{"id":10006,"date":"2020-05-20T16:21:38","date_gmt":"2020-05-20T21:21:38","guid":{"rendered":"http:\/\/blog.uwsp.edu\/cps\/?p=10006"},"modified":"2020-06-03T10:42:19","modified_gmt":"2020-06-03T15:42:19","slug":"the-coronavirus-why-the-u-s-economy-will-never-be-the-same-part-5-what-will-change-deficits-and-government-spending","status":"publish","type":"post","link":"https:\/\/blog.uwsp.edu\/cps\/2020\/05\/20\/the-coronavirus-why-the-u-s-economy-will-never-be-the-same-part-5-what-will-change-deficits-and-government-spending\/","title":{"rendered":"The Coronavirus \u2013 Why the U.S. Economy Will Never be the Same Part 5: What Will Change \u2013 Deficits and Government Spending"},"content":{"rendered":"\n

It\u2019s\nlike nothing that you\u2019ve seen – the pending federal deficit. During the financial crisis, the budget\ndeficit hit approximately $1.4 trillion – a record at the time. According to\nthe Congressional Budget Office (CBO) the budget deficit for fiscal year 2020\n(which ends in September) was expected to top $1 trillion before<\/em> the\ncoronavirus. The tax cuts of 2018 set the stage for record deficits if anything\nwent significantly wrong with the economy. It did. Given the $2 trillion phase\nIII fiscal stimulus and the possibility of another fiscal stimulus, the budget\ndeficit will explode. Unfortunately, the coronavirus will have a double\nwhammy on the economy. Not only will the fiscal stimulus increase government\nexpenditures by almost 50%, tax revenues will contract significantly as\ncorporate and individual incomes decline. <\/p>\n\n\n\n

In the current economic scenario, an appropriate and\nlarge enough fiscal stimulus had to take priority over any deficit concerns.\nThe impact of the coronavirus on the U.S. economy was too detrimental. Without\nappropriate fiscal stimulus, a recession could turn to depression. However, the\nlikely record-setting deficit will have significant consequences moving\nforward, and decisions will have to made regarding government spending and tax\npolicy.<\/p>\n\n\n\n

Generally, an expanding economy leads to a decrease<\/em>\nin the U.S. federal government budget deficit as tax revenues increase.\nHowever, the 2018 tax cuts changed that \u2013 they were different. The economy had over eight years of\neconomic growth; the unemployment rate had declined gradually from\napproximately 10% in 2009 to nearly 4% at the end of 2017. Contrary to tax cuts\nin 2003 and 2011-2012, the 2018 tax cuts were implemented when the economy was expanding<\/em>\nand the unemployment rate was relatively low. \n<\/p>\n\n\n\n

The largest cuts were to corporate taxes. The corporate tax rate was lowered\nsignificantly from 35% to 21%. In addition, taxable income could be lowered\nthrough capital expenditures (spending on property, plant, and equipment) which\ncould be expensed (a tax deduction in the year of the expense) rather than\ndepreciated (allocating the cost and spreading the deduction over the life of\nthe property). Owners of small businesses also benefitted. Many small\nbusinesses are organized as \u201cpass-through\u201d businesses, where the business does\nnot pay tax, but the owners do. Sole proprietorships, partnerships, LLCs, LLPs,\nand S corps are pass-through businesses. The new tax law allowed pass-through\nowners to deduct up to 20% of their net business income from their income taxes.\nFinally, individual tax rates were cut approximately 2-3% in each income\nbracket, although deductions were limited. <\/p>\n\n\n\n

According\nto the Office of Management and Budget, corporate taxes as a percent of GDP\nfell from 1.5% in fiscal year 2017 to only 1.0% in 2018. Individual income\ntaxes as a percent of GDP actually increased from 8.2% in fiscal year 2017 to\n8.3% in 2018. Another effect of the 2018 tax bill was how the resulting split\nbetween individual and corporate taxes comprised total federal tax revenues. In\nfiscal year 2018, corporate income taxes comprised 6.1% of federal tax revenue\ncompared to 9.0% in 2017. The 6.1% rate was the lowest rate ever based on\nOffice of Management and Budget data available since 1934. Conversely in fiscal\nyear 2018, the contribution of individual income taxes to total federal tax\nrevenue increased. Federal income tax revenue from individual income taxes\ncomprised 50.6% of federal tax revenue in fiscal year 2018 compared to 47.9% in\n2017. The 50.6% rate for individual income taxes was not the highest rate ever\nbased on Office of Management and Budget data available since 1934.<\/p>\n\n\n\n

