CONGRESS OF THE UNITED STATES

CONGRESSIONAL BUDGET OFFICE

The Budget and Economic Outlook:

An Update

AUGUST 2006

Actual Projected Outlays

Revenues

1965 1989 1992 1995 1998 2001 2007

25

17

15

0

2004 2010

Total Outlays and Revenues as a Percentage of

Gross Domestic Product

19

21

23

1968 1971 1974 1977 1980 1983 1986

Average Revenues,

1965 to 2005

Average Outlays,

1965 to 2005

2013 2016
Pub. No. 2822
The Congress of the United States O Congressional Budget Office

CBO

The Budget and Economic Outlook:

An Update

August 2006

A

STUDY
Notes

Unless otherwise indicated, all years referred to in describing the economic outlook are calendar years; otherwise, the years are federal fiscal years (which run from October 1 to September 

30).

Numbers in the text and tables may not add up to totals because of rounding.

In figures in Chapter 2, shaded vertical bars indicate periods of recession and a dashed vertical 

line separates actual and projected data. (A recession extends from the peak of a business cycle 

to its trough.) 

Data from the Commerce Department’s Bureau of Economic Analysis (BEA) on gross domestic product and the national income and product accounts are generally as of June 2006. As 

explained in Box 2-2, BEA’s revised estimates, released on July 28, 2006, were published too 

late to be incorporated into the Congressional Budget Office’s (CBO’s) current economic 

forecast. Consequently, in Chapter 2, tables and figures that present the forecast incorporate 

the June 2006 data, but other figures and discussions of recent events are consistent with the 

revised data. Because CBO anticipated elements of the revision, the changes are unlikely to 

have a major impact on the projections presented in this volume. 

Supplemental data for this analysis are available on the home page of CBO’s Web site 

(www.cbo.gov), under “Current Budget Projections” and “Current Economic Projections.”
Preface

This volume is one of a series of reports on the state of the budget and the economy that 

the Congressional Budget Office (CBO) issues each year. It satisfies the requirement of section 

202(e) of the Congressional Budget Act of 1974 for CBO to submit to the Committees on 

the Budget periodic reports about fiscal policy and to provide baseline projections of the federal budget. In accordance with CBO’s mandate to provide impartial analysis, the report 

makes no recommendations.

The baseline spending projections were prepared by the staff of CBO’s Budget Analysis Division under the supervision of Robert Sunshine, Peter Fontaine, Janet Airis, Tom Bradley, Kim 

Cawley, Paul Cullinan, Jeffrey Holland, and Sarah Jennings. The revenue estimates were prepared by the staff of the Tax Analysis Division under the supervision of Thomas Woodward, 

Mark Booth, and David Weiner, with assistance from the Joint Committee on Taxation. The 

analysts who contributed to those spending and revenue projections are listed in Appendix D.

The economic outlook presented in Chapter 2 was prepared by the Macroeconomic Analysis 

Division (MAD) under the direction of Robert Dennis, Kim Kowalewski, and John F. 

Peterson. Robert Arnold, John F. Peterson, and Christopher Williams carried out the economic forecast and projections. David Brauer, Ufuk Demiroglu, Naomi Griffin, Douglas 

Hamilton, Juann Hung, Wendy Kiska, Kim Kowalewski, Mark Lasky, Angelo Mascaro, Frank 

Russek, Robert Shackleton, and Steven Weinberg—all of MAD—and Richard Farmer of the 

Microeconomic Studies Division contributed to the analysis. Andrew Gisselquist and Adam 

Weber provided research assistance.

CBO’s Panel of Economic Advisers commented on an early version of the economic forecast 

underlying this report. Members of the panel are Martin Baily, Richard Berner, Dan Crippen, 

J. Bradford DeLong, Martin Feldstein, Robert J. Gordon, Robert E. Hall, Douglas HoltzEakin, Ellen Hughes-Cromwick, Lawrence Katz, Allan H. Meltzer, Laurence H. Meyer, 

William D. Nordhaus, June E. O’Neill, Rudolph G. Penner, James Poterba, Robert 

Reischauer, Alice Rivlin, Nouriel Roubini, and Diane C. Swonk. Douglas Duncan and 

Charles Steindel attended the panel’s meeting as guests. Although CBO’s outside advisers provided considerable assistance, they are not responsible for the contents of this report. 

Jeffrey Holland wrote the summary. Barry Blom, Mark Booth, and Christina Hawley 

Anthony wrote Chapter 1, with assistance from David Newman and Eric Schatten. Frank 

Russek was the lead author for Chapter 2. Ann Futrell, along with Mark Booth and Pamela 

Greene, wrote Appendix A; Eric Schatten, with Pamela Greene, wrote Appendix B; and 

Andrew Gisselquist and Adam Weber compiled Appendix C.
Christine Bogusz, Christian Howlett, Loretta Lettner, Leah Mazade, and John Skeen edited 

the report. Marion Curry and Denise Jordan-Williams assisted in its preparation. Maureen 

Costantino designed the cover and prepared the report for publication. Lenny Skutnik 

printed the initial copies, and Simone Thomas prepared the electronic version for CBO’s Web 

site (www.cbo.gov).

Donald B. Marron

Acting Director

August 2006
Contents

Summary ix

1 The Budget Outlook 1

The Outlook for 2006 3

Baseline Budget Projections for 2007 Through 2016 10

Budget Projections Under Alternative Scenarios 17

Uncertainty and Baseline Projections 18

2 The Economic Outlook 21

Concerns About Higher Inflation 23

The Outlook for Real Growth in 2006 and 2007 26

The Outlook Through 2016 34

Projections of Income 40

Changes in the Outlook Since January 2006 41

Comparison with Other Forecasts 43

A Changes in CBO’s Baseline Since March 2006 47

B A Comparison of CBO’s and OMB’s Baselines 55
VI THE BUDGET AND ECONOMIC OUTLOOK: AN UPDATE

C CBO’s Economic Projections for 2006 to 2016 61

D Contributors to the Revenue and Spending Projections 65
CONTENTS VII

Tables

S-1. CBO’s Baseline Budget Outlook x

S-2. CBO’s Economic Projections for Calendar Years 2006 to 2016 xiii

1-1. Projected Deficits and Surpluses in CBO’s Baseline 2

1-2. Average Annual Growth Rates of Revenues and Outlays Since 1994 and in

CBO’s Baseline 4

1-3. CBO’s Baseline Budget Projections 6

1-4. CBO’s Baseline Projections of Mandatory Spending 12

1-5. CBO’s Baseline Projections of Discretionary Spending 14

1-6. Supplemental Appropriations and Funding for Operations in Iraq and 

Afghanistan Provided in 2006 15

1-7. CBO’s Baseline Projections of Federal Interest Outlays and Debt 16

1-8. The Budgetary Effects of Selected Policy Alternatives Not Included in 

CBO’s Baseline 18

2-1. CBO’s Economic Projections for Calendar Years 2006 to 2016 22

2-2. Key Assumptions in CBO’s Projection of Potential Output 35

2-3. CBO’s Current and Previous Economic Projections for Calendar Years

2006 to 2016 45

2-4. Comparison of CBO, Administration, and Blue Chip Forecasts for

Calendar Years 2006 to 2011 46

A-1. Changes in CBO’s Baseline Projections of the Deficit or Surplus Since 

March 2006 48

B-1. A Comparison of CBO’s August 2006 Baseline and OMB’s July 2006 

Current-Services Baseline 56

C-1. CBO’s Year-by-Year Forecast and Projections for Calendar Years 2006 to 2016 62

C-2. CBO’s Year-by-Year Forecast and Projections for Fiscal Years 2006 to 2016 63
VIII THE BUDGET AND ECONOMIC OUTLOOK: AN UPDATE

Figures

S-1. Total Outlays and Revenues as a Percentage of Gross Domestic Product, 

1965 to 2016 xi

S-2. Spending on Social Security, Medicare, and Medicaid as a Percentage of

Gross Domestic Product, 1996 to 2016 xii

1-1. The Total Deficit or Surplus as a Percentage of Gross Domestic Product, 

1965 to 2016 3

1-2. Uncertainty of CBO’s Projections of the Budget Deficit Under Current Policies 20

