Thoughts on the economic future: demographic shifts imply avoidance of structural fiscal deficits.

As always, the short- and intermediate-term outlooks are uncertain, but what is certain is that the aging of the U.S. population will put an expanded demand on federal government expenditures. An optimistic view of the U.S. economy is that U.S. growth will soon resume the strong growth of the 1990s. However even if this view is correct, it does not imply that it is appropriate to increase the structural budget deficit by lowering taxes. The looming social expenditures implied by the aging of the population suggests that anything that might increase the structural deficit should be put on hold until other, more urgent problems, are successfully addressed.

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I am delighted to have the opportunity to share some thoughts with fellow economists about the state of our economy and the budget outlook, both near-term and over the rest of the decade. But what a reckless, foolhardy thing to try to do! The near-term outlook is dominated by huge uncertainty about the aftermath of war and its impact on consumer and investor behavior at home and abroad. The U.S economy could resume its slow recovery and gather momentum by 2004. Or it could slow further and slide into another recession, perhaps worse than 2001. Anyone who pretends to know for sure is a charlatan.

By contrast, the rest of the decade, although it has all the usual unknowns, is dominated by a huge certainty. At the end of the decade, the demographic profile of Americans will begin to shift predictably toward a much higher ratio of retirees to workers. We are not prepared for this shift, and I fear we are digging ourselves a deep budgetary hole that will be daunting to climb out of, even if everything breaks right. I am afraid that by the end of decade--just as the costs of public and private pensions and health benefits for older people are rising rapidly--we will be facing growing budget deficits and public resources inadequate to meet the needs of the elderly, keep investing in skills and knowledge, and deal with rising international obligations. At the same time, our private investment may prove inadequate to keeping the economy growing rapidly, because government dissaving will no longer be offset by capital flowing in from abroad. Moreover, the near-term and the longer term interact. A double-dip re cession in the next few months would exacerbate later budget problems by adding greatly to debt service costs.

This combination of worries may seem overblown, even preposterous, and a few months ago I would have given them less credence. I am among those who believe that the U.S. economy took a dramatic turn for the better in the mid-1990s. U.S. economic performance in the "fabulous decade" was extraordinary by any …