Chart of the Month (May 2024)

03 May 2024
Monthly Charts

Chart Description – Top Chart

The top chart comes from the St. Louis Fed’s online FRED (Federal Reserve Economic Data) tool.
The chart depicts the federal government’s annual surplus / deficit as a percentage of the economy (GDP).
Since 1970, the median deficit has been 3.1%.
The last data point on the chart, as of 12/31/23, shows a deficit of 6.19%.

Chart Description – Bottom Chart

The bottom chart comes from the Congressional Budget Office (CBO).
It shows the cumulative deficit, in billions of dollars, for fiscal years 2022 and 2023 ending September 30th.
The solid pink line shows the deficit for 2022, as reflected by the treasury department, of $1.3 trillion or 5.4% of GDP.
The solid purple line shows the deficit for 2023, as reflected by the treasury department, of $1.7 trillion or 6.3% of GDP.
The dotted lines adjust for the student loan forgiveness plan that was approved in 2022 as a cost of $379 billion, but then overturned by the Supreme Court in June of 2023 resulting in a budget credit of $333 billion.
The dotted pink line shows that the actual 2022 deficit, excluding the student loan forgiveness plan, was $0.9 trillion or 3.5% of GDP.
The dotted purple line, reflecting the actual 2023 deficit, was $2.0 trillion or 7.5% of GDP.

Our Take

There are two consensus views that have dominated national economic headlines over the last 12-18 months. First, the economy is strong. Second, inflation is under control. Today’s economic growth and inflation are linked at a deeper level than what is typically discussed in the financial media. Unfortunately, we don’t believe that the consensus view on either is correct.

It is our view that any observed strength in the economy is almost entirely a result of spending by the federal government. Nominal GDP grew by roughly $1.62 trillion from 2022 to 2023 ($27.36 trillion vs. $25.74 trillion). As we detailed above from the CBO’s report, the government spent $2 trillion more in outlays than what they brought in with tax receipts in 2023. That means that deficit spending accounted for more than 100% of economic growth from FY 22 to 23. Normalizing the 2023 deficit to the long-term average of 3.1% would have reduced government spending by ~ $1.17 billion. It’s unlikely that anyone would be talking about how strong the economy is had the federal budget deficit been close to the normal range.

While deficit spending is nothing new in the developed world, we seem to have reached an important inflection point. According to the Treasury Department’s Monthly Treasury Report issued September 30, 2023, the summation of spending on Social Security ($1.41 trillion), Medicare/Medicaid ($1.71 trillion), Defense ($0.78 trillion), and gross interest on debt ($0.88 trillion) was equal to 108% of total tax receipts in fiscal 23. We are not aware of any politician campaigning for public office who is running on a platform of aggressive cuts to any of the above. Not only are the major, politically untouchable, budget items large today, but they are also growing at an increasing rate. Spending on Medicare and Social Security is set to soar based on demographics. There is increasing upward pressure on defense spending as geopolitical risks remain elevated. Interest on the government’s outstanding debt is set to reach over $1 trillion in fiscal 2024 as the treasury borrows more and is forced to refinance over $9 trillion of outstanding debt in the coming year at higher interest rates. Based on all the above, it seems highly unlikely that the spending picture will improve anytime soon.

If spending is not likely to come down, the only alternative is to increase taxes. Based on where party lines have been drawn, it would seem as though near-term tax policy will largely be driven by the outcome of the 2024 and 2026 elections. Regardless of the election outcome, there will clearly be upward pressure on explicit tax rates in the coming years. However, it is unlikely that higher taxes on corporations, income or capital gains will be enough to change the overall trajectory of budgetary deficits. Just like spending cuts, raising taxes too much is not politically expedient.

What other option do we have if spending won’t be reduced, and explicit taxes won’t be increased enough to get the job done? In our opinion, when push comes to shove, elected officials will opt for a more opaque route. They will opt to raise taxes, but not by increasing rates on marginal income brackets. Instead, they will continue to deliver on all campaign promises by increasing outlays and/or reducing tax receipts and simply “print” the money needed to pay for it all. Creating inflation by printing money is a form of taxation that often goes unnoticed until it is too late. It is the proverbial “kicking of the can” that allows politicians of all stripes to take credit for spending and creating what is perceived in the moment as economic growth. Unfortunately, beneath the surface economic productivity is diminished and inflation accelerates. An environment of slower economic growth and higher inflation is the antithesis of what we’ve been told to expect.

JPS Financial, LLC is registered as an investment adviser with the SEC. All information is believed to be current and should not be viewed as personalized investment advice. All expressions of opinion reflect the judgment of the authors on the date of publication and may change in response to market conditions. All investments and strategies have the potential for profit or loss.

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