USA has never been that socialist.
Fiscal policy in the postwar era
In the 34 years after 1946, the federal debt declined from 106 percent of gross domestic product (GDP) to just 25 percent, despite the federal government’s running deficits in 26 of those years. The debt ratio declined for two reasons. First, the government ran a “primary,” or noninterest, surplus in a large majority of those years. This means that, not counting interest payments, the budget was in surplus. Second, the economic growth rate exceeded the Treasury interest rate in a large majority of those years. These two factors—along with the starting debt ratio—are the levers that control debt ratio sustainability.7 With a primary balance, the growth rate need only match the Treasury interest rate for the debt ratio to be stable. The presence of both primary surpluses and growth rates that exceeded the Treasury interest rate created significant downward pressure on the debt ratio.8
The nation’s fiscal pictured changed in 1981 when President Ronald Reagan enacted the largest tax cut in U.S. history,9 reducing revenues by the equivalent of $19 trillion over a decade in today’s terms. Although Congress raised taxes10 in many of the subsequent years of the Reagan administration to claw back close to half the revenue loss,11 the equivalent of $10 trillion of the president’s 1981 tax cut remained.
These massive tax cuts set off more than a decade of bipartisan efforts to reduce spending and increase revenues, which, along with a booming economy, resulted in budget surpluses at the end of the Clinton administration.
Debt ratio stabilization and its drivers
In the past few decades,12 there has been considerable discussion and rethinking of what constitutes an appropriate level of national debt. At this point, many experts argue13 that the focus should be on whether debt as a percentage of the economy is increasing or is stable over the long run, not on the amount of debt per se. Understanding the drivers of the increase in the debt as a percentage of the economy is critical to this analysis. While one-time costs, such as those made in response to an economic or public health emergency, increase the level of debt, sometimes by large amounts, they do not increase the rate of growth in the debt ratio over the long run. Debt ratio stability is driven by four components: 1) the size of the primary deficit—the deficit exclusive of interest costs—as a percentage of GDP; 2) the starting ratio of debt to GDP (the debt ratio); 3) the rate of economic growth; and 4) the prevailing interest rate on new Treasury securities.14 The cause of the upward trajectory of the debt ratio—a series of massive tax cuts that have been extended with bipartisan support—are largely responsible for recent budget shortfalls.
The underlying fiscal result of Clinton-era policy—having, at the very least, a primary surplus and a declining debt ratio—was projected to persist indefinitely until the Bush tax cuts were made permanent. The Congressional Budget Office’s (CBO’s) last long-term budget outlook before those tax cuts were largely permanently extended15 projected that revenues would be higher than noninterest spending for each of the 65 years that its extended baseline covered.16 In other words, right up until before the Bush tax cuts were made permanent, the CBO was projecting that, even with an aging population and ever-growing health care costs, revenues were nonetheless expected to keep up with program costs. However, in the next year, that was no longer the case.17 As a result of the massive tax cut, the CBO projected that revenues would no longer keep up due to being cut so drastically and, as a result, the debt ratio would rise indefinitely.
Tax cuts changed the fiscal outlook
As shown in recent analysis, this new change has further cemented itself;18 revenues are now projected to lag significantly behind noninterest spending.19 Of particular interest is that projected levels of both revenues and noninterest spending have decreased: Both are projected to be lower than in the CBO’s projections issued before the permanent extension of the Bush tax cuts. This decrease in noninterest spending is the equivalent of more than $4.5 trillion in lower spending over a decade. But the drop in revenue was three-and-a-half times as large, the equivalent of more than $16 trillion in lower revenues over a decade. Despite the rhetoric of runaway spending, projections of long-term primary spending have decreased, but projections of long-term revenues have decreased vastly more. The United States does not have a high-spending problem; it has a low-tax problem.
The United States is a low-tax country
Compared with other nations in the Organization for Economic Cooperation and Development (OECD), the United States ranks 32nd out of 38 in revenue as a percentage of GDP.20 But it’s not just that the United States is near the bottom end of revenue; it is nowhere close even to the average. Over the CBO’s 10-year budget window, the United States will collect $26 trillion less in revenues than it would if its revenue as a percentage of GDP were as high as the average OECD nation. When compared to EU nations, that number rises to $36 trillion. (see Figure 2) In contrast, the $289 billion projected revenue increase in the Inflation Reduction Act21 still leaves the United States ranking 32nd out of 38 OECD countries.
