Federal debt is at economically damaging levels and growing at an unsustainable rate
Following a massive bipartisan increase in emergency spending during the COVID-19 pandemic that contributed to inflation reaching a 40‐year high, the 118th Congress should shift fiscal gears. It’s time to cut deficit spending to spur economic growth and complement the deflationary actions of the Federal Reserve.
Federal debt is at economically damaging levels and growing at an unsustainable rate. Additional deficit spending threatens to make inflation worse and burden the economy by misallocating resources from higher‐growth projects toward politically‐directed spending. The 118th Congress has a key opportunity to adopt responsible, pro‐growth fiscal policy that controls spending and stabilizes the debt.
Fiscal year (FY) 2022 ended with a $1.4 trillion deficit (how much Congress spent by borrowing) that consumed 5.5 percent of U.S. GDP. To put that in perspective: The first time ever the deficit exceeded $1 trillion was in 2009, when the U.S. was in the deepest economic crisis since the Great Depression. Not that Congress can cure a global financial crisis by throwing money at it, but they did try. The next time deficits exceeded $1 trillion we were in a 100‐year pandemic and Congress tried to spend its way out of that, too. Now that the pandemic is over, why is it that trillion‐dollar deficits go on for as far as the eye can see?
Members of Congress worked so well across the aisle together to increase spending, certainly they should have no problems working together again. Only this time, their charge should be to stabilize debt with a credible fiscal plan and legislation that enacts it. Such a plan should achieve a firm target, such as freezing debt as a percentage of gross domestic product (GDP) or achieving primary balance (balancing non‐interest spending with revenues) before the end of the decade. Congress’s plan should be backed up with concrete policy proposals that score sufficient savings to achieve the fiscal target.
How hard could this be? It’s not like bipartisanship only works in the context of increasing spending. Or does it? Recent spending increases benefited from horse trading of “your pet project for mine,” as evident by the return of earmarks—parochial spending that was banned for a decade due to frequent instances of waste and corruption. A recent Peterson Foundation poll identifiedthat 9 out of 10 voters expect members of Congress to work together to reduce the federal debt. Constituents are about to find out if bipartisanship will also work when it comes to making tough choices.
The gross federal debt (including government trust fund debt for programs like Social Security) approached $31 trillion (120 percent of GDP), of which debt borrowed in credit markets reached $24.3 trillion (95 percent of GDP). Debt that’s this high, compared to the size of the economy, and growing from there, is bad. It hurts growth and makes a fiscal crisis more likely.
The fiscal outlook is yet worse. After adjusting the most recent Congressional Budget Office (CBO) projections, federal debt held by the public is projected to grow to 138 percent of GDP by 2032. Adjustments include higher‐than‐expected inflation and interest rates, new deficit spending in late 2022, slower‐than‐expected economic growth, and the likelihood that middle class tax cuts will be extended past 2025. See figure 1 for alternative projections, compared to a scenario assuming tax cuts will expire (don’t hold your breath), and CBO’s original projections. And even these debt growth scenarios could be too optimistic if there’s a major crisis or prolonged recession. So, let’s not make things even worse.
The federal debt limit specifies the maximum amount of government bonds that Treasury may issue. Treasury is projected to run up against this limit sometime in the summer or fall of 2023. When Congress confronts the federal debt limit this year, members should pair the inevitable increase in the debt limit with reforms that reduce spending and debt growth.
Yes, I said it: Congress will eventually increase the debt limit. But before doing so, they should change the course of future spending. Whether to increase the debt limit or not is the wrong question. Lawmakers should instead grapple with “How will we slow the growth in the debt and avoid a fiscal crisis?”. Effective policies will reform health care and old‐age entitlements, the main drivers of rising debt.
Congress should also cut and cap discretionary spending for most government programs, including seizing such low‐hanging fruit as eliminating parochial spending by restoring the earmark ban. With deficits in the trillions, just say no to that overpriced trolley extension in your downtown restoration plans that few people will ever ride. Hundreds of millions of taxpayer dollars would be wasted, except for the giggles and maybe the cute Instagram reel.
What about tax increases? They’re mostly window dressing and could be more harmful than helpful. Spending reforms will be most effective in stabilizing the debt without undermining economic growth. That’s not just convenient theorizing on the part of this limited‐government libertarian, but evident when reviewing relevant data from previous deficit consolidation efforts.
A Heritage Foundation report distilling lessons from European austerity efforts, which I co‐authored, illustrates that increasing taxes was less effective in reducing deficits than spending cuts, with tax increases further damaging the economy. The most successful fiscal adjustments, judged by their impact on deficits and economic growth, reformed social programs and reduced the size and compensation of the government workforce.
Another study by Andrew Biggs, a senior fellow at the American Enterprise Institute (AEI); and Kevin Hassett, a former scholar at AEI; and Matthew Jensen, then the founding director of the Open Source Policy Center, drew similar conclusions:
“Spending‐based fiscal adjustment accompanied by supply‐side reforms‐such as liberalization of the markets for labor, goods, and services; readjustments of public‐sector size and pay; public pension reform; and other structural changes‐tend to be less recessionary or even lead to positive economic growth.”
Here are some commonsense benchmarks Congress should adopt before increasing the debt limit in 2023:
- Adopt a credible fiscal plan that will control spending and debt growth, freezing debt as a percentage of GDP at a minimum, or better yet, aiming for primary budget balance (excluding interest costs) before the end of the decade.
- Establish a bipartisan commission to reform major entitlement programs, especially Social Security and Medicare, including fast‐tracking the commissions’ recommendations in Congress.
- Reduce and cap discretionary spending, returning discretionary spending to pre‐pandemic (FY 2019) levels and limiting the growth of new budget caps to no more than 2 percent annually.
- Restore the earmark ban.
One more thing: in the event of a recession, Congress should avoid new stimulus spending. Fiscal stimulus in the form of new cash payments or enhanced unemployment benefits would represent the same demand‐boosting subsidies the federal government pursued during the COVID-19 pandemic that contributed to record‐high inflation. So, that would not be helpful.
Also, government spending today entails future costs from the likely displacement of higher‐value private economic activity toward government‐directed projects, a misallocation of capital, greater debt, reduced incentives to work and invest, and the prospect of higher future taxes that tamper investment. Any relief should thus focus on eliminating regulatory barriers to investing and hiring and relying on existing automatic stabilizers which will kick in without lawmakers pushing new emergency spending. This will enable the private sector to emerge from recession without additional deficit spending that would likely do more harm than it would help.
Now, let’s get to work!
