The Simple Arithmetic of Federal Deficits, A Counterpoint to the New York Times Analysis

"The Great Debt Scare is back," writes Robert Reich in response to a New York Times analysis of how the government's finances devolved into a "Sea of Red Ink." The Times' starting point is a Congressional Budget Office forecast, presented in January 2001, which showed a $3.5 trillion surplus accumulated over the 2001 - 2008 period.

Actually, both Reich and the Times seem to be pulling their punches. They might have offered more cogent analyses had they let the numbers do the talking. The numbers show how we've been kidding ourselves for a long time.

The $5.5 Trillion Shortfall

In January 2001 the CBO forecast that the government would accumulate, over the 2001 - 2008 period, a $3.5 trillion surplus. The actual results were about $5.5 trillion worse than expected; there was a $2 trillion deficit. Nonetheless, the CBO's projections proved to be pretty accurate in one crucial area.

We forget that the original $3.5 trillion surplus was almost evenly split between the federal government, called on "On Budget" in CBO parlance, and Social Security, misleadingly labeled as "Off Budget" revenues and outlays. As it turned out, the government's operating deficit was $3.4 trillion, or about $5.2 trillion worse than expected. But Social Security did in fact generate a $1.4 trillion surplus. In other words, about 95% of the $5.5 trillion shortfall is attributable to deficits created by the Federal government itself.

The $1.4 Trillion Social Security Subsidy, AKA "Unfunded Entitlements"

Of course, the Social Security surplus is a misnomer, in that it is already spoken for. It's supposed to be the nest egg, comprised of standard Treasuries, held for the bulge of baby boomers who reach retirement age in about 10 years. But instead of issuing Treasury bonds, which effectively increases the money supply, the government uses that surplus to reduce the size of the government's current operating deficit. Those never-purchased Treasury bonds are deemed to be "unfunded entitlements."

[To recap the story those Social Security entitlements: They were funded by the employees and employers who paid in to the system. They could have funded the purchase of bona-fide Treasury bonds to pay for retirement benefits. They became unfunded when the government applied the proceeds to reduce its current operating deficits.]

Thanks to the $1.4 trillion Social Security surplus, the reported federal deficit was reduced by 40%, from $3.4 trillion to $2 trillion. The $2 trillion total doesn't seem so bad when compared to that accumulated over prior eight-year-periods. The $1.7 trillion deficit for the eight years preceding the Clinton Administration seemed more onerous, since U.S. GDP at that time was much smaller.

But notice how the Social Security surplus seems to double every eight years.
This was part of the grand design of Social Security. As we move closer to the day of reckoning for baby boom retirements, around 2016, when cash paid out by Social Security starts exceeding cash inflows, the annual surplus is supposed to grow steadily larger, thanks to the compound interest income earned by Social Security.

Bush Tax Cuts in An Historical Perspective

Was the $5.5 trillion shortfall caused by taxes or spending? As you might expect, it was a combination of both.

Most of the increased government outlays went to the myriad activities encompassed by the so-called global war on terror.

The decline in On-Budget revenues was unprecedented since the Great Depression. Historically federal revenues always rose because government spending always rose more.

On rare occasions, federal revenues might decline in a single year, as they did in the 1983. But they never declined two years in a row, excepting the 1946-1947 period following World War II. In 2003, long after the last recession ended in November 2001, federal revenues were 19% below what they were in 2000. This should have been a signal to everyone that the current tax structure was unsustainable. But the growing impact of the Social Security surplus, which reduced the reported deficit, masked the underlying problems.

Revenues rose dramatically in 2005 and 2006, thanks to in large part to the taxable income derived from the real estate and financial bubbles.

Following the bubble came the meltdown, measured by a 20% decline in On-Budget revenues for 2009, according to estimates by the Office of Management and Budget. That's a much bigger decline, on a percentage basis, than the decline after World War II.

At the same time, the government in 2009 is spending a trillion dollars more than it spent in 2008. Look at how the situation progressed since 2001.

This is the situation that the Obama Administration inherited. The OMB projects that future deficits will dwarf all those prior to 2009.

Karl Rove emphasized that point. Since future deficits dwarf those experienced under Bush, Bush is blameless, he argues. As he told Greta Van Susteren the other night:

ROVE This guy is going to run up a $1.8 trillion deficit. That's what it's projected to be this year.

VAN SUSTEREN: Do you take some responsibility, meaning you, the Bush eight years, for this...

ROVE: No.

VAN SUSTEREN: You take absolutely no responsibility? Because...

ROVE: No, let's put...

VAN SUSTEREN: For the -- for the debt.

