This presentation reviews the fiscal forecast from the Obama Administration released within the "A New Era of Responsibility" in February of 2009 and the related CBO analysis released in March of 2009.
Fiscal Forecasts: Obama Administration vs CBO Guy Lion 3/23/2009
Introduction <ul><li>In February, the Obama Administration released its long term fiscal projection titled “A New Era of Responsibility.” </li></ul><ul><li>A month later, the Congressional Budget Office (CBO) also reviewed the Administration related fiscal proposals and its impact on long term fiscal forecasts. </li></ul><ul><li>While the Administration showed an unprecedented and rapid rise in debt level (since (1968 per CBO data); the CBO forecast shows an even faster rise in debt level. </li></ul>
The long term fiscal picture The CBO’s forecast suggests the Administration has greatly understated outlays (expenses). As a result, the CBO shows a far higher and rising Budget Deficit in the out years.
Budget Deficits in Out Years The Administration forecast shows Budget Deficits stabilizing at a somewhat sustainable 3% of GDP. The CBO shows Deficits skyrocketing from 4% to nearly 6% of GDP.
Federal Debt/GDP ratio While the Administration forecasts the Public Debt/GDP ratio to stabilize at 67%; the CBO forecasts this same ratio to reach 82% by 2019 and remain on a rising trajectory.
Net Interest/GDP The Administration forecasts Net Interest Expense/GDP to increase slowly in the out years. CBO foresees a more rapid increase in this ratio. In either cases, this ratio reaches levels much higher than the historical average (CBO: 2.2% since 1968).
Economic assumptions Economic assumptions do not seem that different. Both the Administration and CBO foresee a benign long term environment with moderate GDP growth, about average unemployment, and very low inflation. An exception to this statement, is the steady decline in real GDP growth for CBO. Meanwhile, the GDP growth stabilizes at a much higher level for the Administration.
Interest rate assumptions CBO sees 10 Year Treasury rates stabilizing 40 bp higher than the Administration. They also see 3 month T-Bills rate stabilizing 80 bp higher. Those forecasts contributes to Net Interest/GDP ratio rising faster than the Administration.
Implication <ul><li>The Administration forecast is associated with a long term real GDP growth of 2.6% combined with inflation of 2.1% with Budget Deficits running at 3.1% of GDP. This implies a Debt/GDP equilibrium of: </li></ul><ul><li> 3.1%/(2.6% + 2.1%) = 66%. </li></ul><ul><li>The respective figures for the CBO were: real GDP 2.2%, inflation 1.9%, Budget Deficit at 5.7% (and rising?). This implies a Debt/GDP equilibrium of: 5.7%/(2.2% + 1.9%) = 139%! </li></ul><ul><li>The accurate calculation of the denominator is a multiplication reflecting the compounding effect of GDP growth and inflation. But, in this situation it does not make a material difference. </li></ul>
What would it take to bring Debt/GDP back down to its historical average? <ul><li>The historical average from 1968 to 2008 was 35.7%. To bring it back down to that level we would need to reduce the Deficit to GDP ratio to represent just 35.7% of nominal GDP growth (real GDP growth + inflation) for a sustained amount of time. This would entail a Deficit of 2% of GDP with GDP growth of 6% (3% real and 3% inflation). That’s easier said than done. </li></ul>