In March 2009, the Congressional Budget Office (CBO) projected a baseline deficit of $1.67 trillion, or 11.9% of gross domestic product (GDP) for fiscal year 2009. This was up from a deficit of $459 billion in fiscal year 2008, or 3.2% of GDP, and a reversal from surpluses a decade ago. These growing federal deficits are the result of four primary factors: the 2001 and 2003 tax changes; the external effects of the current recession; increased Bush-era spending, including spending on the wars in Iraq and Afghanistan; and the various short-term responses to the recession, including the American Recovery and Reinvestment Act (ARRA) and financial market bailouts. The recession itself is the most important cause, responsible for just under half of the deterioration. The ARRA constitutes less than a tenth of the total deterioration since 2001. This Issue Brief examines the details and causes of the current budget deficit and the role the current recession has played. The years between 2001 and 2007 saw a large deterioration in the budget balance, which was driven chiefly by legislated policy changes. The Bush-era tax cuts are the largest contributors to this period of policy-induced increases to the federal budget deficit. Despite these policy changes, the federal budget deficit remained relatively modest in 2007. However, since the current recession began in 2008, the contracting economy and the explicitly short-term policy responses enacted to address it have caused an enormous, but temporary increase in the deficit. More specifically, we find that that:
In 2001, the federal
• budget was in surplus by $281 billion (2.8% of GDP). Further, the CBO estimated surpluses would continue through 2010 in their baseline projection. (See box below, A Note on Baseline Projections). In 2009 the most recent forecast is for a federal budget deficit of $1.67 trillion (11.9% of GDP) — though further economic deterioration may increase this total.
Of this $2 trillion
• reversal of fortune, almost half (42%) was due to legislative changes made prior to 2009 (the Bush-era tax cuts explain about a third of these legislative influences),
42% was due to economic and technical factors — a reflection of the recession’s effect on the deficit — just since the start of the current recession, while only 7.6% can be accounted for by the American Recovery and Reinvestment Act (ARRA).
• Since 2007, before the recession began, the CBO baseline projection for fiscal year 2009 has deteriorated by $1.5 trillion, or 10.9% of GDP.
• Of that change, the largest share can be attributed to the mechanical effects of the recession on taxes and spending, as well as the explicitly short-term policy responses to it: 45% of the $1.5 trillion change was due to economic or technical factors (which include subsidies for Fannie Mae and Freddie Mac); 21% was due to non-recovery act legislative changes; 22% was due to the Troubled Assets Relief Program (TARP); and 12% was due to the American Reinvestment and Recovery Act.
• Non-recovery related legislative spending increased relative to the March 2007 baseline by just $221 billion, or 1.6% of GDP. The bulk of this increase reflects increased defense spending.
