By Ryan Brecht
The U.S. Treasury is expected to report about a $120 billion surplus for fiscal year 2001. While such a figure would be well below initial estimates of an almost $300 billion surplus, developments on the legislative and economic front since the September 11 terrorist attacks point to an even smaller surplus in fiscal 2002, which began Oct. 1.
Even a shrunken surplus, however, looks good compared to what might happen: A fall-off in tax receipts, combined with a sizable increase in new spending, raises the risk that the Treasury will find itself back in the red by the end of the current fiscal year.
Since September 11, the government's checkbook has opened wide. Outlays are poised to increase significantly in fiscal 2002, largely at the behest of a Congress and President looking to shore up national security and the economy. Indeed, the spirit of cooperation between Republicans and Democrats forged in the wake of the attacks seems to be mostly intact, suggesting that a fiscal-stimulus package equal to the $65 billion to $75 billion originally proposed by the White House will make its way to the President's desk.
But the good feeling goes only so far. Some friction has developed over the size and composition of the proposed stimulus program. The Republican-controlled House of Representatives narrowly passed a $100 billion package that's heavy on tax incentives and permanent tax cuts. Not surprisingly, Democrats objected to both the size and composition of the Republican legislation, favoring a smaller package that focuses more on providing temporary benefits to lower-income groups.
A compromise is inevitable, as the bill's next stop will be the Democratic-controlled Senate. While it's impossible to predict the final content, a sizable increase in spending appears to be in the cards.
While the slowing economy was holding down growth in tax payments received prior to September, the post-September 11 landscape suggests even more weakness in receipts. The widespread disruptions to businesses, along with already weak profits, will likely see corporate tax receipts lose further ground in fiscal 2002. Meanwhile, accelerating job losses threaten to expand Treasury's revenue gap through a drop in withholding taxes.
Yet another threat to the government's coffers is posed by the stock market's poor performance. In addition to the lack of capital gains due to dismal equity performances, many taxpayers may opt to realize capital losses, which would exert additional downward pressure on tax receipts not realized through withholding.
Given the worsening budget environment, Standard & Poor's MMS now expects Treasury to run a modest $30 billion surplus in fiscal 2002, with a deficit looking increasingly likely. However, the erosion in the government's finances may prove temporary, as the expected economic recovery beginning in the second quarter would help shore up receipts.
Still, spending remains the real wild card. The duration and scope of the current military operation, combined with uncertainty over future spending initiatives, could leave a dramatically altered budget landscape.
While the prospect of a return to deficits in fiscal 2002 has not been encouraging for longer-dated Treasury issues, the concerns that followed immediately after the attacks have been eased somewhat by the emergence of concrete stimulus proposals. Moreover, since the deterioration in the government's balance sheet will likely prove cyclical -- and with inflation looking well contained -- pressure on long-term interest rates should remain minimal. And that should be a relief to the markets.
Brecht is a senior economist for Standard & Poor's Global Markets