There are two things that can expand a deficit: Decreased tax revenues and increased spending. Right now, we have both.
The federal deficit rose 17% in 2018, to $779 billion — the highest since 2012, thanks to a bigger military budget, rising interest costs, and a giant tax cut.
But Republicans, who have historically decried fiscal irresponsibility, only want to talk about spending.
“It’s very disturbing,” said Senate Majority Leader Mitch McConnell on Bloomberg TV on Tuesday, on the newly released deficit numbers. “And it’s driven by the three big entitlement programs that are very popular, Medicare, Social Security, and Medicaid.”
Is that true? Let’s look at the Treasury tables. In fiscal year 2018, which ended on September 30, overall spending increased by 3%, or $127 billion. The largest spending increases came from interest on the debt ($65 billion) and the Social Security Administration ($39 billion). Then came defense spending, at $32 billion — increases President Donald Trump and other Republicans demanded in budget negotiations. Medicare and Medicaid — programs Trump has promised not to touch — rose by $17 billion total.
What about the tax side? Budget receipts were basically flat overall. Individual non-withheld and self-employment taxes rose by $89 billion, as they should in a good economy when more people are working. Most of that increase came in April, when taxpayers were filing returns for 2017 — before the Trump tax cuts took effect. Congress’ Joint Tax Committee has forecast the overall revenue impact of the individual tax cuts to be much larger in 2019, knocking collections down by $189 billion.
Corporate taxes only constitute about 9% of the government’s $3.3 trillion in 2018 collections, but they plunged by $93 billion from last year. According to the Congressional Budget Office, about half of that drop came after June, when companies began paying estimated taxes for the 2018 tax year, at the lower post-tax-cut rate. If there had been no tax cut, collections would have been higher.
Translation: Tax cuts played a key role in boosting the deficit in 2018, and are expected to contribute to deficits in the coming years, contrary to claims from the White House and Congressional Republicans that they would “pay for themselves.” Treasury Secretary Steven Mnuchin has said that lower tax rates will boost collections when businesses have had enough time to reinvest their savings in growth, but that’s not what’s happened after previous tax cuts, and it’s not what nonpartisan analysts like the Tax Policy Center think will happen after this one.
But here’s the more important question: Does any of this actually matter?
As a percentage of gross domestic product, the deficit in 2018 rose to 3.9% from 3.5% last year. That’s higher than the 3.2% average over the last 40 years, but it’s nowhere near the 9.8% level reached in 2009, at the depth of the financial crisis, or even the 4.5% during the recession of the early 1990s.
And although interest rate payments of $522 billion seem eye-popping, as a percentage of GDP they’re also far below levels paid in the 1980s and 1990s, when fiscal austerity first became a Republican political cause.
There’s no guarantee, however, that interest rates will stay as low as they have been. The rate on the 3-month Treasury bill has risen from zero three years ago to 2.27% today, making the debt more expensive to service, and Federal Reserve Chair Jay Powell has said he’s likely to continue hiking on that upward path. Also, elevated deficits are highly unusual in heady economic times such as these, when the federal government could be curbing the growth of the debt rather than accelerating it.
That’s what much of the rest of the developed world is doing: According to an analysis by the Organization for Economic Cooperation and Development, countries in the euro area are projected to decrease their public debt between 2017 and 2019 as a percentage of GDP by about as much as the United States is projected to increase it.
It also matters what the government is going into debt to do, and what kind of returns it will generate.
Lower-income people, for example, are more likely to spend any extra disposable income they might get from a tax cut than rich people, who are probably already meeting all their needs. The Trump tax cuts disproportionately benefit higher-income people, so they are not well targeted to maximize economic growth.
Infrastructure spending — once a favorite Trump objective — would also be a logical reason to rack up debt, since repairing and building out America’s roads, train lines, sewer systems, and broadband connections would improve productivity in a way that no other fiscal policy could.
But that’s not why U.S. deficits are rising now. They’re rising because of tax cuts, and yes, because of an aging population that’s going to need to depend on Social Security and Medicare when they retire.