Why America's deficit doubled to $2 trillion in one year
The United States government will run a deficit of around $2 trillion, double last year's number, for the fiscal year that ends in just over three weeks. Understanding why is key to revealing something important about how inflation and debt interact.
Why it matters: It can sometimes seem like a burst of inflation is a get-out-of-jail-free card for a highly indebted government. Inflating away debts can sound like a way to reduce the real burden of previously accumulated debt with one weird trick.
- For an individual, it just might be; for a sovereign government, not so much. That's apparent when you look at how much of the surge in the federal deficit is either directly caused by high inflation or is a second-order consequence of the Federal Reserve's efforts to rein it in.
- In effect, much of 2023's surging deficit is, in one way or another, paying the piper for the inflation of 2021 and 2022.
The logic: Most federal government obligations are real, not nominal. Higher inflation means higher Social Security and Medicare costs, not to mention everything else the government buys.
- Moreover, one way or another, higher inflation usually leads to higher interest rates and higher debt service costs in the future.
- That can happen either because the central bank raises rates to fight inflation (as has happened in the U.S.) or because bond investors believe inflation will become entrenched and demand higher rates as compensation.
By the numbers: For the first 10 months of the fiscal year, ending in July, the federal deficit is $891 billion higher than in the same span of the 2022 fiscal year. (That number, and those that follow, are from the Congressional Budget Office).
- Higher Social Security spending — primarily due to benefits being increased to keep up with inflation — was responsible for $111 billion of that, while Medicare and Medicaid were a combined $133 billion.
- Higher interest payments, reflecting Fed rate hikes, were responsible for $146 billion of the increase.
- Moreover, in the comparable period of the 2022 fiscal year, the Fed returned $99 billion in profits to the Treasury, its profits from a massive bond portfolio. Now, with higher rates, it pays banks interest on their reserves, which has essentially eliminated those profits.
Other factors fueling higher deficits are less directly tied to inflation and the monetary tightening it triggered.
- There was a $284 billion drop in tax payments driven primarily by lower capital gains tax receipts caused by the steep drop in financial markets last year.
- It was, however, partly offset by a $113 billion rise in payroll and withholding taxes. That reflects strong nominal wage gains, which means tax receipts from individuals fell by a net $171 billion.
- And outlays by the FDIC contributed $52 billion to the higher deficit so far this year, attributable to the bank rescues last spring that were in turn necessitated by higher interest rates (those funds are to be recouped by asset liquidations and fees on bank deposits).
Yes, but: There are also significant contributors to the higher deficit that have little to do with inflation, including a drop in revenue from FCC spectrum auctions ($81 billion) and a pandemic-era employee retention credit claimed by businesses ($99 billion).
The bottom line: "Inflation giveth, and inflation taketh away," Marc Goldwein, senior policy director at the Committee for a Responsible Federal Budget, tells Axios.
- "One-time surprise inflation can help reduce debt in the near-term, but things have a way of catching up — and now we face higher spending, lower revenue, exploding interest costs and rapid growth of our federal debt," he adds.
Editor's note: This story has been updated to correct the name of the Committee for a Responsible Federal Budget.