Presentations on the Budget and Economic Outlook

March 5, 2010

Last week I made presentations on the budget and economic outlook to both the Prosperity Caucus and the National Economists Club. The Prosperity Caucus was described in a recent article in The Hill newspaper as a group founded in 1986 with the purpose of gather[ing] libertarian-minded economists, Hill staffers and academics to hear someone talk about the burning policy issues of the day; The National Economists Club was founded in 1968 and describes itself as aim[ing] to encourage and sponsor discussion and an exchange of ideas on economic trends and issues that are relevant for public policy. I was very pleased to be invited to talk with both groups, and to answer a variety of questions that they raised.

In my comments (see the slides), I highlighted these points drawn from CBOs January Budget and Economic Outlook report:

  • CBO expects only a gradual recovery in the labor market. Output growth will probably be slow in light of the continuing fragility of some financial markets and institutions, the restraint on household spending stemming from slow income growth and lost wealth, and declining support from monetary and fiscal policy. Moreover, even when demand for labor picks up, the movement of unemployed workers into new jobs will be difficult in many cases, and improvements in labor-market conditions will draw people who have stopped looking for work back into the labor force. All told, CBO projects that the unemployment rate will fall below 8 percent only in 2012 and will return to near its long-run sustainable level of 5 percent only in 2014.
  • Under current law, the budget deficit will drop from about 9 percent of GDP this year to about 4 percent in 2012the largest two-year decline in the deficit since the end of World War II. However, policymakers are considering changes from current law that would keep deficits from falling so quickly. For example, if policymakers extended all or part of the 2001 and 2003 tax cuts beyond their scheduled expiration at the end of this year, indexed the alternative minimum tax (AMT) for inflation, or boosted spending for transfer programs or government purchases of goods and services relative to the levels projected under current law, the budget deficit would not decline as rapidly.
  • Beyond the next few years, CBO expects the nations output to return to its so-called potential level (the output that could be produced if all labor and capital were fully employed) and then to rise at a solid but unspectacular pace. In particular, we expect that output growth will be slower than its average pace of the past 60 years, primarily because of slower population growth and a downtrend in the labor force participation rate that has been apparent during the past decade.
  • Between 2013 and 2020, CBO projects that the budget deficit will run around 3 percent of GDP and debt held by the public will exceed 65 percent of GDPunder current law. However, deficits would be much larger if policymakers extended the tax cuts mentioned above, or increased discretionary spending in line with GDP (which is about what actually happened in the past 20 years, leaving aside the effects of the stimulus package) rather than only with inflation as assumed in CBOs baseline. For example, if the tax cuts were extended, the AMT indexed for inflation, and no other changes made in spending or revenue, the deficit would be about 6 percent of GDP in the second half of the coming decade rather than 3 percent, and debt held by the public would be nearly 90 percent of GDP by 2020. Both deficits and the federal debt would be on an upward path.