America’s cable TV anchors and policy experts are paying scant attention to what’s arguably the most damaging and enduring aftershock from the COVID-19 pandemic: the outbreak in deficits and debt to levels not witnessed since World War II.
The U.S. was facing a dire fiscal future before the crisis struck, but the economic lockdown, and the gigantic new spending enacted to combat it, brings the day of reckoning far closer. By borrowing multiple trillions at a pace never before seen, the U.S. is endangering the sterling credit that makes Treasuries and the dollar the safest of havens for global investors. It is likely that within the next decade, the U.S. will need to impose monumental tax increases. What America’s leaders aren’t saying is that it’s the middle-class Americans working today, the autoworkers, nurses, and deli owners, and not just their future generations, who’’ll foot most of the bill.
Says Brian Riedl, a budget specialist at the conservative Manhattan Institute: “Even though the spending to battle the coronavirus has made our fiscal outlook far worse, the administration is calling for another round of tax cuts, and both Congress and the administration are talking about spending trillions more on infrastructure and other programs. If the U.S. government keeps spending like the Europeans, the American middle-class will be taxed like Europeans.”
The reality of stimulus checks
To grasp why the U.S. budget will enter the danger zone on a shortened timeline, let’s examine the factors that get us to the two crucial numbers. The first is the amount of new borrowing that will swell future debt beyond the already-mountainous heights previously predicted. The second: The additional interest payments on those extra trillions that will boost projected deficits and compound to bring total debt, a decade hence, to rank with that of Italy or France. That is, unless another crisis along the way forces the giant tax increases needed to plug the hole.
Most of the new spending is incorporated in the CARES or Coronavirus Aid, Relief, and Economic Security Act, signed on March 27 by President Trump. The CARES measure, along with two previous, much smaller bills, appropriates $2.4 trillion, chiefly to assist businesses and families. But all of the CARES spending won’t, over time, translate into bigger borrowings. The program allocates around $1.6 trillion in direct payments, including $290 billion to families, $180 billion to support health care, and $119 billion for education. Passenger airlines are getting capital injections of $25 billion. It also earmarks $366 billion in “loans” for small businesses, mostly provided by the Paycheck Protection Program (PPP). But most of that cash is likely to turn into grants. If the restaurants, landscapers, physician practices and the like maintain their pre-crisis payrolls for eight weeks after they receive the aid, the loans can be forgiven.
The CARES Act also encompasses a second category, loans that companies are obligated to repay. That comprises $454 billion for midsize businesses with up to 10,000 employees under the Main Street Lending facility, a number that the Fed will leverage to deliver hundreds of billions in credit, and $56 billion for passenger and cargo airlines, the U.S. Postal Service, and “firms vital to national security,” notably defense contractors. All told, the loans, including an estimate of the PPP credits that won’t become grants because some companies couldn’t afford to keep employment at pre-crisis levels, comes to around $600 billion.
We’ll make two, best-case assumptions. First, the U.S. enjoys a sharp, V for victory recovery that lifts national income at the end of 2021 back to the mark at the close of 2019. Second, the rebound enables businesses to repay all or almost all of that $600 billion owed the Treasury. Then how much more does the U.S. need to borrow this year and next, with some sums in fiscal 2022, versus what was predicted before the crisis? In other words, how more indebted is the coronavirus going to make America?
Here’s what Treasury needs to borrow to get through 2021 and, probably, part of the following year. Once again, the bill from the CARES Act and two previous measures, come to $2.4 trillion. The shutdown is hammering tax revenues, and ballooning spending on existing aid programs such as Medicaid and standard unemployment benefits, excluding the extra assistance included under CARES. In a letter to Congress released on April 17, the Congressional Budget Office (CBO) forecast that the combination of cratering inflows and surging emergency spending will add $1.76 trillion to the shortfall. That’s not all. The PPP blew through all of its $349 billion in funding over just two weeks. On April 20, Congress neared an agreement on another $370 billion infusion for PPP, plus $100 billion for hospitals and COVID-19 testing, hiking the tab by $470 billion.
Here’s how it all adds up. CARES and other legislation cost $2.4 billion, the recession another $1.76 trillion in lower taxes and higher outlays on programs such as Medicaid. The new funds to replenish the PPP and aid health care providers add $470 billion. Those numbers bring the total of new borrowings through the close of fiscal 2021 to over $4.6 trillion.
Keep in mind, the U.S. could collect as much as $600 billion in repaid loans next year and beyond, and will also recoup around $200 billion in levies due from the temporary payroll tax holiday granted to ease the strain on businesses. This emergency borrowing also comes on top of an already ballooning deficit that the CBO forecast at $1.073 trillion for 2020.
So where does that leave us? With an expected $1 trillion–plus yearly shortfall, $4.6 trillion in new borrowing, minus that $800 billion or so the Treasury could well collect in loan repayments and catch-up on payroll taxes. So it’s reasonable to assume the national debt will grow by $4 trillion more through early fiscal 2022 than was planned for in early March. That would mean America’s debt will jump from a previously forecast $17.7 trillion at the end of 2021 to $21.7 trillion, a 23% rise unmatched since 1942 as America mobilized to fight Germany and Japan.
