Spending Deal Signals End to GOP's Budget Austerity Kick

02/07/18 04:48 PM EST
By Nick Timiraos 

The spending deal reached by congressional leaders Wednesday marks an end to the budget austerity congressional Republicans sought to advance in Washington in 2011.

Back then, Republicans negotiated a series of automatic curbs on defense and domestic discretionary spending with President Barack Obama that, along with a growing economy and ultralow interest rates, helped bring down deficits.

Now, party leaders have made a U-turn. Last December, President Donald Trump signed into law tax cuts of $1.5 trillion over a decade, and congressional leaders Wednesday agreed with Democrats to boost federal spending by nearly $300 billion over two years from what was already in train.

"This is the end of spending restraint as we have known it," said William Hoagland, a former budget adviser to Senate Republicans now at the Bipartisan Policy Center in Washington.

The tax cuts and new spending should boost economic growth this year and next. Gross domestic product could rise to 2.6% or 2.7% this year, compared with 2% without the policy changes, with the boost equally split from the tax cuts and the spending deal, according to projections by research firm Evercore ISI.

The deals could also hasten the return of $1 trillion deficits by next year, according to independent estimates. Deficits have already been projected to rise because an aging population will require more spending on health care and Social Security. Last June, the Congressional Budget Office projected $1 trillion deficits in 2022.

After falling from 9.8% of GDP in 2009, when the last recession ended, to 2.4% in 2015, deficits have been edging higher. Last year, they reached 3.4% of GDP. Including the impact of the tax cut, they are projected by the CBO to hit 4.7% next year. That is before factoring in the latest spending increase.

Deficits tend to increase in downturns and get pared back as an expansion advances. This cycle of rising deficits late in the expansion thus marks a twist from typical events.

Those deficits, in turn, could put upward pressure on interest rates if bond investors demand bigger premiums from the government for absorbing increasing supply of government debt. That could constrain just how fast the economy grows even as stimulus hits it. Yields on 10-year Treasury notes have traded recently at a four-year high, though they remain historically low, at 2.84%, suggesting the bond market isn't yet too worried.

Bigger deficits pose another complication: They could leave U.S. authorities less room to maneuver should the economy hit a downturn or crisis and lead to calls for fiscal stimulus down the road.

The Budget Control Act of 2011 effectively had two sets of spending limits -- an initial set of caps, and then a deeper set of cuts that kicked in only under the so-called sequester, which was triggered in 2013 after lawmakers failed to agree on a deficit reduction package. Earlier budget deals have reversed the cuts from the sequester but until now they held spending within the initial set of caps.

"This is the first deal that not only reverses the sequester, but busts the original spending caps," said Marc Goldwein of the Committee for a Responsible Federal Budget, a fiscal watchdog group.

This is important because once lawmakers raise spending above the cap for just one or two years, it is very hard to return below them. "Deficit spending is kind of like an addiction. They say they just need one more fix, but it makes the next one easier," said Mr. Goldwein. Also, unlike the tax cuts, which Republicans said wouldn't add to deficits because they would boost growth, the spending increases in this bill "explicitly reverse past deficit reduction," said Mr. Goldwein.

The latest deal underscores how difficult it has been for Washington to permanently rein in red ink by relying on cuts to discretionary spending programs, which account for just one third of all government outlays and aren't the primary driver of future deficits.

Republicans have for years itched for increases to military funding, but Democrats have insisted any boost for the Pentagon should allow for increased spending on domestic programs.

The burst in spending doesn't so much reflect a desire to stimulate the economy as it signals a pent-up frustration with years of outright spending cuts or increases that failed to keep up with inflation.

But the timing of the agreement has puzzled economists in part because they say increased spending by fiscal authorities would have had much bigger benefits earlier this decade, when unemployment was nearly double the current 4.1% rate, a 17-year low.

Write to Nick Timiraos at nick.timiraos@wsj.com


(END) Dow Jones Newswires

February 07, 2018 16:48 ET (21:48 GMT)

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