy would worsen the budget outlook. The projected increase in debt relative to the size of the economy, combined with a gradual increase in effective marginal tax rates (that is, the rates that would apply to an additional dollar of income) would make economic output lower and interest rates higher than CBO projected when producing the extended baseline. Those macroeconomic effects would, in turn, feed back into the budget, leading to lower federal revenues and higher interest payments on the debt.
(The harm that growing debt would cause to the economy was not factored into CBO’s detailed long- term budgetary projections…)”

The effect on economic growth: The growth of federal spending means more resources drained from the private sector — whether through taxes or debt — and therefore diminished economic growth. The threat of increased government spending down the road stands out as a considerable threat to the U.S. economy, including the possibility of additional tax increases hampering entrepreneurship, investment and the economy. Consider the already grim point that the CBO projects poor economic growth — averaging a mere 2.2 percent annual real GDP growth — for as far as the eye can see. The ills of higher government spending, debt and taxes would further slow growth.

Of course, none of this is etched in stone. All we need is a new policy agenda of tax and regulatory relief and spending restraint to get the economy back on track.