Recent large tax cuts
Analytically, the best way to measure why current projections show what they do is to assess what changed relative to older projections. This means looking at what new laws have been enacted. Increases above current levels that were already on track to happen under current law (and thus were already assumed in the baseline) are, by definition, not responsible for the CBO changing its estimate of long-term projections. This means that rising health care and Social Security costs are not responsible for the increased federal debt; the CBO already assumed them, but the CBO also projected sufficient revenue to keep up with rising health care and Social Security costs.22 In fact, the CBO has dramatically lowered the expected growth in health care costs. As this report has already shown, projections of long-term spending, relative to older projections, have significantly decreased and thus have been responsible for decreased, not increased, debt in the CBO’s outlook. It is tax cuts that have caused the dramatic increase in primary deficit projections.
The Bush tax cuts
The George W. Bush administration, empowered by a trifecta in 2001, enacted sweeping tax cuts that will have cost more than $8 trillion by the end of fiscal year 2023. The tax cuts lowered personal income tax rates across the board, both for labor income and for capital gains, and they significantly increased the untaxed portion of estates and lowered the estate tax rate. These changes were enormously tilted toward the rich and wealthy.23 While these increases were paired with an expansion of the child tax credit and the earned income tax credit, the total package gave significantly greater savings to the wealthy and also made the U.S. tax code significantly more regressive.24 In 2013, a significant majority of the Bush tax cuts were made permanent with bipartisan support, locking in lower tax rates and deep cuts to the estate tax.25 These changes led to a significantly more regressive tax code than existed before the Bush tax cuts were enacted, and one that brought in vastly less revenue.
The Trump tax cuts
President Donald Trump’s signature tax bill,26 enacted when Republicans gained control of the White House and both houses of Congress in 2017, will have cost roughly $1.7 trillion by the end of fiscal year 2023. These tax cuts reduced personal income tax rates and permanently lowered the corporate tax rate, among other changes. Despite being paired with a further expansion of the child tax credit, the 2017 changes also largely benefited the wealthy, once again making the U.S. tax code significantly more regressive.27
Taken together, the Bush tax cuts, their bipartisan extensions, and the Trump tax cuts, have cost $10 trillion since their creation and are responsible for 57 percent of the increase in the debt ratio since then. They are responsible for more than 90 percent of the increase in the debt ratio if you exclude the one-time costs for responding to COVID-19 and the Great Recession. While these one-time costs increased the level of debt, they did nothing to affect the trajectory of the debt ratio. With or without them, the United States would currently have stable debt, albeit potentially at a higher level, despite rising spending.28 In other words, these legislative changes—the Bush and Trump tax cuts—are responsible for more than 90 percent of the change in the trajectory of the debt ratio to date (see Figure 3) and will grow to be responsible for more than 100 percent of the debt ratio increase in the future. They are thus entirely responsible for the fiscal gap—the magnitude of the reduction in the primary deficit needed to stabilize the debt ratio over the long run.29 The current fiscal gap is roughly 2.4 percent of GDP. Thus, maintaining a stable debt-to-GDP ratio over the long run would require the primary deficit as a percentage of GDP to average 2.4 percent less over the period. Because the costs of the Bush tax cuts, their extensions, and the Trump tax cuts—on average, roughly 3.8 percent of GDP over the period30—exceeds the fiscal gap, without them, all else being equal, debt as a percentage of the economy would decline indefinitely.31
Republican plans for future tax cuts
Recent proposals by some Republicans, whose party now controls the House majority, would further reduce revenues. In fact, the first bill passed in the 118th Congress, which was introduced by Rep. Adrian Smith (R-NE) and passed with only Republican votes,32 would rescind all unobligated portions of the $80 billion in funding for the IRS that was provided in the Inflation Reduction Act.33 The Inflation Reduction Act funding for the IRS is projected to pay for itself several times over through increased enforcement of taxes already owed by the wealthy and by large corporations; the Office of Management and Budget estimated that this funding would raise more than $440 billion over the decade.34
Rep. Vern Buchanan (R-FL) has also introduced legislation to make permanent President Trump’s 2017 tax cuts,35 at a cost of roughly $2.6 trillion over the next decade.
Conclusion
A series of massive, permanent tax cuts have created large federal budget primary shortfalls and continue to exert upward pressure on the debt ratio. In other words, the current fiscal gap—the growing debt as a percentage of the economy—stems from legislation that cut taxes, disproportionately for the very rich. While it is true that the Great Recession and legislation to fight it, along with the costs of responding to the health and economic effects of COVID-19, pushed the level of debt higher, these costs were temporary and did not change the trajectory of the debt ratio. If Congress wants to decrease deficits, it should look first toward reversing tax cuts that largely benefited the wealthy, which were responsible for the United States’ current fiscal outlook.
USA has never been that socialist.
