Congressional Budget Office

The Economic Outlook and Fiscal Policy Choices

Testimony before the Committee on the BudgetUnited States Senate

September 28, 2010

Douglas W. Elmendorf

Director

2

Labor Force Participation and Unemployment Rates

Percent

3

History and Projection of the Unemployment Rate

202020152010200520001995199019851980

12

10

8

6

4

2

0

Actual Projected

Percent

4

Policymakers cannot reverse all of the effects of the housing and credit boom, the subsequent bust and financial crisis, and the deep recession. However, in CBO’s judgment, there are both monetary and fiscal policy options that, if applied at a sufficient scale, would increase output and employment during the next few years.

Those same fiscal policy options would increase federal debt, which is currently larger relative to the size of the economy than it has been in more than 50 years—and is headed higher.

If policymakers wanted to achieve both stimulus and sustainability, a combination of policies would be required: changes in taxes and spending that would widen the deficit now but reduce it relative to baseline projections after a few years.

Policy Options

5

Cumulative Effects of Policy Options on Employment in 2010 and 2011, Range of Low to High Estimates

Note: Assumes enactment early in 2010.

6

Effects of Four Tax Policy Options on Real GNP in 2011 and 2012, Range of Low to High Estimates

7

Effects of Four Tax Policy Options on Real GNP in 2020

8

Rising Burden of Federal Debt Held by the Public

Percentage of GDP

1950 1960 1970 1980 1990 2000 2010 2020

0

10

20

30

40

50

60

70

80

90

100Actual Projected

CBO's Baseline

Tax Cuts Extended and AMT Indexed

Discretionary Appropriations Rise with GDP

9

Additional Slides

10

Unemployment Rate, for Men and for Women, 1980 to 2010

Percent

11

Unemployment Rate by State, August 2010

12

Effects of Policy Options on Output and Employment in 2010 to 2015, Assuming Enactment in Early 2010

Cumulative Effects on Cumulative Effects on EmploymentGDP, 2010–2015 (Years of full-time-equivalent employment

(Dollars per dollar of per million dollars of total budgetary cost) total budgetary cost) 2010 2010–2011 2010–2015

Low High Low High Low High Low HighPolicy Options with a Substantial Proportion of Impacts

Beginning in 2010

Increasing Aid to the Unemployed 0.7 1.9 4 7 8 19 6 15Reducing Employers' Payroll Taxes 0.4 1.2 3 5 5 13 4 11Reducing Employers' Payroll Taxes for

Firms That Increase Their Payroll 0.4 1.3 5 9 8 18 7 16Reducing Employees' Payroll Taxes 0.3 0.9 2 4 3 9 2 7Providing an Additional One-Time

Social Security Payment 0.3 0.9 2 6 3 9 2 8Allowing Full or Partial Expensing of

Investment Costs 0.2 1.0 1 3 2 9 1 8

Policy Options with a Substantial Proportion of Impacts Beginning in 2011

Investing in Infrastructure 0.5 1.2 * 1 2 4 4 10Providing Aid to States for Purposes

Other Than Infrastructure 0.4 1.1 1 1 3 7 3 9Providing Additional Refundable Tax

Credits for Lower- and Middle-Income Households in 2011 0.3 0.9 * * 3 6 3 7

Extending Higher Exemption Amountsfor the Alternative Minimum Tax 0.1 0.4 * * 1 4 1 4

Reducing Income Taxes in 2011 0.1 0.4 * * 1 3 1 4

13

Effect of Four Tax Policy Options on Federal Revenues and Marginal Tax Rates, 2011, 2012, and 2020

Impact on Effective Impact on Effective Impact on Revenues Federal Marginal Federal Marginal

(Percentage of Tax Rate on Tax Rate on Gross National Capital Income Labor Income

Product) (Percentage points) (Percentage points)