ROVE: Well, look, we had a deficit that ran 2 percent of GDP. And we were fighting a war and trying to grow the economy. He's planning a 4 percent of GDP.

VAN SUSTEREN: That's twice.

ROVE: Twice. He's going to -- you know, his smallest deficit is $200 billion larger than Bush's largest deficit. Think about that. Obama's smallest deficit. We go to $1.8 trillion this year. We then decline under his budget plan to roughly $650 billion in three years. And then for the next seven years back -- we go right back up to over a trillion-dollar deficit. That's his plan, and that's based on rosy economic assumptions. The deficit this year is expected to be $1.845 trillion.

As for the numbers, Rove is correct. As with Iraq and Afghanistan, George Bush left a situation that ties the hands of his successor.

Comments

[jsgaetano]

Conservatives have been trying to destroy America since the US Civil War. They may have finally succeeded in the last eight years.

[KillTheMessenger]

Yep. Reagan to Bush... a pretty short time span to destroy an Empire. The Romans and the British took way longer to demolish theirs.

[kbdoogan]

There was a $2 Trillion deficit from 2001 - 2008???? Try $6 Trillion..­....... the federal debt was approx $5 Trillion at the end of Clinton's term and was approx $11 Trillion at the end of Bush' term. Now I don't have a PhD in Mathematics, but the difference between those two amounts is definitely not $2 Trillion.

[David Fiderer - Huffpost Blogger]

You touch on two points:

First, there’s a difference between debt owed the public (i.e. Treasuries that add to the money supply), and debt owed to “government accounts”, i.e. social security obligations.

Second, the federal debt increases to a number that is larger than the reported deficit plus the social security surplus combined.

Per the OMB Table 7.1: http://www.whitehouse.gov/omb/budget/fy2009/hist.html
Debt owed to the Public:

At 2000 it was $3.4 trillion. At 2008 it was $5.4 trillion, the $2 trillion difference equals the reported deficit referenced above.

Debt owed to Government accounts (i.e. Social Security):

At 2000 is was $2.2 trillion; at 2008 it was $4.2 trillion. (The total 2008 federal debt is $8.9 trillion.)

Why does the $2 trillion increase exceed the $1.4 trillion social security surplus referenced above? Because the Federal government, unlike every other employer, does not fund the employer share of social security with cash; it adds that obligation to debt owed government accounts.

[DuganS1]

Probably the biggest reason that tax revenues went down substantially in 2001 and 2002 was because revenues from the capital gains tax plummeted along with the equity market which spiraled down about 50% in that period - and many stocks in the Nasdaq went down a good 90% or more. This was the biggest drop in the equity market since 1973-1974. Conversely, one reason that tax revenues were abnormally high in 1999 and 2000 was because of the tremendous increase in the value of the stock markets, particularly the Nasdaq, which brought in a huge amount of revenues from the capital gains tax. Revenues from this source has never gone up so much in the history of the United States.

[hearmeout]

Well said Dugan. The only thing propping up our GDP for the last couple of decades has been two enormous bubbles - IPOs that made all but worthless companies seem more valuable (on paper, at least) than IBM, a doubling of housing "values" driven by financial gimmicks, etc. - but the gig is finally up. No more bubbles because we're all out of hot air. The Obama budget projections are more far-fetched than Harry Potter and not nearly as entertaini­ng...

[metalpipe]

Read this, and weap for our financial future. Seeking Alpha really gives it to you straight.

http://seekingalpha.com/article/143010-the-debt-conundrum-part-i

[joeneri]

You want a solution? Here's your solution:

TAX the RICH because that's where the money is.

[joeneri]

I seem to recall Dick Cheney claiming that "deficits don't matter," when he and Bush were running things.

[metalpipe]

Kind of like saying your credit card bill doesn't matter (on the first day of the billing cycle).

[getsmart85]

Class warfare. The rich and powerful unhappy with their millions and billions have plundered the social security fund to finance their investments. It's like greedy kings and queens who hate seeing serfs getting a few trinkets.. History and human nature do not change much. Instead of castles, crowns, robes and carriages it's mansions, expensive clothes and luxurious cars. Now that social security has been plundered an attempt is being made to discredit the program. And it is not a coincidence that the people against social security come from wealth and privilege.

[DavidJames]

I do not agree that our hands are tied. We can raise taxes enough to reduce the deficit as the economy recovers.

Increasing taxes does need not be an economic calamity for anyone. For example. Lets say I am making over $200,000 a year. Neither I or any other patriotic citizen making over $200,000 should have any problem paying higher taxes to reduce the deficit to an optimum level.

