The Numbers Don’t Lie: We Must Act Now on Federal Debt

 

Takeaway

  • The long-term fiscal gap will continue to grow even with recent cost-cutting measures, according to a new Treasury Department report
  • At current rates, government spending would increase from about 22 percent of GDP in 2013 to more than 36 percent in 2088
  • The present value of social insurance obligations over the next 75 years is at least $40 trillion

The Treasury Department has once again released its annual Financial Report of the United States Government, and the fiscal picture it presents is, as in recent years past, gasp-inducing. The report puts us on notice: Inaction will be fiscally indefensible. For those politicians who ignore the warning (but might still be alive if and when a debacle occurs), it obviates the excuse “If only we had known. If only the accountants had told us.”

Critics claim that “federal accounting” is an oxymoron, and that the government’s financial statements, if submitted to the Securities and Exchange Commission by a corporation, would be rejected out of hand for lack of transparency. Contrary to conventional wisdom, however, federal accounting — as opposed to federal budgeting — is a precise and brutally candid tool. If anyone is to blame for the nation’s unsustainable fiscal policies, it is not the federal bean counters. 

Popular belief holds that federal deficits and debts are far greater than what is officially acknowledged. In actual fact, this report — available on the Internet for all to see — is far more forthright than those of virtually all corporations.

Unlike corporate reports, the federal annual report looks forward as well as backward. It not only reports on what happened in the past year but also contains 75-year projections of revenues, expenditures, and debts. As shown in graphs, schedules, and text, federal expenditures head skyward far more steeply than revenues.
For example, one chart makes it clear that even if current revenues and non-interest spending remain relatively flat as a percentage of gross domestic product (GDP), owing to steadily increasing interest costs, total spending would increase from about 22 percent of GDP today to more than 36 percent in 2088. As a result, the ratio of debt-to-GDP would increase from 72 percent in 2013 to 277 percent in 2088 — a ratio that would make Greece appear as an exemplar of fiscal integrity. Other charts warn that the Social Security Trust fund will be exhausted by 2033, and the Medicare (Part A) fund will be depleted by 2026. 

The federal report’s fiscal projections are based on current laws and policies as well as historical trends. They are not just predictions. Economist Herbert Stein wisely observed that trends that can’t continue won’t. Obviously current laws and policies will have to change and, indeed, the very point of the Treasury’s projections is to create awareness of the need for change. 

If the graphs are unabashedly honest, so also is the accompanying text. In a section entitled “The Long-Term Fiscal Outlook: Where We Are Headed,” it acknowledges that recent Congressional measures have the potential of reducing the long-term fiscal gap. Nevertheless, it emphasizes that “even with the new laws, the debt-to-GDP ratio is projected to remain about flat over the next 10 years and then commence a continuous rise over the remaining projection period and beyond if current policies are kept in place.” Therefore, it concludes, “This trend implies that current policies are not sustainable” [italics added]. How many corporate reports are so frank?

Critics of federal fiscal practices are inclined to confuse the government’s annual report with its budget. It is worth noting that the Federal Accounting Standards Advisory Board (FASAB), an independent standard-setting panel on which I sit, establishes the specific accounting principles underlying the federal government’s financial statements. The principles are in most significant respects similar to — and at least as rigorous as — those adhered to by businesses. Moreover, the financial statements of the federal government, as well as each of its component departments and agencies, are subject to audit, either by the Government Accountability Office or independent CPA firms. By contrast, the budget is subject neither to exacting standards nor outside audit.

And what about social insurance obligations? A prominent criticism of current federal accounting practices is that the federal government’s balance sheet fails to disclose massive obligations for Social Security and Medicare. This is misleading and disingenuous. The balance sheet does exclude the obligations for social insurance, and thereby reports a negative net position of the federal government of only $16.9 trillion. However, a statement immediately following the balance sheet indicates that the present value of social insurance obligations over the next 75 years is $40 trillion (and $54 trillion if measured in a way that takes into account the revenues and expenditures associated with certain future participants in the program). Therefore, anyone who believes that the government’s liabilities should include social insurance obligations can make the required adjustment with simple addition. No calculator needed.

To be clear, social insurance obligations are omitted from the balance sheet because successive administrations, both Republican and Democratic, have maintained that social programs are “entitlements” that were never intended to be operated like pensions. Unlike a pension, workers pay taxes not to fund their own future benefits but rather those of the generation of workers ahead of them who have already retired. Therefore, it is argued, the obligation for benefits should be given accounting recognition only as actually payable. Omitting social insurance obligations from the balance sheet and, instead, reporting them on a separate statement presented immediately following the balance sheet, was a compromise between the members of the FASAB who believed that the liabilities should be recognized on the balance sheet and those who argued they should not.

The Financial Report of the United States Government, however, is politically and ideologically neutral. It contains no policy prescriptions other than to advise that the cost of delay will be severe, but that the consequences of reducing deficits too abruptly would be counterproductive if it slows economic recovery and growth.

That kind of candor isn’t always welcome, however, particularly for policymakers who prefer to close their eyes to the obvious. It is far easier and more convenient to avoid the required tough decisions and instead blame the accountants. 

Michael Granof is a member of the Governmental Accounting Standards Board and the Federal Accounting Standards Advisory Board. He is the Ernst & Young Distinguished Centennial Professor in Accounting at the University of Texas at Austin and holds a joint appointment at the LBJ School of Public Affairs.

This material is presented for discussion purposes only; it is not intended to reflect authoritative views of the FASAB or its staff. Official positions of the FASAB are determined only after extensive due process and deliberations.

Disclaimer

The views expressed are those of the author and not necessarily The University of Texas at Austin.
 

About The Author

Michael Granof

Professor of Accounting, McCombs School of Business

Michael Granof received an A.B from Hamilton College, an MBA from Columbia University, and a Ph.D. from the University of Michigan. His research...

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