Reducing The Budget Deficit is Falling Out of Style

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The year 2018 marked the highest federal budget deficit since 2012, reaching $878 billion by the end of December.

President Trump released his budget proposal for the 2020 fiscal year on Monday, and it would appear that this high deficit trend is going to continue. The proposed budget would raise the deficit to $1.1 trillion, a level similar to the early Obama years that included a massive stimulus package. It also aims to eliminate the deficit by 2034, six years later than what was proposed in the President’s 2018 budget.

Hold on though, isn’t President Trump a member of the party that railed against deficit spending for years during the Obama administration? There appears to have been a shift in priorities.

Although the President’s budget is simply a proposal that highlights the administration’s priorities, including in it an increased deficit for 2020 and a longer period to balance the budget highlights how politicians are caring less and less about deficit spending.

What changed? Last time the budget deficit was over $1 trillion, both parties were aiming legislation at bringing in spending. Now, everyone appears to be OK with it.

Change of Mind

Part of it may be that many of the past fears of running a sky high deficit have not come true. Even after years of unprecedented deficits, interest rates have remained stable. People do not perceive U.S. debt to be any riskier than 20 years ago, so the public is continuing to buy government bonds, enabling the deficit to be financed.

Along with this, the economy is running strong. Growth was at 2.9% for 2018, and the labor market, even with a weak February jobs report,  has been a bright spot for many years now. This leads people to believe that the deficit is not crowding out private investment even as it remains high. If the economy can still grow and I can easily work, is the deficit really that big of a deal?

Lastly, politician’s priorities are often fueled by the concerns of the people that keep them in office, and the polls have been indicating a diminishing concern from the public over the past few years. According to Pew Research, 48% of people in January 2019 believed reducing the deficit should be a top priority, compared with 72% of people in 2013, when the deficit was $200 billion less than it is right now.

Lower Priority Does Not Mean No Issues

Even though cutting the deficit seems to by falling out of fashion, there should still be concerns about running it higher.

For one thing, the Fed Funds Rate has been increased to a range between 2.25% and 2.50% over the past year. This means that financing debt and deficit spending is going to be more expensive than in past years. In 2012, when the deficit was last over $1 trillion, the Funds Rate was nearly 0.0%, making it far more feasible to finance.

This higher borrowing cost will threaten a crowding out effect on private investment as more resources will have to be dedicated to financing the deficit and overall interest rates are driven upwards. Contracting private investment would in turn slow the economy.

On top of this, an economic downturn with a high deficit would be a concerning combination. If overall tax receipts were to drop off as they always do during recessions, the deficit would skyrocket well above where it currently is. This would force policy makers to have to raise taxes or cut spending programs in order to reel in spending, both of which would pull money out of people’s pocket at a time when they need it the most.

Seeing how job growth was weak in February, economic growth is expected to slow in the first quarter of 2019, and retail sales were revised sharply downward for December 2018, this second point should be kept in mind.

Nothing Set in Stone

As I mentioned before, the President’s proposal is not law and likely won’t be the 2020 budget, so the deficit may not grow as large as $1.1 trillion depending on what congress agrees upon. Never the less, it is quite clear that politicians are growing less concerned with a high deficit.

I can hear some people defending the increase in spending since it did in fact help drive economic growth in 2018.  This was a short term benefit though and not a justification for continuously growing the deficit, especially as the global economy is slowing down. It may be feasible to finance a trillion dollar deficit right now, but that may not be the case if the economy is contracting.

 

 

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