The impact of all this debt
The $4 trillion haymaker both deepens future deficits, and in one stroke, undercuts a crucial measure of financial strength, America’s debt as a share of GDP. In March, the CBO issued pre-crisis projections for the next decade that included forecasts for outlays, revenues, deficits, and total debt. But the CBO is required to make its forecasts under the assumption that “temporary” tax cuts slated to sunset actually do expire, and restraints on expenditures remain in place. For example, the CBO’s numbers show the rates lowered in the 2017 tax act snapping back to their old levels in 2025 as scheduled, and congressional budget caps holding discretionary spending to tiny increases staying in force. In reality, Congress and the administration almost always renew middle-class tax breaks, and agree to bust the restraints to satisfy Republican demands for higher defense spending and Democrats’ push to strengthen social programs.
The CBO does issue “alternative” budget numbers showing the almost certain scenario that the tax reductions continue, and that the spending curbs are broken. To get the most realistic projections, I adjusted the CBO’s official forecast by incorporating the “alternative” outlook from June of 2019, and plugged in the new numbers brought on by the crisis.
The alternative budget predicts a gap between expenses and revenues that expands from $1.073 trillion or 4.6% of GDP in fiscal 2019 to $2.16 trillion in 2029, rising to 7% of national income. Total debt jumps to $32.4 trillion, rising from 79.2% to 105% of GDP. Thereafter, unbridled growth in Medicare and Medicaid in future decades keeps deficits and debt on a rapidly climbing escalator.
Now, let’s add the impact of the $4 trillion thunderbolt. First, the U.S. will be paying much more in interest than previously forecast, cash that can’t go to hiring more teachers or paying for hospital stays for the elderly. Right now, the Treasury is borrowing at extremely low rates. But the CBO predicts that cheap money won’t last, especially since huge borrowings could erode America’s vaunted creditworthiness. The CBO forecasts average rates in the 2.6% to 2.7% range over the next decade.
The coronavirus-driven debt swells the yearly interest burden that in turn, expands the debt load. Compound interest is working against the U.S. big-time. Each year through fiscal 2029, the U.S. would on average pay an extra $130 billion in interest, lifting annual spending by 2.3%. Interest expense would rise from $375 billion in 2019 to roughly $1.2 trillion in 2029, or 14% a year, becoming the fast-growing expense in the budget. That’s more than double the rate of growth for Medicare and Medicaid. Driven by ballooning interest, the deficit would reach almost $2.4 trillion in fiscal 2029, or a huge 7.7% of GDP, versus 4.6% in 2019. The U.S. would be borrowing 33¢ on every dollar it spends, compared to 22¢ last year.
The relentless compounding would increase the national debt to $38 trillion in 2029, more than double the $16.8 billion in 2019.
If that scenario plays out, the U.S. would shoulder a staggering 123% of debt to GDP in a decade, 18 points higher than under the CBO’s already scary alternative budget projections. That’s approaching Italy’s current 135%, and exceeds France’s ratio of 98% by one-fourth.
Could the U.S. impose a VAT?
The outbreak makes this future burden so much more crushing that America probably won’t get to those 2029 numbers. Piling on that unforeseen $4 trillion makes it much more likely that a credit crisis will strike sometime in the next several years, forcing radical action. The idea that taxing the wealthy will come close to solving the problem is an illusion. Riedl points out that seizing all income over $1 million would increase revenue by 3.4% of national income, only three-quarters of what’s needed to close the pre-crisis deficits. The rub is that the U.S. middle class is where the big money is, and middle-class families pay extremely low income taxes. Trump lowered their rates in 2017, and no major politician advocates increasing them. In fact, the rate paid by the median family making $59,300 a year is just 3.3%.
Balancing the budget in the next few years would require a combination of a 20% value-added tax (VAT), similar to a national sales tax, and an extra 10% to 15% levy on payrolls. Big new revenues from those sources were the only solution before the outbreak. But the timetable was different. It looked like the U.S. could wait well beyond a decade to impose the big hit, because debt was climbing relentlessly but slowly. But piling on $4 trillion overnight, and heightening the interest burden, could scare foreign investors who keep our rates low and the dollar strong. Until COVID-19 hit, it appeared that the baby boomers were simply offloading the burden onto generations that might not start working for 20 years. Now, today’s middle-class workers in their forties and even fifties will likely get stuck with the huge tax increases.
A few years ago, I wrote a story on the one thing former House Speaker Paul Ryan, an advocate of reining in spending, and economist Paul Krugman, champion of a large and active government, agreed on. Both predicted that imposing a big VAT was the only way America could deliver on all the benefits that it’s promised its citizens. Ryan advocated lowering the trajectory of spending to avoid a VAT, but still thought it would probably happen, while Krugman thought it was both inevitable and the way to go. The pandemic just lifted the odds of European-style taxes to a virtual certainty. The middle class will start paying for those IOUs soon, and it’s the virus that has brought the reckoning from a dot in the distance to a daunting fiscal future that’s approaching fast.
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