Home Forex Deficit spending is the only thing keeping the economy out of recession now

Deficit spending is the only thing keeping the economy out of recession now

by SuperiorInvest

Economic growth continues to defy expectations of a slowdown and recession due to continued increases in deficit spending.

The US Treasury recently reported the December budget deficit, showing that the United States collected $429 billion through various taxes, while total outlays reached $559 billion.

Income, disbursements and surplus/deficit

As noted, the issue remains how the economy has avoided a recession despite the Federal Reserve’s aggressive rate-hiking campaign.

Numerous indicators, from the main economic index to the yield curve, suggest a high probability of an economic recession, but none has yet occurred.

One explanation for this has been the increase in federal spending since the end of 2022 as a result of the CHIP and Inflation Reduction Acts.

The second reason is that GDP was so high from $5 trillion of previous fiscal policies that the lag effect is taking longer than historical norms to resolve.

Federal Tax Revenues and Expenses vs. GDP

Federal Tax Revenues and Expenses vs. GDP

However, that red line on the graph above is the most interesting. Note that as federal expenditures increase, federal tax revenues decrease. That is why the national deficit is increasing.

When we , many thought the deficit was temporary. This is:

California tax payments are delayed due to emergency declaration. However, that does not explain the magnitude of the decrease in applications.

Second, given the economy-wide shutdown in 2020, which also delayed showings across the country, the extent of the current decline appears more than a single event.”

Given the time period and the fact that the collection rate fell even further, this suggests that there is something else behind the decline.

Tax receipts send a warning

The change in federal revenue is essential since the Government’s revenue comes from both corporate and individual income taxes.

Not surprisingly, if revenues and income decline, it would reflect economic activity.

As shown below, there is a very high correlation between the annual change in federal revenue and economic growth.

Historically, when the annual change in federal revenue falls below 2% annual growth, this has preceded economic recessions. The annual rate of change in federal revenue is currently negative five percent (-5%).

Federal tax revenues versus nominal GDP

Federal tax revenues versus nominal GDP

We see the exact correlation by smoothing the data and using inflation-adjusted tax revenues on a 24-month forward exchange rate. Again, a recession occurs when tax revenues fall below 2% annual growth rates.

I like this measure better since it represents the “delay effect” In the economy. The two-year year-on-year change in revenue has fallen well below the 2% warning line and currently stands at -5.77%.

Real Federal Tax Revenues vs. GDP

Real Federal Tax Revenues vs. GDP

While tax revenues suggest that economic weakness is more widespread than headlines suggest, deficit spending flows prevent economic growth from turning recessionary.

The frog and deficit spending

If we look at the current economy, there is no notable collapse of the dollar, private capital, rampant inflation or recession. However, just like when water slowly boils, the frog doesn’t realize it’s in trouble until it’s too late.

Serious government efforts toward deficit spending began with Ronald Reagan in 1980. Since then, politicians have concluded that a lot should be better if some deficit spending is good.

For politicians, increases in deficit spending bring only positive benefits. Higher spending provides a short-term boost to economic activity, allowing them to be re-elected to office.

However, water temperatures are clearly increasing in the long term.

While it has not collapsed under the weight of deficit spending, the trend of negative strength relative to other currencies is slowly heating up.

Federal surplus/deficit against the dollar

Federal surplus/deficit against the dollar

Of course, as the dollar weakened and deficits grew, inflation, for both producers and consumers, increased.

CPI vs deficit
IPP versus deficit

While deficits may not seem to crowd out private investment, the rise of giant companies like Apple (NASDAQ:), Google (NASDAQ:), and others do crowd out innovation and new business formation.

Such activities require capital, and there is a reasonable correlation between the ebbs and flows of deficits and capital acquisition.

Federal surplus/deficit versus bank loans and leases

Federal surplus/deficit versus bank loans and leases

It is not surprising that as the dollar weakens, capital movement slows, and inflation rises, the rate of economic growth slows.

This should not be surprising, since debt used for non-productive purposes diverts money from productivity to serving interest.

Federal surplus/deficit versus GDP

Federal surplus/deficit versus GDP

The only thing deficits haven’t caused is rising interest rates and massive increases in borrowing costs.

Interest rates versus deficit

Interest rates versus deficit

However, this suppression of interest rates comes from two main sources.

  1. Slower economic growth rates
  2. Massive interventions by the Federal Government to reduce rates.
Government interventions versus GDP

Government interventions versus GDP

Given sharp increases in federal debt since 2008 to support economic growth, the economy cannot sustain higher borrowing costs for long.

The economy is close to recession

While economic growth continues to defy expectations on the surface, if not for increases in deficit spending, Economic growth would be flirting with a recessionary level.yes to only 0.7% in the third quarter instead of 6.21%

GDP versus GDP minus government.  Spent

GDP versus GDP minus government. Spent

In GDP accounting, consumption is the most important component. Given that deficit spending doesn’t reach the average household, it’s no wonder presidential approval ratings are so dismal.

Should governments use deficit spending to “productive investments” during economic crises? That answer is clearly in the affirmative category.

However, once the economy grows again, deficits should be reversed into surpluses to prepare for the inevitable next recession. That is the entire underlying premise of Keynesian economic theory.

But, unfortunately, politicians, in their constant effort to be re-elected, ignore the part related to the payment of debts.

While short-term deficits may be inconsequential, rising levels of corporatism, wage disparities, and wealth inequality provide ample evidence that something has gone wrong.

Are all the problems in the United States solely the result of rampant deficit spending? Of course No. The United States has also spent four decades making bad political and economic decisions..

  1. Massive increases in consumer and business debt.
  2. A shift from productive to non-productive work.
  3. Poor immigration policies.
  4. The slow erosion of the rule of law; and,
  5. A weakening of capitalism and a move towards socialist policies.

If all the anecdotal evidence is ignored, a case can be made for having continued economic deficits. However, suggesting “deficit spending” has no consequences is totally wrong.

We can continue on our path for quite some time, and probably longer than most imagine.

But the fact that we have not realized it yet does not mean that little by little we are not “boiled by deficits.”

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