2-1. Total and Core Measures of the PCE Price Index 23

2-2. Crude Oil, Natural Gas, and Gasoline Prices 24

2-3. Output and Unemployment Gaps 25

2-4. Business Fixed Investment 27

2-5. Prices of Houses 28

2-6. Housing Affordability Index 29

2-7. Personal Saving Plus Firms’ Retained Earnings 30

2-8. The U.S. Trade Deficit 31

2-9. The Trade-Weighted Value of the U.S. Dollar 32

2-10. Index of Monetary and Financial Conditions 34

2-11. Real Potential Output, Potential Labor Force, and Potential Labor 

Force Productivity 36

2-12. Actual and Potential Labor Force Participation 37

2-13. Labor Income 41

Boxes

1-1. Funding for Activities in Iraq and the War on Terrorism 8

2-1. Changes in CBO’s Assumptions About the Labor Market 38

2-2. Recent Revisions to the National Income and Product Accounts 42
Summary

The deficit for 2006 will be notably lower than the 

Congressional Budget Office (CBO) estimated in March, 

when it issued its previous projections of the federal budget. The broad fiscal outlook for the coming decade, 

however, has not changed materially since then. The 

underlying projections of outlays and revenues for future 

years are similar to those presented five months ago, with 

the exception that the current projections of spending 

from this year’s appropriations are now higher—reflecting the extrapolation of recent supplemental funding primarily for the war in Iraq and hurricane relief.

The Budget Outlook

CBO now expects the 2006 deficit to total $260 billion—a $58 billion decline from the deficit recorded for 

2005 (see Summary Table 1). Relative to the size of the 

economy, the deficit this year is expected to equal 2.0 percent of gross domestic product (GDP), down from 2.6 

percent in 2005.

CBO’s current estimate of the deficit for 2006 is $112 

billion lower than the amount that it estimated when it 

analyzed the President’s budgetary proposals in March.1

Higher-than-anticipated revenues, mostly from individual and corporate income taxes, account for the bulk of 

that improvement. CBO now expects 2006 revenues to 

exceed its March estimate (including the President’s proposals) by $99 billion, or about 4 percent. At the same 

time, outlays this year are expected to be $13 billion⎯or 

less than 0.5 percent⎯below CBO’s March estimate (including the impact of proposed supplemental appropriations), primarily because of lower-than-anticipated 

spending on the government’s major health care programs, Medicare and Medicaid.

CBO has also updated its baseline budget projections for 

the coming decade. By statute, those projections must 

assume that current laws and policies remain in place.2

The baseline is therefore not intended to be a prediction 

of future budgetary outcomes; instead, it is meant to 

serve as a neutral benchmark that lawmakers can use to 

measure the effects of proposed changes to spending and 

revenues.

The general fiscal outlook for the coming decade remains 

about the same as what CBO projected in March. If the 

laws and policies currently in place did not change, the 

deficit would remain at around this year’s level over the 

next few years relative to the size of the economy, CBO 

projects. After 2010, it would decline sharply, reflecting 

the rapid increase in tax revenues that would occur after 

provisions initially enacted in the Economic Growth and 

Tax Relief Reconciliation Act of 2001 (EGTRRA) and 

the Jobs and Growth Tax Relief Reconciliation Act of 

2003 (JGTRRA) expired. By 2016, the deficit would 

decline to 0.4 percent of GDP, according to CBO’s baseline projections.

Total outlays are projected to remain relatively steady at 

roughly 20 percent of GDP over the next 10 years (see 

Summary Figure 1). Mandatory outlays are estimated to 

grow nearly 1.5 percentage points faster each year than 

nominal GDP does, but discretionary spending is assumed to increase at the rate of inflation and thus at 

about half the growth rate of GDP. (CBO projects that 

1. In March, CBO projected that the 2006 deficit would total $371 

billion if the President’s proposals for supplemental funding and 

other policy changes were enacted and $336 billion assuming that 

those changes to policy did not occur. (Supplemental appropriations similar to those proposed by the President were later 

enacted.) See Congressional Budget Office, An Analysis of the President’s Budgetary Proposals for Fiscal Year 2007 (March 2006).

2. Exceptions exist for mandatory programs established on or before 

the date the Balanced Budget Act of 1997 was enacted and for 

expiring excise taxes that are dedicated to trust funds.
X THE BUDGET AND ECONOMIC OUTLOOK: AN UPDATE

Summary Table 1.

CBO’s Baseline Budget Outlook

Source: Congressional Budget Office.

Note: n.a. = not applicable.

a. Off-budget surpluses comprise surpluses in the Social Security trust funds as well as the net cash flow of the Postal Service.

annual growth of nominal GDP will average 4.7 percent 

over the 2007–2016 period.)

The path of federal revenues over the next 10 years is

influenced by the scheduled expiration of numerous tax 

provisions originally enacted between 2001 and 2003. 

Through 2010, total revenues are projected to remain 

close to their 2006 level relative to the size of the economy: 18.3 percent of GDP. If the remaining tax provisions from EGTRRA and JGTRRA expire in December 

2010 as scheduled, revenues will rise sharply, reaching 

19.8 percent of GDP in 2016.

Individual income taxes account for the projected rise in 

revenues as a percentage of GDP over the next 10 years. 

Revenues from corporate income taxes are projected to 

peak this year at 2.6 percent of GDP (a level last reached 

in 1979) and then gradually diminish. Other sources of 

revenues, the largest of which is social insurance taxes, are 

estimated to remain relatively stable as a share of GDP.

The cumulative deficit for the 2007–2016 period in 

CBO’s baseline has risen by $1.0 trillion since the 

agency’s last set of baseline estimates (published in conjunction with its analysis of the President’s budget). However, the changes do not indicate a significant shift in the 

budgetary outlook; rather, they result mostly from extrapolating into future years nearly $95 billion in supplemental appropriations enacted since March, as required under 

the rules governing the baseline. Changes in the economic outlook and other (technical) estimating revisions 

have decreased projected deficits by about $80 billion a 

year for 2007 and 2008, about $50 billion for 2009, and 

an average of $28 billion a year for 2010 through 2016.

Total, Total,

Actual 2007- 2007-

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2011 2016

Total Revenues 2,154 2,403 2,515 2,672 2,775 2,890 3,156 3,398 3,555 3,733 3,922 4,118 14,007 32,733

Total Outlays 2,472 2,663 2,801 2,945 3,079 3,217 3,382 3,451 3,631 3,797 3,979 4,211 15,425 34,494 ____ ____ ____ ____ ____ ____ ____ ____ ____ ____ ____ ____ _____ _____

Total Deficit (-) or Surplus -318 -260 -286 -273 -304 -328 -227 -54 -76 -64 -56 -93 -1,418 -1,761

 On-budget -493 -437 -471 -478 -526 -567 -481 -318 -346 -340 -333 -369 -2,522 -4,228

 Off-budgeta 175 177 185 204 221 239 254 264 270 275 277 276 1,104 2,466

Debt Held by the Public

at the End of the Year 4,592 4,851 5,149 5,434 5,750 6,088 6,324 6,387 6,469 6,539 6,600 6,696 n.a. n.a.

Total Revenues 17.5 18.3 18.2 18.4 18.2 18.1 18.9 19.4 19.4 19.5 19.7 19.8 18.4 19.0

Total Outlays 20.1 20.3 20.3 20.3 20.2 20.1 20.2 19.7 19.9 19.9 19.9 20.2 20.2 20.1 ____ ____ ____ ____ ____ ____ ____ ____ ____ ____ ____ ____ ____ ____

Total Deficit -2.6 -2.0 -2.1 -1.9 -2.0 -2.0 -1.4 -0.3 -0.4 -0.3 -0.3 -0.4 -1.9 -1.0

Debt Held by the Public

at the End of the Year 37.4 37.0 37.3 37.5 37.7 38.1 37.8 36.5 35.4 34.2 33.1 32.2 n.a. n.a.

Memorandum:

Gross Domestic Product

(Billions of dollars) 12,294 13,108 13,823 14,509 15,236 15,989 16,727 17,488 18,286 19,109 19,951 20,827 76,284 171,945

In Billions of Dollars

As a Percentage of Gross Domestic Product
SUMMARY XI

Summary Figure 1.

