Key Policy Considerations
Key factors affecting federal borrowing needs View details
Federal borrowing is affected both by policy decisions and by economic conditions. Decisions that lead to lower tax revenues or higher spending would increase the need to borrow, whereas decisions that lead to higher tax revenues or lower spending would reduce borrowing needs.
Economic conditions, such as economic growth and inflation, can affect federal spending and revenue without changes to policy. Built into the structure of the federal budget are provisions, known as automatic stabilizers, that decrease revenues and increase spending when the economy slows (and vice versa when the economy expands). For example, increases in unemployment automatically reduce payroll tax and income tax receipts and increase spending for some programs, such as unemployment insurance. The effect is largely on the revenue side of the budget. Stabilizers are seen as tending to reduce the depth of any downturn and dampen expansions. Policy responses to economic downturns also affect borrowing needs.
The Congressional Budget Office (CBO) provides estimates of how changes in economic conditions can affect federal borrowing. In January 2012 CBO said that slower economic growth of just 0.1 percentage point each year over the next 10 years would increase its projection of federal debt in 2022 by $314 billion. Debt would be lower by a similar size if economic growth were 0.1 percentage point higher each year than CBO estimated at that time. Also, higher inflation A rise in the general price level increases both revenues and outlays.
For further discussion and estimates, see CBO’s, The Effects of Automatic Stabilizers on the Federal Budget, CBO’s Budget and Economic Outlook, and the Analytical Perspectives of the President’s Budget.
Over the long term, federal borrowing needs are expected to grow as the gap between revenue and spending widens. Long-term simulations show that the gap will be driven on the spending side by rising health care costs and an aging population, which will persist long after the return of financial-market stability and economic growth. See GAO's Long-Term Fiscal Outlook for more information.
Key considerations in assessing the level of federal borrowing View details
The federal government has carried debt throughout virtually all of U.S. history. However, sharp increases in deficits The amount by which the government's spending exceeds its revenues for a given period, usually a fiscal year. and debt in recent years have led to heightened concern about the level of federal borrowing and the long-term budget outlook.
Views toward federal borrowing vary with the size of the debt in relation to the economy and stage of the business cycle. Borrowing, in lieu of higher taxes or lower government spending, may be viewed as appropriate during times of:
- Recession: Borrowing can help to maintain household income and spending levels and reduce the severity of a recession. Government spending on goods and services can also substitute for missing private spending.
- War: Borrowing can finance increased defense spending, lessening the need for reductions in other government spending or tax increases. For example, the federal government financed World War II with huge deficits to avoid even larger tax increases and economic distortions.
- Emergencies: Borrowing can finance higher government spending in response to other temporary challenges or national needs, such as large natural disasters like Hurricanes Katrina and Rita or terrorist attacks, such as those of September 11, 2001. As with a war, borrowing for such short-term circumstances can permit the government to hold tax rates and other spending relatively stable and avoid economic disruptions.
Some economists would argue that the federal government might even need to restrain otherwise justifiable deficits described above if its accumulated public debt already is too large. For that reason, those economists would contend that it is important to limit the accumulation of debt in good times to maintain borrowing room for any future contingencies. For example, CBO notes that large amounts of debt diminish the government’s flexibility to address unexpected events, such as recessions, financial crises, and wars, see CBO's, Federal Debt and the Risk of a Fiscal Crisis.
Indicators used for assessing the federal debt burden View details
Key considerations in assessing the level of federal borrowing are the magnitude of federal debt relative to the nation's federal income and the direction in which the level of federal debt is heading. Indicators to assess the federal debt burden include:
- The ratio of debt held by the public to gross domestic product (GDP) A commonly used measure of domestic national income. GDP is the value of all goods and services produced within the United States in a given year and is conceptually equivalent to incomes earned in production. It is a rough indicator of the economic earnings base from which the government draws its revenues.
- Interest costs as a share of federal revenue
- The fiscal gap.
Debt to GDP Ratio measures the amount of debt held by the public in relation to the nation's income. GDP is the value of all goods and services produced in the United States in a given year. The dollar value of debt is difficult to interpret absent some sense of the relative burden that it imposes. The level and future direction of the ratio of a nation's debt held by the public to its GDP are widely used as benchmarks for assessing that nation's fiscal condition.
Interest Costs as a Share of Federal Revenue is the share of federal revenue absorbed by interest payments to service the federal debt each year. This is an important indicator of the federal resources needed to finance past decisions. Paying interest reduces resources available for other uses. Net interestPrimarily interest on debt held by the public. In addition to interest on debt held by the public, the government also earns some interest from various sources and pays interest for purposes other than borrowing from the public. These amounts are only a small portion of net interest and, taken together, slightly reduce its total is primarily interest paid on debt held by the public. In recent years, the federal government has been able to borrow at historically low interest rates, but interest rates are expected to increase as the economy recovers.
Source: Office of Management and Budget.
Note: Data from Budget of the United States Government for Fiscal Year 2013–Historical Tables.
Fiscal Gap represents the difference, or gap, between revenue and spending in present value terms over a relatively long period, such as 75 years, that would need to be closed to achieve a specified debt level at the end of the period. One can calculate the total size of action needed—in terms of tax increases, spending reductions, or, more likely, some combination of the two—to close the gap. This indicator condenses a long-term series of annual estimates into a single meaningful number that can be used to judge the required scale of corrective action. For GAO's recent estimates of the fiscal gap, see Long Term Fiscal Outlook.
