The truth about April’s budget surplus

Marie M. Schofield, CFA, Chief Economist and Senior Portfolio Manager | May 16, 2013

  • Surge in tax receipts allows the U.S. Treasury to report the largest budget surplus in five years.
  • What is good for the Treasury and the budget presents some burden on households; taxpayer refunds are down 3.5% this year versus last.
  • Recent deficit improvement may give a false sense of security and delay critical entitlement reforms.

Washington finally had some good news to report, specifically on the budget deficit. The Treasury reported a $113 billion surplus, the biggest in five years. April is a critical month for the budget because of tax filing and payment deadlines. While some attribute the surplus to reduced outlays on sequestration, it was mainly due to growing revenues courtesy of a build in individual and corporate tax receipts. Receipts have risen 12% in the last 12 months versus the prior period, with outlays basically unchanged over that same period.

But we do need to keep in mind that the surge in tax receipts this year is an artifact of a shift in income from 2013 into 2012 by taxpayers hoping to avoid the higher income tax rates taking effect in 2013. As a result, some of the largesse is a one-time gain. However, the rising stock market is another factor. Individual income taxes rose 12% in the last year (representing nearly half of total receipts) and corporate income taxes rose 25% (about 10% of total receipts). Also, social insurance taxes rose 8% (about a third of total receipts) largely due to the expiration of the Social Security payroll tax cut. The jump in total receipts has bought the Treasury some time to stay within the debt ceiling limit, which is also a relief. What is good for the Treasury and the budget presents some burden on households, as taxpayer refunds are down 3.5% this year versus last, with the average refund down 2%. This may be partly responsible for the weak retail environment, with same-store sales reports very soft.

Outlays have also been held in check with spending down in certain categories in the last year including defense, transportation, science, international, and interestingly, interest on the debt. Sequester cuts, however, are just beginning to be felt. On the other hand, those reductions will be offset by spending increases for entitlement programs. In the last 12 months Medicare and other health-care spending is up 8.5% (25% of total spending) and Social Security outlays rose 6% (22% of outlays and includes disability).

These are at the core of the entitlement challenge—non-discretionary programs representing a growing share (now nearly half) of our total spending. Only Congress can implement critical reforms, and hopefully slowly over time—but they appear unwilling to wrestle this beast. Also, the recent improvement in the deficit may give them a false sense of security and delay ongoing efforts. One final category of outlays is improving. The spending category of income security (which includes food stamps, unemployment compensation and other temporary income assistance, totaling 15% of outlays) is now falling 3% versus a year ago, as benefits in some programs are expiring; we know this via the fall in weekly unemployment claims. While this is good news for the budget, many are exhausting these benefits without finding a job.

For the fiscal year-to-date period (starting last October), the deficit is $232 billion smaller than last year (a shrink of 32%). This puts the current deficit-to-Gross Domestic Product ratio at 5.4%, down from 7.4% a year ago. While this is a big improvement, remember it also may be overstated due to the assist from income shifts. Nevertheless, deficits are on the decline. As a result, the Treasury projects it will begin to pay down some government debt this quarter for the first time in six years. On Tuesday, the Congressional Budget Office will release their revised budget projections and a sizable downward revision seems very likely particularly in light of the special dividend payments from Fannie Mae and Freddie Mac.

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