THE CONGRESSIONAL BUDGET OFFICE (CBO) FORECASTS THE FUTURE


 


At current tax rates, in every year over the next 10 years, the deficit - the increase in the national debt - will be greater than the increase in revenue.

All the increase in revenue will just pay for the increase in interest expense.

 

CBO forecast is probably optimistic. By law, the forecast cannot include a recession or any other unusual adverse event like future viruses. Based on past experience, it is likely that at least one recession will occur in the next eight years. In addition, the Trump tax cut is set to expire in 2025. If it is renewed, this will add a few trillion to the forecasted deficit and national debt.


 

The forecast was made before the new Biden administration spending programs were passed and student debt forgiveness was announced. The spending bills indicate that the cost of switching to renewables, modernizing the electricity grid, and decarbonizing is going to be very high in the future. Related, the cost of containing the consequences of past emissions and pollution will also be high. Defense spending will probably be higher than projected because of the need to rebuild weapons inventory and accelerate the design and production of new weapons systems.

 

The Fed owns government debt – bonds and government-backed mortgages - and receives interest income. After expenses, the net interest income is returned to the federal government, reducing the interest expense on the national debt and the deficit. From 2010 to 2021, the Fed returned over $1 trillion in interest payments to the Treasury. 

 

The Fed has financed the stimulus spending bills by creating electronic money. At the beginning of 2020, Fed holdings of various forms of government debt was $4.2 trillion. As of August 17, 2022, the total was $8.8 trillion. $3.8 trillion was balanced by reserve holdings by bank deposits. The Fed now pays floating-rate interest on these deposits. But interest rates on assets are fixed until the bonds or mortgages mature. The cost of this new debt appears fixed at low rates but is actually determined by changing short-term interest rates on bank reserve holdings. So a rise in short-term interest rates cuts into the Fed’s net income and remittances to the government. If short-term interest rates stay high or rise, the Fed’s net income could disappear or even turn negative. The government’s interest expense is higher and deficits larger.

 

The Fed can reduce its holdings, and interest expense, by selling off government debt. It is currently doing this. But the government must replace this debt with new debt at higher interest rates, again increasing net interest expense and larger deficits.

 

Eventually, the U.S. government will only be able to finance all of its programs with structural deficits, rising debt and probably higher debt/GDP ratios, and higher interest rates. I would not like to be a member of the CBO committee that makes economic projections in 2030.

 

   

 

 

 

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