CBO Director: What Happens When Debt Hits 122% Of GDP | Phillip Swagel
What this covers
Phillip Swagel, 10th Director of the Congressional Budget Office, explains what's driving the widening U.S. federal debt, deficits, and how "at some point it will be a problem".
*This video was recorded on October 10, 2024
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00:00 - Introduction and Fiscal Projections 01:49 - Deficit Trends and Historical Comparisons 03:36 - Economic Recovery Amid Record Deficits 05:24 - Key Drivers of Debt and Deficit Growth 08:02 - Rising Interest Payments and Their Impact 10:27 - Sustainability of U.S. Fiscal Policies 12:05 - Inflation Risks from Growing Deficits 13:56 - Interaction Between Federal Reserve and Treasury 15:15 - Revenue Projections and Expiring Tax Cuts 18:35 - Financial Sector Risks 21:00 - Federal Deficits and Economic Growth 24:15 - Closing Remarks and Future Outlook
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The U.S. fiscal trajectory is unsustainable long-term due to mandatory spending (Social Security, Medicare) and rising net interest costs outpacing revenue growth, creating a policy challenge that requires Congressional action despite current borrowing capacity.
- Net interest outlays will rise from $900 billion (2024) to consume 4.1% of GDP by 2034, crowding out other priorities
- Mandatory spending (Social Security and healthcare) drives 70%+ of long-term deficit growth due to aging demographics and excess healthcare cost growth
- The deficit is unusually large (6-7% of GDP) despite strong economic conditions, suggesting structural rather than cyclical problems
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Rising net interest outlays consume resources not available for other government purposes such as defense, non-defense spending, social programs, or tax relief, creating a crowding-out effect at the federal level.
“and are on track to go you know yet higher and so those are resources that are not available to to you know to our government for other purposes right if a policy maker wants more spending or you know on whatever on and there on the screen you can see on defense on non-defense on social purposes or they want tax relief those net interest payments are resources that are not available for that”
Deficits during the Great Depression, WWII, 2008-2009 financial crisis, and pandemic were responses to major economic emergencies and macroeconomic events, whereas current deficits persist despite strong economic conditions.
“it's really in response to you know these emergencies these macro events whether a you know a conflict or the financial crisis or pandemic and yeah that's um that's what's so unusual is that we're past the pandemic and yet we still have this uh this deficit”
Capital inflows to the United States (international investors providing resources to U.S. government and businesses) help keep U.S. interest rates low despite large deficits, dampening the crowding-out effect, but if global investors become hesitant to provide capital or start worrying about U.S. creditworthiness, this cushion will disappear.
“one thing that's important for the US is the availability of capital inflows that you know Capital wants to come here um and the the US government and businesses are able to borrow at interest rates that are still pretty attractive by um you know historical uh experience so you know the rising debts driven by continued deficits do matter but they matter a modest amount at any one time because of the Ava availability of international Capital that helps keep um interest low and resources available to um businesses and consumers and the challenge would be if Global Investors at some point in the future hesitate to provide more resources to the US you know start to worry about the capital that they're providing to the US”
The Federal Reserve's monetary policy focuses on meeting its statutory goals—maintaining low inflation and financial stability while achieving a labor market with continuing job creation and low unemployment—not on accommodating fiscal policy needs.
“there is that interaction as you say that high interest rates have a effect on the um fiscal side you on the cost of borrowing and that feeds back into deficits um on the other hand monetary policy has you know goals and statute and that's you know the labor market and the economy and inflation Financial stability um and so that's where I expect monetary policy to be focused is on meeting the the fed's goals um you know maintaining low inflation and financial stability and and and a you know labor market that um you know continues to to add jobs and have a low unemployment rate”
It is difficult to predict when a financial crisis will occur because it can be triggered from either direction: a weak economy affecting the financial sector, or problems in the financial sector affecting the overall economy.
“it's really hard to know um when a financial crisis will happen and in part because it can happen both in inst in both directions we had the economy affecting the financial sector you know a really bad economy can affect the financial sector um and of course there were worries about that at the beginning of the pandemic it didn't seem to um you know to to be the case it didn't play out or it could be like in '0708 where problems in the financial sector and especially subprime lending and and other um you know in housing affected the overall economy so it could be in both directions”
Fiscal policy makers, not the Federal Reserve, ultimately bear responsibility for addressing the fiscal challenge created by widening deficits and rising interest payments.
“what it means for the fiscal situation in some ways is is a challenge for fiscal policy makers I don't expect um you know I expect fiscal policy makers to have to address that fiscal challenge okay”
The 2023 fiscal year deficit of $1.7 trillion was actually approximately $2 trillion when excluding the student loan debt cancellation program that was booked in the budget but later cancelled by court decision and unbooked.
