2012   Financial Report of the United States Government

Management's Discussion & Analysis

The Long-Term Fiscal Outlook:  “Where We Are Headed”

While the Government’s immediate priority is to continue to foster economic recovery, there are longer-term fiscal challenges that must ultimately be addressed.  Persistent growth of health care costs and the aging of the population due to the retirement of the “baby boom” generation and increasing longevity will make it increasingly difficult to fund critical social programs, including Medicare, Medicaid, and Social Security.

Fiscal Sustainability

An important purpose of the Report is to help citizens understand current fiscal policy and the importance and magnitude of policy reforms necessary to make it sustainable.  A sustainable policy is one where the debt–to-GDP ratio is ultimately stable or declining.

To determine if current fiscal policies are sustainable, the projections discussed here assume current policy will be sustained indefinitely and draw out the implications for the growth of debt held by the public as a share of GDP.25  The projections are therefore neither forecasts nor predictions.  As policy changes are enacted, then actual financial outcomes will of course be different than those projected.

The projections presented in this Report were finalized prior to the enactment of the American Taxpayer Relief Act (ATRA) in January 2013.26

The projections in this Report indicate that current policy is not sustainable.  The debt-to-GDP ratio is projected to reach 395 percent in 2087 and to rise continuously thereafter.  Preventing the debt-to-GDP ratio from rising over the next 75 years is estimated to require some combination of spending reductions and revenue increases that amount to 2.7 percent of GDP over the period.  While this estimate of the “75-year fiscal gap” is highly uncertain, current fiscal policies cannot be sustained indefinitely.

It is important to address the Government’s fiscal imbalances soon.  Delaying action increases the magnitude of spending reductions and/or revenue increases necessary to stabilize the debt-to-GDP ratio.  Relative to a reform that begins immediately, for example, it is estimated that the magnitude of reforms necessary to close the 75-year fiscal gap is nearly 20 percent larger if reforms are delayed by just ten years, and more than 50 percent larger if reform is delayed 20 years.

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The estimates of the cost of policy delay in this Report assume policy does not affect GDP (or interest rates).  Reducing deficits too abruptly would be counterproductive if it slows the economy’s recovery.  In the near term, it is crucial to strike the proper balance between deficit reduction and economic growth.

The Primary Deficit, Interest, and Debt

The primary deficit - the difference between non-interest spending and receipts – is the only determinant of the debt-to-GDP ratio that the Government controls directly.  (The other determinants are interest rates and growth in GDP).  Chart F shows receipts, non-interest spending, and the difference – the primary deficit – expressed as a share of GDP (primary deficit-to-GDP ratio).  The primary deficit-to-GDP ratio grew rapidly in 2009 due to the financial crisis and the recession and the Federal Government’s response.  The ratio stayed large from 2010 to 2012 despite shrinking in each successive year, but is projected to fall rapidly between 2013 and 2018 as the economy recovers and spending reductions called for in the Budget Control Act of 2011 (BCA) take effect, reaching primary balance in 2018 and remaining relatively flat and near zero through 2021.  Between 2022 and 2039, however, increased spending for Social Security and health programs due to continued aging of the population and anticipated rising health costs is expected to cause the primary balance to steadily deteriorate and reach 2.3 percent of GDP in 2039.  After 2039, the primary deficit-to-GDP ratio slowly declines to 1.7 percent as the impact of the baby boom generation retiring dissipates.

The revenue share of GDP fell substantially in 2009 and 2010 and remained low in 2011 and 2012 because of the recession and tax reductions enacted as part of the ARRA and the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010.  This ratio is projected to return to near its long-run average as the economy recovers by about 2019, after which receipts are projected to grow slightly more rapidly than GDP as increases in real incomes cause more taxpayers and a larger share of income to fall into the higher individual income tax brackets.  This projection assumes that Congress and the President will continue to enact legislation that prevents the share of income subject to the Alternative Minimum Tax from rising.

