Key Policy Considerations
Key factors affecting federal borrowing needs View details
Federal borrowing is affected both by policy decisions and by economic conditions. Decisions that lead to lower tax revenues or higher spending would increase the need to borrow, whereas decisions that lead to higher tax revenues or lower spending would reduce borrowing needs.
Economic conditions, such as economic growth and inflation, can affect federal spending and revenue without changes to policy. Built into the structure of the federal budget are provisions, known as automatic stabilizers, that decrease revenues and increase spending when the economy slows (and vice versa when the economy expands). For example, increases in unemployment automatically reduce payroll tax and income tax receipts and increase spending for some programs, such as unemployment insurance. The effect is largely on the revenue side of the budget. Stabilizers are seen as tending to reduce the depth of any downturn and dampen expansions.
The Congressional Budget Office (CBO) provides estimates of how changes in economic conditions can affect federal borrowing. In January 2012 CBO said that slower economic growth of 0.1 percentage point each year over the next 10 years would increase its projection of federal debt in 2022 by $314 billion. Debt would be lower by a similar size if economic growth were 0.1 percentage point higher each year than CBO estimated at that time. Also, higher inflation A rise in the general price level. increases both revenues and outlays.
For further discussion and estimates, see CBO’s The Effects of Automatic Stabilizers on the Federal Budget, CBO’s Budget and Economic Outlook, and the Analytical Perspectives of the President’s Budget.
Policy responses to external events also affect borrowing needs. For example:
- Recession: Borrowing can help to maintain household income and spending levels and reduce the severity of a recession. Government action to increase spending on goods and services or to reduce taxes can also substitute for missing private spending or seek to lessen the decline in private spending.
- War: Borrowing can finance increased defense spending, lessening the need for reductions in other government spending or tax increases. For example, the federal government financed World War II with huge deficits to avoid even larger tax increases and economic distortions.
- Emergencies: Borrowing can finance higher government spending in response to other temporary challenges or national needs, such as large natural disasters like Hurricanes Katrina and Rita or terrorist attacks, such as those of September 11, 2001. As with a war, borrowing for such short-term circumstances can permit the government to hold tax rates and other spending relatively stable and avoid economic disruptions.
Over the long term, federal borrowing needs are expected to grow as the gap between revenue and spending widens. Long-term simulations show that the gap will be driven on the spending side by an aging population and rising health care costs, which will persist long after the return of financial-market stability and economic growth. See GAO's Long-Term Fiscal Outlook for more information.
Assessing the level of federal borrowing View details
The federal government has carried debt throughout virtually all of U.S. history. However, sharp increases in the debt in recent years have led to heightened concern about the level of federal borrowing and the long-term budget outlook. For example, CBO notes that large amounts of debt diminish the government’s flexibility to address unexpected events, such as recessions, financial crises, and wars, see CBO's Federal Debt and the Risk of a Fiscal Crisis.
Key considerations in assessing the level of federal borrowing are the magnitude of federal debt relative to the size of the nation's economy and the direction in which the level of federal debt is heading. Indicators to assess the level of federal debt include:
- The ratio of debt held by the public to gross domestic product (GDP), A commonly used measure of domestic national income. GDP is the value of all goods and services produced within the United States in a given year and is conceptually equivalent to incomes earned in production. It is a rough indicator of the economic earnings base from which the government draws its revenues.
- Interest costs as a share of federal revenue, and
- The fiscal gap.
Debt to GDP Ratio measures the amount of debt held by the public in relation to the nation's income. GDP is the value of all goods and services produced in the United States in a given year. The dollar value of debt is difficult to interpret absent some sense of the size of the economy supporting it. The level and future direction of the ratio of a nation's debt held by the public to its GDP are widely used as benchmarks for assessing that nation's fiscal condition.
Interest Costs as a Share of Federal Revenue is the share of federal revenue absorbed by interest payments to service the federal debt each year. This is an important indicator of the federal resources needed to finance past decisions. Paying interest reduces resources available for other uses. Net interestPrimarily interest on debt held by the public. In addition to interest on debt held by the public, the government also earns some interest from various sources and pays interest for purposes other than borrowing from the public. These amounts are only a small portion of net interest and, taken together, slightly reduce its total. is primarily interest paid on debt held by the public. In recent years, the federal government has been able to borrow at historically low interest rates, but interest rates are expected to increase as the economy recovers.
Source: GAO analysis of data from the Office of Management and Budget.
Notes: Data from Budget of the United States Government for Fiscal Year 2014-Historical Tables.
