The US Fiscal Problem: Where We Are, How We Got Here, and Where We're Going

Several issues are dealt with regarding the causes and implications of recent and projected US federal budget deficits. The author considers why deficits have remained so large in spite of deficit reduction efforts, evaluates the impact of the recent policies of the Clinton administration, and offers long-range deficit projections. Among his findings are the following:
1. Until the past year, deficit projections over the past decade have been consistently too optimistic; had initial projections for the current fiscal year proved accurate, the deficit-reducing policies of the early 1990s already would have driven the federal budget well into surplus; there is no single explanation for these large and systematic forecasting errors.
2. The budget rules that legislators have developed to control deficits, including those now in effect, are ill-designed for their apparent purpose. They fail to compensate for forecasting errors and encourage shifts in the timing of revenues and expenditures. The paper presents evidence that such shifting has followed the incentives of the different schemes.
3. The projected decline in the deficit as a share of gross domestic product (GDP) over the next few years reflects not only the policies already enacted but also the continuation of significant real reductions in discretionary spending—representing a drop of 2.2 percent of GDP between 1994 and 2004.
4. Even if such optimistic forecasts prove to be correct, longer-run projections suggest that current fiscal policy is unsustainable. Without any growth in the relative price of health care, the demographic transition still is projected to lead to sharp increases in Social Security and Medicare benefits as a share of GDP, and primary deficits of nearly 4 percent of GDP.