“so the deficit in 2023 on the books it says 1.7 trillion if you take out the cancellation that never happened it was two trillion so that's that's kind of the way I think of it is that 2023 the deficit was $2 trillion um not counting the student loan you know kind of off and on”
There is a relationship between deficits/surpluses and economic growth, but it works through a time-lagged mechanism: deficits lead to debt, which affects interest rates, which crowds out private investment and consumer spending, affecting economic growth.
“yes it's it's a relationship that matters but it matters over time and so that the you know the relationship goes from well deficits to debt and then that affects interest rates because it affects the resources available to businesses and to Consumers right so this is the the classic crowding out analysis”
Whether rising deficits cause inflation depends on the interaction between fiscal deficits and monetary policy, with inflation coming down as the Federal Reserve raised interest rates and tightened conditions, while supply-side improvements (resolved supply chain issues, labor force expansion from immigration) have also helped reduce inflation.
“what they mean for inflation depends on the interaction with monetary policy um inflation has come down um you know as the FED has has raised interest rates and kept them high until you know it's recent cut um and then also on the supply side of the economy we've had the supply uh challenges arising from the pandemic have um you know have have backed away you know so the court situation is you know is basically back to normal as I understand it or much closer to normal than it was during the pandemic um you know our labor force challenge um has also subsided to some extent as the economy has cooled we've had a surge of immigration that's um increased the labor force as well”
Over the longer term (beyond near-term interest), mandatory spending on Social Security and healthcare programs represents the primary fiscal challenge, driven by an aging U.S. population and excess cost growth in healthcare.
“over the longer term it's more in the middle of the screen where you have um uh on the outlays is the mandatory outlays so there's Social Security and then as you said the major Healthcare programs um and you know you viewers can see that Social Security right now is the largest single program of the federal government on this on the outlay side on the spending side um and that's continuing those outlays are continuing to rise because the US is an aging Society”
The Dodd-Frank Act enacted in 2010 provided policymakers with new crisis tools, including a resolution authority for large financial institutions, which has not yet been tested but is available for future use.
“the 2010 dodf Frank Act was enacted that provided policy makers with new tools we haven't tested all of them yet you know the the resolution Authority for a large finan financial institution that Authority hasn't been used yet but it's there so policy makers have new ways to respond a financial crisis”
Net interest revenues will constitute almost 40% of individual income taxes by 2034, representing a significant constraint on federal fiscal capacity.
“we're looking at almost 40% of individual income taxes uh by 2034 which is a significant number when you when you think about it”
The CBO constructs 10-year budget projections through a systematic process starting with demographic projections (fertility, mortality, immigration), followed by economic forecasts, then line-by-line spending projections for each federal program, revenue projections, and finally net interest outlays based on spending, revenues, and interest rates.
“we start with the de demographic projections so we look at you know fertility mortality immigration in both directions um and so that's demographics then we look at uh the economics we do an economic forecast then we look at both spending and revenues we do a projection of revenues we do line by line um on the spending side so anything the federal government spends on I have a colleague here at CBO who's an expert on it and they do a projection and then lastly we do net interest outlays”
The CBO's role is to inform Congress (the legislative branch), working for Congress rather than the executive or the public, providing cost estimates on proposed legislation and updating projections as laws are enacted.
“we work for the the legislative branch and that's you know that's what we'll do whatever whatever happens we'll update and just to make sure that the members of Congress have the best information that we can give them”
Bank failures occurred in 2023 (Silicon Valley Bank, Signature, First Republic), showing that banking regulation is imperfect and banks can face problems from interest rate changes and other factors.
“we saw bank failures last year Silicon Valley Bank and signature First Republic um so uh you know it's not perfect and there there certainly can be you know banks that run into problems with um uh changes in interest rates and and other things”
The current fiscal situation is sustainable in the short-term because the U.S. Treasury can finance the deficit at reasonably low interest rates (10-year Treasury bond just above 4%), but long-term sustainability is a problem requiring adjustments at an uncertain future point.
“for now the US Treasury is able to finance this you know the this fiscal um uh you know situation the sort of the you know all the numbers on the screen right we're able to borrow as a nation at interest rates that are still reasonably low and the the 10-year treasury bond as we speak on um uh was just above 4% um you know so that's that's higher than it was you know say a couple months ago but it's lower than than the 10year treasury yield has been you know in certainly you know the history while you and I have been alive um so the the the treasury can fund um and that is the the good news in the short term is that there's not a crisis but the problem as you point out is that over time these interest payments will rise”
The Congressional Budget Office is projecting that debt held by the government will reach $50 trillion by 2034, which equates to roughly 122% of GDP over the next 10 years, representing a 25 percentage point increase over 2023 levels.