Fiscal exposures View details
Neither the federal budget nor the financial statement alone present a complete picture of the long-term fiscal outlook or fully capture the wide range of programs, responsibilities and activities that may lead to future spending. Long-term budget simulations and sustainability reports can provide a broader picture of the sustainability of current fiscal policy. GAO has prepared long-term simulations of the federal fiscal outlook since 1992. The Financial Report of the United States Government also included comprehensive long-term fiscal projections for the U.S. government as part of supplementary information on sustainability.
Debt held by the public is the largest explicit liability of the federal government and is widely reported. However, GAO first reported in 2003 that other fiscal exposures–responsibilities, programs, and activities that may explicitly or implicitly expose the federal government to future spending–also warrant attention. We use the terms explicit and implicit to provide a framework to consider long-term costs and uncertainties. An example of an explicit exposure is the amounts owed for military and civilian pension and retirement health benefits. This is considered a liabilityA probable future outflow or other sacrifice of resources as a result of past transactions or events. Generally, liabilities are thought of as amounts owed for items or services received, assets acquired, construction performed (regardless of whether invoices have been received), and amount received but not yet earned.. Examples of implicit exposures—the assumption of future spending embedded in current policy or public expectations—are future Social Security and Medicare benefits. See GAO, Fiscal Exposures: Improving the Budgetary Focus on Long-Term Costs and Uncertainties.
|Examples Along the Spectrum of Fiscal Exposures|
Note: Some exposures can fall at multiple parts of the spectrum. For example, an explicit liability is also recorded for insurance programs for events that have already occurred.
Debt Held by the Public: Publicly held debt is the largest legally and contractually binding obligation of the federal government. Information about such debt is reported in the Budget, the Financial Report of the United States Government, and long-run budget projections by OMB, CBO, and GAO.
Military and civilian pension and post-retirement health benefits: Pensions and post-retirement health benefits are essentially deferred compensation. The Fiscal Year 2010 Financial Report of the United States Government reported a liability for such benefits of approximately $4.1 trillion as of September 30, 2010.
Environmental and disposal liabilities: The federal government is legally required to clean up hazardous waste that results from its operations. However, these costs usually are not paid until many years after the federal government operations generating the waste have taken place. Environmental and disposal liabilities are reported in the Financial Report of the United States Government. See Long-Term Commitments: Improving the Budgetary Focus on Environmental Liabilities.
Federal Insurance Programs: The federal government insures against contingencies, i.e., situations where there is an uncertainty of a possible loss. The federal government provides insurance for individuals and businesses against a wide variety of risks, ranging from natural disasters under the flood and crop insurance programs to bank and employer bankruptcies under the deposit and pension insurance programs. These programs expose the government to future, and potentially significant, draws on resources that may not be reflected adequately in the budget at the time the decision to extend the insurance is being made. For example, the Pension Benefit Guaranty Corporation, which insures the pension benefits of participants in private defined benefit plans, has seen its net financial position fluctuate from a surplus in the early 2000's to a large financial deficit in the late 2000's. Claims against PBGC are highly variable. The termination of one large pension plan may result in a larger claim against PBGC than the termination of many smaller plans. See GAO's High Risk webpage for more information.
Future Social Security & Medicare benefits: These are placed at the implicit end of the spectrum because the federal government is not legally obligated to pay future Social Security and Medicare benefits. Congress can change the benefit structure, and it has done so in the past. These exposures flow from expectations that the public holds about the government’s responsibilities. The amounts of and public’s reliance on these future benefits place these programs among the most significant fiscal exposures. See the Financial Report of the United States Government, which includes a Statement of Social Insurance.
Federal Disaster Relief: The federal government has historically provided assistance following natural disasters, such as Hurricane Katrina, and also the September 11 terrorist attacks. These potential costs to the government do not flow from their legal nature but from expectations that the public holds about the government's responsibilities. Some of these expected costs for future disasters are included in the budget. However, GAO found that annual budget requests and appropriations for disaster relief do not include all known costs, particularly those from catastrophic disasters. See Disaster Cost Estimates: FEMA Can Improve Its Learning from Past Experience and Management of Disaster-Related Resources.
Where on the spectrum do Government Sponsored Enterprises (GSEs) fit? GSEs are federally chartered but privately owned and operated institutions that enhance the availability of credit to specific sectors of the economy. Major GSEs support agriculture (the Farm Credit system) and housing/home ownership (e.g. Fannie Mae, Freddie Mac, Federal Home Loan Banks). Although the federal government did not guarantee GSE liabilities, the assumption that the federal government would step in if the GSEs were in danger of failing created an implicit exposure. In 2008, the federal government did respond when the financial position of Fannie Mae and Freddie Mac weakened considerably. Specifically, the federal government placed them under conservatorship, committed to make funding advances to those GSEs under certain conditions, and has subsequently advanced significant sums to both of those GSEs. For more information, see the Financial Report of the United States Government, which includes liabilities for estimated future payments to these entities.
Debt limit considerations View details
The debt limitA legal ceiling on the amount of gross federal debt (excluding some minor adjustments), which must be raised periodically to accommodate additional federal borrowing does not determine federal borrowing needs because it does not restrict Congress' ability to enact spending and revenue legislation that affect the level of federal debt or otherwise constrain fiscal policy. Instead, the government's borrowing needs result from all of the revenue and spending decisions made as well as the performance of the economy.
While debates surrounding the debt limit may raise awareness about the federal government's current debt trajectory and may also provide Congress with an opportunity to debate the fiscal policy decisions driving it, this debate generally occurs after the tax and spending decisions which affect debt levels have been enacted into law. Consequently, Congress is left with a narrower range of options to affect an immediate change to fiscal policy decisions and hence to federal debt. For more information, see Debt Limit: Delays Create Debt Management Challenges and Increase Uncertainty in the Treasury Market.