Total Outlays and Revenues as a Percentage of Gross Domestic Product, 

1965 to 2016

Source: Congressional Budget Office.

Spending on Social Security, Medicare, and Medicaid is 

projected to grow rapidly during the 10-year period covered by CBO’s baseline (see Summary Figure 2); the resulting budgetary pressures will intensify in later years as 

the baby-boom generation ages and health care costs continue to rise. The percentage of the population age 65 or 

older will continue to increase (from 14 percent in 2016 

to more than 19 percent in 2030). In addition, health 

care costs are likely to keep growing faster than GDP, as 

they have over the past four decades. As a result, spending 

for Social Security, Medicare, and Medicaid will exert 

pressures on the budget that economic growth alone is 

unlikely to alleviate. Consequently, substantial reductions 

in the projected growth of spending and perhaps a sizable 

increase in taxes as a share of the economy will probably 

be necessary to maintain fiscal stability in the coming

decades.3

The Economic Outlook

Although the U.S. economy has been growing at a rapid 

rate since early 2003, its growth is likely to slow to a 

moderate, sustainable pace over the next year and a 

half. CBO forecasts that economic growth will diminish 

to an annual rate of 3 percent in real (inflation-adjusted) 

terms in the second half of this calendar year and then 

remain steady at that rate through 2007. Inflation in socalled core consumer prices (which exclude the more volatile prices of food and energy) will also moderate, CBO 

expects, dropping to 2 percent by the end of next year. 

CBO anticipates that the unemployment rate will average 

about 43⁄4 percent through 2007 and that the growth of 

productivity will be roughly 2 percent. Interest rates on 

Treasury securities will rise in the second half of this year, 

CBO forecasts, and then drop slightly during 2007.

Several major forces influence the economic outlook. 

Working to keep inflation under control, the Federal 

Reserve moved to a slightly restrictive stance in 2006, 

after having gradually removed the stimulus to shortterm growth that it had maintained for several years. As a 

result, interest rates—especially those for short-term

1965 1968 1971 1974 1977 1980 1983 1986 1989 1992 1995 1998 2001 2004 2007 2010 2013 2016

0

15

17

19

21

23

25

Average Outlays,

1965 to 2005

Outlays

Revenues

Average Revenues,

1965 to 2005

Actual Projected

3. For a detailed discussion of the long-term pressures facing the federal budget, see Congressional Budget Office, The Long-Term 

Budget Outlook (December 2005) and Updated Long-Term Projections for Social Security (June 2006).
XII THE BUDGET AND ECONOMIC OUTLOOK: AN UPDATE

Summary Figure 2.

Spending on Social Security, Medicare, 

and Medicaid as a Percentage of Gross 

Domestic Product, 1996 to 2016

Source: Congressional Budget Office.

securities—have increased. At the same time, energy 

prices have risen, largely as a result of developments in 

world markets for petroleum and petroleum products, 

and the housing market has begun a long-anticipated 

slowdown. Those factors are expected to restrain the 

growth of consumers’ purchases of goods and services, as 

higher interest rates reduce borrowing by consumers, 

higher energy prices reduce households’ real income, and 

the decline in the growth of house prices slows the rise in 

households’ wealth.

The outlook for investment by businesses in new structures, equipment, and software (business fixed investment) is bright. Demand for goods and services from 

domestic and foreign customers is still solid, so after 

investing at low rates in 2002 and 2003, businesses are 

now seeking to add capacity. In addition, firms’ profits 

are high, corporate debt is relatively low, and the cost of 

financing for investment is still favorable. 

Over the next 10 years, economic growth is projected to 

slow, as the members of the baby-boom generation begin 

to leave the labor force. In CBO’s estimation, average 

annual growth of real GDP will decline from 3 percent in 

2008 through 2011 to 2.6 percent in 2012 through 2016 

(see Summary Table 2). Both core and overall inflation, 

as measured by the growth of the price index for personal 

consumption expenditures, will average 2 percent over 

the 2008–2016 period, and the unemployment rate will 

average 5 percent. The average annual interest rate on 

three-month Treasury bills over the period will be about 

4.5 percent, CBO projects; the rate on 10-year notes will 

average 5.2 percent.

1996 2000 2004 2008 2012 2016

0

2

4

6

8

10

12

Social Security

Medicare

Medicaid

Actual Projected
SUMMARY XIII

Summary Table 2.

CBO’s Economic Projections for Calendar Years 2006 to 2016

(Percentage change)

Sources: Congressional Budget Office; Department of Commerce, Bureau of Economic Analysis (BEA); Department of Labor, Bureau of Labor 

Statistics; Federal Reserve Board.

Notes: GDP = gross domestic product.

Percentage changes are year over year.

a. Values are as of early July 2006, prior to revisions that BEA has since made to the national income and product accounts.

b. Level in 2011.

c. Level in 2016.

d. The personal consumption expenditure chained price index.

e. The personal consumption expenditure chained price index excluding prices for food and energy.

f. The consumer price index for all urban consumers.

g. The consumer price index excluding prices for food and energy.

12,487 13,308 13,993 16,914 b 21,052 c

6.4 6.6 5.1 4.9 4.5

3.5 3.5 3.0 3.0 2.6

2.8 3.0 2.0 1.8 1.8

2.8 3.0 2.4 2.0 2.0

2.0 2.2 2.3 2.0 2.0

3.4 3.5 2.5 2.2 2.2

2.2 2.6 2.5 2.2 2.2

5.1 4.7 4.8 5.0 5.0

3.1 4.8 5.0 4.5 4.4

4.3 5.1 5.4 5.2 5.2

2012 to 2016

Projected Annual Average

GDP Price Index

Nominal GDP (Billions of dollars)

2006 2007

Forecast

2008 to 2011

Actual

2005a

Three-Month Treasury Bill Rate (Percent)

Ten-Year Treasury Note Rate (Percent)

Core Consumer Price Indexg

Nominal GDP

Real GDP 

PCE Price Indexd

Core PCE Price Indexe

Consumer Price Indexf

Unemployment Rate (Percent)

CHAPTER

1

The Budget Outlook

The budget outlook for fiscal year 2006 has improved significantly in the five months since the Congressional Budget Office (CBO) released its previous set of 

baseline projections. CBO now expects this year’s deficit 

to total $260 billion, or about $58 billion less than last 

year’s budget shortfall (see Table 1-1). Relative to the size 

of the economy, the 2006 deficit is expected to equal 2.0 

percent of gross domestic product (GDP), down from 

2.6 percent in 2005. This year’s shortfall is smaller than 

the average budgetary outcome recorded since 1965: a 

deficit of 2.3 percent of GDP.

CBO’s current estimate of the 2006 deficit is $112 billion 

lower than the estimate it published in March, when it 

analyzed the President’s budgetary proposals.1 Higherthan-anticipated revenues⎯mostly from individual and 

corporate income taxes⎯account for the bulk of that 

change. CBO now expects 2006 revenues to exceed its 

March estimate (including the President’s proposals) by 

$99 billion, or about 4 percent. At the same time, 2006 

outlays are expected to fall short of CBO’s March estimate (including proposed supplemental appropriations) 

by $13 billion, or less than 0.5 percent. The main reason 

is lower-than-anticipated spending on the government’s 

major health care programs, Medicare and Medicaid.

Unlike the prospects for this year, the general budget outlook for the coming decade has not changed materially 

in the past five months. If current laws and policies continued unaltered⎯the assumption that, by law, guides 

CBO’s baseline projections⎯the deficit would rise to 2.1 

percent of GDP next year and then hover around 2 percent of GDP through 2010. At that point, it would 

decline sharply because of tax increases that are scheduled 

to occur when provisions originally enacted in the Economic Growth and Tax Relief Reconciliation Act of 2001 

(EGTRRA) and the Jobs and Growth Tax Relief Reconciliation Act of 2003 (JGTRRA) expire.2

 Between 2012 

and 2016, the deficit would range from 0.3 percent to 

0.4 percent of GDP (see Figure 1-1).

