Committee for a Responsible Federal Budget

Washington Post Makes the Case for Fiscal Space

When the financial crisis began at the end of 2007, it soon became clear that the government would need to run higher deficits in response. Tax revenue fell, spending on "automatic stabilizers" rose, and policymakers enacted new spending to stimulate the economy. At that time, the debt level was lower and in line with historical averages, giving lawmakers the room to borrow what they needed to adequately respond. This borrowing room is known as "fiscal space," and is an important hedge against unforeseen economic, natural disaster, and national security crises.

But there is far less fiscal space with today's growing debt level, which should worry lawmakers concerned about future flexibility. The Washington Post expanded on this point in a Sunday editorial on why a "grand bargain" is still needed:

When the Great Recession hit in December 2007, the United States’ publicly held debt amounted to less than 40 percent of gross domestic product — well within the normal range since World War II, when the figure temporarily, and necessarily, soared above 100 percent. Consequently, the federal government was ­well-positioned to fight the plunging growth rate by spending more and taxing less; it had ample “fiscal space.”

If a similar emergency — war, recession or some combination — struck now or in the next decade, the United States would begin its response burdened with a debt-to-GDP ratio above 70 percent, roughly twice the postwar average, according to the most recent Congressional Budget Office projections. "Fiscal space" would be correspondingly narrower.

We do not suggest that such a situation is likely or that the U.S. economy would collapse if it occurred. Nor do the debt projections prove that the Obama administration’s fiscal response to the Great Recession was too large; much of it, in fact, consisted of long-established “automatic stabilizers,” such as unemployment benefits that rise (as they should) during a downturn. Our purpose is simply to take note of one reason, among many, that it is far too soon to declare victory over the nation’s budget problems.

Quite simply, this is why the long- and medium-term outlook is much more important than the short-term. Recently, deficits have started to fall as the economy has recovered, but debt is still projected to be on an upward path at the end of the decade. With debt levels over 70 percent and rising, the room for lawmakers to have flexibility over the use fiscal policy to respond to crises will be diminished. If lawmakers enact many deficit-financed policies in response to a crisis, debt would rise to dangerously high levels and potentially trigger a damaging reaction from the markets. If lawmakers hold off, the response to the crisis would likely be inadequate. Either path would do harm and both could be avoided if lawmakers work to restore some of the lost fiscal space before the next crisis strikes. But achieving this goal requires lawmakers to address our medium- and long-term debt outlooks.

Putting debt on a downward path relative to the economy would provide future lawmakers some flexibility in the case of another economic downturn or other emergency. There are many ways to both protect the current economic recovery and boost our long-term economic prospects. But failure to agree upon a plan to address the debt will only tie the hands of future lawmakers, leaving our economy vulnerable if another crisis should hit. We need a solution to our long-term problem, and as the Washington Post concludes, "the best time to start negotiating it is now."

Click here to read the editorial.