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Sequester Impacts 101 - Budget Authority and Outlays

Various commentators have praised the Fiscal Year (FY) 2013 sequester of domestic and defense discretionary spending. Many hope that those across-the-board cuts remain in FY 2014.

Comments praising the sequester take several forms:

  • the sequester hasn’t had any negative impact on the economy;
  • the sequester process will solve our long-term debt problem;
  • the sequester won’t hurt our military, still the most powerful in the world;
  • the sequester will force waste, fraud and abuse out of programs.

We have written before on the technical aspects of the FY 2013 sequester process. This commentary will focus on answering the four “pro-sequester” themes outlined above, using the defense budget as an object lesson.

The sequester’s impact on federal programs and on the economy revolves around a basic relationship ? that between budget authority and actual spending, known as outlays. This inexact relationship remains key to understanding why we warned ? both in our “Indefensible” report from 2012 and in our latest sequester report, titled “From Merely Stupid to Dangerous” ? that the economic and national security effects of a sequester would not resemble a “government shutdown,” but would instead be a steady accumulation of slower growth and eroding defense over a period of two to three years. A sequester won’t turn off the federal government’s lights overnight; a government shutdown does.

Simply put: when the appropriations committees of the House and Senate pass an appropriation bill, they are approving a level of budget authority to the relevant agency of the federal government to make financial commitments for the fiscal year. The appropriations bill gives the agency the ability to obligate a certain amount of money in the relevant fiscal year ? the bill does NOT determine the precise amount of outlays (actual spending) that the Treasury will pay out for that agency’s expenses for that fiscal year. Think of budget authority as permission to make a commitment ? an agency with a $1 billion appropriation for Fiscal Year 2013 is allowed to commit $1 billion during that year, but some (or even most) of those commitments might not actually be paid until the next year, or the year after that. Thus, while the budget authority for an agency like the Department of Defense in a given year is specified in the appropriation bill, no one can know in advance the exact amount of outlays for that fiscal year?a good estimate based on historical spend-out rates is the best we can get. And outlays are what actually matter for the economy, the debt, and our military.

Chart 1

Here is an example [Chart 1] of a defense program that has been appropriated $3.2 billion for a new submarine. Note two things: the appropriation was for $3.2 billion in the first year. Yet, that entire $3.2 billion won’t be spent (i.e., outlayed) in one year, but spread out over several years. In theory, the sum total of outlays over seven years will equal $3.2 billion (the appropriated amount).*

Chart 2

Annual outlays (actual spending) by agencies are what yield federal surpluses or deficits and affect the wider economy. Chart 2 provides BPC’s best estimates of how the nearly $600 billion in defense budget authority ? the purple silo ? will spend out over a number of years in the form of annual outlays. At the end of roughly seven years, total annual outlays will equal the $600 billion in budget authority that was available in FY 2013. The FY 2013 deficit didn’t jump by $600 billion as a result of this budget authority, because actual spending?drawn against the Treasury in the form of outlays? is what determines deficits or surpluses. In the same way, the $3.2 billion in budget authority for the submarine won’t increase the FY 2013 deficit by $3.2 billion, but by approximately $250 million. Similarly, the budget authority sequestered in FY 2013 won’t be fully felt until outlays are affected, which can occur over many years.

Chart 3

So now, we have a big part of the response to those who claim that the sequester for FY 2013 has had no impact:

  • the negative impact of the FY 2013 sequester is just now starting to show up in the United States economy as the reduction in outlays due to sequester has started to occur, slowing economic growth and impeding employment gains;
  • those negative impacts from sequestration will mount in FY 2014 and FY 2015, even if Congress turns off the sequester mechanism after this year;
  • because the sequester applies to the smallest and slowest-growing parts of the federal budget (defense and domestic discretionary annual appropriations, for the most part), the sequester has minimal impact on the nation’s long-term debt problem (see Chart 3);
  • military outlays are already beginning to decline and the large prime defense contractors have been steadily reducing workforce in anticipation of the sequester?jobs are being lost in the private sector, as the Bipartisan Policy Center and CBO predicted;
  • the FY 2013 sequester will have virtually no impact on “waste, fraud and abuse,” since agencies had to cut all line items in the budget across the board ? efficient programs as well as wasteful ones ? and had almost no time to logically plan those reductions.

An observer now must ask, “Why are we causing more pain to an already painfully slow economic recovery, if the pain won’t yield any lasting debt reduction?”

That is the same question implicitly asked in recent weeks by International Monetary Fund Managing Director Christine Lagarde and Federal Reserve Chairman Ben Bernanke.

Underlying the comprehensive budget plan outlined by BPC’s Domenici-Rivlin Debt Reduction Task Force was acknowledgement that gradual implementation of fundamental tax and entitlement spending reform is the only approach that will ease our looming debt crisis without damaging the economic recovery. The sequester mechanism aims at the wrong problem at the wrong time with bad results.

* This example was constructed using average outlay rates for Navy shipbuilding.

2013-11-05 00:00:00
The negative impact of the sequester is just now starting to show up in the U.S. economy


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