Congress Reaches Debt-To-Tax Ratio Unseen Since WWII

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For Franklin, death and taxes were certain; for Washington, debt and taxes are. Succinctly, Washington has reached a debt-to-tax ratio unseen since WWII. The fundamental difference in composition and trajectory make this a far greater concern today than it was 60 years ago.

Often a different perspective is needed to truly understand what directly confronts us. This is true with the federal budget. Too often reduced to a dry fiscal discussion, or elevated to a hyper-partisan one, its true essence - and enormity - is lost.

To understand its real importance, we must reduce it to its essentials. A government's ability to borrow is underwritten by its ability to tax. This ability to tap its society's wealth - i.e., resources it does not own - makes governmental borrowing unique among debt. It also creates unique challenges.

A government's ability to tax appears carte blanche, but is constrained both politically and economically. As a nation's tax burden grows, it becomes increasingly difficult politically to increase it, as acceptable tax sources disappear. Simultaneously as tax burdens increase, they have increasingly negative economic impacts over time.

Therefore, there is a debt-to-tax ratio that is politically or economically unsustainable. How close America is to these levels can be debated; how unprecedented its current position is, cannot be.

As percentages of GDP, 2014 federal debt held by the public is 4.3 times greater than federal revenues. That ratio is close to the recent peak of 4.6, reached in 2012, which was the highest since 1950's 5.6 in the Korean War/WWII aftermath.

While the debt levels of 2014 and 1950 are quite close (74.4% and 78.5%, respectively), 1950's tax burden was far lower - 14.1%, versus 2014's 17.5%.

Another significant difference is what occurs after these two points in time. After 1950, debt decreased (falling steadily, it reached 24.5% of GDP) and the tax burden stabilized (reaching 17.3% of GDP - almost exactly the 17.4% average over the last 40 years) in 1975. Consequently, the debt-to-tax ratio fell to 1.4. A debt-to-tax ratio in the 2's prevailed from the mid-1980s through 2008, before jumping to 3.6 in 2009.

Since then, it has not left the 4's. More ominously, it is not projected to either. The Congressional Budget Office estimates a very different path over the next quarter century. Federal debt is projected to reach 106% of GDP and the federal tax burden to hit 19.4% of GDP, yielding an incredibly high debt-to-tax ratio of 5.5 - despite an extremely high tax burden. At that level, it is almost exactly the 1950 post-WWII level, but reached by going opposite from the post-1950 direction on both debt and taxes.

The reason why the composition and trajectory differences of the current debt-to-tax ratio is so important, is its unremitting addition to the government's already sizable impact on the economy. That impact can be simply measured by totaling federal spending, taxes, and debt as percentages of GDP.

Federal spending is important because it shows the amount of the economy allocated by the public sector, rather than the private sector. Federal tax shows the amount of the economy taken directly from the private sector. And federal debt shows borrowing relative to the economy, which the private sector must finance over time.

By this measure, government impact in 2014 was 112.3% of GDP - the highest level since 1947, when it measured 124.4% of GDP. However, as already noted, debt from WWII accounted for a far higher percentage (93.9% of GDP) than today (74.4%). According to CBO, by 2039, government impact will be an incredible 151.3% of GDP - a figure unsurpassed, except by 1945's 164.8%.

These current and future government impact figures are stark departures. Prior to 2009, government impact did not reach even into the 90s after 1954. Between those two endpoints, government impact averaged 73.3% of GDP (from 1955-2008).

These figures point to several troubling conclusions. First, Washington has reached a debt-to-tax ratio and a government impact level unmatched since WWII's aftermath. Second, it has not done so as part of a one-time world war emergency, but as a result of its now standard mode of operation - a condition projected only to increase over the next generation.

Washington has combined WWII debt levels with mandatory social programs' enhanced spending. The result: A debt level which neither higher economic growth nor increased taxes are likely to offset. Because taxes are already historically high, this increases the danger of negative economic feedback on one hand - due to already high government impact on the economy - and decreases the political likelihood that taxes could be raised further - even if Washington chose to ignore concerns about economic impact.

In sum, Washington could find itself unable to either tax or grow its way out of a historically high debt level. Such a predicament's ramifications run well beyond just the federal ledger and into the nation's - and the world's - economy for the foreseeable future. It also underscores that reducing spending is Washington's only viable way out of its predicament.

J.T. Young served in the Treasury Department and the Office of Management and Budget from 2001 to 2004, and as a congressional staff member from 1987 to 2000. 

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