Economy, Fed paper over debt problem

Surging tax payments give Congress breathing room, for now

Federal Reserve Chairman Jerome Powell testifies before the House Financial Services Committee on Feb. 27, 2018. The gross federal debt has grown to more than $28 trillion since then. (Tom Williams/CQ Roll Call file photo)
Federal Reserve Chairman Jerome Powell testifies before the House Financial Services Committee on Feb. 27, 2018. The gross federal debt has grown to more than $28 trillion since then. (Tom Williams/CQ Roll Call file photo)
Posted October 18, 2021 at 10:30am

ANALYSIS — You wouldn’t know it from all the noise around the debt ceiling and budget reconciliation. But surging economic growth fueled by unprecedented fiscal and monetary firepower has given lawmakers what golfers call a “mulligan” on America’s near-term budget problems.

Start with the big takeaway from the Congressional Budget Office: In the fiscal year that ended Sept. 30, the IRS collected $370 billion in corporate tax receipts, more than double the CBO’s February estimate and 55 percent more than predicted in July.

“Notwithstanding the ongoing global pandemic, U.S. corporations are contributing to the federal government’s finances at robust levels,” crowed a release from the Alliance for Competitive Taxation, a group of big U.S. companies fighting Democrats’ proposed tax increases.

The $370 billion figure, if it holds when the Biden administration releases final fiscal 2021 numbers, would be higher than the White House’s August projection that it had already revised up $89 billion from February. It would be just $13 billion below what the CBO projected back in June 2017, before the GOP tax overhaul later that year cut the corporate tax rate by 14 points.

Over fiscal years 2018 through 2027, actual results and the CBO’s updated forecast show total federal receipts at just $127 billion less than their $43 trillion June 2017 projection — a 0.3 percent difference. Compared with their first post-GOP tax cuts forecast in April 2018, updated CBO estimates show nearly 90 percent of the assumed revenue loss has evaporated.

Swap in the White House’s rosier corporate tax forecast and even without President Joe Biden’s tax increases, an updated 10-year baseline would show $129 billion in greater receipts than the CBO assumed before the 2017 tax cuts.

Corporate taxes are still down relative to prior estimates over the full 10 years, even as profits are up. But updated figures show individuals paying nearly $750 billion more income tax because of higher capital gains, wages and salaries and “pass through” business profits than the CBO’s first post-tax overhaul baseline predicted.

Other revenue sources escalated too, including import tariffs imposed by President Donald Trump and continued by Biden, and Federal Reserve remittances to the Treasury as short-term interest rates on assets parked at the central bank dropped and the Fed’s own interest-bearing Treasury load swelled. Even estate tax collections last year were 40 percent higher than the CBO predicted after the Trump tax cuts doubled the per-spouse exemption to $11 million.

For all the blame hurled at their partisan pandemic aid package in March, Democrats get their own mulligan of sorts: The CBO estimates each dollar in the $1.9 trillion relief law boosted gross domestic product by 73 cents.

Adding higher interest payments, inflation and other technical revisions, the CBO’s updated forecast shows $3.1 trillion more spending over the fiscal 2021-30 period than it estimated in February. But at the same time, economic growth took off and tax revenue shot up by $2.7 trillion, aided by mass vaccine availability and the relief package’s jolt to consumer spending and job creation.

Economic growth could yet falter as pandemic variants, supply chain bottlenecks and sticky inflation dent consumer spending. For now, the swift economic recovery powered federal revenue past $4 trillion in fiscal 2021, or around 18 percent of GDP — right where the CBO thought it would be before the GOP tax overhaul and highest since 2007.

‘Fiscal insanity’

That won’t resolve the debate over whether corporations and the wealthy “pay their fair share” of taxes. And the current tax code can’t cover promises politicians already made, let alone new ones on the table in the budget reconciliation process — a point centrist Sen. Joe Manchin III, D-W.Va., routinely makes.

Manchin said last month that “spending trillions more on new and expanded government programs, when we can’t even pay for the essential social programs, like Social Security and Medicare, is the definition of fiscal insanity.”

Looking back to the pre-2017 tax cuts CBO forecast, spending on programs ranging from military hardware to food stamps is up nearly $5.2 trillion over fiscal 2018 through 2027. Hurricane relief and bipartisan deals to lift tight caps on discretionary spending played a role pre-pandemic. After COVID-19 hit, spending jumped by around 50 percent and topped 30 percent of GDP, the highest since World War II.

At the same time, projected interest payments on the debt are down nearly $1.9 trillion, or 34 percent, from the June 2017 CBO estimate even as debt surged by about $7 trillion over the past four years. The yield on 10-year Treasury notes is hovering around 1.6 percent; by comparison, in June 2017 the CBO projected a 3.6 percent rate for the back half of 2021.

Global demand for Treasury debt has been robust all around. But the Fed’s quantitative easing has more than doubled the Treasurys on its books since March 2020 to nearly $5.5 trillion.

The Fed’s holdings are part of overall debt subject to limit, which stood at $28.4 trillion before Biden signed a $480 billion increase into law on Thursday. Of that figure, around $6.3 trillion consists of “intragovernmental holdings,” or special securities sold to Social Security, Medicare, federal employee retirement and other government trust funds.

That leaves Treasury on the hook for less than $17 trillion owed to private and international creditors, or roughly 75 percent of GDP in fiscal 2021. A comparable figure based on the CBO’s June 2017 forecast adjusted for the pre-pandemic Fed balance sheet would peg Treasury’s global credit market exposure at about 70 percent of GDP last year.

That’s not as great a difference as one might think given the fiscal blowout over the past four years. And the gap narrows in the coming years, assuming the Fed maintains a healthy share of the Treasury market even after “tapering” its monthly bond purchases down to zero next year.

Manchin and others dislike quantitative easing for the inflation it has helped stoke. But based on the spread between regular and inflation-adjusted Treasury yields, investors believe inflation over the next five years will be half the 5.4 percent rate the Labor Department reported for the most recent 12-month period, including volatile food and energy prices.

The bottom line is, so long as the economy keeps booming and the Fed’s monetary fire hose keeps pumping, deficits really don’t seem to matter, as former Vice President Dick Cheney once said.

Over the horizon

Then again, as former Speaker John A. Boehner used to say: “If ifs and buts were candy and nuts, it’d be Christmas every day.” The longer-run problem is how to keep those promises Manchin talks about.

While much of the recent spending will subside as COVID-19 relief fades, health care entitlements and benefits for seniors keep growing. In the latter part of the decade, Social Security and Medicare alone account for virtually the entire budget deficit, the CBO says.

Medicare’s financial problems start to pinch in 2026, when hospital payments would need to be trimmed 9 percent, according to government actuaries. Social Security benefits face a 26 percent cut starting in 2033.

As soon as Social Security announced the biggest inflation adjustment in 40 years, some Democrats re-upped their call for more generous benefits, paid for with higher taxes on the rich. For Republicans, the answer usually involves delaying the retirement age and trimming benefits for wealthier seniors.

It’s never a safe bet lawmakers will risk angering seniors with another election always around the corner, however, and the CBO numbers assume Congress will simply shower Medicare and Social Security with cash to avoid cuts.

The debt ceiling has historically provided a venue for debating federal finances, but lately it’s become little more than a backward-looking blame game. And if the reconciliation bill eats up all the political capital available for tax increases, there may not be much ammunition left to shore up the long-term budget hole.

Peter Cohn is CQ Roll Call’s fiscal policy editor.