The 2018 tax cuts contributed to growing federal\ndeficits. The graph below shows the U.S. federal budget surplus or deficit\nsince 1980. The shaded areas of the graph indicate an economic recession. Note\nthe economic expansion in the 1990s led to budget surpluses. Following the\nrecession of the early 2000s and the financial and economic crisis of the late\n2000s, the deficit once again was reduced as tax cuts helped spur economic\ngrowth. The tax cuts in 2018 were different. The tax cuts were not made to help\nthe economy recover from a recession; there was no recession. Taxes were cut,\nthe rate of economic growth temporarily increased, but the deficit increased<\/em>.\nSince 2016 the budget deficit has increased; and increasing deficits during an\neconomic expansion were problematic.   <\/p>\n\n\n\n

Federal Budget\nSurplus or Deficit<\/strong><\/p>\n\n\n\n

\"\"
<\/strong>Annual amount of Federal Budget Surplus or Deficit in Millions of Dollars (1\/1\/80-9\/30\/19)<\/strong><\/em>
Source: Graph from Federal Reserve Economic Database (FRED) based on data from the U.S. Office of Management and Budget<\/em> <\/figcaption><\/figure>\n\n\n\n

Federal\ndebt as a percentage of GDP provides a relative measure as to how the federal\ndebt financially burdens the country. That number is at record levels and will\nlikely continue to go up. Total federal debt increases can be mitigated by Federal\nReserve policy which includes the purchase of Treasury securities, but that\nability is limited. The graph below provides a long-term perspective on the\namount of federal debt outstanding relative to the amount of income (GDP)\ngenerated in the U.S. Relatively speaking, federal deficits and increasing\nfederal debt were not much of an issue until the 1980s. Federal debt to GDP\nrose to over 50% by the end of the decade. In the 1990s, following a decade\nearly recession, federal debt to GDP topped 65%; federal budget surpluses\nhelped reduce the level to approximately 55% by the end of the decade. The\nreturn of budget deficits after the turn of the century increased federal debt\nto GDP to nearly 65% prior to the financial and economic crisis of 2007-2009.  Federal debt to GDP now stands at over 100%. <\/p>\n\n\n\n

Federal Debt as a\nPercentage of U.S. GDP<\/strong><\/p>\n\n\n\n

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1966 – 2019<\/strong><\/em>
Source: Graph from Federal Reserve Economic Database (FRED) based on data from the U.S. Office of Management and Budget<\/em> <\/figcaption><\/figure>\n\n\n\n

Going\nforward, the deficits will have to be dealt with. The pending deficit should provide\na needed short-term boost to the economy. However, long-term changes in tax\npolicy and\/or government spending, will have to be made. That could create some\ninteresting political battles, because the deficits will likely be significant\nand be a long-term detriment to economic growth. (The Trump Administration had\nalready proposed reductions to Social Security programs in its fiscal 2020\nbudget prior to the coronavirus). Although the fiscal stimulus spending will\nsubside, tax revenues may take some time to recover. The coronavirus may also change\nthe preferences of the public as to how the government spends its money. Healthcare\nand social programs became prominent topics of discussion once again with the impact\nof the coronavirus. <\/p>\n\n\n\n

And\nregarding those \u201csocial programs\u201d, over the past decade there has been\ngovernment spending on numerous individual and<\/em> corporate social\nprograms, including Social Security, the Financial Crisis bailouts (a $700\nbillion Toxic Asset Relief Program to purchase bad loans and investments from\nfinancial institutions; $80 billion to GM and Chrysler to remain solvent), and\nthe Phase III coronavirus stimulus ($500 billion to distressed corporations and\n$377 to small businesses in addition to direct payments to individuals and\nexpanded unemployment insurance). <\/p>\n\n\n\n

The\nbottom line \u2013 government spending has included both individual and corporate\nsocial programs. On the revenue side, changes in tax policy have lowered\ncorporate tax revenues relative to individual tax revenues. Going forward,\nchanges will likely be made to government spending and\/or tax revenues. Exactly\nwhat those changes are will likely be the subject of much political\ndebate.  <\/p>\n\n\n\n

One\nfinal point. The deficit problem will impact both states and the federal\ngovernment. Tax revenues will shrink in combination with increased costs\nrelated to the pandemic \u2013 for both.<\/p>\n\n\n\n

For\nfurther information:<\/p>\n\n\n\n