The Daily – The Problem With a $2 Trillion Deficit

Intro

In this episode of “The Daily,” the focus is on the $2 trillion deficit that the US federal government has accumulated in the past year. The podcast explores the reasons behind the growing deficit, the potential consequences, and the differing approaches of Republicans and Democrats in addressing the issue.

Main Takeaways

The Growing Deficit

• The US federal deficit has doubled to nearly $2 trillion in the past year.
• Deficits usually go down when the economy is growing, but this one did not.
• Borrowing costs for the federal government have shot up in the last few months, which could become a bad cycle for the government and the economy.
• The amount of tax revenue brought in last year was down by 9%, largely due to tax cuts passed in 2017.
• Economists who previously said not to worry too much about deficits are now starting to worry more due to the two big changes in circumstances.

The Drivers of the Deficit

• Tax revenues dropped significantly due to various reasons, causing a big deficit in the budget
• Spending didn’t increase much, so the big driver of the deficit is taxes
• Emergency defense spending and aid to foreign countries are short-term and not significant in the long-term budget problems

The Cost of Borrowing

• The cost of borrowing money to fill the deficit gap is high due to the interest rate of a 10-year Treasury bond hovering around 5%
• If the interest rate stays at 5%, the interest costs for the government will significantly increase, leading to more borrowing and mounting deficits
• Last year, the federal government spent $659 billion just to pay interest on the national debt, and if rates stay at 5%, that number will go way up
• The high interest costs take a tremendous amount of money out of the economy that could have been used for infrastructure and other projects.

Approaches to Addressing the Deficit

• Lawmakers need to make tough choices about taxes and spending to avoid bigger deficits and higher borrowing costs
• Republicans have been warning about high deficits but only want to reduce non-defense discretionary spending
• Democrats don’t talk much about the deficit but want it to be fiscally sustainable
• Biden’s proposals focus on increasing taxes to fund programs like childcare and infrastructure
• Democrats propose deficit reduction through tax increases on corporations and the rich
• Republicans aim to reduce deficit by cutting spending, but it’s not enough
• A mix of tax increases and spending cuts is needed to stabilize deficits
• The last time a balanced budget was achieved was in the 1990s, through a combination of tax increases and spending cuts
• A Goldilocks solution that combines both parties’ instincts is needed, but it’s a difficult conversation to have in Washington.

The Role of Rubinomics

• Rubinomics was an economic theory associated with Robert Rubin, which aimed to reduce the deficit and balance the budget to stoke economic growth
• Democrats abandoned this theory due to low interest rates and lack of growth bang for deficit reduction
• With climbing interest rates, there is speculation that Rubenomics could make a comeback to reduce the deficit and create a virtuous cycle of growth
• However, both parties are unlikely to agree on spending cuts or tax increases to achieve this
• Economic disruption may be the only forcing agent to reduce the deficit and create a virtuous cycle of growth

Political Dysfunction and Fiscal Dysfunction

• Political dysfunction in the US is causing fiscal dysfunction and a lack of solutions to the deficit issue
• Smart ideas to address the deficit are few and far between, and may only be Hail Mary attempts at progress
• Palestinian leaders say the initial convoy of 20 trucks to Gaza is insufficient to meet the needs of 2 million people
• The conflict in Gaza raises fears that it could widen beyond the territory, but the US is supplying Israel with new air defense systems to prevent that
• The House has operated without a speaker for the past 19 days, causing a halt in much of the chamber’s work.

Summary

The Growing Deficit

The US federal deficit has reached nearly $2 trillion in the past year, double its previous level. This is unusual as deficits typically decrease during economic growth. The government’s borrowing costs have risen, creating a potentially harmful cycle for the economy. The decrease in tax revenue, largely due to tax cuts in 2017, is a major contributor to the deficit. Economists who previously downplayed the significance of deficits are now expressing concern.

The Drivers of the Deficit

While spending has not significantly increased, tax revenues have dropped significantly for various reasons, leading to a large deficit. Emergency defense spending and foreign aid are short-term factors and not major contributors to the long-term budget problems.

The Cost of Borrowing

The high interest rates on 10-year Treasury bonds, currently around 5%, make borrowing to fill the deficit expensive. If the interest rate remains at this level, the government’s interest costs will increase significantly, resulting in more borrowing and mounting deficits. The high interest costs divert a substantial amount of money from the economy that could have been used for infrastructure and other projects.

Approaches to Addressing the Deficit

To avoid larger deficits and higher borrowing costs, lawmakers need to make difficult decisions regarding taxes and spending. Republicans focus on reducing non-defense discretionary spending, while Democrats prioritize fiscal sustainability and propose tax increases on corporations and the wealthy. President Biden’s proposals center around increasing taxes to fund programs like childcare and infrastructure. Achieving a balanced budget may require a combination of tax increases and spending cuts, but finding a consensus between the two parties is challenging.

The Role of Rubinomics

Rubinomics, an economic theory associated with Robert Rubin, aimed to reduce the deficit and balance the budget to stimulate economic growth. However, Democrats have moved away from this theory due to low interest rates and limited economic growth benefits from deficit reduction. With interest rates rising, there is speculation that Rubinomics could make a comeback to address the deficit and create a virtuous cycle of growth. However, the lack of agreement between parties on spending cuts or tax increases makes this scenario unlikely.

Political Dysfunction and Fiscal Dysfunction

The political dysfunction in the US has resulted in fiscal dysfunction and a lack of effective solutions to the deficit issue. There is a scarcity of innovative ideas to address the deficit, and progress is often hindered by political gridlock. The ongoing conflict in Gaza raises concerns about its potential expansion, but the US is providing Israel with new air defense systems to prevent further escalation. Additionally, the absence of a speaker in the House has caused a halt in much of the chamber’s work.

Conclusion

The $2 trillion deficit facing the US federal government is a significant concern. The growing deficit, driven by a decrease in tax revenue and rising borrowing costs, requires tough decisions on taxes and spending. Achieving a balanced budget will likely require a combination of tax increases and spending cuts. However, political dysfunction and a lack of consensus make finding a solution challenging. The return of Rubinomics as a potential strategy to address the deficit is uncertain, and economic disruption may be the catalyst for change. Overall, the deficit issue highlights the need for effective governance and fiscal responsibility.