How Changes in Economic Conditions Might Affect the Federal Budget: 2022 to 2032

Some of the uncertainty in budget projections stems from the fact that the federal budget is highly sensitive to economic conditions, which are difficult to accurately predict. If conditions differed from those in the Congressional Budget Office’s economic forecast, budgetary outcomes could diverge from those in the agency’s baseline budget projections.

To show how variations in economic conditions might affect its budget projections, CBO analyzed how the budget might change if values of the following key economic variables differed from those in the agency’s forecast:

• The growth of productivity and, consequently, the growth of real gross domestic product (that is, GDP adjusted to remove the effects of inflation);
• Labor force growth, which would also affect real GDP growth;
• Interest rates; and
• Inflation and nominal interest rates (assuming that inflation-adjusted interest rates remain unchanged).

In those analyses, called the “rules of thumb,” CBO examined how slower productivity growth, slower labor force growth, higher interest rates, and higher inflation would increase deficits above the amounts in the agency’s baseline budget projections. However, the actual outcomes of any of those variables could be higher or lower than they are projected to be in CBO’s baseline. The rules of thumb are roughly symmetrical, so if productivity or the labor force increased more quickly than projected, or if interest rates or inflation were lower than projected, deficits would be smaller than they are in the agency’s baseline budget projections by about the same amounts.

Looking at deviations that would worsen budget deficits, CBO’s analysis yielded the following results:

• If productivity grew at a rate that was 0.1 percentage point slower each year than it does in the agency’s economic forecast, annual deficits would be larger than projected by amounts that would climb to $59 billion by 2032, CBO estimates. Over the 2023–2032 period, the cumulative deficit would be $292 billion larger than it is in CBO’s baseline projections.
• If the labor force grew at a rate that was 0.1 percentage point slower each year than the rate in CBO’s economic forecast and if the unemployment rate remained unchanged, annual deficits would be larger than those in the agency’s baseline budget projections by amounts that would grow each year and reach $27 billion by 2032, CBO estimates. The cumulative deficit for 2023 to 2032 would be $128 billion larger than it is in the agency’s baseline budget projections.
• If all interest rates—including both the rate on 3-month Treasury bills and the rate on 10-year Treasury notes—were 0.1 percentage point higher each year than they are in CBO’s economic forecast, deficits would increase progressively over the projection period by amounts that would rise to $41 billion in 2032, if other variables were held constant. The cumulative deficit for 2023 to 2032 would be $285 billion larger than it is in the agency’s baseline projections.
• If all wage and price indexes—including the GDP price index, the consumer price index for all urban consumers (CPI-U), the chained CPI-U, and the employment cost index for wages and salaries of workers in private industry—grew at a rate that was 0.1 percentage point faster each year than the rate in CBO’s economic forecast, annual deficits would be larger than projected by amounts that would climb to $43 billion by 2032. That total reflects the effects of higher nominal GDP and taxable income resulting from increased inflation, as well as higher nominal interest rates to keep real interest rates unchanged. The cumulative deficit for the 2023–2032 period would be $262 billion larger than projected.