Real Clear Markets

Economic Forecasts Are Bad, Budget Forecasts Delusional

It may have been the physicist Niels Bohr who first said “It is difficult to make predictions, especially about the future.” Perhaps, but it should have been an economist. Our economic forecasts are bad. Our budget forecasts are worse. The most dispassionate and objective projections err consistently and miserably. Mostly, it’s not our fault.

No one predicted 9/11 and few anticipated the financial market meltdown. But whatever the explanation (excuse?), the idea that budget projections have much predictive value beyond a very few years is hard to credit. And trusting projections seventy-five years into the future, the period covered by projections issued by both the Congressional Budget Office (CBO) and the Office of Management and Budget (OMB), is simply delusional. Going even three or four decades into the future, the horizon used increasingly by other organizations, demands heroic and empirically unjustified faith.

To be sure, both CBO and OMB emphasize the uncertainty of their projections. CBO issues two projections; OMB, several. CBO's projections get more attention. OMB does a better job of explaining why long-term projections are so uncertain.

​Both CBO and OMB produce “baseline” projections. Both baselines “show” that budget problems that have been of such concern of late have been mostly solved in the sense that our nation's debt is projected to grow less than national income for a decade or more, and the ratio of debt to gross domestic product is projected to fall.

​Many of the assumptions underlying this projection are dubious. So, CBO also presents an “alternative scenario” in which the debt/GDP ratio grows unsustainably. Both projections assume that both Social Security and Medicare trust funds spend money in excess of earmarked revenues and accumulated reserves, something they are legally prohibited from doing. The alternative scenario varies other assumptions, and many of the variants are equally dubious. It assumes that limits on health care spending enacted in the Affordable Care Act will have no long-term effect on the growth of health care spending; not just that the limits will not be fully enforced, but that, after a period, they will have no effect at all. It assumes that increases in taxes that Congress enacted this year have no impact on tax collections in the long run. One projection is too rosy; the other is too pessimistic. CBO is reported to be close to issuing new long-term projections, which, one can hope, will be more reasonable that the old ones.

​OMB presents a fuller picture of why long-term projections are so fallible. They point to several factors, each impossible to predict accurately, that have a first-order impact on budget balance. The most important are immigration, productivity growth, and interest rates. Not far behind are growth of health care spending; whether discretionary government spending keeps pace with prices, prices and population, or income; tax changes; fertility, and mortality, all of which affect the size of the labor force, total output, and revenues. [For details see here].

​Put these sources of uncertainty together and one can tell a “plausible” story that the United States faces a future of unending deficits and ballooning debt that will drive the nation to ruin. But one can, with equal plausibility, project that once the United States recovers from the continuing effects of the Great Recession, the nation faces a future of manageable deficit or surpluses sufficient to cause the Treasury to buy up all outstanding government debt and finance purchase of vast quantities of other assets.

​In fact, neither story is really plausible. No president or Congress will find buying up all outstanding debt more attractive than cutting taxes or spending money on something people want. And no president or Congress is going to sit idly by while the country's budget spirals out of control.

​The history of the last 25 years supports both statements. At the end of the 1980s, the nation faced disturbing deficits. Successive presidents and Congresses of both parties took action to close those deficits. The result was the budget surpluses of the late 1990s. As the 2000s began, prospective surpluses fostered the fear, embraced by people as August as the chairman of the Federal Reserve, that the Treasury would buy up all or nearly all outstanding federal government bonds, depriving the central bank of a convenient medium with which to manage monetary policy. Then, tax cuts, two wars, and two recessions later deficit angst was reborn. Over the last few years, however, fear of drastic damage from permanent deficits has driven Congress to spending cuts and tax increases, not all well-considered, that closed most of the long-term gap. A bit more remains to be done, but putting the ratio of debt to GDP on a downward path is readily doable.

​Through it all, financial markets never took either the surpluses-forever scenario nor the deficits-forever scenario all that seriously. The smart money understood that mindless extrapolation, which was pretty much all that was involved in both scenarios, is a poor guide to what would actually occur. U.S. borrowing costs, never high, are now near all-time lows.

​None of this is to say that the nation is free of major challenges, nor is it to say that prudent budget management can be neglected. Our roads, bridges, and airports are aging and need major investments. College attendance by the most talented youngsters from lower and moderate income families is lower than college attendance by the least talented youngsters from upper income families. Publicly funded scholarships and loans can correct that imbalance. Tax reform can increase domestic investment and increase the productivity “bang-for-the-buck.” Public investments and tax incentives can help the private sector make the investments necessary to slow the emission of greenhouse gasses that almost daily intensify the threat of global warming. Assuring adequate health care and the basic income for the elderly and disabled that Social Security and Medicare now provide will require increased taxes, even if health reform succeeds as completely in promoting efficiency and reining in costs as its advocates hope.

​These are real and present problems. They contrast starkly with the speculative future budget problems churned out by computer spreadsheets, which over time have been as fickle as a besotted adolescent. Yes, the nation must avoid fiscal folly. But avoiding absolute folly is something we have managed to do well, even if only eventually. It is time that we turn from mindless budget angst to crafting solutions to the real problems that will determine the future course of this nation.