Under current policies, the aging of the U.S. population and increases in health care costs will almost certainly push up federal spending significantly in coming decades relative to the size of the economy. Without changes in policy, spending on the government’s major mandatory health care programs as well as on Social Security will increase from the present level of roughly 10 percent of the nation’s output, or gross domestic product (GDP), to about 16 percent over the next 25 years. If revenues remain at their past levels relative to GDP, that rise in spending will lead to rapidly growing budget deficits and mounting federal debt, which would have significant negative economic consequences. Addressing the long-term budget imbalance would, at a minimum, require stabilizing the ratio of debt to output. In deciding when and how to do that, an important consideration is: What are the costs of waiting to address the budget imbalance? A CBO issue brief released today addresses that question.
Quantifying the Costs of Waiting
Waiting to put fiscal policy on a sustainable course would lead to higher levels of government debt, which would be costly in several ways:
At the same time, waiting to put fiscal policy on a sustainable course could make some generations better off than they would be otherwise. In particular, a delay would tend help older generations by deferring the tax increases or cuts in benefit payments and government services that they would face.
CBO quantified the costs of delay using a stylized model of the economy similar to one of the models used in CBO’s annual analysis of the President’s budget. Estimates from the model take into consideration only the first two costs of delay listed here, as well as the benefits for some generations from delaying revenue increases or spending cuts. The other two costs of delay are more difficult to quantify and are not included in this analysis, although a separate CBO issue brief earlier this year discussed the risks and possible effects of a fiscal crisis.
In this issue brief, CBO compares the effects of implementing policies that would halt the growth in federal debt as a percentage of GDP starting in 2015 with the effects of policies that would delay stabilizing the ratio of debt to output until 2025. As projected in this analysis, debt would be about 40 percentage points higher as a share of GDP in 2025 than in 2015. The analysis considers three illustrative policy changes to stabilize the ratio of debt to output: cutting federal benefit payments for all adults, cutting benefit payments for all adults except those who are age 60 or older at the time of the change, and raising tax rates on income from labor and capital.
Effects of Waiting on the Economy and on the Well-Being of Different Generations
Waiting until 2025 to resolve the long-term budget imbalance would have several long-term effects on the nation’s economy:
(For all of these economic variables, the impact of waiting is larger for increases in taxes than for cuts in benefits because of the disincentive effects of higher tax rates.)
The budgetary and economic consequences of delay would affect people’s well-being, and those effects would differ for different generations. Waiting until 2025 to stabilize the ratio of debt to GDP would reduce the well-being of all generations born after 2015 by amounts equivalent to roughly 1 percent to 3 percent of their consumption over their remaining lifetime, CBO estimates. Many current workers and retirees, by contrast, would benefit from such a delay (not counting the costs of the reduction in the government’s ability to respond to unexpected needs and the increased risk of a fiscal crisis) because they would receive higher benefits or pay lower taxes for a number of years. For example, people who were age 60 or older in 2015 would be better off—by an amount equivalent to about 2 percent of their future consumption—if a policy that stabilized the debt-to-GDP ratio by cutting federal benefit payments for all adults was delayed from 2015 to 2025.
This brief was prepared by Benjamin Page and Marika Santoro of CBO’s Macroeconomic Analysis Division.