Despite Short-Term Gains, CBO Forecasts Grim Long-Term Fiscal Outlook

by Guest Blogger, 8/22/2006

On Aug. 17, The Congressional Budget Office (CBO) released the annual summer update to its Budget and Economic Outlook report. In it, CBO lowers its estimate of the Fiscal Year 2006 budget deficit by 30 percent from its March analysis and now projects the year-end deficit at $260 billion. The rosy news, however, did little to assuage analysts' concerns over fiscal challenges looming on the horizon.

CBO's lowered deficit projection is not a result of changes in policy or legislation controlled by Congress but instead reflects a re-calculation of deficits under improved economic conditions. As a result, CBO still warns the long-term outlook for the federal government, unchanged from earlier this year, is still disturbingly bleak and will require changes in current and expected future policy in order to improve.

The projected deficit of $260 billion would be $58 billion lower than the deficit the government had in FY2005 ($318 billion) and is approximately $30 billion lower than last month’s Office of Management and Budget (OMB) figures.
The CBO update cites unexpected gains in tax receipts from individual and corporate income taxes as the main reason the projections improved. Most of these new revenues come from corporate and capital gains taxes, which are generally income sources for the well-off. The CBO analysis shows non-withheld individual income tax revenues are projected to rise 20 percent and corporate income tax receipts by 22 percent in 2006. Tax receipts from the middle and working class, though, will rise far less - just 7 percent — in 2006. These latest data projections continue to underscore the widening income and wealth gap in America.

Overall government spending was $13 billion lower than CBO projected earlier this year. Also helping the short-term improvement was lower than anticipated spending on Medicare and Medicaid.
The estimates of spending on the nation's health care programs and future defense spending projections are the two main reasons for the discrepancy in deficits for FY 2006 between the CBO report and the OMB estimates from July. CBO projects about $10 billion less in Medicare and Medicaid spending, and $10 billion less in defense spending this fiscal year.

Despite the lower deficits expected at year’s end, a dark long-term outlook continues to loom, with extending President Bush’s tax cuts beyond 2010 and accounting for war and other hidden costs costing an additional $1.75 trillion in debt over the next 10 years and causing an expansion of annual deficits by about $250 billion from 2011 through 2016.
In addition, the CBO baseline projections do not include widely anticipated changes to the Alternative Minimum Tax (AMT), expected to cost the government an additional $1 trillion over the next 10 years. The AMT was originally intended to prevent rich individuals from using excessive deductions to avoid paying income taxes, but increasingly is pinching upper-middle class families because the tax was not indexed for inflation.
The CBO report underscored the enormous price associated with carrying such huge deficits year after year in its section describing interest on the national debt. Interest payments on the debt jumped by 19.7 percent, to $220 billion, in 2006, making it the fastest growing section of federal government spending. That total is more than what is being spent on the entire Medicaid program ($181 billion) or on the "combined total for all federal income-support programs: unemployment compensation, food stamps, child nutrition programs and the earned-income tax credit," according to analysis by The New York Times. The interest on the debt will accelerate over the next decade, rising to $333 billion in 2016, according to CBO projections, thereby putting increased pressure on the discretionary budget and likely crowding out key budget items.

Excerpt from Table 1-4 of CBO's Budget and Economic Outlook: An Update. Pg. 12.

Acting CBO Director Donald B. Marron, who is serving out the unfinished term of former CBO chief Douglas Holtz-Eakin, focused on the more positive short-term news following the report's release, noting that the 2006 deficit would come in at around 2 percent of the American economy, comparing favorably with deficits over the last 40 years that have averaged about 2.3 percent:

    "[T]he message I would send is that we've gone from a period in which the fiscal deficits we were running in this country were large and not sustainable if they had persisted, to a situation in which, at least now and for next year, for several years going forward, deficits appear to be in a range that they're sustainable.”

Marron’s comments did not sit well with the ranking members of the House and Senate Budget Committee: Rep. Spratt (R-SC) and Sen. Kent Conrad (D-ND). Conrad and Spratt fired back immediately, saying the comments were "completely and totally irresponsible," and could disqualify him from being considered for the job.
While Marron is technically correct in his statements, he glosses over long-term projections in which deficits rise above the 2 percent of GDP level again and rapidly-rising interest on the debt crowds out other important spending priorities.