Deficits and Debt: The New Normal

Last week, the House Budget Committee released a report which highlights the problems with the tax-and-spend policies that currently dominate Washington. As the report shows, uncontrolled spending is not only an abuse of taxpayers, it is also bad policy.

The future's not bright for the national budget. The Congressional Budget Office (CBO) projects that, by 2046, spending will increase from 21 percent of GDP to 27 percent of GDP, and the national debt will reach 141 percent of GDP. Numbers like this can appear abstract, but the average American household will incur a real income loss of $12,000 annually compared to an alternative scenario where the national debt stabilized at 75 percent of GDP.

The report does an excellent job in pointing out numerous problems with a ballooning national debt. One of the issues can be seen in how the cost of servicing interest to the debt increases along with the debt itself. By 2021, the cost of paying only the interest on the debt will surpass defense spending, and reach nearly $800 billion a year by 2025. Part of the reason for this drastic increase in cost is that interest rates are currently very low, and are expected to rise soon. While some policymakers have suggested borrowing to invest in the economy during this era of low interest rates, the Budget Committee’s report correctly points out that this thinking ignores the economic stagnation the country is suffering from, which should not exist if such Keynesian policies were effective.

Economic stagnation and the national debt are highly interconnected issues. The CBO shows that even a 0.1 percentage point increase per year in GDP would correspond to approximately a $327 billion decrease in deficits. Under current policies, the CBO anticipates real GDP growth will drop from 2.7 percent this year to 2.5 percent the next, before flatlining at 2 percent for the foreseeable future. Unless Washington changes its tax-and-spend policies, the economy and national debt will remain bound in a vicious cycle of deficits and stagnant growth.

The report also correctly notes that a rising debt is an issue which aggravates itself. The larger the national debt gets, the higher the interest rates debt purchasers are likely to demand in order to account for inflation, or even the possibility of default. Additionally, the funds for government borrowing have to come from somewhere. Either the government borrows from domestic investors, thereby “crowding out” investments which would otherwise go towards domestic projects, or the government borrows from foreign investors, essentially giving away taxpayer dollars in the form of the interest paid on the debt (and also potentially preventing foreign investment dollars from going towards American projects).

The House Budget Committee report is correct. Economic growth and returning the government to responsible spending levels is the key to returning both the economy and the budget to a sustainable path.