Deficits Forever

By Dominic Pino

Thursday, March 28, 2024

 

In any introductory macroeconomics class, you will be taught something about public finance that goes like this: The government’s budget deficit is related to the business cycle. Near the peak of the business cycle, the government should run a surplus because revenues are higher and the need for government spending is lower. Near the trough of the business cycle, the government should run a deficit because revenues are lower and the need for government spending is higher. In addition, the government will run a deficit in times of war or domestic emergency. There are also times when the government creates a new program and funds it with borrowing.

 

Now take a step back and look at the federal budget. Does the theory match the facts?

 

Not at all. The government has run a budget deficit every year since 2002, no matter where the country has been in the business cycle. The deficits have been growing quickly. In 2004, with the wars in Afghanistan and Iraq in full swing, the deficit was $400 billion. In 2009, the worst year of the largest U.S. recession since the Great Depression, the federal deficit was $1.4 trillion. In 2023, a year of low unemployment and high economic growth and revenue, the deficit was $2 trillion.

 

Despite his bragging about how strong the economy is, President Biden requests a $1.8 trillion deficit in his budget for fiscal year 2025. While portraying himself as a fiscally responsible deficit-cutter, his budget projects deficits between $1.4 trillion and $1.9 trillion for each year through 2034.

 

Under realistic budget projections based on data from the Congressional Budget Office (CBO), and including the likely extensions after 2025 of Obamacare subsidies and the individual provisions of the Tax Cuts and Jobs Act, the budget deficit is expected to surpass $2 trillion again in 2027 and $3 trillion in 2033. Those projections assume that interest rates and inflation stay relatively low and stable, no new major domestic spending programs are created, and the U.S. doesn’t go to war or into recession.

 

On the conventional theory of public finance, this long-term increase in deficits, no matter the circumstances, makes no sense. But there’s an unspoken assumption in the conventional theory: that the government actually controls its budget every year and has the capability to respond to economic circumstances.

 

The U.S. is entering — and, to some extent, has already entered — a period when that assumption no longer holds. Here’s why.

 

The federal budget can be divided into two broad categories: discretionary spending and mandatory spending.

 

Discretionary spending includes most of the stuff most people think of the government as doing: the military, the courts, law enforcement, prisons, customs and border patrol, most anti-poverty programs, education, transportation, veterans’ benefits, foreign aid, diplomats, agriculture programs, housing subsidies, safety regulations, national parks, research grants, collecting taxes, keeping the lights on in all the government buildings, and paying all the government employees who manage all of those things. Congress is supposed to vote on twelve appropriations bills each year to fund the discretionary budget, but it usually passes some type of omnibus bill to fund the entire thing for some period of time.

 

Mandatory spending includes basically three things: Social Security, major health-care programs, and interest payments on the debt. In official documents, the government usually separates interest payments into their own category. For the purposes of this article, they will be included in mandatory spending because, as with payments for Social Security and major health-care programs, interest payments are made without annual votes from Congress.

 

Engraving printing plates of President Abraham Lincoln on the $5 bill on a printing press at the Bureau of Engraving and Printing in Washington, D.C., March 26, 2015.

 

Gary Cameron/Reuters

 

Mandatory spending doesn’t require an annual vote from Congress because payments are made in accordance with existing obligations. For Social Security and major health-care programs, benefits are defined by current law. For interest payments, the Treasury must pay back bondholders according to the terms of the bonds it issued.

 

The determinants of mandatory spending are not related to the business cycle. They are, by and large, related to the actuarial tables. The mandatory portion of the budget does not resemble the conventional theory of public finance at all. It looks more like a very poorly run insurance company.

 

Beneficiaries are taking out more money than they paid in, and more money than people are currently paying in. Under current law, this will be true until approximately the end of time. The government compensates for the difference by borrowing, which increases interest payments. All of that happens without Congress ever voting on anything.

 

Mandatory spending already consumes 73 percent of the federal budget. That proportion is projected to grow every year. The conventional public-finance theory of budgeting always overlooked that deficits will be more likely than surpluses because governments spend OPM (other people’s money). But now lawmakers won’t have the chance to make a budget responsive to the business cycle even if they want to.

 

Interest payments are the really spooky part of the equation. According to estimates from Brian Riedl of the Manhattan Institute, if interest rates stay around 4 percent — the rosy scenario that the CBO uses for its baseline forecasts — 48 percent of federal revenue will go just to cover interest payments in 30 years. If rates gradually increase to 5 percent, that shoots up to 73 percent. If they increase to 6 percent, that’s all of federal revenue, just for interest payments.

 

Most past instances of increasing deficits were due to wars or recessions. Wars and recessions end at some point, after which spending that was related to them can be cut. This is no longer true in a period of mandatory-spending dominance. The deficits are large because they are required to be large, and they will be required to be larger in the future. There is no peace dividend or economic boom that will change that.

 

Under mandatory-spending dominance, Congress’s budget-making power is effectively null and void. Only a few years from now, nearly all federal revenue will effectively be out the door before Congress even gets around to debating appropriations bills.

 

In one sense, this is undemocratic, since the people’s elected representatives will have little ability to make changes to how the people’s money is being spent. But in another sense, mandatory-spending dominance is highly democratic. Polls show that most Americans support entitlement spending and wish to see it increase, and that is exactly what they will get. Both of the presumptive major-party presidential nominees oppose reforming entitlements, in perfect alignment with the will of a majority of the people.

 

The CBO projects that the national debt will increase by $119 trillion in the next 30 years. Nearly all of that increase, $116 trillion, will be from mandatory spending. That means an additional $116 trillion of federal borrowing — not to pay for national defense or law enforcement or better government in any way, but mostly to subsidize the consumption of retirees.

 

As Americans, we have a document that says why “governments are instituted among men.” It’s not to subsidize the consumption of retirees. And if we are to restore a limited government that secures our rights, we’ll need to declare our independence from mandatory-spending dominance sooner rather than later.