Our war in Afghanistan may be ending, but our war against our children continues in full force.
The Congressional Budget Office just released its annual long-term fiscal forecast. It shows, after some simple calculations, that our government’s fiscal gap -- the bill presumably being left to our children -- has grown enormously over the past year.
The fiscal gap measures, in present value, the difference between all projected federal spending and future taxes. By including all spending on the same footing -- whether official debt service, entitlement programs or discretionary government purchases -- the fiscal gap makes no distinction between official and unofficial spending obligations, and properly so.
In fact, the government’s classification of obligations such as interest payments as official and others, such as Social Security payments, as unofficial is a labeling game with no basis whatsoever in economic theory. It’s a strategy politicians have used for decades to disguise the true nature of our country’s indebtedness.
How big is the fiscal gap? By my own calculations using the CBO data, it now stands at $211 trillion -- a huge sum equaling 14 times the country’s economic output. To arrive at that figure, I assumed that annual noninterest spending, as well as taxes, would grow indefinitely by 2 percent a year beyond 2075, the point at which the CBO’s estimates end.
The gap was $205 trillion last year, measured in today’s dollars. That’s an increase of $6 trillion. By contrast, the government’s count of official debt held by the public is $10 trillion -- $850 billion more than last year’s figure, after adjusting for inflation. Hence, the real deficit we should be worrying about is more than six times larger than the $850 billion official deficit capturing all the attention.
In other words, Congress and the president’s administration could agree to run a balanced budget, making this year’s official deficit zero, and the nation’s true indebtedness would still rise by $5.15 trillion!
What accounts for the extra $5.15 trillion? In part, the CBO is now projecting somewhat smaller future taxes. But the main reason is that we are one year closer to having to pay 78 million baby boomers roughly $40,000, on average, per year in Social Security, Medicare and Medicaid benefits. Because the fiscal gap is a discounted present value, one year makes a big difference.
Our fiscal position is so dire that it’s showing up even in our phony official deficit accounting. Last year the CBO projected that official U.S. federal debt would first exceed 90 percent of annual economic output in 2021. This year it projects 2018 as that critical date. That’s a three-year deterioration in just 12 months. Including the debts of federal agencies to one another, such as those of the Treasury to the Federal Reserve, the number has already passed 90 percent.
Why is 90 percent a critical debt-to-gross domestic product threshold? Because two prominent economists, Ken Rogoff of Harvard and Carmen Reinhart of the Peterson Institute for International Economics, studied the historical record and have found that countries passing this threshold face sharply lower rates of economic growth.
Rogoff and Reinhart are outstanding scholars, but I take issue with their analysis. Were they to form official debt-to-GDP series for each country in their sample using alternative labeling conventions, they would find a different threshold. Indeed, depending on the set of labels applied, Rogoff and Reinhart could arrive at any threshold they would like for the critical value.
The fact that governments choose a particular set of words to characterize receipts and payments does not prevent others from using their own set of labels and making up their own historical time series for deficits. For example, I could call last year’s FICA contributions “borrowing” rather than “taxes” and label a portion of the contributors’ future Social Security and Medicare benefits as return of principal plus interest on this borrowing. Voila! Last year’s official deficit would be 15 percent, not 10 percent of GDP.
The 90 percent official debt-to-GDP threshold is important only because Rogoff and Reinhart take governments’ inherently arbitrary fiscal labeling as meaningful and have persuaded themselves and others that 90 percent is the threshold.
No Arbitrary Measure
Again, the fiscal gap, measured over the infinite horizon, is the only label-invariant measure of fiscal solvency, and its message is loud and clear. We aren’t broke in 2021 or in 2018. We’re not broke when some arbitrary measure of official debt exceeds some arbitrary threshold. We’re broke today because the fiscal gap is huge.
Furthermore, because the government’s cash flows aren’t well defined, there is no label-invariant distinction between long-run and short-run fiscal policy. There is only the present value of the policy’s path of promised outlays net of projected receipts, no matter how they are labeled. Consequently, the assertion by some prominent politicians that our fiscal problems are long-term and that we have time to fix them is, economically speaking, mindless. Time may be on our side, but it’s certainly not on our kids’ side.
What would it take to get our fiscal house in order? One answer is to raise all federal taxes -- personal income taxes, corporate income taxes, payroll taxes, and estate and gift taxes -- immediately and permanently by 64 percent. Another option is to cut all noninterest spending by 40 percent.
Alternatively, if we wait 20 years to change policy, these two figures become 77 percent and 46 percent, respectively. If we wait 40 years, until all the baby boomers have safely taken their leave, the requisite permanent tax increases and spending cuts are 93 percent and 53 percent.
Thus, the longer we wait to address the problem, the larger the bill our children must pay either in higher taxes or lower benefits. This is the awful zero-sum nature of our generational dilemma and the moral challenge of our day.
The growing fiscal gap leaves no doubt. Intentionally or not, we have placed our children in grave economic danger. Their protection must be our highest priority. Our leaders, if they actually care about their children and ours, need to stop playing word games. They need to forget about the “official” debt, forget about the “official” deficit, forget about the “official” debt ceiling, start seeing the economic forest for the trees, and set in place policies -- policies that go far beyond what’s being considered -- to eliminate the fiscal gap.
(Laurence J. Kotlikoff, a professor of economics at Boston University, is a Bloomberg View columnist. The opinions expressed are his own.)
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