A Matter of Dates
You may have seen a headline proclaiming that last month was the worst November deficit on record. While this is factually true, it ignores the fact that around $80 billion of spending was shifted forward because December 1 was a Saturday (Social Security payments and what not). While the deficit is tracking higher this fiscal year, the trend is nowhere near as extreme as some sensational clickbait artists would lead you to believe.
The deficit cycle
We often carp here about the federal deficit, but its flexibility serves a very useful purpose. Federal government spending is not constrained by considerations of liquidity and profitability. In this way, it can act as a stabilizer, increasing cash flow to the economy when other sources are reducing it through unemployment and falling sales.
The classic recession is followed closely by a spike in the deficit both because of increased spending on things like unemployment compensation and social programs like food stamps as well as declining revenue trends due to falling payrolls and lower capital gains. Once the recovery takes hold, revenues begin to increase faster than spending (which may have very low or no growth).
It is instructive to look at recent episodes of deficit reduction. The typical methodology is to slow the growth of spending and allow the revenue side to catch up. This happened in the nineties, when demographic tailwinds allowed federal revenues to accelerate without tax increases, and in the second Obama term, when a recovering economy met constrained spending engendered by budgetary rules. A recovering economy means more payroll taxes; higher asset prices mean expanded capital gains taxes, etc.
You can see that the periods in which spending growth exceeds revenue growth correspond to recessions in 2000-02 and 2008-10, while timespans in which revenues grew faster than spending match up with expansions and recoveries and 1995-2000, 2004-07, and 2010-15. The most recent spate of deficit increase in 2016-18, however, has come without a recession. In fact, if you looked only at this chart, you would conclude that the last three years were a period of mild economic downturn. And while the recent tax law changes have had some effect this year, they do not account for the slowing in prior years. We might indeed say that federal revenues have anomalously slowed from trend for reasons which are not immediately apparent.
This is significant because it presumably means the deficit will balloon from an already elevated level in the next recession, which may lead to clamor and klaxon from the deficit hawks in whatever party is not in power and perhaps some squawking from that most endangered of species, the fiscally-conservative bipartisan. We will hear again how the dramatic expansion of the deficit portends ruin and that our government cannot fulfill its promises. And ultimately, the danger isn’t that we will learn that United States government is constrained by fiscal considerations, but rather that it is not.
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which investment(s) may be appropriate for you, consult your financial advisor prior to investing. All performance referenced is historical and is no guarantee of future results.
Securities offered through LPL Financial, member FINRA/SIPC. Investment advice offered through Great Valley Advisor Group, a Registered Investment Advisor. Great Valley Advisor Group and Doylestown Wealth Management, Inc. are separate entities from LPL Financial.