The Post-Deal Long Term Outlook

So far, we have analyzed the fiscal cliff deal by looking at the good, the bad, and the ugly in the package, showing what the deal does to the budget, and estimating the short-term economic impact of the deal. This blog will look at the potential impact of the deal over the long term.

Just as it did in the medium term, the American Taxpayer Relief Act will significantly increase deficits and debt relative to current law. Previously, the drastic amount of deficit reduction in the fiscal cliff combined with the ever-increasing reach of the Alternative Minimum Tax and health insurance excise tax over the long term had debt actually being paid off by 2070 under current law (2060 including a drawdown of war spending). Now, debt is stabilized in the medium term but on a clear upward path over the long term, since most of the tax cuts have been extended and the reach of the AMT has been limited. Relative to current policy, the expiration of some of the tax cuts will slightly reduce deficits and debt.

As you can see below, under both current law (including the war drawdown) and the two versions of current policy presented (CRFB Realistic and CBO's Alternative Fiscal Scenario), debt as a share of GDP would rise significantly over the long term, well exceeding the size of the economy by the 2030s in all three scenarios.

Source: CBO, CRFB calculations
Note: Both current law scenarios include a drawdown of war spending.

Please note that these estimates are based off of CBO's economic assumptions from their August baseline, which include both the severe short-term impact of the fiscal cliff and the mildly positive longer-term impact of the deficit reduction in current law. Both aspects would likely change when CBO updates these assumptions in their next baseline.

The deal has made current law and current policy converge greatly, but there are still some differences in assumptions. They include:

  • Tax Cuts: While most of the tax cuts in the deal are permanent, the 2009 refundable tax credit expansions and "tax extenders" are set to expire after five years and one year, respectively. Current law assumes that they expire as scheduled while the other two scenarios assume they are permanently extended.
  • Health Care Spending: The "doc fix" that prevented a 27 percent cut to Medicare physician payments will only last for a year. Current law assumes that there will be no extension of the doc fix, while the other two scenarios assume that it is extended permanently. Over the long term, health care cost growth in current law basically assumes that the Affordable Care Act is successful in achieving its cost containment goals through 2030. The AFS assumes that it is only successful through 2022. CRFB Realistic assumes a growth path in between current law and the AFS.
  • Discretionary and Other Mandatory Spending: While current law assumes that the sequester will go off in two months as scheduled, both AFS and the CRFB Realistic scenario assume that it is permanently repealed. Also, while this version of current law and CRFB Realistic assume that war spending is drawn down as planned, the AFS assumes that it increases with inflation. Over the long term, both current law and CRFB Realistic assume that these categories of spending (discretionary and other mandatory) stay constant as a percent of GDP after 2022, while the AFS assumes that they increase over five years and stay at their 40-year historical average beyond 2022 (an annual difference of about 2.4 percent of GDP).
  • Long-Term Revenue: Both current law and CRFB Realistic allow certain features of the tax code--particularly, the health insurance excise tax applying to more and more insurance plans over time and the tendency for wages to increase faster than prices (to which tax brackets are indexed)--to push up revenue as a percent of GDP over time. By contrast, the AFS freezes revenue at its 2022 share of GDP. This difference becomes quite substantial over the long term.

The new estimates of the long-term budget outlook show that our fiscal path is unsustainable, regardless of the assumptions. We will need to do much more, especially on health care spending, to change that reality.