Fiscal Gap represents the difference, or gap, between revenue and spending in present value terms over a relatively long period, such as 75 years, that would need to be closed to achieve a specified debt level at the end of the period. One can calculate the total size of action needed—in terms of tax increases, spending reductions, or, more likely, some combination of the two—to close the gap. This indicator condenses a long-term series of annual estimates into a single meaningful number that can be used to judge the required scale of corrective action. For GAO's recent estimates of the fiscal gap, see Long Term Fiscal Outlook.
Fiscal exposures View details
Debt held by the public is the largest explicit liabilityA probable future outflow or other sacrifice of resources as a result of past transactions or events. Generally, liabilities are thought of as amounts owed for items or services received, assets acquired, construction performed (regardless of whether invoices have been received), and amount received but not yet earned. of the federal government. However, many other fiscal exposures–responsibilities, programs, and activities that may explicitly or implicitly expose the federal government to future spending–also warrant attention. We use the terms explicit and implicit to provide a framework to consider long-term costs and uncertainties. See GAO, Fiscal Exposures: Improving Cost Recognition in the Federal Budget. Some expected future spending arising from certain exposures is recognized in the consolidated financial statements (see Financial Report of the United States Government).
Explicit exposures include:
Debt Held by the Public: Publicly held debt is the largest legally and contractually binding obligation of the federal government.
Federal Employee Benefit Programs: Military and civilian pensions and post-retirement health benefits are essentially deferred compensation.
Environmental and disposal liabilities: The federal government is legally required to clean up hazardous waste that results from its operations. See Long-Term Commitments: Improving the Budgetary Focus on Environmental Liabilities.
Federal Insurance Programs: The federal government provides insurance for individuals and businesses against a wide variety of risks, ranging from natural disasters under the flood and crop insurance programs to bank and employer bankruptcies under the deposit and pension insurance programs. These programs expose the government to future, and potentially significant, draws on resources that may not be reflected adequately in the budget at the time the decision to extend the insurance is being made. Due in part to challenges with their funding structures, the National Flood Insurance Program and the Pension Benefit Guaranty Corporation Insurance Programs are on GAO's High Risk List (see GAO's High Risk webpage for more information).
Implicit exposures include:
Future Social Security & Medicare benefits: These exposures flow from expectations that the public holds about the government's responsibilities. Should the amounts of funding needed to cover future social insurance benefits (e.g., Social Security and Medicare) exceed the amounts available in corresponding trust funds, there may be an expectation that the government will use federal funds to pay the difference even though there would be no legal commitment on behalf of the government to do so.
Federal Disaster Relief: The federal government provided assistance after the September 11 terrorist attacks and has also historically provided assistance following natural disasters, such as Hurricane Katrina. These potential costs to the government do not flow from their legal nature but from expectations that the public holds about the government's responsibilities. Some of these expected costs for future disasters are included in the budget. However, GAO found that annual budget requests and appropriations for disaster relief do not include all known costs, particularly those from catastrophic disasters. See Disaster Cost Estimates: FEMA Can Improve Its Learning from Past Experience and Management of Disaster-Related Resources.
Where on the spectrum do Government-Sponsored Enterprises (GSEs) fit? Major GSEs support agriculture (the Farm Credit System) and housing/home ownership (e.g., Fannie Mae, Freddie Mac, Federal Home Loan Banks) with a shared goal of enhancing the availability of credit to specific sectors of the economy. The GSEs are an example of a fiscal exposure for which the extent of the government's legal commitment has changed over time. For example, the fiscal exposure created by Fannie Mae and Freddie Mac, the two largest GSEs, changed in recent years as the government responded to the financial crisis. Securities issued by Fannie Mae and Freddie Mac were explicitly not guaranteed by the federal government and, prior to 2008, the government had no legal responsibility to provide support to these GSEs. In response to the financial crisis, however, the government placed Fannie Mae and Freddie Mac into conservatorship and agreed to provide temporary assistance, creating a new explicit exposure.
Debt limit considerations View details
The debt limitA legal ceiling on the amount of outstanding total federal debt (excluding some minor adjustments), which must be raised periodically to accommodate additional federal borrowing. does not determine federal borrowing needs because it does not restrict Congress' ability to enact spending and revenue legislation that affect the level of federal debt or otherwise constrain fiscal policy. Instead, the government's borrowing needs result from all of the revenue and spending decisions made as well as the performance of the economy.
While debates surrounding the debt limit may raise awareness about the trajectory of the federal debt and the fiscal policies driving it, these debates generally occur after the enactment of the tax and spending laws that resulted in current debt levels. Consequently, Congress is left with a narrower range of options to affect an immediate change to fiscal policy decisions and hence to federal debt. For more information, see Debt Limit: Delays Create Debt Management Challenges and Increase Uncertainty in the Treasury Market.