The current baseline projections include both higher outlays and higher revenues over the 2007–2016 period than 

CBO estimated in March. Because the baseline is required to show the path of spending and revenues under 

current laws and policies, it assumes the continuation 

(and inflation) of all appropriations enacted for the current year, including supplemental appropriations. Thus, 

CBO’s updated spending projections include the extrapolation and inflation of $95 billion in supplemental appropriations that were enacted in June, mainly for operations 

in Iraq and Afghanistan and hurricane relief.3

 Revenues 

grow more slowly in the current baseline than previously 

projected, but they start from a higher level in 2006. 

(The changes to CBO’s baseline projections since March 

are described in detail in Appendix A.)

Federal debt held by the public is expected to total about 

$4.85 trillion at the end of this fiscal year, or 37.0 percent 

of GDP, a slight decline from last year’s figure of 37.4 

percent. Under the assumptions of CBO’s baseline, however, federal debt would rise in each of the following four 

1. In March, CBO projected that the 2006 deficit would total $371 

billion if the President’s proposals for supplemental funding and 

other policy changes were enacted and $336 billion if no policy 

changes occurred. (Supplemental appropriations similar to those 

proposed by the President were later enacted.) CBO’s projections 

were published in Congressional Budget Office, An Analysis of the 

President’s Budgetary Proposals for Fiscal Year 2007 (March 2006).

2. The Tax Increase Prevention and Reconciliation Act of 2005 

extended lower tax rates for long-term capital gains and qualified 

dividends through 2010. The lower rates were originally enacted 

through 2008 in JGTRRA.

3. In fiscal year 2006, lawmakers have enacted a total of $153 billion 

in funding for activities in Iraq and Afghanistan and supplemental 

appropriations for other purposes. About $59 billion of those 

funds were provided in December 2005 and thus were included in 

CBO’s March baseline.
2 THE BUDGET AND ECONOMIC OUTLOOK: AN UPDATE

Table 1-1.

Projected Deficits and Surpluses in CBO’s Baseline

(Billions of dollars)

Source: Congressional Budget Office.

Note: * = between -$500 million and $500 million; GDP = gross domestic product; n.a. = not applicable.

a. Off-budget surpluses comprise surpluses in the Social Security trust funds as well as the net cash flow of the Postal Service.

years, reaching 38.1 percent of GDP in 2010. With the 

tax increases scheduled to occur at the end of that calendar year, debt held by the public would decline thereafter, 

falling to 32.2 percent of GDP in 2016. (By comparison, 

debt held by the public has ranged from about 24 percent 

to nearly 50 percent of GDP since 1965, averaging just 

over 35 percent.)

As a neutral benchmark for assessing policy proposals, 

CBO’s baseline does not incorporate possible policy 

changes that could alter the path of the federal budget. 

Lawmakers are certain to make decisions about discretionary spending that differ from the inflation-adjusted 

extrapolations that CBO is required to make. Other 

actions by the Congress and the President could cause 

mandatory spending or tax collections to be higher or 

lower than the baseline projections. 

To illustrate some of the possible paths that the budget 

might take, this chapter describes the budgetary implications of various alternative policy assumptions. For example, if military operations in Iraq and Afghanistan and 

other activities related to the war on terrorism were 

assumed to slow gradually over the next few years⎯rather 

than continue at their current level, as the baseline implicitly assumes⎯and if no other supplemental funding 

was provided, the total projected deficit for the 2007–

2016 period would equal 0.1 percent of GDP rather 

than 1.0 percent. Debt held by the public at the end of 

2016 would drop to 25 percent of GDP rather than 32 

percent. 

In contrast, if all of the tax provisions that are set to 

expire over the next 10 years were assumed to continue 

(except the higher exemption amounts for the alternative 

minimum tax, which are scheduled to expire at the end of 

calendar year 2006), the 10-year deficit would total 2.3 

percent of GDP, and debt held by the public would climb 

to 43 percent of GDP by the end of 2016.

Throughout the 2007–2016 period and beyond, increased spending on the nation’s elderly population is 

likely to put significant strains on the budget. Federal 

spending on the largest programs that serve elderly people⎯Social Security and Medicare⎯is expected to total 

7 percent of GDP this year. Without changes in law, that 

figure will rise to 9 percent of GDP in 10 years, CBO 

estimates, as health care costs continue to grow and the 

elderly population increases.

The outlook is similar for the joint federal/state Medicaid 

program, which subsidizes health care coverage for lowincome people. Federal spending for Medicaid is expected to rise rapidly in coming years because of increases

Total, Total,

Actual 2007- 2007-

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2011 2016

-493 -437 -471 -478 -526 -567 -481 -318 -346 -340 -333 -369 -2,522 -4,228

175 177 185 204 221 239 254 264 270 275 277 276 1,104 2,466 ____ ____ ____ ____ ____ ____ ____ ____ ____ ____ ____ ____ ______ ______

Total Deficit -318 -260 -286 -273 -304 -328 -227 -54 -76 -64 -56 -93 -1,418 -1,761

173 177 185 202 220 235 250 259 265 270 271 270 1,093 2,429

-2 * * -2 -1 -4 -4 -5 -5 -5 -5 -6 -11 -37

Percentage of GDP -2.6 -2.0 -2.1 -1.9 -2.0 -2.0 -1.4 -0.3 -0.4 -0.3 -0.3 -0.4 -1.9 -1.0

Debt Held by the Public

as a Percentage of GDP 37.4 37.0 37.3 37.5 37.7 38.1 37.8 36.5 35.4 34.2 33.1 32.2 n.a. n.a.

Postal Service Outlays

Total Deficit as a

On-Budget Deficit

Off-Budget Surplusa

Memorandum:

Social Security Surplus
CHAPTER ONE THE BUDGET OUTLOOK 3

Figure 1-1.

The Total Deficit or Surplus as a Percentage of Gross Domestic Product, 

1965 to 2016

(Percent)

Source: Congressional Budget Office.

in health care costs and in the number of elderly and disabled beneficiaries, many of whom require the long-term 

care that Medicaid subsidizes. CBO estimates that federal 

spending for Medicaid will grow from the current level of 

1.4 percent of GDP to 1.9 percent by 2016.

Those trends are likely to continue beyond the 10-year 

projection period. The share of the U.S. population that 

is age 65 or older is expected to keep rising, from 14 

percent in 2016 to more than 19 percent in 2030. In 

addition, health care costs are likely to continue to grow 

faster than GDP, as they have over the past 40 years. As a 

result, under current law, spending for Social Security, 

Medicare, and Medicaid will eventually exert such pressure on the budget as to make the current path of fiscal 

policy unsustainable.4

The Outlook for 2006

If no further legislation is enacted that affects spending or 

revenues in 2006, the federal deficit will fall to $260 billion (2.0 percent of GDP) this year from $318 billion 

(2.6 percent of GDP) in 2005, CBO estimates. Total outlays are projected to grow by almost 8 percent from last 

year’s level, but total revenues will grow faster: by nearly 

12 percent. Although lower than the increases in 2005, 

those growth rates are well above the averages of recent 

years (see Table 1-2). 

Revenues

On the basis of tax collections through July, CBO anticipates that federal revenues will rise sharply in 2006 for 

the second year in a row. After growing by 14.5 percent 

in 2005, total revenues are expected to increase by 11.6 

percent⎯or $249 billion⎯this year to just over $2.4 trillion. Those percentage increases are the highest in the 

past 25 years. As a share of GDP, revenues are expected to 

rise from 17.5 percent in 2005 to 18.3 percent this 

year⎯slightly higher than the 18.2 percent average of the 

past four decades.

1965 1968 1971 1974 1977 1980 1983 1986 1989 1992 1995 1998 2001 2004 2007 2010 2013 2016

-7

-6

-5

-4

-3

-2

-1

0

1

2

3

Actual Projected

4. For a detailed discussion of the longer-term pressures facing the 

federal budget, see Congressional Budget Office, The Long-Term 

Budget Outlook (December 2005) and Updated Long-Term Projections for Social Security (June 2006). 
4 THE BUDGET AND ECONOMIC OUTLOOK: AN UPDATE

Table 1-2.

Average Annual Growth Rates of Revenues and Outlays Since 1994 and in

CBO’s Baseline

(Percent)

Source: Congressional Budget Office.

