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Uncle Sam Is Spending Like We’re In Recession; What Happens When We Really Are?

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Last week we got the updated federal budget deficit numbers. At $867 billion, the 2019 fiscal year budget shortfall has already eclipsed last year’s deficit of $779 billion.

The out of control spending and spiraling deficits are concerning enough on their own terms, but they become absolutely horrifying when you consider that these budget shortfalls are happening during an economic expansion. You would normally expect numbers like this during a major recession.

That raises an important question: what’s going to happen when the recession hits?

Ryan McMaken parsed out the numbers in a recent article on the Mises Wire. The last time the deficit was this high was in fiscal 2012 when the budget shortfall reached nearly $1.1 trillion. At the height of the Great Recession-stimulus-panic, the deficit reached 1.4 trillion in 2009.

We see a similar pattern in the years before the 2008 crisis.

Deficits typically shrink significantly during a post-recession recovery and then spike during the subsequent downturn. As McMaken notes, after the 1990-91 recession, deficits generally got smaller, until growing again in the wake of the Dot-com bust. Deficits then shrank during the short expansion from 2002 to 2007. During the first part of the post-Great Recession expansion, deficits shrank again. But since late 2015, deficits have only gotten larger, and are quickly heading toward some of the largest non-recession deficits we’ve ever seen.

The big culprit is spending. To date, the Trump administration has spent over $3.7 trillion. Year-over-year spending growth is at a nearly nine-year high. Uncle Sam spent $371 billion in July alone. That was 23% more than the government spent in July 2018.

And there is no end in sight to the spending. Earlier this month, Pres. Trump signed a bipartisan budget deal that will increase discretionary spending from $1.32 trillion in the current fiscal year to $1.37 trillion in fiscal 2020 and then raises it again to $1.375 trillion the year after that. The deal will allow for an increase in both domestic and military spending.

Revenues are up slightly, but as McMaken points out, we’re seeing a downward trend. Only one quarter out of the last eight shows year-over-year growth.

McMaken says we’re heading for trouble.

Historically, a widening gap between tax revenue and government spending tends to indicate a recession or a period immediately following a recession. We saw this pattern during the 1990-91 recession, the Dot-com recession, and the Great Recession.

The Trump administration has attempted to brag that it has increased revenues through tax hikes (i.e., tariff increases), and as Bloomberg reports, “tariffs imposed by the Trump administration helped almost double customs duties to $57 billion in the period.”

But tariff hikes also cut intro entrepreneurial activity and overall production, reducing earnings and hobbling economic growth. Not surprisingly, tax revenues have not kept up.

Of course, if tax revenues actually limited government spending, there wouldn’t be much to complain about. Lower revenues really would mean fewer resources flowing into government coffers — and that can be a good thing.

But, in a world where government borrowing allows spending to balloon even in times of falling revenue, we’re setting the stage for future problems. The more the total national debt rises, the more debt service will become a serious issue if interest rates increase even moderately. Given the prospects for higher interest rates in the future, the Congressional Budget Office estimates interest payments on the debt will increase substantially in the future.

Uncle Same spent $35 billion paying interest on the current national debt in July alone. To date, the Treasury has spent $343 billion this year servicing the interest on the national debt.

So, if Uncle Sam’s financial situation is this bad in these supposedly good economic times, what’s going to happen when things turn sour? McMaken says it probably won’t be good.

It is troubling that after a decade of an economic expansion, the US government is still spending money as it does during and immediately following a recession. Thus, if deficits are this large right now when times are good, how big will they become when the US enters recession territory? Back in 2009, the recession and its aftermath (i.e., massive amounts of stimulus) drove deficits beyond the trillion-dollar mark four years in a row. With 2019’s deficit total now pushing toward 900 billion, we should perhaps expect deficits to top two trillion when the next recession hits. And probably for several years.

The piper will then need to be paid when interest rates increase and substantial cuts must be made to social security, medicare, and to military budgets in order to service the debt and avoid default.

This reckoning can be put off, however, so long as the dollar remains the world’s reserve currency, and the central bank can continue to monetize the debt. As long as the dollar reigns supreme, the central bank can keep this up without causing high levels of price inflation. But when the day comes that the dollar can no longer count on being stockpiled worldwide, things will look very different.

The central bank won’t be able to simply buy up debt at will anymore, interest rates will rise, and Congress will have to make choices about how many government amenities will be cut in order to pay the interest bill. Americans who live off federal programs will feel the pinch. State governments will have to scale back as federal grants dry up. The US will have to scale back its overstretched foreign policy. Not all of this is a problem, of course. But lower-income households and the elderly will suffer the most. Everything may seem fine now, but by running headlong into massive deficits even during a boom, the feds are setting up the economy for failure in the future.

But that’s in the future, and few lawmakers in Washington are worried about much of anything beyond the next election cycle.

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