This article first appeared at The McAlvany Intelligence Advisor on Wednesday, February 5, 2014:
Just reading the headlines, the average citizen is likely to think that now that the deficits are under control Washington can focus on problems elsewhere. The Congressional Budget Office (CBO) estimated in May that the current year’s deficit would come in at $560 billion, half what it was just two years ago. In its report released on Tuesday, it was pleased to note that, thanks mostly to increased taxes passed by Congress for 2013 and a slight reduction in government spending thanks to sequestration, the deficit will only be $514 billion, a decrease of $46 billion, and that next year it might dip below $500 billion.
What happens after that? The CBO said that due to the confluence of various forces and trends, deficits will start to rise once again. In its 44-page Executive Summary of its 182-page report, the CBO cites its assumptions that the size of the workforce will not increase noticeably, that thanks to Obamacare some 2.3 million fulltime jobs will be lost as employers move them to part-time positions, that all 21 of Obamacare’s taxes will have kicked in, and that the Baby Boomers will continue to turn themselves from tax payers into tax consumers over the next decade.
Despite all of that, the CBO thinks the economy will grow by about 3 percent a year, that unemployment will continue to decline, and that inflation will stay low. Finally, the CBO says that the national debt will only increase by another trillion by 2024.
This report virtually guarantees that any serious discussion in Washington about reducing government spending is off the table. After all, the CBO report is unabashed good news, and, besides, the government actually showed a surplus (imagine that) back in September of $75 billion. What’s not to like? What’s to worry about? Let’s move on.
Deep in the Executive Summary, however, the CBO takes a dreary turn:
Beginning in 2018, CBO’s projections of GDP are based not on forecasts of cyclical movements in the economy but on projections of trends in the factors that underlie potential output, including total hours worked by labor, capital services (the flow of services available for production from the nation’s stock of capital goods, such as equipment, buildings, and land), and the productivity of those factors.
In CBO’s projections, the growth of potential GDP over the next 10 years is much slower than the average since 1950. (emphasis added)
It estimates in the out years that those outside the work force will likely remain outside, partly because of loss of skills and partly because of the perverse incentive of unemployment benefits. It estimates that the Fed cannot hold interest rates below market rates much longer, and so assumes they will return to “normal,” tripling the government’s debt service by 2024. It also takes into account the continuing morphing of Baby Boomers – the 76-million-strong cohort born between 1946 and 1964 – from taxpayers in the workforce into tax absorbers under Social Security and Medicare.
Throughout its summary, the CBO warns, as mutual fund prospectuses are required to do, that past performance is no guarantee of future results, that these are just estimates based on two remarkable assumptions: no change in government spending over the next ten years, and anticipated increases in tax revenues as the economy continues to recover from the Great Recession.
That means that, in the eyes of the CBO, there will be no new spending or government interventions in the economy – no bailouts of Puerto Rico or of the states suffering from Medicaid expansion mandates, no minimum wage increases putting people out of work, etc., etc. How realistic is that?
CBO neatly avoids any mention of the precipitous decline in the birth rate since the 1950s, from 25 births per thousand of population to just 14 today. This raises the inevitable question: where are all the next taxpayers going to come from? Despite all the CBO’s trend-following and statistical machinations, birth rates are a fact, and cannot be massaged.
The other factor the CBO leaves out of its discussion is any mention of exogenous events upsetting their apple cart and turning their projections into confetti. When writing about exogenous events, Professor Andrew Nathen, in the January 2013 issue of Journal of Democracy, noted:
[Tipping points] belong to that paradoxical class of events which are inevitable but not predictable. Other examples are bank runs, currency inflations, strikes, migrations, riots, and revolutions.
In retrospect, such events are explainable, even determined. In prospect, however, their timing and character are impossible to anticipate. Such events seem to come closer and closer but do not occur, even when all the conditions are ripe – until suddenly they do.
This is why the CBO report is not only counter-productive for those concerned about government spending (its rosy short-term outlook removes all incentive from politicians to hold serious discussions about it), the report also fails to consider any chance that, at some unknown moment over the next ten years, buyers of government debt might just decide to stop buying.
Instead, here’s the CBO’s disclaimer:
Such large and growing federal debt could have serious negative consequences, including restraining economic growth … and eventually increase the risk of a fiscal crisis.
Ah, yes, “eventually.” After all, as John Maynard Keynes famously said: “In the long run, we’re all dead.”
The CBO’s summary: The Budget and Economic Outlook: 2014 to 2024
MarketWatch: CBO cuts 2014 deficit estimate by $46 billion
MarketWatch: U.S. posts lowest budget deficit since 2008
Journal of Democracy: Tipping point article