America’s fiscal watchdog sees decade of spiralling debt and deficits

Projections by America’s independent fiscal monitor underscore the extent of the debt and deficits challenge confronting the US economy over the next decade and beyond. They also highlight how damaging the dysfunction in Congress is to the economy and the financial markets at the centre of the global financial system.

The Congressional Budget Office’s statement on the budget and economic outlook for the US shows that it expects government debt held by the public to reach record levels – relative to the size of the economy – by the end of the decade.

US President Joe Biden: Debs and deficits are forecast to hit records in the world’s largest economy.
US President Joe Biden: Debs and deficits are forecast to hit records in the world’s largest economy.Credit: Bloomberg

Last financial year (the US financial year ends on September 30), the public debt-to-GDP ratio was 99 per cent. By 2034, the CBO projects it will be 116 per cent, nearly two-and-a-half times its average over the past half century. By 2054, the CBO says, it could reach 172 per cent.

In absolute terms, net debt will rise from $US26.24 trillion ($40.2 trillion) last financial year to $US48.3 trillion over the decade.

And it could have been worse.

The projections are being driven by the CBO’s expectations that the US will continue to generate historically large budget deficits – deficits that since the Great Depression have only been exceeded during and after the Second World War, the global financial crisis and the pandemic.

The deficit for this year would have been $US100 billion higher and the cumulative deficits over the decade $US1.4 trillion, or 7 per cent higher, if not for the deal Joe Biden cut with former Republican House leader Kevin McCarthy last year to limit discretionary spending for two years.

However, even though the deficit is expected to be smaller this year than last year’s, shrinking from $US1.7 trillion to $US1.5 trillion, by the end of the decade the CBO is projecting an annual deficit of $US2.6 trillion and cumulative deficits of $US20 trillion between 2025 and 2034.


The US predicament isn’t an isolated one. Governments in most of the major economies opened the fiscal spigots wide in response to the pandemic, whose legacy is historically high debt and deficits at a time when interest rates – and therefore the cost of servicing debts – are at levels not experienced for decades.

There is a compounding effect from those debts and the deficits that is magnified by the higher interest costs.

In the CBO projections, net interest expense goes from 2.4 per cent of America’s GDP last year to 3.9 per cent of GDP in 2034 – nearly two percentage points higher than the 50-year average – and is the biggest contributor to the deficits, accounting for about 75 per cent of their increase.

Having to borrow to fund deficits driven largely by higher interest costs will, the CBO says, push up interest cost. It expects the average interest rate on US government debt to rise from 2.7 per cent last year to 3.3 per cent this year and 3.5 per cent by 2034.

The US also confronts the same ageing of its population and growth in healthcare costs that challenge most of the major economies.

The hopelessly divided nature of Congress and the factionalised nature of the Republican majority in the House means the likelihood of near-term action to put the US onto a more sustainable path is unlikely. McCarthy lost his position as speaker because of the deal with Biden.

Continual wrangling, brinkmanship and posturing over the peculiar US debt ceiling – which was a factor in Fitch Ratings’ decision to lower America’s credit rating last year and in Moody’s decision to put in on a negative watch – isn’t conducive to any level of bipartisanship. Another debt ceiling deadline looms next month.

The fiscal outcomes will be even worse than the CBO has projected if Donald Trump’s 2017 tax cuts for companies and the wealthy aren’t allowed to expire next year.
The fiscal outcomes will be even worse than the CBO has projected if Donald Trump’s 2017 tax cuts for companies and the wealthy aren’t allowed to expire next year.Credit: AP

The fiscal outcomes will be even worse than the CBO has projected if Donald Trump’s 2017 tax cuts for companies and the wealthy aren’t allowed to expire next year. The Republicans want to extend and even expand them, while the Democrats plan to redistribute the money, funding the cost with higher taxes for businesses and the rich.

A contributor to the burgeoning deficits is Biden’s spending on environment-related incentives, which have proven far more “successful” than anticipated. The demand for energy-related investment credits, and the cost, has been about double what the CBO previously estimated.

Again, government initiatives in relation to climate change aren’t confined to the US and will be a semi-permanent and costly feature of most developed economy budgets.

And it is, of course, possible that the CBO’s inputs to its projections are too pessimistic.

The US budget outcomes for 2023 and 2024 have been aided by relatively strong economic growth, low levels of unemployment and (ironically, given the violence over the debates about immigration in the US) by high levels of immigration.

The future outcomes will, because of their disproportionate impact on the projections, be heavily influenced by interest rates.

While the CBO does see rates trending down over the decade, it projects the yields on 10-year Treasury bonds to be significantly higher this year and next – about 60 basis points higher at 4.6 per cent – even as the Federal Reserve lowers the federal funds rate. They will dip in the second half of the decade before climbing again to 4.1 per cent in 2034, the agency says.

On Wednesday, US Treasury sold a record $US42 billion of 10-year bonds at a yield of 4.093 per cent, which was lower than expected. That followed a string of auctions of Treasury securities that attracted weak demand.

The sheer scale of the issuance of Treasuries to fund the US debt and deficits has sparked concern that – with the Fed still engaged in quantitative tightening (allowing its vast portfolio of Treasuries to mature without reinvesting the proceeds) and with China and Japan, traditionally the biggest owners of Treasuries, allowing their holdings to shrink – the deluge of supply of bonds, notes and bills will overwhelm demand and force yields higher than they would otherwise have been. That’s the CBO’s scenario.

So far, at least, that hasn’t happened. The prospect that the Fed will cut US rates at least three times this year as the inflation rate fades (investors are pricing in even more) is driving bond and sharemarkets, with the supply-demand equation a still-consequential secondary issue.

The other major influence over the debt and deficit outcomes will be the health of the US economy, which has surprised everyone with its strength over the past year.

The CBO projections see real GDP growth tailing from last financial year’s 3.1 per cent (3.3 per cent in the December quarter) to 1.5 per cent this year and just above or below 2 per cent over the rest of the decade.

If growth were to be higher and interest rates lower, fiscal settings that might appear unsustainable today might not appear quite as threatening in the future, particularly if a less chaotic and more public-spirited Congress, with fewer extremist factions within both parties, were to emerge at some point in the decade ahead.

That more responsible political context seems so unlikely that the US appears destined to remain on a spiral of debt and deficits until the inevitable crisis forces it to act to avert the destruction of its economy and its position within the global economic and geopolitical order.

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