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The non-interest spending share of GDP is projected to fall from its current level of 21.3 percent to about 20 percent in 2013, stay at or below that level until 2026, and to then rise gradually to 22 percent of GDP in 2039 and 22.6 percent of GDP in 2087.  The reductions in the non-interest spending share of GDP over the next two years are mostly due to the expected reductions in spending for overseas contingency operations, caps on discretionary spending, and the automatic spending cuts mandated by the BCA, and the subsequent increase is principally due to growth in Medicare, Medicaid, and Social Security spending (see Chart F).  The retirement of the baby boom generation over the next 25 years is projected to increase the Social Security, Medicare, and Medicaid spending shares of GDP by about 1.4 percentage points, 1.8 percentage points, and 1.1 percentage points, respectively.  After 2035, the Social Security spending share of GDP is essentially unchanging, while the Medicare and Medicaid spending share of GDP continues to increase, albeit at a slower rate, due to projected increases in health care costs.   The Affordable Care Act (ACA)27 provision of health insurance subsidies and expanded Medicaid coverage boost federal spending, and other provisions significantly reduce per-beneficiary Medicare and Medicaid cost growth.  On net, the ACA is projected to substantially reduce federal expenditures over the next 75 years.  However, there is uncertainty about whether the projected cost savings, productivity improvements, and reductions in physician payment rates will be sustained in a manner consistent with the projected cost growth over time.

The primary deficit-to-GDP projections in Chart F, along with those for interest rates (see Chart H) and GDP, determine the debt-to-GDP ratio projections shown in Chart G. That ratio was 73 percent at the end of fiscal year 2012 and under current policy is projected to be 78 percent in 2022, 145 percent in 2042, and 395 percent in 2087. While these projections are subject to considerable uncertainty, the debt-to-GDP ratio would continue to rise unsustainably under current policy.

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The debt projections in Chart G are substantially larger than those projected in last year’s Report.  In 2086, the projected debt-to-GDP ratio is 101 percentage points higher than was projected last year (388 percent versus 287 percent).  The difference is primarily due to the changes in the model’s technical assumptions, such as: (i) the inclusion of costs for health insurance exchange subsidies; (ii) the assumption in this year’s Report that all of the 2001/2003 tax cuts will be extended indefinitely, rather than being allowed to expire for high-income taxpayers; and (iii) an improved methodology for projecting Medicare costs.

The Fiscal Gap and the Cost of Delaying Policy Reform

The 75-year fiscal gap is one measure of the degree to which current fiscal policy is unsustainable.  It is the amount by which primary surpluses over the next 75 years must rise above current-policy levels in order to prevent the debt-to-GDP ratio from rising.  It is estimated that running primary surpluses that average 1.0 percent of GDP over the next 75 years would result in the 2087 debt-to-GDP ratio equaling its level in fiscal year 2012, which compares with primary deficits that average 1.7 percent of GDP under current policies.  The 75-year fiscal gap is therefore 2.7 percent of GDP, which is 13.5 percent of the 75-year present value of projected receipts and 12.4 percent of the 75-year present value of non-interest spending.

It is noteworthy that preventing the debt-to-GDP ratio from rising over the next 75 years requires that primary surpluses be substantially positive on average.  This is true because projected GDP growth is on average smaller than the projected government borrowing rate over the next 75 years.  The implication is that debt would grow faster than GDP if primary surpluses were zero on average.  For example, if the primary surplus was precisely zero in every year, then debt would grow at the rate of interest in every year, which would be faster than GDP growth.

Table 7: Costs of Delaying Fiscal Reform
Period of Delay Change in Average Primary Surplus
No Delay: Reform in 2013 2.7 percent of GDP between 2013 and 2087
Ten Years: Reform in 2023 3.2 percent of GDP between 2023 and 2087
Twenty Years: Reform in 2033 4.1 percent of GDP between 2033 and 2087
Note: Reforms taking place in 2012, 2022, and 2032 from the 2011 Report were 1.8, 2.2, and 2.8 percent of GDP.

