Time to Give Credit Where Due as Deficit Picture Brightens a Bit

Posted October 9, 2009 at 2:27pm

The Congressional Budget Office was much in the news Wednesday when its cost estimate showed that the health care bill being considered by the Senate Finance Committee would reduce rather than increase the deficit.

[IMGCAP(1)]Far less prominent but no less important was another CBO report released that day ­— the monthly budget review with revised numbers for fiscal 2009. The bottom line: The deficit was about $1.4 trillion.

Before this deficit is demonized to the point where it’s considered something appropriate for HBO’s “True Blood,— several things need to be explained.

First, the new figure is much smaller than the $1.8 trillion estimate produced earlier in the year by the CBO. Big swings in deficit projections are often due to dramatic changes in economic conditions, but that wasn’t the case this time. Rather, the original estimate included two things that simply didn’t happen: $250 billion in additional bailout money that the White House included in its budget but ultimately didn’t request, and a plan to score Fannie Mae and Freddie Mac as federal entities.

Those two were expected to cost about $400 million — the difference between the original and final estimates.

This doesn’t mean that the importance of the much lower deficit should be minimized. The $250 billion in additional bailout funds that ultimately wasn’t used is the equivalent of a spending cut. Depending on what makes you happy, you can call this either a rejection of a spending increase or a reduction from what was proposed.

Either way, not only was federal spending in 2009 much lower than projected earlier in the year, this also is one of the largest one-year spending changes in recent federal budget history. The Obama administration, which decided not to pursue the additional bailout funds because the financial system was stabilizing without them, deserves credit for the improved deficit picture. So do those in Congress who sided with that approach.

Second, $1.4 trillion obviously is way above the previous $459 billion record-high nominal deficit recorded in 2008. But contrary to much of the rhetoric surrounding this year’s budget debate, the new record deficit happened mostly because of the economy and not because the Obama administration pushed policy changes that increased spending. In fact, the CBO numbers show that almost all of the $1 trillion increase in the deficit from 2008 to 2009 would have happened regardless of who was elected president last November, or if George W. Bush had remained in office.

The CBO estimated that federal revenues fell by almost $420 billion from what the government collected in 2008. Virtually all of this was because of the recession and the tax cut included in the stimulus bill, which was enacted to deal with the economy. The recession-related drop in revenues would have happened regardless of who was in the White House, and a Republican stimulus bill would have reduced taxes by at least as much.

Spending increased by $530 billion from 2008 to 2009. According to the CBO, 60 percent of this was due to three economic downturn-related items: the Troubled Assets Relief Program, Fannie Mae and Freddie Mac, and the stimulus. Spending for Medicare, Medicaid and Social Security also increased, but the increases were because of the laws that were already in effect on Inauguration Day rather than legislative changes enacted afterward. Spending for activities in Iraq and Afghanistan, which would have been approved regardless of who was president or which political party controlled Congress, and which might have been even higher in a John McCain administration, increased by 7 percent from 2008 to 2009.

Third, after all the rage that has been expressed this past year over the national debt, it should be noted that the amount spent by the federal government on interest in 2009 actually fell substantially from 2008. The $60 billion reduction was the result of the lower interest rates at which the government was able to borrow because of the weak economy and, therefore, should be considered an anomaly rather than a trend. Interest rates are expected to rise as the economy recovers, and federal payments on the much larger principal likely will grow in future years. In the meantime, however, interest on the debt was less of a burden on taxpayers this year.

Fourth, the deficit would have been larger if the stimulus had been spent faster; according to the CBO, $100 billion was spent in 2009. This is ironic. Many in Congress who have been most critical of the size of the deficit have also been the ones complaining the loudest about the stimulus not getting into the economy fast enough. The deficit would have been higher had it been spent as they demanded.

Even though the numbers have changed substantially from earlier in the year, the overall deficit outlook remains largely the same. Unless there are additional stimulus efforts and bailouts, the 2010 deficit will fall from 2009 to 2010. My back-of-the-envelope estimate is that the 2010 deficit will be between $1.1 trillion and $1.2 trillion. The one-year change of $200 billion to $300 billion will easily be the largest nominal drop in history. As a percent of gross domestic product, it likely will only be exceeded by the reductions recorded toward the end of World War II.

The real problem is coming in 2011 and beyond, when the baseline deficit — the deficit that will occur if existing tax and spending laws remain unchanged and the economy performs as expected — will be between $900 billion and $1 trillion. That’s the point at which legislative changes will be needed to reduce the deficit further and budget politics will make working in Washington, D.C., very uncomfortable.

This may seem far off. But the Obama 2011 budget is supposed to be sent to Congress by the first Monday this February. That means there are less than four months before the budget deficit becomes the big issue.

Stan Collender is a partner at Qorvis Communications and author of “The Guide to the Federal Budget.— His blog is Capital Gains and Games.