An Unsustainable Fiscal Path

An important purpose of the Financial Report is to help citizens understand current fiscal policy and the importance and magnitude of policy reforms necessary to make it sustainable. This Financial Report includes the SLTFP and a related note disclosure (Note 24). The Statements display the PV of 75-year projections of the federal government’s receipts and non-interest spending17 for FY 2023 and FY 2022.

Fiscal Sustainability

A sustainable fiscal policy is defined as one where the debt-to-GDP ratio is stable or declining over the long term. The projections based on the assumptions in this Financial Report indicate that current policy is not sustainable. This Financial Report presents data, including debt, as a percent of GDP to help readers assess whether current fiscal policy is sustainable. The debt-to-GDP ratio was approximately 97 percent at the end of FY 2023, which is similar to (but slightly above) the debt to-GDP ratio at the end of FY 2022. The long-term fiscal projections in this Financial Report are based on the same economic and demographic assumptions that underlie the 2023 SOSI, which is as of January 1, 2023. As discussed below, if current policy is left unchanged and based on this Financial Report’s assumptions, the debt-to-GDP ratio is projected to exceed 200 percent by 2047 and reach 531 percent in 2098. By comparison, under the 2022 projections, the debt-to-GDP ratio exceeded 200 percent one year earlier in 2046 and reached 566 percent in 2097. Preventing the debt-to-GDP ratio from rising over the next 75 years is estimated to require some combination of spending reductions and revenue increases that amount to 4.5 percent PV of GDP over the period. While this estimate of the “75-year fiscal gap” is highly uncertain, it is nevertheless nearly certain that current fiscal policies cannot be sustained indefinitely.

Delaying action to reduce the fiscal gap increases the magnitude of spending and/or revenue changes necessary to stabilize the debt-to-GDP ratio as shown in Table 6 below.

The estimates of the cost of policy delay assume policy does not affect GDP or other economic variables. Delaying fiscal adjustments for too long raises the risk that growing federal debt would increase interest rates, which would, in turn, reduce investment and ultimately economic growth.

The projections discussed here assume current policy18 remains unchanged, and hence, are neither forecasts nor predictions. Nevertheless, the projections demonstrate that policy changes must be enacted to move towards fiscal sustainability.

The Primary Deficit, Interest, and Debt

The primary deficit – the difference between non-interest spending and receipts – is the determinant of the debt-to-GDP ratio over which the government has the greatest control (the other determinants include interest rates and growth in GDP). Chart 8 shows receipts, non-interest spending, and the difference – the primary deficit – expressed as a share of GDP. The primary deficit-to-GDP ratio spiked during 2009 through 2012 due to the 2008-09 financial crisis and the ensuing severe recession, as well as the effects of the government’s response thereto. These elevated primary deficits resulted in a sharp increase in the ratio of debt to GDP, which rose from 39 percent at the end of 2008 to 70 percent at the end of 2012. As an economic recovery took hold, the primary deficit ratio fell, averaging 2.1 percent of GDP over 2013 through 2019. The primary deficit-to-GDP ratio again spiked in 2020, rising to 13.3 percent of GDP in 2020, due to increased spending to address the COVID-19 pandemic and lessen the economic impacts of stay-at-home and social distancing orders on individuals, hard-hit industries, and small businesses. Spending remained elevated in 2021 due to additional funding to support economic recovery, but increased receipts reduced the primary deficit-to-GDP ratio to 10.8 percent.

The primary deficit-to-GDP ratio in 2023 was 3.8 percent, increasing by 0.2 percentage points from 2022 primarily due to lower receipts, partially offset by lower non-interest spending. The primary deficit-to-GDP ratio is projected to fall to 3.2 percent in 2024, based on the technical assumptions in this Financial Report, and projected changes in receipts and outlays, including an estimated decrease in Medicaid outlays as the expiration of temporary measures related to the COVID-19 pandemic winds down. After 2024, increased spending for Social Security and health programs due to the continued retirement of the baby boom generation, is projected to result in increasing primary deficit ratios that peak at 4.4 percent of GDP in 2043. Primary deficits as a share of GDP gradually decrease beyond that point, as aging of the population continues at a slower pace and reach 2.8 percent of GDP in 2098, the last year of the projection period.

