–Projects Federal Debt At Roughly 70% Of GDP By The End Of 2011

WASHINGTON (MNI) – The following text is the second and final part
of a summary of the U.S. Congressional Budget Office’s long-term budget
outlook published Wednesday:

The Alternative Fiscal Scenario

The budget outlook is much bleaker under the alternative fiscal
scenario, which incorporates several changes to current law that are
widely expected to occur or that would modify some provisions of law
that might be difficult to sustain for a long period. Most important are
the assumptions about revenues: that the tax cuts enacted since 2001 and
extended most recently in 2010 will be extended; that the reach of the
alternative minimum tax will be restrained to stay close to its
historical extent; and that over the longer run, tax law will evolve
further so that revenues remain near their historical average of 18
percent of GDP.

This scenario also incorporates assumptions that Medicare’s payment
rates for physicians will remain at current levels (rather than
declining by about a third, as under current law) and that some policies
enacted in the March 2010 health care legislation to restrain growth in
federal health care spending will not continue in effect after 2021. In
addition, the alternative scenario includes an assumption that spending
on activities other than the major mandatory health care programs,
Social Security, and interest on the debt will not fall quite as low as
under the extended-baseline scenario, although it will still fall to its
lowest level (relative to GDP) since before World War II.

Under those policies, federal debt would grow much more rapidly
than under the extended-baseline scenario. With significantly lower
revenues and higher outlays, debt held by the public would exceed 100
percent of GDP by 2021. After that, the growing imbalance between
revenues and spending, combined with spiraling interest payments, would
swiftly push debt to higher and higher levels. Debt as a share of GDP
would exceed its historical peak of 109 percent by 2023 and would
approach 190 percent in 2035.

Many budget analysts believe that the alternative fiscal scenario
presents a more realistic picture of the nation’s underlying fiscal
policies than the extended-baseline scenario does. The explosive path of
federal debt under the alternative fiscal scenario underscores the need
for large and rapid policy changes to put the nation on a sustainable
fiscal course.

The Impact of Growing Deficits and Debt

CBO’s projections in most of this report understate the severity of
the long-term budget problem because they do not incorporate the
negative effects that additional federal debt would have on the economy,
nor do they include the impact of higher tax rates on people’s
incentives to work and save. In particular, large budget deficits and
growing debt would reduce national saving, leading to higher interest
rates, more borrowing from abroad, and less domestic investmentwhich in
turn would lower income growth in the United States.

Taking those effects into account, CBO estimates that under the
extended-baseline scenario, real (inflation-adjusted) gross national
product (GNP) would be reduced slightly by 2025 and by as much as 2
percent by 2035, compared with what it would be under the stable
economic environment that underlies most of the projections in this
report. Under the alternative fiscal scenario, real GNP would be 2
percent to 6 percent lower in 2025, and 7 percent to 18 percent lower in
2035, than under a stable economic environment.

Rising levels of debt also would have other negative consequences
that are not incorporated in those estimated effects on output:

* Higher levels of debt imply higher interest payments on that
debt, which would eventually require either higher taxes or a reduction
in government benefits and services.

* Rising debt would increasingly restrict policymakers’ ability to
use tax and spending policies to respond to unexpected challenges, such
as economic downturns or financial crises. As a result, the effects of
such developments on the economy and people’s well-being could be worse.

* Growing debt also would increase the probability of a sudden
fiscal crisis, during which investors would lose confidence in the
government’s ability to manage its budget and the government would
thereby lose its ability to borrow at affordable rates. Such a crisis
would confront policymakers with extremely difficult choices. To restore
investors’ confidence, policymakers would probably need to enact
spending cuts or tax increases more drastic and painful than those that
would have been necessary had the adjustments come sooner.

To keep deficits and debt from climbing to unsustainable levels,
policymakers will need to increase revenues substantially as a
percentage of GDP, decrease spending significantly from projected
levels, or adopt some combination of those two approaches. Making such
changes while economic activity and employment remain well below their
potential levels would probably slow the economic recovery. However, the
sooner that medium- and long-term changes to tax and spending policies
are agreed on, and the sooner they are carried out once the economy
recovers, the smaller will be the damage to the economy from growing
federal debt. Earlier action would permit smaller or more gradual
changes and would give people more time to adjust to them, but it would
require more sacrifices sooner from current older workers and retirees
for the benefit of younger workers and future generations.

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** Market News International Washington Bureau: 202-371-2121 **

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