Tuesday, September 13, 2016

Federal budget outlook deteriorates

The deterioration of the federal budget began in slow fashion over a year ago, and it's now become obvious. It's not terrible, but it's no longer salutary. The budget deficit hit a cycle low of just over $400 billion in the 12 months ended May, 2015, and as of last month it had grown to $530 billion. The deficit is still quite manageable at 2.6% of GDP, but spending is firming while revenues are stagnating. The public sector is growing while the private sector struggles. This has contributed to the slowdown in economic we have observed so far this year.

Here are some updated charts that speak for themselves:

Since 1990, federal government spending has increased 230%, more than tripling in size. Revenues have increased by almost the same amount (228%).

It's a testament to the amazing growth of the economy that federal spending and revenues over the decades have grown by about the same pace as the economy (i.e., both the lines in the above chart show a relatively flat trend). The current budget deficit, relative to the economy, is very much in line with what it has averaged over the postwar period.

Revenues from estate and gift taxes are not included in the chart above, since they totaled a paltry $21.4 billion in the last 12 months, and represented only 0.6% of total federal revenues for the period.  This is the equivalent of a rounding error for the federal government, yet it sustains an army of lawyers and accountants that could be more productively employed doing things other than avoiding the payment of sums that successful citizens are reluctant to part with, having already paid income tax and corporate tax at least once in the building of their estates.

UPDATE: The chart below shows the Federal Debt Burden, which is Treasury Debt Held by the Public (currently $14.1 trillion) divided by nominal GDP (currently about $18.5 trillion). It's been higher than today's 76% before, but only as a result of the heavy borrowing needed to finance WWII expenditures. Following the end of the war, the debt burden declined rapidly as the economy expanded rapidly and spending fell. Things don't look as promising now as they did then. Many economists have said that the debt burden becomes scary only after it exceeds 100% of GDP. But even then, one can point to Japan and Italy, where debt burdens are well in excess of 100% of GDP and economic life goes on. Whether debt is a real problem depends on a lot of variables. For now it looks like we are still within the range of "salvation," provided the economy is able to grow more rapidly in the years ahead and entitlement spending is curbed. But there are still a lot of "ifs" to consider.


mmanagedaccounts said...

Who has owned congress while this deficit has been growing? I don't understand the Republicans. It seems every time they're in control we get the exact opposite of what we expect.

Scott Grannis said...

As the recommended readings below explain, that is part of the attraction of Trump

Benjamin Cole said...

OT, but hey let's brighten the mood:

"Uber Debuts Self-Driving Cars in Pittsburgh
Fortune - ‎2 hours ago‎
Uber plans ultimately to replace many of its drivers with autonomous vehicles. When Pittsburgh wakes up on Wednesday morning, some residents will have the choice of going about their day in an Uber that drives itself."


I can hardly believe this story, or the rapidity with which self-driving vehicles are being commercialized.

Some people say innovation is dead. When I look at my Internet-connected smartphone, self-driving cars, amazing non-stick frying pans, small powerful flashlights, shale oil, battery cars, incredible medical advances---I wonder what people are talking about. I have been told that self-flying commercial airliners without pilots would actually be safer.

Sheesh! There has been more innovation in the last 20 years I can shake a stick at.

Side note on Apple: Evidently, the iPhone Apple 7 is selling like hotcakes, and has a camera in it that is so excellent that 99% of the population won't need another camera.

Of course, with this iPhone camera you can instantly send color photographs around the world. Even videos.

No innovation?

If man can just peacefully co-exist, and let the private-sector mostly alone….

Adam said...


Latest selloff in equities is probably caused by a rise in bond yields.
Do you think something serious is going on on the bonds market(i.e. are we for instance on the verge of a sharp rise of 10 or 30 y's bonds yields?)

mmanagedaccounts said...

Treasury yields started rising in July and surged in September. The 10-year yield went from around 1.3% to 1.7%. These are the Treasuries Gary Shilling says will go to 1.0%. He's been right for decades so I don't yet see any reason to doubt him. That being the case, I ought to load up on Treasuries, but I'm just not that confident.

The yield curve is steeper now too than it was in July. I think the sell off in equities springs from comments from FOMC members, and nothing else. The panic level jumped by quite a bit on Friday and there was follow-through weakness on Tuesday and Wednesday. The money that is going into equities seems to be going into technology.

I would not be surprised to see a surge in stock prices if the Fed reports as the market hopes on next Wednesday.

Based on Gary Shilling's expertise, I would not short bonds. I will be interested in reading Scott's response. He has valuable insight.

Todd said...

Dear Scott,

Thank you again for this blog. I find it very helpful. I would appreciate some further comment from you on the federal debt in total, not just the budget deficit, as a lot of unfunded mandates (social security, medicare, etc) mean that we are in far deeper dept. I don't think your numbers included those. You have noted that fear (risk aversion) is holding back the market. I fear that our government is promising today's generation more than it can pay for, and, sooner or later, some generation, perhaps mine, will feel the full force of the consequences; a dramatic reduction in standard of living.

Being an optimist, I hope you have some insights to cheer me up.

Thank you in advance,

Scott Grannis said...

Todd: you are correct that my numbers do not include the present value of unfunded mandates. For an excellent discussion of this problem and potential solutions I highly rrecommend John Cochrane's recent testimony on the subject to Congress, which you can find here:


A lot needs to be done, but it is not impossible.