Table 7 illustrates the cost of delaying policy to close the fiscal gap by comparing three policies that begin on different dates.  The first policy begins immediately and calls for increasing primary surpluses by 2.7 percent of GDP in every year between 2013 and 2087.  This is accomplished by invoking some combination of spending reductions and revenue increases that amount to 2.7 percent of GDP in every year over the 75-year projection period.  The second policy in Table 7 begins 2023.  Because debt grows unabated between 2013 and 2023 and the same fiscal consolidation must be compressed into ten fewer years, this policy change is more abrupt, calling for primary surplus increases amounting to 3.2 percent of GDP in every year between 2023 and 2087.  Similarly, if debt is allowed to accumulate unabated for 20 years, then closing the 75-year fiscal gap would require even more abrupt primary surplus increases amounting to 4.1 percent of GDP in every year between 2033 and 2087.  The differences between the primary surplus boost starting in 2023 and 2033 (3.2 and 4.1 percent of GDP, respectively) and the primary surplus boost starting in 2012 (2.7 percent of GDP) is a measure of the additional burden policy delay would impose on future generations.  Future generations are harmed by a policy delay of this sort, because the higher the primary surplus is during their lifetimes the greater the difference is between the taxes they pay and the programmatic spending from which they benefit.   


The Government took potentially significant steps towards a sustainable fiscal policy by enacting the ACA in 2010 and the BCA in 2011.  The ACA holds the prospect of lowering long-term per-beneficiary spending growth for Medicare and Medicaid, and the BCA significantly curtails discretionary spending.  Together, these two laws substantially reduce the estimated long-term fiscal gap.  But even with the new laws, the debt-to-GDP ratio is projected to increase continuously over the next 75 years and beyond if current policies are kept in place, which implies that current policies are not sustainable.  Subject to the important caveat that changes in policy are not so abrupt that they slow the economy’s recovery, the sooner policies are put in place to avert these trends, the smaller the revenue increases and/or spending decreases will need to be to return the Government to a sustainable fiscal path.

While this Report’s projections of expenditures and receipts under current policy are highly uncertain, current policy cannot be sustained indefinitely.

These and other issues concerning fiscal sustainability are discussed in further detail in the Required Supplementary Information section of this Report.

Statement of Social Insurance – Challenges Continue

The preceding analysis of the Government’s long-term fiscal projections considered Government receipts and spending as a whole.  The Statement of Social Insurance (SOSI) provides a more focused perspective of the Government’s “social insurance” programs: Social Security, Medicare, Railroad Retirement, and Black Lung.  For these programs, the SOSI reports: (1) the actuarial present value of all future program revenue (mainly taxes and premiums) - excluding interest - to be received from or on behalf of current and future participants; (2) the estimated future scheduled expenditures to be paid to or on behalf of current and future participants; and (3) the difference between (1) and (2).  Amounts reported in the SOSI and in the Required Supplementary Information section in this Report are based on each program’s official actuarial calculations.  By accounting convention, the transfers of general revenues are eliminated in the consolidation of the financial statements at the government-wide level and as such, the general revenues that are used to finance Medicare Parts B and D are not included in these calculations even though the expenditures on these programs are included.  SOSI programs and amounts are included in the broader fiscal sustainability analysis in the previous section, although on a slightly different basis (as described in the Required Supplementary Information section of this Report).

