In January 2001, the Congressional Budget Office projected annual surpluses totaling $5.6 trillion over the following 10 years.
When the CBO looked back over the decade in January 2012, the deficits totaled $6.2 trillion. The CBO was off by $12 trillion over 10 years.
The size and trajectory of the federal budget deficit can be boiled down to three basics: the lousy economy 25% of the deficit, excessive spending 33% of the deficit, and lower tax receipts 25% of the deficit.
Interest Payments on Debt are a major problem. The current interest tab has been held down by extraordinarily low interest rates, the lowest in the history of the nation. Still, the Treasury spent $222.5 billion on interest last year which was 2½ times the federal spending on education, training and social services. As interest rates rise, this tab will grow exponentially unless the deficit is reduced.
How Big Deficits Became the Norm
Big budget deficits haven't always been with us.From the end of the Eisenhower years through the Carter presidency, the deficit averaged a modest 1.4% of the nation's economic output. The budget was nearly balanced in seven of the 20 years from 1960 to 1979. And, as Bill Clinton reminds at every opportunity, the U.S. government was in surplus for four years at the end of his presidency.
In January 2001, the Congressional Budget Office projected annual surpluses totaling $5.6 trillion over the following 10 years. Alan Greenspan, the Federal Reserve chairman at the time, worried out loud about the consequences of paying off the federal debt, such as the possibility that the government might invest its surpluses in corporate stock and meddle in management.
He needn't have worried. When the CBO looked back over the decade in January 2012, it counted deficits that summed to nearly $6.2 trillion. It was off by about $12 trillion over 10 years.
Reagan, in 1981, signed off on big tax cuts.What happened? How did the U.S. spend more than $1 trillion above what it collected in revenue in each of the past four years, producing deficits relative to the size of the economy that the U.S. hadn't seen since World War II? Why is Washington once again struggling to bring the revenue and spending lines closer together?
The federal budget is so big—$3.5 trillion in spending last year, or nearly $10 billion every day—and so complex that fiscal issues can be hard to grasp. But the size and trajectory of the federal budget can be boiled down to three basics: the economy, spending and taxes.
These fundamental fiscal forces are likely to persist and drive future budget fights, even if Washington cuts a deal, as looks increasingly possible, to avoid the tax increases and spending cuts associated with the year-end "fiscal cliff."
ECONOMY
The budget turns on the economy. When it is bad, fewer people work, employers are stingier with raises, profits tend to be slimmer (depressing tax revenue) and more people collect benefits (increasing spending).
From the standpoint of the budget, the economy was bad in the 1970s and early '80s, better in the rest of the '80s and great in most of the '90s. In the 2000s, it was manic, soaring unsustainably before collapsing.
Of the CBO's $12 trillion miss in the 2000s, more than a quarter was caused by the economy doing worse than predicted. Today, because the economy is slowly healing, the deficit is shrinking. For fiscal 2012, which ended Sept. 30, it came in at 7% of GDP, down from the 10.1% peak in 2009. President Barack Obama's economists say a deficit in the neighborhood of 3% of GDP would be much safer.
SPENDING
In his 1996 State of the Union address, Mr. Clinton declared, "The era of big government is over." It wasn't. As Allen Schick, a University of Maryland public-policy professor, puts it, "It was hibernating."
A third of CBO's $12 trillion miss can be traced to spending beyond that needed to keep up with inflation and population growth: wars in Afghanistan and Iraq, post-Sept. 11 homeland security, expansion of Medicare to cover prescription drugs, bailouts of banks and auto companies (much of which has subsequently been paid back) and Mr. Obama's "recovery act"—also known as the stimulus.
Defense and domestic spending that requires annual appropriations by Congress—salaries, foreign aid, building aircraft carriers—has grown by 50%, adjusted for inflation, over the George W. Bush and Obama presidencies.
But this isn't where the big bucks are, and it isn't what's driving future spending. Annual appropriations account for about one-third of all federal spending. An August 2011 law, which also created the looming fiscal cliff, capped that spending for the next decade.The big money is in benefits, particularly health. If Mr. Obama's budget for the current fiscal year had been adopted, annually appropriated spending per capita, adjusted for inflation, would fall by 22% over the next decade, the White House budget office says.At the same time, per-capita spending on benefits of all sorts would rise 21%, including a 42% increase in per-capita spending on Medicare for the elderly and Medicaid for the poor. And that doesn't reflect added spending on baby boomers who will become eligible for the programs.
TAXES
Budget arithmetic is simple: When spending goes up and taxes don't, deficits widen. President Ronald Reagan cut taxes in the 1980s, though later undid some of that when deficits widened. President George H.W. Bush raised taxes, a move he blamed for his 1992 defeat. Mr. Clinton raised them more, and then presided over a tech-stock bubble that had money gushing into the Treasury. The second President Bush inherited budget surpluses, and cut taxes—a lot.
Mr. Obama wants to raise taxes on richer Americans, and he may well do so as part of a fiscal-cliff deal. But before the current cliff talks, he extended all the Bush tax cuts and added a few (and also put some increases into his health-care law).
Washington has been cutting taxes while increasing spending for more than a decade now. These changes to the tax code account for about a quarter of CBO's $12 trillion miss.
A lousy economy, increased spending and tax cuts produce more borrowing. More borrowing means more interest payments. Each extra $100 billion the government borrows this year adds $40 billion to the deficit over the next 10 years.
Lately, the interest tab has been held down by extraordinarily low interest rates, the lowest in the history of the nation. Still, the Treasury spent $222.5 billion on interest last year, 2½ times federal spending on education, training and social services. Because interest rates are sure to rise as the economy heals, and a fiscal-cliff deal will, at best, only slow the pace of federal borrowing not eliminate it, the government's interest tab will continue to rise even if there is an agreement soon.
Write to David Wessel at capital@wsj.com
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