Note: The growth rates in this table do not account for shifts in the timing of certain payments or receipts.

a. As specified by the Balanced Budget and Emergency Deficit Control Act of 1985, CBO’s baseline uses the employment cost index for 

wages and salaries to inflate discretionary spending related to federal personnel and the price index for gross domestic product (formerly 

the GDP deflator) to adjust other discretionary spending.

b. Includes offsetting receipts.

c. Includes funding provided through supplemental appropriations (as well as a rescission in 2006 of $23 billion in budget authority originally provided in 2005 to the Federal Emergency Management Agency). Excluding those factors would change the growth rate for nondefense discretionary budget authority in 2006 to 0.2 percent and the rate in 2007 to 3.4 percent.

2005 2007

Individual Income Taxes 4.1 14.6 14.3 7.8 7.5

3.0 47.0 22.2 -1.0 0.3

4.7 8.3 5.0 4.8 4.6

Other 2.7 3.8 10.2 -4.7 6.0

Total Revenues 4.1 14.5 11.6 4.6 5.6

Mandatory 5.6 6.7 7.4 4.8 6.1

Social Security 4.5 5.5 5.9 6.0 5.8

Medicare 6.4 12.0 11.8 19.6 8.2

Medicaid 7.9 3.1 -0.1 7.4 8.1

Otherb 5.5 5.3 9.7 -16.2 0.3

Discretionary 5.2 8.1 5.9 4.0 2.5

Defense 4.9 8.7 5.8 5.4 2.7

Nondefense 5.5 7.4 5.9 2.5 2.3

-2.3 14.8 19.7 13.1 3.3

Total Outlays 4.6 7.8 7.7 5.2 4.6

Total Outlays Excluding Net Interest 5.4 7.3 6.8 4.5 4.8

Memorandum:

Consumer Price Index 2.4 3.3 3.7 2.7 2.2

5.2 6.5 6.6 5.5 4.7

Discretionary Budget Authority 5.9 8.7 0.9 5.5 2.3

Defense 6.4 2.9 11.4 2.8 2.4

Nondefensec 5.4 15.4 -9.9 8.9 2.3

Outlays

Net Interest

Nominal Gross Domestic Product

2007-2016

Actual Projecteda

Social Insurance Taxes

Revenues

Corporate Income Taxes

Estimated

1994-2004 2006
CHAPTER ONE THE BUDGET OUTLOOK 5

Receipts from individual income taxes account for most 

of the rise in revenues relative to GDP. Those receipts are 

projected to climb from 7.5 percent of GDP in 2005 to 

8.1 percent this year (see Table 1-3). In addition, receipts 

from corporate income taxes are expected to grow 

strongly for the third consecutive year, increasing from 

2.3 percent of GDP in 2005 to 2.6 percent in 2006, consistent with rising corporate profits. 

Individual Income and Social Insurance Taxes. Together, 

receipts from individual income taxes and social insurance (payroll) taxes will increase this year by $172 billion, 

or 10 percent, CBO projects. Individual income taxes 

make up the bulk of that increase, jumping by more than 

14 percent to nearly $1.1 trillion. Social insurance tax 

receipts are projected to rise more modestly: by 5 percent, 

to $834 billion. 

Most individual income and social insurance taxes are 

paid in two forms: 

B As amounts that employers withhold from paychecks 

and remit to the federal government on behalf of their 

employees;5

 and 

B As nonwithheld amounts that individuals pay directly, 

either in quarterly estimated installments or when 

they file their income tax returns.6

Withheld receipts for individual income and payroll taxes 

are expected to climb by a total of $108 billion, or more 

than 7 percent, in 2006. That percentage increase would 

be the highest since 2000, when withheld taxes rose by 

10 percent. The recent increase in withholding indicates 

that total wages and salaries in the economy are growing 

strongly, which is broadly consistent with recent income 

data from the national income and product accounts 

(NIPAs).

Nonwithheld receipts of income and payroll taxes are 

projected to rise by about $70 billion this year. That rise 

would represent increases of about 20 percent in both 

forms of nonwithheld receipts: final payments made with 

tax returns and quarterly estimated payments. (Refunds 

are expected to increase by $8 billion, or 4 percent.) 

CBO’s estimate for final payments is based on the payments made through July, which indicate strong growth 

in calendar year 2005 in sources of income other than 

wages and salaries. Those sources include capital gains, 

noncorporate business income, interest, dividends, and 

retirement income. The specific sources of that strength 

may become clearer by the end of this calendar year when 

aggregate data from 2005 tax returns are tabulated. In 

about a year, information will be available about the distribution of sources of income among different types of 

taxpayers in calendar year 2005, which affects the tax rate 

applied to that income.

Quarterly estimated payments made in fiscal year 2006 

mainly represent people’s expectations of their tax liability 

on economic activity in calendar year 2006. To some 

degree, taxpayers probably responded to higher nonwage 

income and final payments on their activity in 2005 by 

raising their subsequent estimated payments in 2006—in 

effect, assuming that those amounts of income and tax 

liability would persist.

Corporate Income Taxes. Receipts from corporate income taxes will rise by 22 percent in fiscal year 2006 to 

$340 billion, CBO projects. That rise reflects the growth 

of before-tax corporate profits (as measured in the 

NIPAs), which are expected to increase by about 30 

percent this year. After three years of strong profits, corporate tax receipts as a share of GDP are at levels not seen 

since the late 1970s.

The growth rate of corporate receipts has slowed somewhat in recent months, however. Total receipts from

October 2005 through March 2006 (which largely reflect 

economic activity from calendar year 2005) were about 

30 percent higher than receipts in the same period a year 

earlier. Total receipts from April through June 2006 

(which largely reflect economic activity in calendar year 

2006) were 23 percent higher than a year ago. Receipts

in the month of June were 19 percent higher than in June 

2005. CBO expects additional slowing in the growth 

of quarterly corporate income tax payments due in 

September. 

5. Employers remit a combined amount of withheld taxes to the 

Internal Revenue Service without specifying how much comes 

from income taxes and how much from payroll taxes. The Treasury Department estimates the division between the two sources 

of revenue when it receives withheld amounts. Months later, it 

corrects those estimates as new data become available. Thus, when 

CBO analyzes recent information about collections of withheld 

taxes, it considers income and payroll taxes together to avoid using 

Treasury estimates that may be adjusted later. 

6. Many taxpayers also receive income tax refunds after filing returns 

that show that their amounts of withholding plus quarterly estimated payments exceeded their tax liability.
6 THE BUDGET AND ECONOMIC OUTLOOK: AN UPDATE

Table 1-3.

CBO’s Baseline Budget Projections

Source: Congressional Budget Office.

Note: n.a. = not applicable.

Total, Total,

Actual 2007- 2007-

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2011 2016

927 1,059 1,142 1,246 1,311 1,392 1,595 1,737 1,846 1,951 2,065 2,186 6,686 16,473

278 340 337 332 317 304 312 326 314 324 334 345 1,602 3,244

794 834 874 918 964 1,013 1,060 1,109 1,159 1,210 1,262 1,314 4,828 10,882

154 170 162 176 183 181 188 225 236 247 262 273 890 2,134 _____ _____ _____ _____ _____ _____ _____ _____ _____ _____ _____ _____ ______ ______

2,154 2,403 2,515 2,672 2,775 2,890 3,156 3,398 3,555 3,733 3,922 4,118 14,007 32,733

On-budget 1,576 1,798 1,878 2,001 2,068 2,146 2,377 2,583 2,704 2,845 2,996 3,153 10,471 24,751

Off-budget 577 605 637 671 707 744 779 815 851 888 926 965 3,536 7,982

1,320 1,418 1,486 1,569 1,659 1,759 1,882 1,926 2,071 2,204 2,351 2,543 8,355 19,449

968 1,025 1,065 1,106 1,138 1,164 1,192 1,209 1,241 1,269 1,299 1,335 5,666 12,018

184 220 249 270 282 295 308 317 319 324 329 333 1,404 3,026 _____ _____ _____ _____ _____ _____ _____ _____ _____ _____ _____ _____ ______ ______

2,472 2,663 2,801 2,945 3,079 3,217 3,382 3,451 3,631 3,797 3,979 4,211 15,425 34,494

On-budget 2,070 2,235 2,349 2,479 2,594 2,713 2,858 2,900 3,050 3,184 3,329 3,522 12,993 28,978

Off-budget 402 428 451 466 485 505 525 551 581 613 650 689 2,432 5,516

-318 -260 -286 -273 -304 -328 -227 -54 -76 -64 -56 -93 -1,418 -1,761

-493 -437 -471 -478 -526 -567 -481 -318 -346 -340 -333 -369 -2,522 -4,228

175 177 185 204 221 239 254 264 270 275 277 276 1,104 2,466

4,592 4,851 5,149 5,434 5,750 6,088 6,324 6,387 6,469 6,539 6,600 6,696 n.a. n.a.

