THE FEDERAL DEFICIT IS EVEN BIGGER THAN IT LOOKS / THE WALL STREET JOURNAL

The Federal Deficit Is Even Bigger Than It Looks

Student-debt cancellation complicates the numbers as higher interest rates make borrowing costlier

By Andrew Duehren and Alana Pipe

When it comes to the size of the federal government’s annual deficit, appearances can be deceiving. 

The gap between spending and revenue for fiscal year 2023, which ended on Sept. 30, was $1.7 trillion, the Congressional Budget Office projected ahead of the official Treasury Department figures. 

That would be a roughly $300 billion widening in the shortfall from fiscal year 2022. 

But the gap was actually much larger. 

That is because of the odd way President Biden’s attempt to broadly cancel student debt shows up in budget figures.

With the U.S. projected to borrow $2 trillion yearly for the next decade, the Treasury Department will need to sell a lot more bonds to make up for the deficit. 

When the Biden administration announced its plan to forgive federal student debt held by 40 million Americans in September 2022, it logged the long-term cost of the program, $379 billion, on the budget all at once, even though effectively no money was spent on it that year. 

Treasury last year put fiscal 2022’s deficit at $1.4 trillion.

But in June 2023, the Supreme Court tossed the debt-cancellation program, meaning most of that money wouldn’t actually be spent. 

Rather than update last year’s deficit numbers, though, the Treasury recorded the changes as a $333 billion spending cut in August 2023.

Without the student-debt-cancellation proposal muddling the numbers, the deficit for fiscal year 2022 would have been smaller than originally reported, around $1 trillion. 

And the gap for fiscal 2023 would be bigger, about $2 trillion. 

Either way, the deficit is growing again after retreating from its highs after the start of the Covid-19 pandemic. 

That is inflaming longstanding debates in Washington about the federal budget, which is already under pressure from higher interest rates. 

The widening gap between spending and revenue is due to several factors, including lower tax receipts. 

Losses in the stock market in 2022 mean the Internal Revenue Service has experienced a drop in revenue from individual taxes that aren’t withheld from paychecks this year. 

The IRS also delayed the tax-filing deadline in several states affected by natural disasters, including California, until Oct. 16, after the end of the fiscal year.

At the same time, spending on Social Security, which is indexed to inflation, has increased, as has spending on Medicare and Medicaid. 

Another important factor in the federal budget is higher interest rates, a result of the Federal Reserve’s effort to tame inflation. 

Higher Treasury yields increase the amount of money the federal government has to spend paying back its debt. 

Treasury yields filter into the government’s cost of borrowing gradually, as it rolls over debt issued previously at lower interest rates. 

More than half of all debt will mature in less than three years, meaning the government’s borrowing could keep costing more. 

The largest spending increase this year was the cost of the government paying for its debt. 

The Treasury spent $711 billion on net interest payments last fiscal year, an increase of $177 billion, or 33%, from fiscal year 2022, according to CBO. 

Alec Phillips, chief U.S. political economist at Goldman Sachs, said that the cost of the government’s interest payments is less worrisome when it is adjusted for inflation. 

The real net interest expense is more affordable compared with the size of the economy, he said. 

Still, the run-up in borrowing costs and the deficit is renewing concerns about Washington’s fiscal trajectory. 

Treasury announced in July that it would begin to gradually increase the size of its debt auctions, surprising the market, and some investors now wonder whether the market can easily absorb all of the debt.   

The risk is that investors demand even higher interest rates to keep buying Treasury debt, creating a cycle of growing borrowing costs and deficits.

Treasury Secretary Janet Yellen said in an interview that the Biden administration could adjust its budget plans as a result. 

The administration’s previous plans to reduce the deficit have largely relied on tax increases that Congress has so far rejected.

“In general, the path of interest rates does matter to the deficit and the sustainability of fiscal policy. 

President Biden is committed to a sustainable fiscal policy,” Yellen said. 

“I’m sure that if the fiscal outlook worsens some, the budget will be adjusted.”