Trends in the primary deficit are heavily influenced by tax receipts. The receipt share of GDP was markedly depressed in 2009 through 2012 because of the recession and tax reductions enacted as part of the ARRA and the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010. The share subsequently increased to nearly 18.0 percent of GDP by 2015, before falling to 16.3 percent in 2018, after enactment of the TCJA.

 

Receipts reached 19.6 percent of GDP in 2022, the highest share of GDP since 2000, then fell to 16.5 percent of GDP in 2023 due to a decrease in individual income tax receipts and lower deposits of earnings by the Federal Reserve. Receipts are projected to gradually increase to 18.1 percent of GDP in 2033 when corporation income tax and other receipts stabilize as a share of GDP. After 2033, receipts grow slightly more rapidly than GDP over the projection period as increases in real (i.e., inflation-adjusted) incomes cause more taxpayers and a larger share of income to fall into the higher individual income tax brackets. 19

On the spending side, the non-interest spending share of GDP was 20.3 percent in 2023, 2.9 percentage points below the share of GDP in 2022, which was 23.2 percent. The ratio of non-interest spending to GDP is projected to fall to 20.1 percent in 2024 and then rise gradually, reaching 23.3 percent of GDP in 2076. The ratio of non-interest spending to GDP then declines to 22.7 percent in 2098, the end of the projection period. These increases are principally due to faster growth in Social Security, Medicare, and Medicaid spending (see Chart 8). The aging of the baby boom generation, among other factors, is projected to increase the spending shares of GDP of Social Security and Medicare by about 0.7 and 1.7 percentage points, respectively, from 2024 to 2040. After 2040, the Social Security and Medicare spending shares of GDP continue to increase in most years, albeit at a slower rate, due to projected increases in health care costs and population aging, before declining toward the end of the projection period.

On a PV basis, deficit projections reported in the FY 2023 Financial Report decreased in both present-value terms and as a percent of the current 75-year PV of GDP. As shown in the SLTFP, this year’s estimate of the 75-year PV imbalance of receipts less non-interest spending is 3.8 percent of the current 75-year PV of GDP ($73.2 trillion), compared to 4.2 percent ($79.5 trillion) as was projected in last year’s Financial Report. As discussed in Note 24, these decreases are attributable to the net effect of the following factors:

• Changes due to program-specific actuarial assumptions is the effect of new Social Security, Medicare, and Medicaid program-specific actuarial assumptions, which decrease the fiscal imbalance as a share of the 75-year PV of GDP by 0.6 percentage points ($10.6 trillion). This change is primarily attributable to near-term growth rate assumptions for Medicaid. In the 2022 projections, growth rates through 2027 followed projections in the 2018 Medicaid Actuarial Report. Growth rates for the 2023 projections are based on NHE data and reflect the expiration of temporary measures related to the COVID-19 pandemic.
• Changes due to updated budget data increased the fiscal imbalance by 0.4 percentage points ($7.4 trillion). This change stems from actual budget results for FY 2023 and baseline estimates published in the FY 2024 President’s Budget, plus adjustments to discretionary spending and receipts from legislation enacted in the FRA (P.L. 118-5).20 This deterioration in the fiscal position is largely due to a higher 75-year PV of discretionary spending on defense programs and mandatory spending on programs other than Social Security, Medicare, and Medicaid, and lower individual income taxes as a share of wages and salaries. That deterioration is partially offset by a lower 75-year PV of spending on non-defense discretionary programs—attributable to the FRA caps—and higher other receipts.
• Changes due to economic and demographic assumptions decreased the fiscal imbalance by 0.3 percentage points ($5.0 trillion). Contributing to this improvement in the imbalance are higher wages that increase receipts and GDP growth rates that lead to reduced spending as a percentage of GDP. The 75-year PV of GDP for this year’s projections is $1,919.1 trillion, greater than last year’s $1,872.9 trillion.
• Change in reporting period is the effect of shifting calculations from 2023 through 2097 to 2024 through 2098 and increased the imbalance of the 75-year PV of receipts less non-interest spending by $1.9 trillion, which has a negligible effect on the 75-year PV of GDP.

