This is the first part of a two-part post about the U.S. Federal debt and fair taxation. I will try to keep this part brief.
Like a slow-moving train wreck, the United States is in a government debt crisis. The debt crisis has been developing since the Reagan administration of the 1980s. Federal debt as a percentage of GDP ranged between 30% and 40% from 1970 to about 1985. Debt increased from 1985 to 1992 before settling in a range between 50% and 70% of GDP. A sharp increase occurred in 2009-2010 after the banking crisis of 2009, establishing another plateau about 105% of GDP from 2010 to 2019. Following the Covid pandemic, debt/GDP increased again to a new plateau of about 125% of GDP. 
Image Credit: CDCData.com
The reasons for the increasing debt are clear. Debt began rising during the Reagan administration due to deliberate policy choices regarding taxation. Under Reagan, Republicans enacted a series of tax cuts intended to limit the size of government by limiting government funding. The strategy was called “starve the beast”. By the end of Reagan’s presidency, however, deficit spending resumed its upward trajectory, driven by higher military spending and lower taxes. President G.H.W. Bush negotiated a plan with Democratic congressional leaders to restore a balanced Federal budget, but was stymied by members of his own party, led by Newt Gingrich. During the Clinton administration, moderate tax increases briefly reversed the trend of increasing debt, but were in turn reversed by more tax cuts during the G.W. Bush administration. Still, overall, increasing debt was roughly matched to increasing GDP until the financial crisis of 2009. The government then embarked on a massive spending program to avoid economic collapse, driving debt/GDP to over 100%. A relative plateau of about 105% debt/GDP continued, despite a new Republican tax cut in 2017. In 2020, the Covid pandemic caused another major economic disruption, and the government launched more spending to mitigate the economic consequences of the disaster. The Payroll Protection Program enacted under President Trump, largely a handout to businesses and employers, was nearly one trillion dollars alone. Debt/GDP took another step change, to about 125%. Stimulus spending under President Trump in the CARES Act and the PPP totaled about $3.1 trillion. Early in his presidency, President Biden followed with the family-oriented American Rescue Plan Act, which added $1.9 trillion in non-productive spending. Unlike the later Infrastructure Act or climate-oriented Inflation Reduction Act, there was no increased productivity associated with CARES, PPP and ARPA. The stimulus spending prevented a deeper recession by increasing liquidity in the economy, but contributed to inflation and worsened the debt-to-GDP ratio.
Measures of Government Debt
There are two different measures of Federal debt, and economists are divided in terms of which figure is more significant. The Treasury Department reports Debt Held by the Public in 2024 at $28.2 trillion (T), exactly equal to forecast GDP for the year. Treasury also reports Intragovernmental Debt of $7.1 T, for a Total Public Debt of $35.3 T, or 125% of GDP. (Intragovernmental Debt largely consists of holdings in the Social Security Trust Fund which have been loaned to the Treasury and spent.) The chart above, from ceicdata.com, uses the broader measure of government debt. By contrast, in an opinion piece, Penn-Wharton Business School uses Debt Held by the Public as its measure of federal debt, disregarding Intragovernmental Debt. I’m skeptical of this approach, because intragovernmental debt has very real obligations attached to it, and defaulting on intragovernmental debt would necessarily default on those obligations (i.e., social security payments). That’s politically untenable, and isn’t going to happen.
Another element of government debt is debt issued by state and local governments. This debt is generally ignored in discussions of government debt, but it also has an impact on the economy. In the United States, many government functions are performed by the states rather than the federal government. This is in contrast to the majority of other developed countries. The difference can be seen in taxation statistics from the OECD, where the United States is an outlier in terms of Federal taxation. US Federal taxation is about 50% of the OECD average. Federal-level taxation is not directly comparable between the USA and other OECD countries, because in the USA, a number of government functions and the associated taxation are performed by the states. But when looking at total taxation, the United States is still low, at about 75% of the OECD average, and among the lowest-taxed of the 38 OECD countries.
So, in the United States, figures for government debt should include debt issued by state governments. The most recent estimate of state & local debt I could find was for 2021, at $3.3 T. In total, then, including intragovernmental debt and state debt, government in the United States has issued about $38.6 T in debt obligations. This places the US debt/GDP ratio at about 135%.
Why Does Debt/GDP Matter?
A higher debt/GDP ratio increases the cost of running the government, increases the risk of default, and impairs the economy. Interest payments add to the cost of providing government services, and high payments may be difficult to maintain in the event of an economic crisis.
At high levels of debt to GDP, government borrowing consumes capital available for private lending. This limits investment in business opportunities, home-buying and personal consumption. High levels of debt impair economic activity and growth. An economic model by the World Bank identified a debt-to-GDP ratio of 77% as a tipping point, with progressive impairment to economic growth for debt above that level. According to the model, at debt/GDP of 100%, U.S. GDP growth is already impaired by 0.4%.