12,294 13,108 13,823 14,509 15,236 15,989 16,727 17,488 18,286 19,109 19,951 20,827 76,284 171,945

7.5 8.1 8.3 8.6 8.6 8.7 9.5 9.9 10.1 10.2 10.3 10.5 8.8 9.6

2.3 2.6 2.4 2.3 2.1 1.9 1.9 1.9 1.7 1.7 1.7 1.7 2.1 1.9

6.5 6.4 6.3 6.3 6.3 6.3 6.3 6.3 6.3 6.3 6.3 6.3 6.3 6.3

1.3 1.3 1.2 1.2 1.2 1.1 1.1 1.3 1.3 1.3 1.3 1.3 1.2 1.2 ____ ____ ____ ____ ____ ____ ____ ____ ____ ____ ____ ____ ____ ____

17.5 18.3 18.2 18.4 18.2 18.1 18.9 19.4 19.4 19.5 19.7 19.8 18.4 19.0

On-budget 12.8 13.7 13.6 13.8 13.6 13.4 14.2 14.8 14.8 14.9 15.0 15.1 13.7 14.4

Off-budget 4.7 4.6 4.6 4.6 4.6 4.7 4.7 4.7 4.7 4.6 4.6 4.6 4.6 4.6

10.7 10.8 10.8 10.8 10.9 11.0 11.2 11.0 11.3 11.5 11.8 12.2 11.0 11.3

7.9 7.8 7.7 7.6 7.5 7.3 7.1 6.9 6.8 6.6 6.5 6.4 7.4 7.0

1.5 1.7 1.8 1.9 1.9 1.8 1.8 1.8 1.7 1.7 1.6 1.6 1.8 1.8 ____ ____ ____ ____ ____ ____ ____ ____ ____ ____ ____ ____ ____ ____

20.1 20.3 20.3 20.3 20.2 20.1 20.2 19.7 19.9 19.9 19.9 20.2 20.2 20.1

On-budget 16.8 17.0 17.0 17.1 17.0 17.0 17.1 16.6 16.7 16.7 16.7 16.9 17.0 16.9

Off-budget 3.3 3.3 3.3 3.2 3.2 3.2 3.1 3.1 3.2 3.2 3.3 3.3 3.2 3.2

-2.6 -2.0 -2.1 -1.9 -2.0 -2.0 -1.4 -0.3 -0.4 -0.3 -0.3 -0.4 -1.9 -1.0

-4.0 -3.3 -3.4 -3.3 -3.4 -3.5 -2.9 -1.8 -1.9 -1.8 -1.7 -1.8 -3.3 -2.5

1.4 1.4 1.3 1.4 1.5 1.5 1.5 1.5 1.5 1.4 1.4 1.3 1.4 1.4

37.4 37.0 37.3 37.5 37.7 38.1 37.8 36.5 35.4 34.2 33.1 32.2 n.a. n.a.

Revenues

Individual income taxes

Debt Held by the Public

Total

Deficit (-) or Surplus

On-budget 

Off-budget

Net interest

Corporate income taxes

Social insurance taxes

Other

Total

Outlays

Discretionary spending

Mandatory spending

Off-budget

Debt Held by the Public

Memorandum:

Gross Domestic Product

Deficit (-) or Surplus

On-budget 

Revenues

Individual income taxes

Corporate income taxes

Social insurance taxes

In Billions of Dollars

As a Percentage of Gross Domestic Product

Other

Total

Outlays

Discretionary spending

Mandatory spending

Net interest

Total
CHAPTER ONE THE BUDGET OUTLOOK 7

That deceleration throughout 2006 stems in part from 

the dwindling effects of changes in tax law—mainly the 

expiration of partial-expensing provisions for businesses 

at the end of calendar year 2004. That expiration boosted 

corporations’ profits and thus tax liabilities in tax year 

2005, with part of the effect showing up in tax receipts 

in fiscal year 2006. In addition, growth in underlying 

corporate profits has probably slowed in recent months, 

although direct measures are not readily available. 

Outlays

CBO estimates that total federal outlays will grow by 

$191 billion, or 7.7 percent, this year to almost $2.7 trillion. As a share of GDP, outlays will equal 20.3 percent in 

2006—slightly higher than last year’s figure of 20.1 percent of GDP but just below the 20.5 percent average 

since 1965. 

Spending for mandatory programs is expected to account 

for more than half of the increase in federal outlays this 

year, rising by $98 billion. Outlays for discretionary programs are projected to increase by $57 billion. The government’s net interest costs—the fastest growing major 

component of federal spending—will rise by $36 billion 

in 2006, CBO estimates.7

Mandatory Spending. Outlays for mandatory programs 

are generally determined by eligibility rules and benefit 

levels set in law rather than through the annual appropriation process. The growth of such spending is projected 

to speed up this year: to 7.4 percent from a 6.7 percent 

increase in 2005. CBO anticipates that mandatory 

spending will total just over $1.4 trillion for 2006.

Outlays for Social Security, the single biggest mandatory 

spending program, will rise by 5.9 percent this year, CBO 

estimates. Its growth results from an increasing number 

of recipients and from a relatively large cost-of-living 

adjustment (4.1 percent) in January, which raised benefit 

payments. 

Medicare outlays are expected to rise twice as fast as Social Security spending in 2006⎯by 11.8 percent⎯largely 

because of the ramping up of the new prescription drug 

program. That percentage increase from 2005 outlays, 

however, understates the growth in Medicare spending. A 

shift in certain payments from October to September 

2005 and a legislated delay in payments at the end of this 

fiscal year have moved an estimated $11.3 billion in 

Medicare outlays from fiscal year 2006 into 2005 and 

2007. Adjusted for those timing shifts, outlays for Medicare benefits will jump by 16.7 percent in 2006.8

By contrast, federal spending for Medicaid will remain 

roughly flat this year, CBO estimates. One reason is that 

the new Medicare prescription drug program is now paying for some benefits that were previously funded by 

Medicaid.

Outlays for some smaller mandatory programs are 

expected to jump significantly in 2006. In particular, the 

federal government will spend a net $17 billion this year 

on the flood insurance program⎯up from $1 billion in 

2005⎯because of damage from Hurricane Katrina and 

other storms. Outlays recorded for education programs 

(mostly student loans) are expected to rise from $15 billion last year to $28 billion this year, mainly because of 

revisions to previous estimates of subsidy costs for loans 

and loan guarantees issued in past years.

Spending on income security programs, including Supplemental Security Income (SSI) and unemployment 

compensation, is expected to grow modestly this year, by 

about 2 percent. Outlays for other federal retirement and 

disability programs will increase by 3 percent over last 

year’s amounts, CBO estimates. However, those figures 

reflect shifts in the timing of SSI payments as well as veterans’ disability compensation and pension benefits. Payments for October 2005 were made in the previous fiscal 

year (2005 instead of 2006) because October 1 fell on a 

weekend. A similar shift will occur this year. Adjusted for 

those shifts, outlays for income security programs would 

be 3 percent higher in 2006 than they were last year, and 

total spending for federal retirement and disability programs would be 5 percent higher.

Discretionary Spending. Outlays for discretionary programs⎯the part of the budget whose funding is set anew 

each year through appropriation acts⎯are likely to rise to 

just over $1 trillion this year from $968 billion in 2005. 

That increase of 5.9 percent is lower than last year’s 

7. “Net interest” refers to the government’s interest payments on 

debt held by the public, offset by its interest income on federal 

loans and investments and by the earnings of the National Railroad Retirement Investment Trust.

8. Beneficiaries’ premium payments and other types of Medicare 

receipts are also expected to rise sharply this year, by more than 

28 percent. Net of those receipts, Medicare outlays (adjusted for 

shifts in the timing of payments) will grow by 15.1 percent this 

year to $335 billion, CBO estimates.
8 THE BUDGET AND ECONOMIC OUTLOOK: AN UPDATE

8.1 percent rise but higher than the 5.2 percent average 

annual increase of recent years (see Table 1-2 on page 4).

