Thursday, December 5, 2013

Washington's Uphill Fiscal Battle

Time passes quickly in Washington.  It seems like only yesterday that the October debt ceiling crisis ended up with a shutdown that saw hundreds of thousands of federal workers out of a job.  At that time, in an attempt to resolve the latest version of the ongoing United States debt crisis, the Senate and the House passed the Continuing Appropriations Act, 2014 that allowed the federal government to "temporarily solve" the debt ceiling and government shutdowns.  In the Act, the government is funded until January 15, 2014 and the debt ceiling is suspended until February 7, 2014, kicking the can just a bit further down the road.  With this new deadline just under 6 weeks away and with the Christmas and New Years break coming up, it looks like there is going to be yet another debt crisis looming in early 2014.  While we occasionally hear that Washington is getting its fiscal house of cards in order, the data shown in this posting may give us pause to ponder the veracity of that claim.

In this posting, I'd like to look at a few graphs and a bit of data that shows how critical the situation is becoming, how Congress and the Senate are now in uncharted fiscal territory and how difficult it will be to turn this boat around.

Let's start with a graph that shows total public debt as a percentage of GDP:

At its level of 100.46 percent in the second quarter of 2013, the level of debt is now at its second highest level, falling just short of the 101.43 percent record level seen in the first quarter of 2013.  To put these numbers into perspective, when President Obama took office in January 2009, the debt-to-GDP level was a "mere" 77.37 percent.

The U.S. federal debt can be broken into two parts; the portion that is "loaned" from one part of government to another also known as intergovernmental debt and the portion that is actually market debt (i.e. Treasuries of all types) held by the public.  The debt held by the public includes all federal debt held by individuals, corporations, state and local governments, Federal Reserve Banks, foreign governments and all other entities outside of the United States.  Here is a graph that shows the federal debt held by the public as a percentage of GDP:

At its level of 71.46 percent in the second quarter of 2013, the level of debt held by the public is also now at its second highest level, falling just short of the 72.1 percent level seen in the first quarter of 2013.  Looking way back to the first quarter of 2009 when President Obama's dream was still alive, the publicly held debt-to-GDP level was a "measly" 47.54 percent.

You will notice that relative to the 1980s and 1990s, that the current level of interest owing on the debt as a percentage of GDP appears to be quite healthy.  For example, in 2012, interest owing on the debt was 1.36 percent of GDP, a level rarely seen since the psychedelic sixties and seventies and well down from the 3 percent plus level seen in the late 1980s and early 1990s.  It is this very issue that has lulled Washington into an unrealistic sense of well-being, much as the psychotropic drugs of the sixties and seventies lulled baby boomers into an alternate reality because of our current environment of near zero interest rates.  As shown on this chart, the amount of interest paid on the outstanding federal debt in fiscal 2013 was still the fourth highest on record even with the lowest overall interest rate ever seen on Treasuries:

This indicates quite clearly that when interest rates rise to historical levels, that Washington will be seeing interest owing as a percentage of GDP rising to new record levels even if the economy shows robust growth.

Ignoring the massive spending and resulting deficits during the war effort in the 1940s, federal deficits as a percentage of GDP hit a new record in 2009, hitting -9.8 percent of GDP.  Certainly things have improved since the depths of the Great Recession, however, 2012's deficit of 6.69 percent of GDP is still the fourth worst on record excluding the Second World War.  It's also interesting to note the overwhelming number of years that deficit spending has taken place.  In total, of the 84 years since 1929, deficit spending has taken place in 70 years within only two year,s 1948 and 2000, seeing a budget surpluses in excess of 2 percent of GDP.  On average, the budget has run an average deficit of 3.0 percent.  Perhaps this explains why we're in the mess that has now become our new reality!

Again, ignoring World War Two, as a percentage of GDP, net federal spending while down from its Great Recession highs of 24.4 percent of GDP, is still at one of its highest levels in the past 65 years at 21.77 percent of GDP.  On average, since 1929, federal spending as a percentage of GDP has averaged 18.1 percent so, at current levels, federal spending is still quite elevated.

It is quite clear from this data that it is highly unlikely that the current political environment in Washington will allow the federal government to turn this "debt boat" around, particularly if interest rates rise and economic growth slumps.  The most likely scenario is that Congress and the Senate will choose to kick the debt can further down the road, hoping for the best and not planning for the worst.  It's always easiest to maintain the status quo and always hardest to change course, particularly when fiscal momentum is not in one's favour.  While the debt crisis looms year after year, it certainly appears that they'd rather spend their time renaming post offices and arguing about political differences than actually doing something that may improve the lot for future generations of Americans.

That's largely why the current fiscal battle is all uphill.  

1 comment:

  1. Love the charts but I feel that chart #6 may be somewhat more comforting then it should be because of the "scale" they chose to use, changing the scale paints a dire picture. Also if I'm correct, recent changes in the way GDP is figured that shows growth as more robust also lessens the ratio of debt to GDP. Bottom-line all this is ugly and a world wide problem with modern governments that think they are immune to the laws of economics.