Table 8: Social Insurance Future Expenditures in Excess of Future Revenues
Dollars in Billions 2012 2011 Increase / (Decrease)
$ %
Open Group (Net):        
  Social Security (OASDI) $(11,278) $(9,157) $2,121 23%
  Medicare (Parts A, B, & D) $(27,174) $(24,572) $2,602 11%
  Other $(102) $(101) $1 1%
  Total Social Insurance Expenditures, Net
  (Open Group)
$(38,554) $(33,830) $4,724 14%
  Total Social Insurance Expenditures, Net
  (Closed Group)
$(51,604) $(46,273) $5,332 12%
Social Insurance Net Expenditures as a % of Gross Domestic Product (GDP)*
Open Group 2012 2011  
  Social Security (OASDI) -1.2% -1.0%    
  Medicare (Parts A, B, & D) -3.0% -2.8%    
  Other 0.0% 0.0%    
Total (Open Group) -4.2% -3.8%    
Total (Closed Group) -5.6% -5.3%    
Source: Statement of Social Insurance (SOSI). Amounts equal estimated present value of projected revenues and expenditures for scheduled benefits over the next 75 years of certain 'Social Insurance' programs (e.g., Social Security, Medicare). 'Open Group' totals reflect all curent and projected program participants during the 75-year projection period. 'Closed Group' totals reflect only current participants.

* GDP values from the 2012 & 2011 Social Security and Medicare Trustees Reports represent the present value of GDP over the 75 years. As the GDP used for Social Security and Medicare differ slightly in the Trust Fund Reports, the two values are averaged to estimate the 'Other' and Total Net Social Insurance Expenditures as % of GDP.

Note - some totals may not equal sum of components due to rounding.

The SOSI provides perspective on the Government’s long-term estimated exposures and costs for social insurance programs.  While these expenditures are not considered Government liabilities, they do have the potential to become expenses and liabilities in the future, based on the continuation of the social insurance programs' provisions contained in current law. The social insurance trust funds account for all related program income and expenses. Medicare and Social Security taxes, premiums, and other income are credited to the funds; fund disbursements may only be made for benefit payments and program administrative costs.  Any excess revenues are invested in special non-marketable U.S. Government securities at a market rate of interest. The trust funds represent the accumulated value, including interest, of all prior program surpluses, and provide automatic funding authority to pay for future benefits. 28

Table 9: Changes in Social Insurance Projections
Dollars in Billions 2012 2011
Net Present Value (NPV) - Open Group (Beginning of the Year) $(33,830) (30,857)
Change In:  
    Valuation Period $(1,613) ($ 1,518)
    Demographic data and assumptions $518 ($ 859)
    Economic data and assumptions $(1,039) $ (145)
    Law or policy $193 $ (14)
    Methodology and programmatic data $(471) $ 56
    Economic and other healthcare assumptions1 $(2,601) $ (463)
    Change in projection base $289 $ (31)
Net Change in Open Group measure $(4,724) $ (2,974)
NPV - Open Group (End of the Year) $(38,554) (33,830)

1Reported by HHS.
Note - totals may not equal sum of components due to rounding.

Table 8 on the previous page summarizes amounts reported in the SOSI, showing that net social insurance expenditures are projected to be $38.6 trillion as of January 1, 2012 for the “Open Group,” an increase of $4.8 trillion over net expenditures of $33.8 trillion projected in the 2011 Report.29  Table 9 summarizes the principal reasons for the changes in projected social insurance amounts during 2012 and 2011.  Most of the change from the past year is attributable to the change in the valuation period, and economic data and assumptions (e.g., health care costs, taxable earnings, price inflation, and real interest rates).  For both the Old-Age, Survivors, and Disability Insurance (OASDI or Social Security) programs administered by the Social Security Administration (SSA), and the Medicare Part A (Hospital Insurance) program, administered by the Department of Health and Human Services (HHS) , as of the current valuation period (January 1, 2011 – January 1, 2012): (1) taxable earnings are lower for the starting year than projected for the prior valuation period; (2) price inflation was higher than expected, with the cost of living adjustment in December 2011 being higher than assumed in the prior valuation, and (3) the real interest rate is projected to be lower over the first ten years.  These changes decrease the present value of future cashflows.30  The effects of these changes on HHS are reported separately in Table 9 as HHS also includes the effect of specific healthcare assumptions in this category, including but not limited to anticipated effects of the ACA, and growth assumptions for inpatient hospitals and hospice services.