For about a century, US government debt has been generally regarded as the safest in the world, although that perception is gradually changing. Thirty years ago, US government bonds were presumed to be a “zero-risk” investment for the purpose of theoretical calculations of investment risk and return. But in 2011, investment rating companies began gradually cutting the debt rating and outlook on US Treasury obligations. All rating agencies now attribute risk to US bonds. Egan-Jones, Standard & Poor and Fitch currently rate US Treasuries below a triple-A rating, while Moody’s and Dominion have a negative outlook on their ratings.
A lower debt rating means paying higher interest rates. For decades, U.S. taxpayers have benefited from borrowing money at minimal interest rates, allowing the government to build infrastructure, pay for defense, improve social programs, and make society better without raising taxes. But as the debt rises, interest rates will rise as well, compounding the problem of repayment for future taxpayers.
Rising debt implies rising interest payments, placing pressure on the Federal budget. The Treasury reports, “As of August 2024 it costs $1049 billion to maintain the debt, which is 17% of the total federal spending in fiscal year 2024.” A large debt increases the burden on taxpayers without providing additional government services. We are teetering on a point where paying down the debt may become difficult or impossible without invoking inflation or some other means of reducing debt by cheating the bond-holders.
Future Outlook
Our current budget trajectory is unsustainable, which is not seriously recognized by either political party. A 2023 article on the Wharton Business School website states: “We estimate that the U.S. debt held by the public cannot exceed about 200 percent of GDP…Under current policy, the United States has about 20 years for corrective action after which no amount of future tax increases or spending cuts could avoid the government defaulting on its debt whether explicitly or implicitly (i.e., debt monetization producing significant inflation).” The 2024 budget deficit is $1.8 trillion; the CBO estimates that under current policies, the deficit will increase to $2.9 trillion in a decade. The Wharton article contains tables showing expected future debt-to-GDP ratios under a range of interest rate assumption. In all cases, the U.S. debt-to-GDP ratio exceeds 200% within twenty years.
President Trump, in his second term, has asked Elon Musk and Vivek Ramaswamy to develop plans to improve government efficiency and lower government spending. It remains to be seen how much spending can be reduced, and how much Congress will resist spending cuts to currently approved programs. My suspicion is that actual reductions in spending will be trivial compared to the size of the deficit. Further, Donald Trump has promised to lower taxes, and cancel the resumption of taxes scheduled under the Tax Reduction Act of 2017. These tax cuts will only increase the economic damage due to our high debt level, increase the risk of default and accelerate the date on which the debt produces an American economic collapse.
It is worth noting that both Federal and total U.S. taxes, as a percentage of GDP, are among the lowest in the industrialized world. Benchmarking according to other western industrialized countries, our inability to balance taxation and spending in the Federal budget is primarily a result of low taxes, not excessive spending. We already tax payrolls, personal income and corporate income, but there is a category of economic activity which is entirely untaxed – unrealized capital gains. Enacting a tax on unrealized capital gains would help greatly to balance our spending and revenue. That will be the subject of my next post on Federal debt and taxation.
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References
https://fiscaldata.treasury.gov/americas-finance-guide/national-debt/
https://en.wikipedia.org/wiki/United_States_federal_government_credit-rating_downgrades
https://tradingeconomics.com/united-states/rating
https://en.wikipedia.org/wiki/Debt-to-GDP_ratio
Total pandemic spending
$5 T
https://www.usaspending.gov/disaster/covid-19
Total pandemic spending $4.6 T
https://www.pandemicoversight.gov/about-us/pandemic-relief-program-laws
Trump Pandemic Spending
Total pandemic spending under President Trump was about $3.0 trillion.
Coronavirus Preparedness and Response Supplemental
Appropriations Act,
March 2020; $8.3 B
https://en.wikipedia.org/wiki/Coronavirus_Preparedness_and_Response_Supplemental_Appropriations_Act,_2020
Families First Coronavirus Response Act; April 2020
https://en.wikipedia.org/wiki/Families_First_Coronavirus_Response_Act
https://www.kff.org/coronavirus-covid-19/issue-brief/the-families-first-coronavirus-response-act-summary-of-key-provisions/ $3.471 B
https://www.pandemicoversight.gov/about-us/pandemic-relief-program-laws $15.4 B
https://www.cms.gov/files/document/accounting-federal-covid-expenditures-national-health-expenditure-accounts.pdf $192 M
The CARES Act, passed under President Trump in March
2020 cost $2.2 trillion.
https://en.wikipedia.org/wiki/CARES_Act
Estimates for spending reported for the Payroll Protection Program
and Health Care Act (April 2020) vary widely, from $484 billion to $953
billion. Presumably the higher figures represent later estimates and better represent the full cost.
https://en.wikipedia.org/wiki/Paycheck_Protection_Program_and_Health_Care_Enhancement_Act
PPP $484 B
https://www.aeaweb.org/articles?id=10.1257/jep.36.2.55
PPP April 2020 $800 B
https://en.wikipedia.org/wiki/Paycheck_Protection_Program
PPP $953 B
Biden Pandemic Spending
The American
Rescue Plan, passed under Biden, cost about $1.9 trillion.