Roughly half of discretionary outlays are spent on 

national defense. CBO estimates that defense outlays will 

total $522 billion in 2006—an increase of 5.8 percent 

from last year. (Adjusted for a shift in the timing of military pay, the growth rate in 2006 would be 6.7 percent.) 

By comparison, defense outlays grew at an average annual 

rate of 12.7 percent from 2002 through 2005. 

Budget authority for defense programs is up by 11.4 percent this year, largely because of $124 billion in additional appropriations for military operations in Iraq and 

Box 1-1.

Funding for Activities in Iraq and the War on Terrorism

Since September 2001, the Congress and the President have provided a total of $432 billion in budget 

authority for military and diplomatic operations in 

Iraq, Afghanistan, and other regions in support of the 

war on terrorism (see the table at right). Over 90 percent of that total has been appropriated for activities 

that are categorized in the budget as national defense; 

the rest is for activities that are categorized as international affairs.

Funding for defense operations has totaled $381 billion thus far. Of that amount, nearly all has gone to 

the Department of Defense (DoD); funding for intelligence agencies and the Coast Guard accounts for 

less than 1 percent of that total. In addition, $12 billion was appropriated in fiscal years 2005 and 2006 

combined to train and equip indigenous security 

forces in Iraq and Afghanistan. (Another $5 billion 

was provided for Iraqi security forces in 2004, but 

because it was appropriated to the State Department’s 

Iraq Relief and Reconstruction Fund, it was classified 

as spending for international affairs.) With that $12 

billion included, appropriations for defense-related 

activities in Iraq, Afghanistan, and the war on terrorism since September 2001 have totaled $393 billion.

Determining exactly how much of that budget 

authority has been spent is difficult. Reports by the 

Treasury Department do not distinguish between 

outlays from regular appropriations and outlays from 

supplemental appropriations, nor do they distinguish 

between spending for peacetime operations and 

spending associated with the war on terrorism. 

Information from DoD indicates that the department has obligated almost all of the $277 billion in 

appropriations that it received before 2006 for operations in Iraq and Afghanistan and for antiterrorism 

activities. Reports from DoD suggest that through 

May 2006, it had probably obligated almost all of the 

$50 billion that was provided for those purposes in 

December 2005 as part of its 2006 appropriation act 

(Public Law 109-148). The Congressional Budget 

Office (CBO) cannot precisely estimate the amounts 

obligated to date because DoD has not furnished 

information about the obligation of funds appropriated for classified activities or for the restructuring of 

Army and Marine Corps units.

DoD reports that since the beginning of fiscal year 

2005, it has obligated about $7 billion per month for 

Operations Iraqi Freedom, Enduring Freedom (in 

Afghanistan), and Noble Eagle (antiterrorism activities in the United States). Operation Iraqi Freedom 

has accounted for about 84 percent of the reported 

obligations, Operation Enduring Freedom for 14 

percent, and Operation Noble Eagle for 2 percent.

In addition to funding for defense-related activities, 

the Congress and the President have appropriated 

just over $34 billion for diplomatic operations and 

foreign aid to Iraq, Afghanistan, and other countries 

assisting the United States in Iraq and in the war on 

terrorism. Including the $5 billion provided in 2004 

to the State Department for Iraqi security forces, 

funding for activities related to international affairs 

has totaled $39 billion. About half of that total, or 

$21 billion, has been appropriated for the Iraq Relief 

and Reconstruction Fund, of which slightly more 

than 90 percent has been obligated. On the basis of 

information from the State Department, CBO estimates that most of the other $18 billion has also been 

obligated.
CHAPTER ONE THE BUDGET OUTLOOK 9

Afghanistan and other defense activities.9 Much of that 

budget authority will be spent in coming years. Without 

those additional appropriations, budget authority for 

defense would be just 2.8 percent higher in 2006 than it 

was last year. (For an overview of funding for activities in 

Iraq and Afghanistan and the war on terrorism since 

2001, see Box 1-1.)

Nondefense discretionary outlays are expected to increase 

from $474 billion in 2005 to $502 billion this year—a 

rise of 5.9 percent, down from last year’s 7.4 percent 

growth. Most of this year’s increase reflects spending on 

relief from Hurricane Katrina and other storms.10 All 

other nondefense discretionary outlays, as a whole, are 

about equal to last year’s level. Budget authority for nonBox 1-1.

Continued

Estimated Appropriations Provided for Iraq and the War on Terrorism Since 2001

(Billions of dollars of budget authority)

Source: Congressional Budget Office.

Note: * = between zero and $500 million.

a. CBO estimated the appropriations provided for Operation Iraqi Freedom by allocating funds on the basis of obligations reported 

by the Department of Defense. For more information about funding for Operation Iraqi Freedom, see Congressional Budget 

Office, Estimated Costs of U.S. Operations in Iraq Under Two Specified Scenarios (July 13, 2006). 

b. Includes Operation Enduring Freedom (in and around Afghanistan), Operation Noble Eagle (homeland security missions, such as 

combat air patrols, in the United States), the restructuring of Army and Marine Corps units, classified activities other than those 

funded by appropriations for the Iraq Freedom Fund, and other operations. (For 2005 and 2006, funding for Operation Noble 

Eagle has been intermingled with regular appropriations for the Department of Defense; that funding is not included in this table 

because it cannot be identified separately.)

c. Funding for indigenous security forces is used to train and equip local military and police units in Iraq and Afghanistan.

2001 2002 2003 2004 2005 2006

0 0 46 68 53 87 254

14 18 34 21 18 24 128

__ __ __ __ __ ___ ___

14 18 80 88 70 111 381

0 0 0 5 6 3 14

0000123

_ _ _ _ _ _ __

0 0 0 5 7 5 17

0 0 3 15 1 3 22

* 2 5 2 2 1 12

_ _ _ __ _ _ __

* 2 8 17 3 4 34

Total 14 19 88 111 81 120 432

Subtotal

Diplomatic Operations and 

Foreign Aid

Afghanistan

Iraq

Other

Subtotal

Subtotal

Indigenous Security Forcesc

Iraqa

Otherb

Iraq

Defense Operations

Total,

2001-2006

9. Appropriations related to Iraq and Afghanistan have totaled $116 

billion for military operations and $4 billion for nondefense activities in 2006. In addition, supplemental appropriations have provided $8 billion for other defense programs this year.

10. A total of $87 billion in supplemental appropriations for hurricane relief has been provided over the past two years⎯$62 billion 

in 2005 and $48 billion in 2006. (About $23 billion of the 2005 

appropriation was subsequently rescinded.)
10 THE BUDGET AND ECONOMIC OUTLOOK: AN UPDATE

defense programs (excluding supplemental appropriations of $78 billion for 2005 and $29 billion for 2006) is 

also nearly unchanged this year relative to last year’s level: 

such funding has risen by just 0.2 percent.

Net Interest. Federal outlays for net interest payments 

will jump by 19.7 percent in 2006 to a total of $220 billion, CBO estimates. That growth rate—following on 

last year’s 14.8 percent increase—represents a sharp reversal from the previous 10 years, when net interest payments averaged a decline of 2.3 percent per year. 

About half of this year’s increase results from rising shortterm interest rates. Other key factors that add to projected interest spending are growth in the amount of federal debt held by the public and rising inflation (which 

boosts interest accruals on inflation-indexed Treasury 

securities).

Baseline Budget Projections for 

2007 Through 2016

CBO projects that if current laws and policies remained 

the same, the annual budget deficit would increase next 

year to 2.1 percent of GDP and then return to roughly 

the current level of 2.0 percent of GDP until 2010. After 

that, scheduled tax increases cause the projected baseline 

deficit to drop sharply⎯to 1.4 percent of GDP in 2011 

and 0.3 percent in 2012⎯and then remain between 0.3 

percent and 0.4 percent of GDP through 2016. 

Under the assumptions of the baseline, both outlays and 

revenues grow more slowly in 2007 than they are expected to do this year. Outlays rise by 5.2 percent to $2.8 

trillion, and revenues grow by 4.6 percent to $2.5 trillion. 

