THE STUNNING RISE IN GOVERNMENT SPENDING in President Biden’s new budget raises this crucial issue: how — or whether — it can be paid for.
IT WILL TAKE SEVERAL MONTHS for details of the new budget to get ironed out; this morning’s proposal is simply a rough outline. Talks on an infrastructure compromise may be fruitful by mid-summer, but a second package of social spending could stall.
WE WON’T GET INTO ALL THE DETAILS this morning — the details will change — but the issue that demands closer scrutiny is how deficits of well over $1 trillion per year through 2031 can be paid for (Biden’s budget doesn’t even include sweeping new health care proposals that will be introduced later this year).
THE ANSWER, SIMPLY, is that these deficits will not be paid for. It’s as if the Modern Monetary Theory has prevailed — deficits don’t really matter, right? Let’s look at options for paying for this explosion of spending, as red ink easily hits 120% of the total economy within a decade:
HIGHER TAXES? President Biden’s proposals will encounter fierce resistance from every Republican in the Senate, the business community, and a handful of moderate Democrats like Joe Manchin, who appears to be aligning with Republicans who want absolutely no new taxes.
THIS REINFORCES OUR FORECAST that tax hikes — if any — will be modest. The top rate for capital gains won’t come anywhere close to the rate on ordinary income; corporate taxes may rise slightly, estate taxes might not get touched. Actually, the big tax issue will be whether to extend many provisions in Donald Trump’s 2017 tax bill, which are set to sunset in 2026. The cost of this is not included in Biden’s proposal.
SPENDING CUTS? No chance. Spending will continue to soar to nearly 25% of GDP, the highest level since the end of World War II. Even defense spending, which progressives had hoped to cut, will rise by at least the level of inflation.
STRONGER ECONOMIC GROWTH? To his credit, Biden didn’t try to sugar-coat deficits by predicting unrealistic economic growth. He’s at about 2-1/4 percent GDP growth for the next decade, which is do-able — but not strong enough to make a major dent in the deficit.
BOTTOM LINE: The Biden budget relies on a very shaky premise — debt servicing costs can be accommodated. In the short run, ultra-low interest rates will keep servicing costs tolerable, but later in the decade — as the population ages and pressure increases on Social Security and Medicare — total debt will exceed $30 trillion.
THUS IT APPEARS THAT THE ONLY WAY this spending binge can be accommodated is if interest rates stay unusually low. Biden has a Fed Chairman who’s willing to “go big,” but as the unemployment rate plunges to nearly 4% next year (as the Biden budget projects), the issue may not be whether the Fed will keep rates low — will the markets keep rates low?
THAT’S THE FLAW IN BIDEN’S BUDGET: If the Fed allows the economy to overheat and spending continues to surge, interest rates inevitably will have to rise; the issue is whether they will rise moderately or rise dramatically.
Related: Joe Biden’s Agenda is in Trouble
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