None of us need to buy our children new Mercedes or BMWs. They will manage just fine with used fuel efficient subcompacts. Managing the federal debt is more important.

[illusionpainter]

I have a few questions and a statement. Didn't the White House Administration and Congress tell "US" we must all sacrifice to save our companies that are in dire need of funds? That the sacrifice MUST be made in all areas? Isn't the U.S. Government broke and owned by China? Then, why hasn't the Federal Government and Congress made concessions and sacrifices to save the country? Where are their wage cuts? Why haven't their health care benefit packages been cut in half? Why haven't their vacation days been slashed? Sounds to me like a bunch of one-sided HYPOCRITES!!!!!!

[KillTheMessenger]

Wait... what about the tens of billions that the federal government gave away to keep GM and Chrysler afloat for a few short months? What was the upside of that? You guys are still bankrupt, the dealers are still out of business and the people are unemployed, no matter what. OTOH, the trillion dollars of the stimulus package are putting people to work on projects that were long overdue. We are not buying bombs for Iraq but blacktop for our roads, new rails for our streetcars and subways and energy improving upgrades to our buildings. That's money invested wisely.

[runfastandwin]

Guess what , banker, you and your brethren just lost, what, $20 trillion? 40? 60? And you suppose to lecture the rest of us that Obama is going to renege on our Social Security? Wrong. Here's the way history sees it:

Hoover - we all know how that story ended
Roosevelt/Trumam - surplus, invented Social Security
Eisenhower - deficit
Kennedy/Johnson - surplus
Nixon/Ford - jury is still out
Carter - small surplus
Reagan/Bush - massive deficit
Clinton - surplus
Bush - MASSIVE deficit
Obama - surplus, if history is a guide

[desertman]

Social Security is a legalized Ponzi scheme. I'm not sure this was a good invention.

As to some of the rest, Reagan ended the Cold War and Clinton capitalized on this. Let's be honest.

[elfNW]

Clinton also raised the top income tax rate. And George W. Bush`s explanation for the record budget deficit`s during his years in office, starting as soon as he once more cut the top income tax rates and estate taxes?

Social security a Ponzi scheme? “The Ponzi scheme generates returns for older investors by acquiring new investors. This scam actually yields the promised returns to earlier investors, as long as there are more new investors.­” Definition from investopidia.com. However for the social security system every year over the last 30 years more has been collected in taxes than was paid in benefits; resulting in annual surpluses and the buildup of a huge balance in the trust fund. Sort of the opposite of a Ponzi scheme.

Back when politicians were less prone to demagogue on issues, or just plain lie, it was realized that the retirement of the `baby boomers` required action and so the S.S. tax rate was increased and the age of retirement for full benefits was increased to account for this.

[mpmc23]

I suggest a shift to "once-funded entitlements" to describe these particular liabilities.

[KrugnacTheMagnificent]

Gee, I don't remember Obama campaigning on "No change is possible because Bush has tied my hands..."

[elfNW]

Thank you for this analysis. The huge budget deficits and the national debt run up during the Reagan and Bush years can be blamed on two factors; huge tax cuts (especially for the rich) combined with huge increases in military spending. Now though the Republicans would like to blame entitlement spending, i.e. social security and medicare. Reality: http://www.huffingtonpost.com/2009/05/21/geithner-pledges-to-cut-d_n_206608.html?show_comment_id=24655835#comment_24655835

[desertman]

The collapse of the Warsaw pact during Reagan gave Clinton the luxury of cutting the defense budget and thus the ability to balance the budget.

[denny8844]

As someone who spent nearly 20 in state government budgeting and revenue forecasting, the one thing of which I am certain: The forecasted revenues will turn out to be lower than the estimates and the forecasted outlays will be greater than the estimates. Too bad these kinds of analyses cant be put as an overlay on the TV screen everytime the politicians and talking heads show their ingnorance about the nature of the problem.
On small comment. I would have liked the article to say that once the SS outlays exceed the revenues then instead of the difference being made up out of the so called trust fund the difference will be made up from annual revenue just as the SS surplus augmented the operating budget for all these years.s I am not sure many people understand this - that what was loaned to the On Budget system has to be paid back from the same source

[DemocraticVoter]

This notion, put forth by Rove et al., that the trajectory of the budget deficits has nothing to do with the Bush administration is so illogical as to be entertaining. The even funnier part is that the Republicans do not yet realize that the majority of today's voters are too smart to believe their disingenuous arguments any longer. It's why they lost in 2008 and why they will continue to until they recognize the importance voters place on their leaders' willingness to acknowledge reality.