Debt Ceiling Doomsday Exasperated by Tax Revenue Shortfalls

The financial landscape in the US recently took an unexpected turn as predictions of the country reaching its debt ceiling came much sooner than anticipated, with warnings of potential default as early as June 1.

The doomsday forecasts came on the back of a substantial shortfall in expected tax revenue for the current fiscal year. The Congressional Budget Office’s analysis showed that tax collections were about $250 billion less than previously projected.

Negotiations between the Biden administration and Congress have taken on a new urgency as both sides seek to raise the debt ceiling to prevent a default on federal obligations. This shortfall isn’t just a matter of concern for the debt ceiling, but it also marks a continuation of the erratic pattern of federal receipts over the past three years. This trend could either be an anomaly triggered by the pandemic or an indication of a more volatile and unpredictable federal revenue system that could disrupt fiscal policy debates.

Budget deficits have become routine for the US government, which eagerly spends approximately $4 for every $3 it garners in tax revenue. This pattern is the outcome of legislative decisions such as low tax rates and generous federal programs. Even though the revenue-generating system has largely functioned smoothly pulling in consistent income and payroll taxes from the economy, it’s not always immune to sudden and unexpected fluctuations.

Federal revenue usually rises with an increase in economic activity and wages and falls when these factors decrease. However, even with the economy growing, tax revenues are decreasing despite no significant alterations to the tax code. This trend is a stark contrast to the previous year, which saw a surge in income-tax revenue amid modest economic growth.

The past year saw a boom in capital gains as the prices of stocks, homes, and cryptocurrency surged during the economy’s recovery from the pandemic; in fact, the government collected a record $864 billion in April 2022. However, this year’s individual income-tax revenue was expected to decline— and it did, but the decline was 26% more than expected. This was primarily attributed to a decrease in nonwithheld individual income taxes comprised of capital gains and business profits.

Compounding the situation, the Internal Revenue Service postponed the tax payment deadline for a majority of Californian residents and businesses due to weather-related disasters. As a result, an estimated $42 billion in state revenue was deferred to October. The Bipartisan Policy Center also anticipates that this move could shift around $100 billion of federal revenue, thereby exacerbating the pressing debt ceiling issue.

As such, policy makers were forced to fast-forward the dreaded X-date from late July to early June, with the US sitting on a $31.4 trillion pile of arrears. “Being a little bit more humble when you see a one-year spike in revenue would be good because that can lead to more dangerous policy,” explained Committee for a Responsible Federal Budget senior president Marc Goldwein, as cited by the Wall Street Journal.

Information for this briefing was found via the WSJ and the sources mentioned. The author has no securities or affiliations related to this organization. Not a recommendation to buy or sell. Always do additional research and consult a professional before purchasing a security. The author holds no licenses.

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