The net effect of the changes in the table above, equal to the penultimate row in the SLTFP, shows that this year’s estimate of the overall 75-year PV of receipts less non-interest spending is negative 3.8 percent of the 75-year PV of GDP (negative $73.2 trillion, as compared to a GDP of $1,919.1 trillion).

One of the most important assumptions underlying the projections is that current federal policy does not change. The projections are therefore neither forecasts nor predictions, and do not consider large infrequent events such as natural disasters, military engagements, or economic crises. By definition, they do not build in future changes to policy. If policy changes are enacted, perhaps in response to projections like those presented here, then actual fiscal outcomes will be different than those projected.

Another important assumption is the future growth of health care costs. As discussed in Note 25, these future growth rates – both for health care costs in the economy generally and for federal health care programs such as Medicare, Medicaid, and PPACA exchange subsidies – are highly uncertain. In particular, enactment of the PPACA in 2010 and the MACRA in 2015 lowered payment rate updates for Medicare hospital and physician payments whose long-term effectiveness of which is not yet clear. The Medicare spending projections in the long-term fiscal projections are based on the projections in the 2023 Medicare Trustees Report, which assume the PPACA and MACRA cost control measures will be effective in producing a substantial slowdown in Medicare cost growth.

As discussed in Note 25, the Medicare projections are subject to much uncertainty about the ultimate effects of these provisions to reduce health care cost growth. Certain features of current law may result in some challenges for the Medicare program including physician payments, payment rate updates for most non-physician categories, and productivity adjustments. Payment rate updates for most non-physician categories of Medicare providers are reduced by the growth in economy-wide private nonfarm business total factor productivity although these health providers have historically achieved lower levels of productivity growth. Should payment rates prove to be inadequate for any service, beneficiaries’ access to and the quality of Medicare benefits would deteriorate over time, or future legislation would need to be enacted that would likely increase program costs beyond those projected under current law. For the long-term fiscal projections, that uncertainty also affects the projections for Medicaid and exchange subsidies, because the cost per beneficiary in these programs is assumed to grow at the same reduced rate as Medicare cost growth per beneficiary. Other key assumptions, as discussed in greater detail in Note 24—Long-Term Fiscal Projections, include the following:

