Monday, December 14, 2009

“What goes up, must come down” applies in the physical world. Does it also apply in the fiscal one? That is the question many are asking as they look at the latest dismal budget news from Washington. Increasingly, they are answering “no.”

The 2009 fiscal year that ended Oct. 1 brought with it a $1.4 trillion deficit. That tremendous deficit was the result of trying to stuff $3.5 trillion in spending into a $2.1 trillion revenue sack. The bottom burst out of the budget bag.

Staggering sums can leave glazed eyes, so it is important to provide some context to the arithmetic.

The 2009 deficit was almost triple the previous year’s. At $459 billion and just 365 days ago, it now seems as small as it does distant. The 2009 deficit was bigger than the national debt in 1983 and equaled the entire 1993 federal budget. It amounted to 9.9 percent of gross domestic product. That means the federal government borrowed almost $1 in every $10 America produced last year.

That deficit came despite the federal government taking in $2.1 trillion in tax revenues. That same amount of revenue would have balanced the federal budget in 2002. Even during the recession year, it still amounted to 14.9 percent of GDP. That means the federal government collected about $1 in every $7 America produced last year.

As is the case with all debts, this one came (and came and came) as a result of living beyond one’s means. However, only a government in a recession - or a sailor on shore leave - could do so in such spectacular fashion and so short a time. Washington has never before spent $3.5 trillion in a single year. The entire federal debt did not reach that level until 1991. It amounted to 24.7 percent of GDP. That means the federal government spent almost $1 of every $4 America produced last year.

Neither deficit (in 1945) nor government spending (in 1946) has reached such proportions of the nation’s economy since World War II. Both are peacetime records.

As bad as things were, so they seem still to be. According to the Congressional Budget Office, Congress’ nonpartisan estimator, the current year’s deficit is projected to be $1.381 trillion. That almost exactly matches last year’s nominal deficit figure. At the same time, it is built on the assumption that things get no worse - no new spending, no deeper downturn, no less revenue.

If that projection held, the federal government would have borrowed $2.8 trillion in just two years. The entire federal debt did not hit that level until 1989 - 200 years after the United States began. What took the first 200 years to do will have been repeated in just two.

The problem is that there are already strong signs that the projections will not hold.

According to CBO’s estimates two months into the new fiscal year, revenues are down 13.7 percent from the same point in 2009. Spending seems to be slowing - until last year’s spending under the Troubled Asset Relief Program is removed from the calculation. With TARP included, fiscal 2010 spending is down 5.3 percent from last year; however, without TARP’s 2009 spending included, fiscal 2010 is running 10 percent ahead of last year’s.

The TARP factor is no picayune point. It reveals the underlying growth of core spending. Obscured by the focus on rescue dollars, underlying spending continues to grow unnoticed.

Not only are current projections not continuing to hold, new spending increases are fast approaching. Just as government debt has increased greatly, interest-rate increases can be expected with economic recovery. Together this means increased future debt service costs (in 2009, lower interest rates actually cut debt costs by $60 billion). Baby boomers and their increased retirement costs are only now coming due. When their full impact hits, another sharp spending spike will occur.

Eventually the recession will end, the economy will recover, and the revenues will return. The question is whether federal spending will be equally accommodating. There are real reasons - both within the current budget numbers, and in upcoming events, to believe it will not.

Gravity governs in the physical world. Only with great effort can what went up, stay up. But governing applies in the fiscal world. Here, only with great effort can what went up come down. The physical and the fiscal are indeed worlds apart. While Isaac Newton discovered gravity centuries ago, Washington is still in search of a similar force.

J.T. Young served in the Treasury Department and the Office of Management and Budget from 2001-04 and as a congressional staff member from 1987-2000.

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