https://en.wikipedia.org/wiki/American_Rescue_Plan_Act_of_2021
https://fiscaldata.treasury.gov/americas-finance-guide/federal-spending/
Federal spending in 2023 was $6.1 T, compared to $4.4 T in
tax revenue, for a deficit of $1.7 T, or 38% of tax revenues.
https://www.cbo.gov/topics/taxes
https://www.whitehouse.gov/wp-content/uploads/2023/03/ap_17_receipts_fy2024.pdf
Federal tax revenue for 2024 are forecast to be $5.0 T
(White House) or $4.85 T (CBO).
https://www.cbo.gov/publication/59946
Federal spending for 2024 is estimated at $6.5 T, for a
deficit of $1.5 T.
https://budgetmodel.wharton.upenn.edu/issues/2023/10/6/when-does-federal-debt-reach-unsustainable-levels
Penn-Wharton Business School, U. of Penn., Budget Model
website, Jagadeesh Gokhale and Kent Smetters. Mariko Paulson, 2023
“We estimate that the U.S. debt held by the public cannot
exceed about 200 percent of GDP.”
“Under current policy, the United States has about 20 years
for corrective action after which no amount of future tax increases or spending
cuts could avoid the government defaulting on its debt whether explicitly or
implicitly (i.e., debt monetization producing significant inflation).”
“What is important is that a large broad-based future
corrective change in fiscal policy happens in any form to stabilize the
debt-GDP ratio, and that such a correction action is anticipated by financial
markets. Otherwise, forward-looking financial markets would unravel much sooner…to
cause a sovereign debt crisis.”
Penn-Wharton uses debt held by the public as its measure of
federal debt, disregarding intragovernmental debt. I’m skeptical of this approach, because
intragovernmental debt has very real obligations attached to it, and defaulting
on intragovernmental debt would necessarily default on those obligations (i.e.,
social security payments).
https://www.stlouisfed.org/open-vault/2020/october/debt-gdp-ratio-how-high-too-high-it-depends
This St. Louis Fed blog article uses total Federal debt to
GDP as its measure of indebtedness, but doesn’t specify any measures of when
debt is too high. The answer seems to be
“it depends” on various institutions.
Alternatives to hard default are presented, but each of these cause
other economic disruption.
https://www.investopedia.com/terms/d/debtgdpratio.asp
“World Population Review has reported that countries whose
debt-to-GDP ratios exceed 77% for prolonged periods experience significant
slowdowns in economic growth.”
The U.S. has had a debt-to-GDP of more than 77% since Q1
2009. The U.S.’s highest debt-to-GDP ratio before that year was 106% in 1946 at
the end of World War II.”
https://www.thebalancemoney.com/current-u-s-federal-budget-deficit-3305783
“For every percentage point of debt that exceeds the 77%
tipping point, the annual real GDP growth rate of a developed economy will be
reduced by .017 percentage points for each 1% the debt-to-GDP ratio exceeds the
tipping point.”
Reference: World Bank
Group. "Finding the Tipping Point - When Sovereign Debt Turns Bad."
https://fiscaldata.treasury.gov/datasets/debt-to-the-penny/debt-to-the-penny
Debt held by the public -- $28.2 T
Intragovernmental debt -- $7.1 T
Total Public Debt – $35.3 T
https://tradingeconomics.com/united-states/gdp
US 2023 GDP -- $27.4 T
https://www.statista.com/statistics/216985/forecast-of-us-gross-domestic-product/
US forecast 2024 GDP -- $28.2T
https://www.ceicdata.com/en/indicator/united-states/government-debt--of-nominal-gdp
chart of Federal Debt as percent of GDP
https://www2.census.gov/programs-surveys/gov-finances/tables/2021/2021alfinsummarybrief.pdf
State and Local debt was $3.3 T in 2021.
https://www.statista.com/statistics/312660/us-state-and-local-government-debt-outstanding-by-state/
https://www.statista.com/statistics/217500/revenues-from-social-insurance-tax-and-forecast-in-the-us/
Revenue from payroll taxes in the United States amounted to
about 1.61 trillion U.S. dollars in 2023.
Payroll taxes are increasing at about 4% per year.
https://www.statista.com/statistics/216928/us-government-revenues-by-category/
Individual income taxes $2.176 trillion; payroll taxes
$1.614 trillion; corporate income taxes 0.420 trillion; other 0.229
trillion. Total 4.44 trillion in
federal revenue.
https://fiscaldata.treasury.gov/americas-finance-guide/federal-spending/
In fiscal year (FY) 2023, the government spent $6.13
trillion, which was more than it collected (revenue), resulting in a deficit.
https://fiscaldata.treasury.gov/datasets/debt-to-the-penny/debt-to-the-penny
Federal debt held by the public is $28.3 trillion; total
Federal debt, including intragovernmental debt, is $35.3 trillion.
https://www.statista.com/statistics/188105/annual-gdp-of-the-united-states-since-1990/
2023 US GDP is $27.4 trillion.
