Why is the Budget Deficit Exploding?

By Sep 8, 2009, 5:44 PM Author's Blog  

Earlier today, CBO released its latest monthly snapshot on the federal budget. The key things you should know are:

  • CBO estimates that the government ran a deficit of almost $1.4 trillion during the first eleven months of the fiscal year (up from $501 billion at this point last year).
  • CBO reiterated its forecast that the full year’s deficit will also come in around $1.4 trillion (September is usually a month of surplus because of strong tax receipts, but CBO apparently thinks this September will be close to break-even.)
  • CBO’s estimate is noticeably lower than the administration’s most recent deficit forecast of $1.58 trillion. If the final numbers next month are in line with CBO’s projections, some commentators will thus spin the full year deficit as good news (“the deficit came in lower than the administration expected”), while others will spin it as bad news (“yikes, the deficit was $1.4 trillion”). (As noted in an earlier post, CBO’s summer update was a bit complicated to interpret because its headline deficit estimate used different accounting for Fannie Mae (FNM) and Freddie Mac (FRE) than the administration used; on an apples-to-apples basis, however, CBO then forecast a deficit of $1.41 trillion.)
  • As shown in the following chart, the deficit has exploded for three main reasons:

Why is the Budget Deficit Exploding?

  • Tax revenues fell off a cliff (down 16% or $365 billion relative to last year). The sharpest declines have been in corporate income taxes (down 56%) and individual income taxes (down 20%).
  • The financial rescue has required $257 billion in new spending. TARP accounted for $174 billion, while cash injections into Fannie Mae and Freddie Mac accounted for $83 billion.
  • Other spending increased (up 7% or $315 billion relative to last year). These increases are spread across many spending programs, but have been most pronounced for unemployment insurance (up 160%) and Medicaid (up 25%).

In addition:

  • As noted in previous months, interest payments continue to provide a sliver of good news. Interest payments have fallen by 23% (or $55 billion) thanks to low interest rates and small inflation adjustments on indexed bonds.
  • CBO estimates that the budget impact of the stimulus totaled more than $150 billion by the end of August. That’s in line with the figures reported by Recovery.gov.
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