If we are in for sluggish growth over the next few years, the labor market won't be the only aspect of the economy that does worse than official projections; the budget deficit will be significantly bigger as well.
Misleading Picture
The CBO paints a surprisingly auspicious picture of the fiscal shortfall, averaging 3.4 percent of gross domestic product over the next decade and dipping to about 3 percent by 2020. But this is misleading for two reasons. First, the CBO projections are based on the letter of the laws that Congress enacts rather than on what is likely to occur. For instance, if the law says a tax cut will expire, the CBO assumes it will actually do so, even if it has always been extended in the past. Second, the CBO assumes a recovery more robust than what other nations have experienced following financial crises. (To its credit, the CBO does provide alternative analyses showing slower growth.)
The Washington-based Center on Budget and Policy Priorities, a well-respected progressive research institute that studies budget issues, adjusts these CBO figures based on various assumptions about policy. For example, almost no one expects Congress to allow the Alternative Minimum Tax to hit tens of millions of Americans over the coming decade, yet that is what the official projections assume. The CBPP does not.
It predicts a more realistic deficit for the next 10 years of 5.7 percent of GDP under current policies, and hovering around 6 percent toward the end of the decade. The dollar amount of the cumulative deficit over the next decade is projected to exceed $11 trillion.
Economic Assumptions
The CBPP adjustments, however, change only the policy assumptions embedded in the CBO figures, not the economic ones. And yet the deficit is very sensitive to economic growth. So I asked Richard Kogan, a senior fellow at the CBPP and one of the nation's leading budget experts, to alter the economic assumptions to reflect a hard-slog scenario.
The CBO assumes economic growth will exceed 3 percent per year from 2012 to 2016 before gradually declining to a bit more than 2 percent in 2021. What if, instead, growth remains at 2 percent to 2.5 percent for the next decade? I asked Kogan to recalculate the budget numbers assuming a constant growth rate of 2.25 percent per year, which seems a plausible hard-slog scenario.
He found that the deficit then averages more than 7 percent of GDP. By 2021, it is more than 8.5 percent of GDP and increasing.
Under these modified growth assumptions, the cumulative deficit for the next decade is $13.7 trillion. In other words, the impact from sluggish growth on the budget shortfall over the same period exceeds $2.5 trillion -- which is more than the roughly $2 trillion in deficit reduction that may wind up being agreed to as part of a deal to lift the debt ceiling.