A Tale of Two Deficit Charts
by Dean Baker  
CEPR
12 December 2011
http://www.cepr.net/index.php/blogs/cepr-blog/a-tale-of-two-deficit-charts

Not long after I first came to Washington 20 years ago I
was at a conference dealing with Social Security
privatization. One of the panelists used a number for
the administrative costs of private accounts that was
far lower than the numbers I had seen in the literature.
After the panel, I asked one of the other panelists
about her best estimate of the administrative costs of
private accounts. She said that this depended on whether
I was interested in advocacy or policy.

I was somewhat taken aback by her response, but after a
moment I told her that I was interested in accuracy. I
have always felt that this is the best approach to
policy questions.

Accuracy has not featured prominently in Washington
budget debates in recent decades. There is an enormous
amount of misunderstanding about the deficit, much of it
deliberately promoted by politicians. We hear endless
tales of out-of-control government spending and chronic
deficits. This is nonsense as the data clearly show, but
unfortunately both parties have an interest in promoting
the deceptions.

There is a chart that I routinely use in presentations
on the economy. It shows that the deficit was relatively
small compared to GDP in the years prior to the economic
collapse in 2008. The deficit in 2007 was just 1.2
percent of GDP, a level that we can sustain precisely
forever. With deficits of this size, the ratio of debt
to GDP is not rising, which means that there is no issue
of debt sustainability.

However that changes beginning in 2008 as shown clearly
in the chart. The deficit jumps to 3.2 percent of GDP in
fiscal of 2008 and then soars to 10.0 percent of GDP in
fiscal 2009. The Republicans have used these numbers to
blame the deficits on President Obama. However this
ignores the inconvenient fact that the jump in the
deficit preceded his taking office. (Remember these are
fiscal years that begin on October 1 of the prior year.
That means fiscal 2009 was almost one-third over the day
that President Obama entered the White House.)

While President Obama's stimulus did increase the
deficit by about 2 percentage points of GDP from its
baseline level (while also creating around 2-3 million
jobs) the main cause for the jump in the deficit was the
economic downturn that followed from the collapse of the
housing bubble. It was not wild spending that gave us
big deficits the last three years; it was the economic
wreckage that followed from the collapse of the housing
bubble.

When the economy tanked, it sent tax collections
plummeting. Similarly, the government began to pay out
more money for unemployment benefits, food stamps and
other transfer payments that automatically rise when the
economy goes into a recession and people lose their
jobs. In addition, the Obama administration also had its
stimulus package to try to counteract the downturn,
which increased the deficit by roughly 2 percent of GDP
in both 2009 and 2010. These are the reasons that
deficits always swell during a downturn, but the jump
was especially large in the last few years because this
downturn has been so much worse than past recessions.

It is easy to show that the story of deficits driven by
out of control spending has no basis in reality, but it
is also possible to show that Democrats' preferred tale
of the deficit is also at odds with reality. Many
Democrats and their allies are fond of charts like the
one below showing actual and projected deficits from
2009 to 2019, and attributing the deficits to various
causes.

There are several aspects to this chart that are worth
noting. First, starting the chart in 2009 can lead
audiences to believe that large deficits had been an
ongoing problem, rather than something that began with
the recession. Second, the chart shows the deficit in
nominal dollars rather than as shares of GDP. This is
deceptive since GDP is projected to be nearly 60 percent
higher at the end of the period in 2019 than it was in
2009. This means that measured as a share of GDP, the
$1.2 trillion projected deficit shown for 2019 is only a
bit more than half as large as the $1.4 trillion deficit
that the country saw in 2009.

The deficit projected for 2019 is a bit more than 5.0
percent of GDP. That is a level that cannot be sustained
indefinitely, but it is quite different from the
deficits hovering near 10 percent of GDP that we have
seen in the last three years.

The tale from this chart is that the Bush
administration's tax cuts and the wars in Iraq and
Afghanistan are the real culprits in the deficit story.
While there are plenty of grounds for criticizing tax
cuts that favored the wealthy and wars that we did need
not to fight, the reality is that we would not be facing
large deficits had it not been for the economic downturn
caused by the collapse of the housing bubble. It is
arguable that the deficits in the Bush years were larger
than would have been desired (certainly the money could
have been better directed), but the outsized deficits
are directly attributable to the downturn. Furthermore,
had it not been for the downturn, even if all the Bush
tax cuts were left in place throughout the decade, the
debt to GDP ratio would have increased only modestly
over the decade.

In short, the real story of the deficit is the story of
the economy, which is the problem of letting a housing
bubble grow unchecked. The housing bubble was largely
kept out of policy debates prior to the downturn, with
the then-modest deficits getting far more attention in
the media.

Remarkably, even after the collapse of the housing
bubble has both wrecked the economy and led to large
deficits, there is still little interest in the media in
the underlying imbalances that led to the bubble. At the
top of this list would be the over-valued dollar that
led to large trade deficits. These trade deficits
created a gap in demand that was filled by the stock
bubble in the 90s and the housing bubble in the last
decade.

But that discussion makes both the Clinton
administration Democrats and the Bush administration
Republicans look bad. As a result, we tend to get a lot
more advocacy than accuracy in our policy debates about
federal deficits and debt.

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