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The Agenda

NRO’s domestic-policy blog, by Reihan Salam.

Follow-up on Structural Deficits



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In light of our recent discussion of structural budget deficits, it is worth mentioning that while Evan Soltas calculates that the annual structural deficit for fiscal year 2012 was 2.1 percent of GDP, the Congressional Budget Office offers a different take:

Under the assumptions used for CBO’s baseline, the budget deficit without automatic stabilizers is projected to equal 4.3 percent of potential GDP in fiscal year 2012, down from 5.9 percent in 2011 (see Figure C-2). About half of that decrease results from a projected rise in revenues (measured as a share of potential GDP) that would occur without automatic stabilizers. The other half reflects mostly a decline in discretionary outlays (again, measured as a share of potential GDP). 

The projected budget deficit adjusted to remove the effects of automatic stabilizers falls sharply in 2013, to 0.7 percent of potential GDP, reflecting the large increases in revenues and reductions in spending scheduled to take place under current law. Revenues without automatic stabilizers are projected to jump to 20.1 percent of potential GDP, up from 17.3 percent in 2012, and outlays without automatic stabilizers are projected to decline to 20.8 percent of potential GDP, down from 21.7 percent in 2012. 

In fiscal year 2014, the projected budget balance with the effects of automatic stabilizers excluded improves further, reaching a surplus amounting to 0.7 percent of potential GDP. Nearly all of the improvement stems from an increase in revenues (rising from 20.1 percent of potential GDP to 21.3 percent). Outlays decline by 0.2 percent of potential GDP. [Emphasis added]

Evan’s calculations presumably reflect his belief that the CBO estimate of the structural budget deficit is too crude, i.e., not sufficiently sensitive to how the business cycle will impact spending across different domains. My guess is that Evan’s assessment is closer to the mark, and Evan observes that the CBO underestimated tax revenue while overestimating spending for fiscal year 2012. 

Note, however, that the structural deficit will be much larger under the CBO’s more realistic “alternative fiscal scenario” (AFS), in which the “doc fix” and AMT patches happen as expected, the Budget Control Act spending restraint does not go into effect, and current policy taxes remain in place:

Under that alternative fiscal scenario, deficits over the 2013–2022 period would be much higher, averaging 5.4 percent of GDP, rather than the 1.5 percent reflected in CBO’s baseline projections (see Summary Figure 1). Debt held by the public would climb to 94 percent of GDP in 2022, the highest figure since just after World War II (see Summary Figure 2).

Because the CBO is operating under the assumption that the U.S. economy will return to its potential output over this interval, a large component of these projected deficits will be structural. To be sure, there is a broad consensus that current policy tax rates will not last for long. But it seems reasonable to believe that the AFS will be closer to the mark than the current law baseline.



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