Of Federal Budgets, Tax Cuts, Deficits and Debt

You may ask, how does this affect me?  Or, there’s so much news about billions and trillions; how can a person comprehend it?  Well, this is part one of a two-part blog that I hope will help you understand more about some federal fiscal matters that will definitely have an effect on your future financial situation.

But first, it’s helpful to understand a few terms before digging into what it all means.

A.  Federal budget for fiscal year 2019 (October 1, 2018 until September 30, 2019) is around $4.2 trillion.  It has three major components.

  1.  Mandatory spending includes Medicare, Social Security, Medicaid and many other so-called “automatic” spending programs.  Unless they are amended by Congress, this spending continues year after year.  Along with interest on the national debt, these programs comprise around 70 percent of the budget.
  2. Defense discretionary spending, is subject to yearly appropriations.
  3. Non-defense discretionary spending is also subject to yearly appropriations and is typically around the same amount as defense spending.  This is the cost of ALL other functions of the government, plus or minus 15 percent of the budget.

B.  Federal deficit is the yearly amount that spending exceeds revenue.  Deficits add to the national debt, which is the total amount the U.S. government owes its creditors.

C.  U.S. Government Bonds are “sold” to the public to finance deficits.  Rising interest rates make financing the national debt more expensive, which adds to the yearly deficits.

D.  National debt is approaching $22 trillion.  Debt owed to the public is approaching $16 trillion.  The difference between these numbers is called intra-government holdings and includes money borrowed from various government trust funds.  Debt owed to the public is the more important number and includes debt owed to foreign countries.

E.  Gross domestic product (GDP) is the monetary value of all finished goods and services produced in the U.S. in a year.  Government spending, revenue and debt are typically measured as a percent of GDP.  Debt increasing as a percent of GDP is a warning sign.

The Great Recession

Tax cuts by President George W. Bush  in 2001 and 2003 greatly decreased the federal tax revenues that allowed President Bill Clinton to balance the federal budget four years in a row from 1998 through 2001.  The wars in Afghanistan and Iraq had cost hundreds of billions of dollars by the end 2008 and were ongoing as the economy faltered.

During the early years of the Great Recession (2008-2010), millions of Americans lost their jobs.  This resulted in a huge loss in tax revenue for both the federal government and state governments.  The job losses were exacerbated when states were forced to lay off employees in order to balance their budgets, as 49 of 50 states are required to do.

High unemployment means greatly reduced consumer spending — which is around 70 percent of the U.S. economy — so corporate revenues and profits plummeted.  This meant further job losses and even less tax revenue for governments.  Concurrently, more Americans qualified for social safety-net benefits like Medicaid, food stamps and unemployment compensation, which dramatically increased mandatory spending.

Due to reduced federal revenue and more federal spending, deficits exceeded $1.4 trillion in FY 2009 and continued at trillion-dollar levels through FY 2012.  Three things greatly balloon federal deficits, tax cuts, wars and recessions.  All three were at work in 2008 and for several years thereafter.

2017 and Beyond

After the economy slowly strengthened, unemployment was down to around four percent at the end of 2016 and deficits had been cut in half.  But the chances for further lowering deficits still looked grim.  The last of the baby boomers would be retiring between 2018 and 2027, boosting spending on Social Security and Medicare.   In June 2017 the Congressional Budget Office projected that deficits would again exceed $1 trillion per year by 2022.

Then in December 2017, President Trump and the Republican-controlled Congress cut taxes – mainly for the wealthy and corporations.  The resulting lost revenue will increase deficits over the next decade by more than $1.5 trillion.  While this law made the cuts for corporations permanent, those for individuals are scheduled to expire in 2025, sending tax rates back up in 2026 for the middleclass and wealthy alike.  No doubt Republicans thought political pressure would eventually force Congress to make the individual tax cuts permanent too.  They could well be right, but that will add another $600 billion to the national debt by 2028 and much more in the future.

Republicans always claim tax cuts boost the economy, which it does — but only for short periods of time.  Many of them even claim that tax cuts pay for themselves or are revenue neutral.  In other words, they profess that tax cuts will not reduce federal revenues.  At least since 1981, however, tax cuts have never even come close to being revenue neutral and have always resulted in higher deficits.

Republicans assured us that corporations would invest their tax savings in new plants and equipment and raise worker’s wages.  But most of it is being used to buy back record amounts of their stock.  This makes the wealthy even richer as it sends stock prices higher — but it does nothing for wage earners or growing the economy (GDP).

After cutting taxes, Congress significantly increased spending.  The Bipartisan Budget Act of 2018 that Trump signed in February is a two-year spending bill that will add at least an additional $300+ billion to the national debt over the coming decade.  It increased defense spending significantly but also added to nondefense spending.  Both Republicans and Democrats were pleased with this unbridled spending binge.

Labor shortages, made worse by Trump’s restrictions on immigration, have caused wages to increase modestly but inflation has mostly eliminated those benefits.  The tax cut and spending charged economy has caused the Federal Reserve (Fed) to increase interest rates, which makes financing the huge national debt even more expensive and exacerbates the deficits.

The Congressional Budget Office projected that deficits will rise to almost $1 trillion in FY 2019 and thereafter exceed that number in the foreseeable future.  But the White House’s Office of Management and Budget projects that the deficit will exceed $1 trillion this fiscal year.  I think the OMB is right.

These things we now know for sure:  The United States is experiencing huge yearly deficits and a growing national debt even as the economy is strong.  Mandatory spending will be increasing dramatically due to baby boomer retirements and the tax cuts are definitely not paying for themselves.

My next blog will delve into how deficits might affect the economy going forward and the importance of the U.S. dollar’s status to this nation and each one of its citizens.

 

 

About eeldav

I am a retired corporate attorney who has lived in both Europe and Asia. While working my responsibilities took me to over 40 countries in Europe, the Middle East, Africa and Asia.
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