What's Another Trillion?

Statesman details:

The U.S. federal deficit was slightly smaller through the first five months of this fiscal year than the previous year. Still, the deficit is on pace to exceed $1 trillion for the fourth straight year, which could be an issue in this year's presidential election.

The Treasury Department said Monday that the deficit grew by $232 billion in February. That increased the imbalance through the first five months of the current budget year to $581 billion, or 9 percent less than the same period in fiscal 2011.

The Obama administration expects the deficit will reach $1.3 trillion when the fiscal year ends Sept. 30. The government ran a record deficit of $1.41 trillion in 2009 and a $1.29 trillion deficit in 2010.

While the scale of deficits has been alarming, it should come as no surprise given the huge incentives for politicians to push revenues lower and spending higher, as well as the strong dependence for improvement (of both the revenue and spending side) on a weak underlying economy.

Politicians like to be elected. On the spending side of the equation, the easiest way (it seems) to be elected in the U.S. is to spend during prosperous times, as voters (not surprisingly) like to feel prosperous during these prosperous times (hence the limited number of times the below chart turns negative). One issue is that spending moves even higher during downturns due to all the social safety nets that kick in, pushing the deficit higher and higher each business cycle.

Similarly, tax revenues depend on these same politicians that want to be elected (during good times, why not cut taxes?) and shows a similarly strong relationship with the same underlying economy. In fact, revenues are similar to the S&P 500 in that they grow at roughly the same rate as nominal GDP over the long run, yet exhibit larger swings at turning points.

So... for the average voter of this great land, taxes are always too high and spending too low (hence deficits tend to remain even during prosperous times) and when downturns hit, the US finds itself long equity beta on the revenue side and short put options (social safety nets) / inflation (cost of spending) on the spending side.

Is it any wonder we're in this situation?

Source: Treasury