The Deficit Reductions Necessary to Meet Various Targets for Federal Debt
What changes in federal budget deficits would be necessary to reduce debt held by the public over the long term? CBO analyzed the primary deficit reductions necessary to meet three different debt targets in four different time frames.
Lawmakers have asked what changes in federal budget deficits would be necessary to reduce federal debt held by the public to various targets over the long term. CBO has examined a number of illustrative scenarios in which the federal government does that by means of two broad strategies. The first strategy is for policymakers to reduce the primary deficit—that is, the deficit excluding net outlays for interest—by an amount equal to a constant share of gross domestic product (GDP) and to maintain that same percentage reduction each year throughout the period in question. For example, policymakers might choose to reduce the primary deficit so that it is 3 percent of GDP lower than in the extended baseline in each year of the period. Those scenarios are called constant-share scenarios in this report. The other strategy is to reduce the primary deficit by a growing percentage of GDP over time. Those scenarios are called growing-share scenarios.
In this report, the reductions in deficits are measured in relation to CBO’s extended baseline projections. (The extended baseline generally reflects current law; it follows CBO’s 10-year baseline projections through 2028 and then extends most of the concepts underlying those baseline projections through 2048.)
What Reductions in the Primary Deficit Would Be Necessary to Meet Various Debt Targets?
CBO analyzed the primary deficit reductions necessary to meet three different debt targets over four different time frames. The three targets are federal debt equaling 41 percent of GDP (the average over the past 50 years), 78 percent of GDP (the current amount), and 100 percent of GDP. The four time frames begin in 2019 and extend to 2033, 2038, 2044, and 2048. (In CBO’s extended baseline, debt held by the public grows to 152 percent of GDP in 2048.)
For example, if lawmakers wanted to reduce debt to 41 percent of GDP by 2048, and if they did so by keeping the primary deficit a constant share of GDP below its level in the extended baseline in each year, they would need to cut noninterest spending, increase revenues, or both (before the economic effects of those changes were taken into account) by a total of 3.0 percent of GDP in 2019 and maintain that percentage reduction over the following 29 years (see figure below). In 2019, that change would equal $640 billion. (In CBO’s baseline projections, the primary deficit in that year equals $591 billion.)
A higher debt target would require smaller changes. For example, if lawmakers wanted to use a similar approach to meet a debt target of 100 percent of GDP in 2048, they would need to reduce primary deficits by 1.3 percent of GDP (which would equal $270 billion in 2019).
The largest constant-share reduction analyzed in this report is 3.9 percent of GDP ($830 billion in 2019), which would bring debt down to 41 percent of GDP in 2033. The smallest is 0.3 percent of GDP ($60 billion in 2019), which would reduce debt to 100 percent of GDP in 2033, only slightly lower than what is projected in the extended baseline.
If instead lawmakers wanted to reduce primary deficits by a growing share of GDP each year, all of those reductions in primary deficits would be smaller than the corresponding constant-share reductions initially, but larger in later years.
What Economic Effects Are Reflected in CBO’s Analysis?
CBO’s analysis accounts for the fact that less federal borrowing would leave more money available for private investment and thereby make output higher and interest rates lower. For example, under the illustrative scenario in which policymakers chose a debt target of 41 percent of GDP in 2048, real (inflation-adjusted) gross national product (GNP) per person in that year would be higher than in CBO’s extended baseline by about 6 percent, or $6,000 in 2019 dollars. That is the largest increase in GNP in the various scenarios considered here. Under the scenario in which the debt target was 100 percent of GDP in 2048, GNP per person in that year would be higher by about 3 percent, or $3,000 in 2019 dollars. Those increases in output, as well as the lower interest rates, would further reduce deficits and debt by increasing revenues and lowering interest costs and other spending as a percentage of GDP.
What Are the Limitations of CBO’s Analysis?
This analysis is narrow in scope and therefore has significant limitations. For example, as the point of comparison, it uses CBO’s extended baseline, which incorporates the assumption that current laws generally remain unchanged. As a result, to the extent that policymakers have in mind a different point of comparison, the analysis is less informative. Also, the analysis does not incorporate the negative short-term effects of large, abrupt changes in noninterest spending or revenues on economic growth and income. In addition, the estimates presented here do not incorporate the ways in which changes in fiscal policy can affect people’s incentives to work or save or can affect productivity growth, other than through those changes’ effects on federal borrowing. This analysis gives estimates of overall economic effects, not the effects on particular income groups. And significant uncertainty surrounds both the extended baseline projections and the economic effects of the illustrative scenarios examined here.
How Do the Illustrative Scenarios Compare With Each Other?
A number of patterns emerge when one considers the illustrative scenarios’ estimated effects on the federal budget and the economy. For example, reductions in primary deficits in the constant-share scenarios rather than in the growing-share scenarios result in larger changes in deficits in the near term but smaller changes later on. In some scenarios with lower debt targets, postponing the year in which a debt target is met necessitates smaller changes to deficits. In addition, larger cuts to primary deficits ultimately result in larger reductions in interest payments and bigger effects on economic output. And in some scenarios, the deficit reductions would be so large that surpluses would result.