As Republicans prepare to forge a massive tax bill that could potentially pass via a party-line vote early next year, a crucial question hangs over their heads: How much larger are they willing to make the budget deficit, which came in at roughly $1.8 trillion in fiscal year 2024?
That limit, which The Wall Street Journal’s Richard Rubin refers to as “The Number,” will determine just how aggressive Republicans can be as they pursue a slew of tax cuts promised at various times during the campaign by President-elect Donald Trump, including an extension of the 2017 tax cuts, a reduction in the corporate tax rate from 21% to 15% and the elimination of taxes on tips, overtime and Social Security. The legislation could include new spending, as well, with funding for border security initiatives, among other things.
Some Republicans will push for extensive cuts with little concern for the deficit, while more fiscally conservative lawmakers will seek some degree of restraint. The same dynamic played out in 2017, when lawmakers settled on a 10-year cost of $1.5 trillion for their tax package, even as some pushed for a larger number. But whatever the number ends up being, it looks like a larger deficit and increased debt are likely this time around.
“We’re not going to have something that’s going to have zero deficit impact,” Republican Sen. James Lankford of Oklahoma told the Journal. “That’s not going to happen.” At the same time, Lankford said that lawmakers will have to address the existing deficit. “You can’t just keep saying it will get better magically some day with pixie dust,” he said.
Until Republicans have a limit in mind, though, it’s hard to say what the cuts will look like. “You can say yes to everybody until you have a number,” former Rep. Peter Roskam told the Journal. “Once the number is locked in, that’s when real choices are made. You’re basically playing a version of lifeboat. Who’s in? Who’s out?”
The likely tax cut vehicle: To pass the tax package, Republicans are expected to use a legislative process known as budget reconciliation, which would enable the bill to advance through the Senate with just 50 votes. The same approach was used by Republicans for their 2017 tax package, and by Democrats for spending bills in 2021 and 2022.
For the process to work, though, lawmakers in both the House and the Senate must agree on the overall size of the tax cuts and budgetary effects. Ryan Ellis, a conservative tax analyst, told the Journal that he expects the deficit number for the tax package to be close to zero – far short of the estimated $4 trillion cost of extending the 2017 tax cuts, let alone the host of other tax cuts Trump has put forth.
“There’s a lot of guys in the House who care very much about the level of debt and deficits,” Ellis said. “They came to Washington to cut spending and that’s the way they want to reduce deficits. They’re great with wanting to keep tax relief in place too.”
The solution to the basic math problem for many Republicans, especially those in the House, will likely revolve around steep spending cuts as a way to reduce the net cost of the tax cuts. But it’s not clear that lawmakers will be able to find anything like the trillions of dollars in spending cuts they’s need to offset the proposed tax cuts. “The momentum in the House is going to be all around spending cuts, and it’s just not realistic to think that you can get all the way to several trillion dollars in politically viable spending cuts alone,” Ellis said.
One option would be to essentially ignore the cost of extending the 2017 tax cuts, as suggested by Republican Sen. Mike Crapo of Idaho, who is expected to lead the Finance Committee. Crapo said earlier this year that he would consider setting the cost of extending the 2017 cuts to zero by using a “current policy” basis rather than a “current law” basis in the reconciliation bill. That would “save” roughly $4 trillion, clearing the way for a new set of tax cuts.
Republicans will have other gimmicks to offset the costs, or at least look like they are doing so. They could add Trump’s proposed tariffs to the legislation and project enormous revenues from them, even if those revenues have little chance of materializing. And they can assume their tax cuts will spur higher growth and thus more robust tax revenues, even if that growth is speculative or exaggerated.
The potential difficulty of getting all these elements right has led some lawmakers to say they want to take their time. “We’ve got a year. I’d rather take that year,” Sen. Ron Johnson of Wisconsin said. “The clock is ticking on this, but we don’t have to hop on this in the first few months.”
A warning from Moody’s: Late last week, Moody’s Ratings said that a Republican sweep in Washington — which looks likely, with Republicans just four seats away from control of the House and 17 undecided races as of Monday — raises risks for U.S. sovereign debt as lawmakers move to slash taxes.
“In the absence of policy measures to help limit fiscal deficits, the federal government's deteriorating fiscal strength will increasingly weigh on the US sovereign credit profile,” Moody’s analysts wrote. “Given the fiscal policies Trump promised while campaigning, and the high likelihood of their passage because of the changing composition of Congress, the risks to US fiscal strength have increased.”
Moody’s is the last of the three major ratings agencies to give U.S. sovereign debt a top rating. A year ago, Moody’s changed its outlook for the U.S. from stable to negative, citing excessive deficits and ongoing political dysfunction.