As was reported in the FY 2011and 2010 Reports, projected Medicare costs declined significantly reflecting provisions of the ACA. As reported in Note 26, there continues to be uncertainty about whether the projected cost savings, productivity improvements, and reductions in physician payment rates will be sustained in a manner consistent with the projected cost growth over time.  Note 26 includes an alternative projection to illustrate the uncertainty of projected Medicare costs.   As indicated earlier, GAO disclaimed opinions on the 2012, 2011 and 2010 SOSI because of these significant uncertainties.

Costs as a percent of GDP of both Medicare and Social Security, which are analyzed annually in the Medicare and Social Security Trustees’ Reports, are projected to increase substantially through 2035, because: (1) the number of beneficiaries rises rapidly as the “baby-boom” generation retires; and (2) the lower birth rates that have persisted since the baby boom cause slower growth in the labor force anMard GDP.31  According to the Medicare Trustees’ Report, under current law, including the assumption of the full implementation of ACA program changes, spending on Medicare is projected to rise from 3.7 percent of GDP in 2011 to 6.7 percent in 2086 (based on the Trustees intermediate set of assumptions).  The Hospital Insurance (HI) Trust Fund is now expected to remain solvent until 2024, (no change from last year’s report), at which point tax income is estimated to be sufficient to pay 87 percent of estimated HI costs, declining to 69 percent  by 2086.

As for Social Security, combined spending is projected to increase gradually from its current level of 5.0 percent of GDP to about 6.4 percent in 2035, declining to about 6.1 percent by 2055 and remains at about that level through 2086.  The Social Security Trustees’ Report indicates that annual OASDI income, including interest on trust fund assets, will exceed annual cost and trust fund assets will increase every year until 2021, at which time it will be necessary to begin drawing down on trust fund assets to cover part of expenditures until assets are exhausted in 2033, three years earlier than estimated in the prior year’s Trustees’ Report, at which point  continuing tax income would be sufficient to pay 75 percent of scheduled benefits in 2033 and 73 percent in 2086.32

As noted earlier, it is apparent that these programs are on a fiscally unsustainable path (as was previously discussed and as noted in the Trustees’ Reports).  Additional information from the Trustees Reports may be found in the Required Supplementary Information section of this Report.  


25 Current policy in the projections is based on current law, but includes extension of certain policies that expire under current law but are routinely extended or otherwise expected to continue, such as extension of relief from the Alternative Minimum Tax (AMT).  In addition, the projections in this year’s Report assume that all of the 2001/2003 tax cuts will be extended indefinitely, whereas the projections in the FY 2011 Report assumed that the tax cuts for high-income taxpayers would be allowed to expire.(Back to Content)

26 ATRA did not extend the 2001/2003 tax cuts for high income individuals and families that were assumed to occur in the projections.  Updating the projections in this Report to account for ATRA would therefore modestly reduce projected long term fiscal imbalances.(Back to Content)

27 P.L. 111-148, as amended by P.L. 111-152.  The ACA expands health insurance coverage, provides health insurance subsidies for low-income individuals and families, includes many measures designed to reduce health care cost growth, and reduces the annual increases in Medicare payment rates.(Back to Content)

28 See also Note 28 – Subsequent Events – of this Report.(Back to Content)

29 'Closed' Group and 'Open' Group differ by the population included in each calculation.  From the SOSI, the 'Closed' Group includes: (1) participants who have attained eligibility and (2) participants who have not attained eligibility.  The 'Open' Group adds future participants to the 'Closed' Group.  See ‘Social Insurance’ in the Required Supplementary Information section in this Report for more information.(Back to Content)

30 FY 2012 HHS Agency Financial Report p. 119, FY 2012 SSA Performance and Accountability Report, p. 142.(Back to Content)

31 2012 Annual Trustees Reports on Social Security and Medicare (Summary), p. 2.(Back to Content)

32 2012 Annual Trustees Reports on Social Security and Medicare (Summary), pp. 2,9-10.(Back to Content)

Last Updated:  February 27, 2013