CBO: Slower Economic Growth, Smaller Workforce, a Larger Deficit, and Growing Mandatory Spending

February 6, 2014

Yesterday, the CBO released its Budget and Economic Outlook between 2014 to 2024. There are a few takeaways from this new report.

We will continue to suffer from a Slow Recovery

Although it shows that the economy will continue to slowly recover, they predict that the United States’ potential GDP is lower now than they previously believed.

“The growth of potential GDP over the next 10 years is much slower than the average since 1950.” After growing between 3.1 and 3.4 percent between 2014 and 2017, it will slow to an average rate of 2.2 percent between 2018 through 2024, a growth rate only 0.1 percent faster than 2013’s GDP growth.

They say a part of this slow growth is driven by demographic changes. The workforce is getting older and retiring. The other part is that tax and spending policies will reduce peoples’ incentive to work.

Obamacare Creates a Disincentive to Work

The CBO specifically names the Affordable Care Act as a culprit in reducing labor force participation.

“CBO estimates that the ACA will reduce the total number of hours worked, on net, by about 1.5 percent to 2.0 percent during the period from 2017 to 2024…The reduction in CBO’s projections of hours worked represents a decline in the number of full-time-equivalent workers of about 2.0 million in 2017, rising to about 2.5 million in 2024.”

In other words, the CBO projects that Obamacare will change the incentives people face to either work more or less. They will either be better off and don’t need to work as hard to maintain their current lifestyle, or face tradeoffs that make working more not as beneficial (if I earn $10 I will lose part of my tax subsidy for insurance.)

This is a minor point, but it’s worth making: the reduction in the labor force the CBO is talking about is not people being laid off due to them becoming too expensive to employ. The reduction is due to the incentive effects of the insurance policies.

Although the Deficit will Decline in the Next two years, it is Projected to Increase Farther Out

The CBO also looked at the federal budget deficit. According to their projections, the deficit will continue to decline to 2.6 percent of GDP from 4.1 percent in 2013. This is due to both a slight reduction in spending over the past few years and the economic recovery which is driving up tax revenue.

After 2015, the CBO predicts that tax revenue will level out to about 18 percent of GDP, but spending will continue to climb from about 21 percent of GDP to 22.4 percent. As a result, the deficit will actually double between 2015 and 2024 from 2 percent of GDP to 4 percent.

Levels of Spending will Increase, Driven by Mandatory Spending and Interest on the Debt

The CBO also breaks down federal spending by type. They show that most of the spending growth in the budget is driven by mandatory spending (Social Security, Medicare, Medicaid.)

“Mandatory spending (net of offsetting receipts, which reduce outlays) is project to increase by close to 10 percent next year (2015) and then grow at an average rate of 5.4 percent annually, reaching about 14 percent of GDP in 2024 (compared to 12.2 percent in 2013).

On the other hand, discretionary spending will grow much slower and actually decline as a percent of GDP: “Discretionary outlays are estimated to decrease by .2 percent in 2015 and then grow at an average rate of 1.7 percent from 2016 to 2014; that rate is less than half of the projected growth of nominal GDP.”

Another part of mandatory spending is net interest. This is the interest payment the federal government has to make on its debt, which totals more than $17 trillion today. Due to the fact that our debt will continue to grow, given the growing deficit over the next ten years, the CBO is projecting that the government’s interest payments will grow from 1.5 percent of GDP in 2015 to 3.3 percent of GDP in 2024.

It is also important to remember that the amount the government has to spend on net interest is based on an assumption made about the interest rate. If the interest rate goes higher than these assumptions, interest payments will crowd out even more government spending.


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