• Medicaid spending projections start with the NHE projections which are based on recent trends in Medicaid spending, as well as Trustees Report assumptions. NHE projections, which end in 2031, are adjusted to accord with the actual Medicaid spending in FY 2023. After 2031, the number of beneficiaries is projected to grow at the same rate as total population. Medicaid cost per beneficiary is assumed to grow at the same rate as Medicare benefits per beneficiary after 2034, after a three-year phase-in to the Medicare per beneficiary growth rate over the period 2032-2034. The most recent Social Security and Medicare Trustees Reports were released in March 2023.
• Other mandatory spending includes federal employee retirement, veterans’ disability benefits, and means-tested entitlements other than Medicaid. Current mandatory spending components that are judged permanent under current policy are assumed to increase by the rate of growth in nominal GDP starting in 2024, implying that such spending will remain constant as a percent of GDP.
• Defense and non-defense discretionary spending follows the FRA caps through 2025, then grows with GDP starting in 2026.
• Debt and interest spending is determined by projected interest rates and the level of outstanding debt held by the public. The long-run interest rate assumptions accord with those in the 2023 Social Security Trustees Report. The average interest rate over this year’s projection period is 4.5 percent, approximately the same as the 2022 Financial Report. Debt at the end of each year is projected by adding that year’s deficit and other financing requirements to the debt at the end of the previous year.
• Receipts (other than Social Security and Medicare payroll taxes) is comprised of individual income taxes, corporate income taxes and other receipts.
• • Individual income taxes were based on the share of individual income taxes of salaries and wages in the current law baseline projection in the FY 2024 President’s Budget, and the salaries and wages projections from the Social Security 2023 Trustees Report. That baseline accords with the tendency of effective tax rates to increase as growth in income per capita outpaces inflation (also known as “bracket creep”) and the expiration dates of individual income and estate and gift tax provisions of the TCJA. Individual income taxes are projected to increase gradually from 19 percent of wages and salaries in 2024, to 29 percent of wages and salaries in 2098 as real taxable incomes rise over time and an increasing share of total income is taxed in the higher tax brackets.
  • Corporation tax receipts as a percent of GDP reflect the economic and budget assumptions used in developing the FY 2024 President’s Budget ten-year baseline budgetary estimates through the first ten projection years, after which they are projected to grow at the same rate as nominal GDP. Corporation tax receipts fall from 1.7 percent of GDP in 2024 to 1.2 percent of GDP in 2033, where they stay for the remainder of the projection period.
  • Other receipts, including excise taxes, estate and gift taxes, customs duties, and miscellaneous receipts, also reflect the FY 2024 President’s Budget baseline levels as a share of GDP throughout the budget window, and grow with GDP outside of the budget window. The ratio of other receipts, to GDP is estimated to increase from 1.1 percent in 2024 to 1.2 percent by 2027 where it remains through the projection period.
• Projections for the other categories of receipts and spending are consistent with the economic and demographic assumptions in the Trustees Reports and include updates for actual budget results for FY 2023 or budgetary estimates from the FY 2024 President’s Budget.

The primary deficit-to-GDP projections in Chart 8, projections for interest rates, and projections for GDP together determine the debt-to-GDP ratio projections shown in Chart 9.That ratio was approximately 97 percent at the end of FY 2023 and under current policy is projected to exceed the historic high of 106 percent in 2028, rise to 200 percent by 2047 and reach 531 percent by 2098. The change in debt held by the public from one year to the next generally represents the budget deficit, the difference between total spending and total receipts. The debt-to-GDP ratio rises continually in great part because primary deficits lead to higher levels of debt, which lead to higher net interest expenditures, and higher net interest expenditures lead to higher debt.21 The continuous rise of the debt-to-GDP ratio indicates that current policy is unsustainable.

These debt-to-GDP projections are lower than the corresponding projections in both the 2022 and 2021 Financial Reports. For example, the last year of the 75-year projection period used in the FY 2021 Financial Report is 2096. In the FY 2023 Financial Report, the debt-to-GDP ratio for 2096 is projected to be 518 percent, which compares with 559 and 701 percent for the 2096 projection year in the FY 2022 Financial Report and the FY 2021 Financial Report, respectively.22

  

The Fiscal Gap and the Cost of Delaying Policy Reform

The 75-year fiscal gap is one measure of the degree to which current policy is unsustainable. It is the amount by which primary surpluses over the next 75 years must, on average, rise above current-policy levels in order for the debt-to-GDP ratio in 2098 to remain at its level in 2023. The projections show that projected primary deficits average 3.8 percent of GDP over the next 75 years under current policy. If policies were adopted to eliminate the fiscal gap, the average primary surplus over the next 75 years would be 0.6 percent of GDP, 4.5 percentage points higher than the projected PV of receipts less non-interest spending shown in the financial statements. Hence, the 75-year fiscal gap is estimated to equal to 4.5 percent of GDP. This amount is, in turn, equivalent to 23.8 percent of 75-year PV receipts and 19.8 percent of 75-year PV non-interest spending. This estimate of the fiscal gap is 0.4 percentage points smaller than was estimated in the FY 2022 Financial Report (4.9 percent of GDP).

In these projections, closing the fiscal gap requires running substantially positive primary surpluses, rather than simply eliminating the primary deficit. The primary reason is that the projections assume future interest rates will exceed the growth rate of GDP. Achieving primary balance (that is, running a primary surplus of zero) implies that the debt grows each year by the amount of interest spending, which under these assumptions would result in debt growing faster than GDP.