2011Full Extension, Permanent -1.2 -2.0 -2.6Partial Extension, Permanent -0.9 -0.4 -2.0Full Extension, Through 2012 -1.2 -2.0 -2.6Partial Extension, Through 2012 -0.9 -0.4 -2.0

2012Full Extension, Permanent -1.7 -2.1 -2.7Partial Extension, Permanent -1.4 -0.4 -2.0Full Extension, Through 2012 -1.7 -2.1 -2.7Partial Extension, Through 2012 -1.4 -0.4 -2.0

2020Full Extension, Permanent -2.1 -2.3 -3.0Partial Extension, Permanent -1.6 -0.4 -2.1Full Extension, Through 2012 * 0 0Partial Extension, Through 2012 * 0 0

14

Effect of Four Tax Policy Options on Macroeconomic Outcomes in 2011 and 2012

Full-Time-Equivalent

Real GNP Unemployment Rate Employment Employment

(Percent) (Percentage points) (Millions) (Millions)Low High Low High Low High Low High

Estimate Estimate Estimate Estimate Estimate Estimate Estimate Estimate2011

Full Extension, Permanent 0.5 1.4 -0.2 -0.5 0.4 1.0 0.6 1.4

Partial Extension, Permanent 0.4 1.1 -0.2 -0.4 0.3 0.8 0.5 1.2

Full Extension, Through 2012 0.3 0.9 -0.1 -0.3 0.2 0.6 0.3 0.9

Partial Extension, Through 2012 0.2 0.7 -0.1 -0.3 0.2 0.5 0.3 0.7

2012Full Extension,

Permanent 0.6 1.9 -0.3 -1.0 0.7 1.9 0.9 2.7Partial Extension,

Permanent 0.5 1.5 -0.3 -0.8 0.5 1.6 0.8 2.3Full Extension,

Through 2012 0.3 1.1 -0.2 -0.6 0.3 1.1 0.5 1.7Partial Extension,

Through 2012 0.3 0.9 -0.2 -0.5 0.3 1.0 0.4 1.4

15

Effects of Four Tax Policy Options on Real GNP in 2020 and the Long Term

Effects with Additional Policy Changes Needed to Put Fiscal Policy on a

Effects Without Sustainable PathAdditional Government Spending Tax Rates Increased

Policy Changes Reduced After 2020 After 2020Weak Strong Weak Strong Weak StrongLabor Labor Labor Labor Labor Labor

Response Response Response Response Response Response

2020Full Extension, Permanent -1.6 -1.1 -1.4 -0.9 -0.8 0.1Partial Extension, Permanent -1.3 -0.9 -1.6 -1.8 -1.1 -0.9Full Extension, Through 2012 -0.3 -0.3 -0.3 -0.3 -0.3 -0.3Partial Extension, Through 2012 -0.3 -0.3 -0.2 -0.3 -0.2 -0.3

Long TermFull Extension, Permanent n.a. n.a. -2.9 -2.3 -8.4 -10.5Partial Extension, Permanent n.a. n.a. -2.9 -3.5 -7.8 -11.2Full Extension, Through 2012 n.a. n.a. -0.6 -0.6 -0.7 -0.8Partial Extension, Through 2012 n.a. n.a. -0.5 -0.6 -0.6 -0.7

16

Long-Term Unemployment Rate

2010200019901980197019601950

5

4

3

2

1

0

Percent

Note: The long-term unemployment rate is the percentage of people in the labor force who have been unemployed for longer than 26 weeks.

17

Projected Federal Revenue and Spending in 2020

Current Law (Baseline)With Tax Cuts Extended and

AMT Indexed

18

Shares of Federal Spending Projected for 2020 in CBO’s August Baseline

“Other Health Programs” includes: Health insurance subsidies, exchanges, and related spending; Department of Defense Medicare-Eligible Retiree Health Care Fund (including TRICARE for Life); Children’s Health Insurance Program, and other programs.

19

Share of Federal Revenues Projected for 2020 in CBO’s August Baseline