“the Congressional budget office is projecting that debt held by the government will reach 50 trillion do by 2034 which equates to roughly 122% of GDP over the next 10 years which will be a 25 percentage Point increase over 2023 is number”
The U.S. fiscal trajectory is on a challenging path, with the deficit reaching levels not seen since World War II, evidenced by the CBO's earlier 2024 report.
“it's all in as a sign that the US fiscal trajectory is on a a very challenging path that as you said we have very wide deficits”
Unrealized losses on investment securities held by U.S. banks far exceed the losses from 2008, indicating potential asset-side fragility in the financial sector despite banks holding more capital than in 2007-2008.
“these losses unrealized losses exceed that of 2008 by a tremendous uh margin”
Large portions of the 2017 Tax Act expire at the end of 2025, reverting to pre-December 2017 tax rates on the personal side of the tax code, which would increase revenues by nearly one percentage point of GDP in 2026-2027 under current law projections.
“large parts of the 2017 Tax Act expire at the end of next year so at the end of 2025 we revert to the pre- December 2017 uh tax rat that's on the personal side of the US tax code um and that means about near well it's nearly one percentage point of GDP in additional Revenue in our projections in 2026 in 2027 because of that so we we actually show higher Revenue coming in because of the expiration of the tax cut”
Current CBO budget projections do not include the costs of extending the 2017 tax provisions beyond 2025, even though both presidential candidates during the 2024 campaign proposed extending some or all of these provisions.
“there's lots of discussions during the current presidential uh campaign about whether to extend some or all of those Provisions but none of the cost of those extensions you know whether all of it as one you know one candidate has proposed or the four you know less than $400,000 income families which is more than half of the tax cut um that's expiring none of those costs are in our um are in our budget projections yet”
The CBO's current economic forecasts assume steady growth in the economy with no significant spurts of high growth or recessions in the projection period.
“it's assuming steady growth in the economy right no uh significant uh spurts of high growth or a recession”
At present, the U.S. financial sector is in significantly better shape than in 2007-2008, providing some reasonable reassurance despite risks and uncertainties.
“at least for now it looks like our financial sector is in much better shape than it was back in uh 0708”
The historical average for net interest outlays as a percentage of GDP is 2.1%, while current levels are well above this benchmark, representing a significant structural shift in budget allocation.
“the historical average uh good you're highlighting it yeah that's perfect thank you so much the historical average was about 2.1% of GDP and you're you can see your your viewers the audience can see that we're well above that now”
Net interest payments on the federal debt reached over $900 billion in the most recent fiscal year and are on track to rise further as interest rates remain elevated.
“net interest outlays in the in the fisol year that just ended came in um north of $900 billion we Pro even a bit higher [7:51] than what we had um expected and are on track to go you know yet higher”
The U.S. economy is currently performing well with strong growth, continuing job creation, and a low unemployment rate, despite being higher than recent lows; inflation has continued to come down even as the economy has grown.
“we see a pretty good economy um you know we've had strong growth uh Stronger growth than than we expected even at the beginning of the year even as inflation has continued to come down um job creation has continued the unemployment rate is still low it's gone up a bit from where you know the the lows of a few months ago but overall it's still a pretty good economy”
Swagel served as assistant secretary for economic policy at the U.S. Department of Treasury from 2006 to 2009 under the George W. Bush Administration and worked on policies to address the global financial crisis, including the Troubled Asset Relief Program (TARP).
“having been the assistant secretary for economic policy at the US Department of the treasury from 2006 to 2009 under the George W Bush Administration during this period he worked on policies to address the global financial crisis including the troubled acid relief program”
The CBO website (cbo.gov) contains comprehensive budget and economic data, and the CBO publishes a one-page summary of budget projections that serves as a good starting point for understanding fiscal projections.
“the CBO website is cbo.gov um there's a lots on that anything your viewers are interested in and I'll say you know the thing I would recommend to start is is the one pager of our budget and economic data and that's you know that's that's the first thing I would look at”
Other think tanks and research groups like the Penn Wharton study do valuable work analyzing how the deficit would change under different candidate policies, but CBO waits for law to be enacted before updating projections.
“those those other groups pen Wharton is one and there other um other groups like that um they they really do excellent work and um you know I think of them as as a useful compliment to what we do um uh you know so I can't say what they've done is right or wrong just because inevitably they're making assumptions about you know what the programs are the two candidates”
Income distribution affects revenues because the U.S. tax system is progressive; greater inequality (more income concentrated at the top) generates higher revenues, while more equal income distribution reduces revenues.
“income distribution matters since the US has a progressive tax system um so if there's more inequality that means more more Revenue you know more more income at the top means more more Revenue”
Philip Swagel has served as the director of the Congressional Budget Office since 2019, the 10th director in its history.
“Philip swago who is the current director of the Congressional budget office uh and he served as the 10th director dtor of the CBO since 2019”