As Congress and President Trump agreed in the last few months to dramatically increase federal borrowing, there have been a lot of breezy assurances that rapid and sustained economic growth will take care of everything.
The nonpartisan Congressional Budget Office (CBO) offers a more thoughtful — and more troubling — economic analysis as part of its recently released “Budget and Economic Outlook: 2018 to 2028.” Four key takeaways from that analysis:
1. Washington should not count on economic growth as a panacea for the nation’s fiscal and demographic challenges. That is true even after taking into account the fiscal stimulus of deficit-financed tax cuts and deficit-financed spending increases.
Instead of forecasting large, steady increases in growth, the CBO’s projections show the economy following a “marked cyclical path” over the next decade.
“The growth of real (inflation-adjusted) GDP is projected to be relatively strong this year and next and then to moderate,” the budget office says. Over the coming decade, it projects that actual as well as potential output (the maximum sustainable output of the economy) will expand at an average annual rate of only 1.9 percent — largely unchanged over the long-term and hardly the answer to all our problems.
Meanwhile, CBO projects, the federal government will be adding nearly $12.42 trillion to the federal debt over the next decade.
Critics of the CBO say it is too pessimistic, but the budget office presents some persuasive arguments for its projections.
Its report points out, for example, that the growth of the labor force will be constrained by ongoing retirements in the baby boom generation. Labor force growth is a key factor in the projected growth of potential GDP. Between 1950 and 2017 it grew at an average of 1.4 percent annually, but in 2018-2028, CBO projects it will grow at just 0.5 percent annually.
Moreover, from 2020 to 2026, CBO says, “a number of factors dampen economic growth: higher interest rates and prices, slower growth in federal outlays, and the expiration of reductions in personal income tax rates.”
Another reason to question complaints that CBO is too pessimistic: The agency notes that its projections reflect a stronger economic outlook for this year and 2019 than most private-sector forecasters and Federal Reserve officials have held.
2. Large federal deficits damage the economy. This should already be obvious to elected officials but the CBO report provides a good reminder.
“The recent changes in fiscal policy will, in CBO’s estimation, add a significant amount to the federal deficit, particularly in the next few years,” the report says. “The agency estimates that greater federal borrowing ultimately reduces private investment below what it would have been without the additional borrowing.”
The budget office notes that larger deficits will lower national savings and increase “the nation’s borrowing from abroad, raising interest rates and thus tending to slow potential output growth by reducing — or crowding out — some capital investment.”
Higher interest rates, together with a growing national debt, will mean greater federal spending on interest costs in the years ahead. CBO projects that by 2028 these interest costs will exceed $900 billion, roughly double what they are this year relative to the size of the economy (GDP).
As The Concord Coalition has often pointed out, rapidly rising interest costs are likely to crowd out some other federal spending, squeezing national priorities — such as transportation infrastructure — in ways that could harm economic growth.
3. Washington Should Focus More on Long-Term Economic Concerns.
The CBO’s growth projections for the U.S. economy over the next decade underscores the need for elected officials to look beyond this year’s short-term budget squabbles and campaign-year calculations.
Elected officials should be taking advantage of the economy’s current strength to reduce federal borrowing and enhance the prospects for long-term economic growth through higher productivity and a larger workforce. Immigration policy, for example, can be used to offset the aging of the U.S. workforce.
The federal government should also be bracing for higher interest rates.
Instead, the CBO report shows, the recent tax and spending legislation will primarily provide a short-term economic boost, purchased at a high price in terms of rapidly growing deficits and interest costs.
4. Considerable uncertainty surrounds current economic projections.
Over the years CBO, to its credit, has often warned that both its fiscal and economic projections are uncertain. Such projections involve a lot of moving parts and inevitably require many assumptions about future events.
In this new report, however, CBO says that its current projections “are particularly uncertain because they incorporate estimates of the likely economic impact of the recent change in fiscal policy that, although based on past experience, are themselves uncertain.”
Great uncertainty, of course, is also inherent in assumptions, forecasts and guesstimates from the White House, individual members of Congress and the private sector.
So policymakers would do well to take a cautious approach, leaving themselves with fiscal room to maneuver in response to unanticipated events. The federal budget is already on an unsustainable path, and the fiscal picture could rapidly worsen in the face of events such as another recession, a sharp rise in interest rates, or geopolitical developments that dramatically impact the financial markets.
Elected officials and the public should not let today’s strong economy lure them into complacency about the future.