March 03,2022

CBO: Inflation Jeopardizes U.S. Fiscal Position

In report to Finance Committee, CBO outlines inflation’s harmful impact on U.S. budget

Washington, D.C.--The Congressional Budget Office (CBO) responded to a request from Republican Members of the Senate Finance Committee for information about budgetary effects of the high and rising inflation that continues to hammer American households.  According to the CBO, inflation and accompanying higher interest rates stemming from inflation further erode the fiscal position of the United States, including adding to the outsized and climbing $30.1 trillion national debt.   

“The stealth tax imposed by inflation is hurting all Americans in the grocery aisles, at the gas pump, and in every bill they pay,” said Finance Committee Ranking Member Mike Crapo (R-Idaho).  “While inflation threatens Americans’ pocketbooks today, it also contributes to skyrocketing federal debt that will burden future generations.”  

CBO’s report reveals that soaring inflation and mounting interest rates can boost federal deficits by trillions of dollars.   

  • Federal revenues could climb from inflation by trillions, including stealth tax revenues from phantom inflationary increases not accompanied by increases in people’s purchasing power.  
  • Federal outlays climb, with outlays for interest payments on federal debt soaring by trillions.  
  • Federal deficits climb by trillions, as outlay increases outstrip revenue gains.

According to CBO’s report released today: 

  • “In general, if inflation was persistently higher than it is in the Congressional Budget Office’s economic forecast and if interest rates were also significantly higher but all other inputs to the budget projection process were unchanged, then projected budget deficits and debt would be larger in dollar terms, on net, throughout the 2022-2031 period.”  
  • To provide an illustrative estimate, CBO analyzed how its budget projections would have changed from its February 2021 pre-inflation period if it had instead used the higher paths for inflation and interest rates (“high-rate scenario”) that have arisen and have been fueled by Biden Administration policies.  Under that scenario, CBO says:  
    • “The projected deficit would be larger by $2.3 trillion from 2022 to 2031 under the high-rate scenario than in the baseline.”  
    • “The larger budget deficits would arise primarily because the government’s net interest costs would be [$2.5 trillion] higher…” 
    • “Larger increases in wage rates and prices generally lead to greater labor income, profits, and other nominal income, which in turn generate larger collections of individual income taxes, payroll taxes, and corporate income taxes.”  How much?  $3.4 trillion increased revenue in the high-rate scenario, partly stemming from stealth taxes on phantom gains that are not gains people see in purchasing power of their wages and incomes.  Even worse, because not all the aspects of the tax code are indexed to inflation, more and more middle- and working-class Americans will become subject to taxes originally imposed on the “rich.”  
    • In the high-rate scenario, revenues would rise by $3.4 trillion, federal outlays would rise by $5.7 trillion, and the federal deficit would rise by $2.3 trillion relative to CBO’s baseline without high inflation and interest rates.  

Background:  

Consumer price inflation increased to a staggering 7.5 percent in January from below 1.5 percent when Biden took office.  The untargeted $1.9 trillion spending spree enacted by Democrats last year on a partisan basis helped fuel high, accelerating inflation.  Even left-leaning economists warned that last year’s big-spending agenda created risk of an inflation spike, with former Treasury Secretary Larry Summers labeling the spree as the “least responsible macroeconomic policy we’ve had in the last 40 years.”  

The national debt is projected within a decade to surpass its historical high and then continue to climb.  Once a new crisis arises that awakens needs or calls for more debt-fueled spending, the added debt pushes the United States further toward unchartered territory and closer to the limits of a fiscal crisis. 

As the CBO has repeatedly warned, our high and rising federal debt risks a fiscal crisis. Last year, CBO observed:   

“Debt that is high and rising as a percentage of GDP boosts federal and private borrowing costs, slows the growth of economic output, and increases interest payments abroad.  A growing debt burden could increase the risk of a fiscal crisis and higher inflation as well as undermine confidence in the U.S. dollar, making it more costly to finance public and private activity in international markets.”   

High and rising debt, and resources needed to service the debt, also leaves less “fiscal space” available for use in everything from low-income support programs to national defense, and further limits our ability to respond to new crises.  As CBO identified in the same report last year:  

“High and rising debt also might cause policymakers to feel constrained from implementing deficit-­financed fiscal policy to respond to unforeseen events or for other purposes, such as to promote economic activity or strengthen national defense.”