U.S. Bankruptcy Watch: Debt to GDP to Hit 70% By End of 2012, The Fiscal Cliff

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The Congressional Budget Office puts out reports that are supposed to be not tied to either party but which are supposed to be indicative of the situation as it stands today with a forward outlook.  You know about budget deficits in America being endless, but the new report from the CBI is rather damning.  The report even starts out with this sentence: “Over the past few years, the federal government has been recording budget deficits that are the largest as a share of the economy since 1945.”

Where the issues come into play is that the CBO solution effectively encourages the end of the low tax rates set to expire in 2012 and to stick with expected spending cuts.  There are two problems here that the public needs to consider.  Throwing on a heap of taxes will curb spending and it will curb investment.  If spending and investment are cut enough, then the United States is assured to have another recession.  If the U.S. goes into recession remember the adage “When the U.S. sneezes, the rest of the world catches a cold.”  The problem today is that much of the rest of the world already has a cold.  What will a recession do to all of those great projections on government income then? The next big consideration is that Senators, Congressmen, and Presidents have proven over and over that they spend extra money rather than pay down debt.  God forbid in D.C. that a budget is used.  For that matter, we have not had an operating budget for the government in three years!

The report is called The 2012 Long-Term Budget Outlook and the United States is rapidly migrating toward the same debt ratios as many of the troubled nations in the world. The CBO now projects that by the end of 2012 the federal debt will reach roughly 70% of gross domestic product.  This is said to be the highest percentage since shortly after World War II.

Key culprits for this are the aging of baby-boomers receiving benefits from Social Security, Medicare, and Medicaid. The CBO projects that if current laws remained in place, then federal health care spending will rise from over 5% of GDP today to almost 10% in 2037 and would continue to increase thereafter. Now tally it all up and you get the big picture: spending on the major health care programs and Social Security will grow from over 10% of GDP today to almost 16% of GDP 25 years from now.  This is before one soldier, teacher, road worker, administrator, and politician gets paid.

But wait, there is more.  The combined increase is equivalent to about $850 billion today. To make a comparison here, spending on all of the federal government’s programs and activities has averaged about 18.5% of GDP over the past 40 years.  And that figure excludes the net outlays for interest payments on the national debt.  What happens as the debt rises and if the cost of borrowing rises back toward historic norms?  The ‘entitlement’ spending and the interest payments will rise to levels which cannot be sustained without magically printing money.

An extended baseline scenario addresses the coming fiscal cliff that is due to come into play after 2012.  The federal debt would be expected to decline due to higher taxes and lower spending.  Over the next 25 years this would go from an estimated 73% of GDP this year to 61% of GDP by 2022 and 53% by 2037.  It sound great on the surface, but it requires that American consumers keep spending even if they are taxed higher and it requires that the politicians not spend more money.  Does either absolute ultimatum sound plausible?

But what if the as-is model is extended?  The CBO notes, “The budget outlook is much bleaker under the extended alternative fiscal scenario… The current policies as opposed to current laws would grow the federal debt rapidly and it would exceed 90% percent of GDP in 2022, and then the debt-to-GDP would exceed the historic peak of 109% by 2026.  Here is where the real nightmare comes into play: debt-to-GDP would approach 200% percent in 2037.

The rest of the report is equally depressing but at least the CBO does offer some alternatives.

JON C. OGG