Why the CBO Dramatically Darkened Its Budget Outlook

Congressional Budget Office Director Douglas Elmendorf Photograph by Chip Somodevilla/Getty Images

The nonpartisan Congressional Budget Office on Tuesday projected a much gloomier long-term outlook for federal budget deficits than its year-ago forecast. The CBO now predicts that federal debt held by the public will rise to 100 percent of gross domestic product by 2038 under its “extended baseline scenario.” (It’s around 73 percent now.) Last year it predicted the ratio would fall to 52 percent over the quarter-century in the baseline scenario.

This is, as the CBO notes, a “very large” forecast revision.

What changed? Here’s what:

Tax Cuts. In January, Congress ended the standoff with President Obama over the fiscal cliff (remember that?) by making the Bush tax cuts for individuals permanent and by permanently indexing the alternative minimum tax to inflation. As the CBO says, the tax cuts “reduced revenues substantially relative to previous law.”

It was widely expected that these changes were coming, but the CBO’s previous outlook didn’t take them into account—because it couldn’t. The agency is required to assume in its forecasts that current laws will stay as they are, even when it’s apparent in the real world that they won’t. That contributed to the overly optimistic predictions.

Life Expectancy. The CBO used to use the same assumptions about life expectancy that the Social Security Administration uses. But this year, based on consultations with demographers and work by Social Security’s outside experts, the CBO decided to assume a faster rate of decline in mortality. Longer lives mean higher costs for Social Security and Medicare.

Disability. The CBO projected higher claims for disability, which is already a growing expense for Social Security.

Unemployment. The agency raised its forecast of the long-term average for unemployment to 5.3 percent, from 5.0 percent, which reduced its projection for GDP and thus raised the debt-to-GDP ratio.

The CBO also made some changes that brightened the outlook: It changed its forecast for mandatory federal spending to be a smaller percentage of GDP in the long run. It also increased its projection for how long people will work and lowered its estimated growth rate for health-care costs. Even so, the net of all its changes—dominated by the January tax cuts—was to make the long-term outlook seem worse.

Reasonable people can disagree as to whether the federal government needs to tighten its belt right now, with the economy weak and unemployment high, but it’s pretty obvious that in coming decades, something has to give.

Here’s how the CBO put it:

“How long the nation could sustain such growth in federal debt is impossible to predict with any confidence. At some point, investors would begin to doubt the government’s willingness or ability to pay U.S. debt obligations, making it more difficult or more expensive for the government to borrow money. Moreover, even before that point was reached, the high and rising amount of debt that CBO projects under the extended baseline would have significant negative consequences for both the economy and the federal budget.”

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