Relative to the size of the economy, outlays equal 20.3 

percent of GDP in 2007, and revenues equal 18.2 percent. Both of those percentages are higher than CBO estimated in March (see Appendix A). 

Because the baseline charts the future path of spending 

and revenues under current laws and policies, it is not 

intended to be a prediction of future budgetary outcomes. Rather, the baseline serves as a neutral benchmark 

that lawmakers can use to measure the effects of proposed 

changes to spending and taxes.

Outlays

Under the assumptions of the baseline, total outlays are 

projected to average roughly 20 percent of GDP throughout the next 10 years. Mandatory spending—which is 

projected to grow more than a percentage point faster per 

year than nominal GDP—rises from 10.8 percent of 

GDP this year to 12.2 percent in 2016. The baseline 

assumes that discretionary spending grows at the rate of 

inflation (which is lower than the growth rate of GDP); 

thus, discretionary outlays fall from 7.8 percent of GDP 

this year to 6.4 percent in 2016. Spending on net interest 

is projected to increase as a percentage of GDP until 

2008 because of continued deficits and because the Treasury will have to refinance maturing debt at interest rates 

that are projected to be higher than the rates at which the 

securities were initially issued. In later years of the 10-year 

projection period, net interest spending gradually falls as 

a percentage of GDP as annual deficits decline (primarily 

because of the tax increases that are scheduled to occur 

under current law).

Mandatory Spending. Outlays for mandatory programs 

are expected to total almost $1.5 trillion in 2007, with 

the vast majority going for Social Security, Medicare, and 

Medicaid. CBO estimates that under current law, mandatory spending will grow at an average rate of 6.1 percent a 

year over the 2007–2016 period, reaching $2.5 trillion by 

2016 (see Table 1-4 on page 12). Spending on the largest 

federal health care programs is expected to grow faster 

than that average rate; spending on most other mandatory programs is projected to grow more slowly.

As members of the baby-boom generation start becoming 

eligible for early Social Security retirement benefits in 

2008, the growth of Social Security will accelerate. The 

number of people receiving benefits will rise from 49 

million this year to 61 million by 2016, CBO estimates. 

At that point, outlays for Social Security will total 4.7 

percent of GDP (or $970 billion), compared with 

4.2 percent of GDP ($582 billion) in 2007. 

In the absence of program changes, spending for Medicare will continue its strong growth, as caseloads increase 

and the costs of services rise. Once the new prescription 

drug benefit is fully phased in next year, the annual 

growth of Medicare spending is projected to speed up 

from about 7.4 percent in the 2008–2010 period to 

nearly 9 percent by 2016. CBO projects that outlays for 

Medicare benefits will rise from 3.2 percent of GDP 

($446 billion) in 2007 to 4.4 percent of GDP ($909 billion) in 2016. 
CHAPTER ONE THE BUDGET OUTLOOK 11

Spending for the Medicaid program has not grown at all 

this year, in part because Medicare is beginning to assume 

the cost of prescription drugs for people who are eligible 

for both programs. However, CBO expects Medicaid outlays to rise steadily over the next 10 years, at an average 

rate of about 8 percent annually. By 2016, federal outlays 

for Medicaid will equal 1.9 percent of GDP ($392 billion), up from an estimated 1.4 percent of GDP ($195 

billion) in 2007. 

Under current law, spending for mandatory programs 

other than Social Security, Medicare, and Medicaid is 

projected to decline over the next 10 years relative to the 

size of the economy⎯from 3.1 percent of GDP (about 

$432 billion) to 2.6 percent ($534 billion). Some of 

those programs are projected to grow moderately (in 

nominal terms) and some to shrink. For example, payments for other retirement and disability programs will 

increase steadily over the 2007–2016 period, CBO 

projects, at an average rate of 3.8 percent a year. But 

outlays for the refundable portion of the earned income 

and child tax credits are projected to fall sharply in 

2012, reflecting the expiration of various provisions of 

EGTRRA at the end of calendar year 2010. Flood insurance payments also are projected to be much lower than 

they have been this year, falling back to historical levels 

after recent increases related to Hurricane Katrina and 

other storms.

Offsetting receipts⎯certain types of payments from nonfederal entities to the federal government and from one 

federal agency to another⎯are reflected in the budget as 

negative outlays and thus as offsets to mandatory spending. The bulk of offsetting receipts are intragovernmental 

payments made by federal agencies to finance their employees’ benefits and premiums paid by Medicare beneficiaries. Total Medicare premiums are expected to increase 

by about 30 percent in 2007, the first full fiscal year of 

enrollment in the Medicare prescription drug program.11

As a whole, offsetting receipts will rise from about 1.2 

percent of GDP ($169 billion) in 2007 to 1.3 percent of 

GDP ($263 billion) in 2016 under current law, CBO 

projects.

Discretionary Spending. In CBO’s latest baseline projections, total discretionary outlays increase at an average 

rate of 2.7 percent annually, from nearly $1.1 trillion next 

year to more than $1.3 trillion in 2016 (see Table 1-5 on 

page 14).12 Relative to GDP, discretionary outlays fall 

from 7.7 percent in 2007 to 6.4 percent in 2016. (The 

budgetary effects of alternative assumptions about the 

growth of discretionary spending are discussed later in 

this chapter.)

CBO’s projections of discretionary spending for the 

2007–2016 period are based on the total amount of 

funding provided for 2006. That amount includes regular appropriations as well as supplemental appropriations 

that have been enacted at various times during the year. 

For example, in June, the 2006 Emergency Supplemental 

Appropriations Act for Defense, the Global War on Terror, and Hurricane Recovery provided $94.7 billion in 

budget authority, primarily for operations in Iraq and Afghanistan ($70.4 billion), hurricane relief ($20.0 billion), 

avian flu preparedness ($2.3 billion), and other activities 

($2.0 billion). That budget authority, along with about 

$59 billion in net funding enacted in December, brings 

total appropriations for activities in Iraq and Afghanistan 

and supplemental funding for other purposes to $153

billion (net of rescissions) in 2006 (see Table 1-6 on 

page 15). That amount of additional funding is about the 

same as the $157 billion provided in 2005. 

The magnitude of supplemental appropriations and the 

irregular pattern of funding for military operations in 

Iraq and Afghanistan have significant implications for 

CBO’s projections of discretionary outlays. The amount 

of funding provided through supplemental appropriations—rather than as part of the regular appropriation 

process—has grown markedly in recent years. For example, supplemental funding for disaster relief averaged 

about $5 billion per year between 1994 and 2004 before 

shooting up to $62 billion in 2005 and $48 billion in 

2006 in the wake of severe damage from Hurricane Katrina and other storms ($23 billion of the 2005 funding 

was later rescinded). Such supplemental appropriations 

11. Both the premiums paid by enrollees in the Medicare drug program and the amounts withheld from federal Medicaid payments 

to states and transferred to Medicare are recorded as offsetting 

receipts.

12. According to the Deficit Control Act, the baseline must assume 

that discretionary spending continues at the level of the most 

recent appropriations, with annual increases based on two projected rates of inflation: the GDP deflator, now known as the 

GDP price index (which covers price changes for all of the goods 

and services that contribute to gross domestic product), and the 

employment cost index for wages and salaries.
12 THE BUDGET AND ECONOMIC OUTLOOK: AN UPDATE

Table 1-4.

CBO’s Baseline Projections of Mandatory Spending

(Outlays, in billions of dollars)

Continued

are extrapolated for each future year of the baseline, 

regardless of whether they are likely to continue at the 

current-year level throughout the projection period. 

The timing of such additional funding can cause sharp 

swings in CBO’s projections of total discretionary outlays 

over 10 years. For example, the current baseline extrapolates the $120 billion provided for military operations 

and other defense activities in Iraq and Afghanistan for 

2006. However, only $50 billion of that total had been 

provided when CBO completed its previous baseline in 

March. As a result of such additional appropriations, 

CBO’s projection of defense outlays over the 2007–2016 

period is $721 billion higher now than it was in March. 

When CBO next updates its projections, in January 

2007, it will do so on the basis of appropriations provided as of that date for fiscal year 2007.13

Net Interest. Under the assumptions of the baseline, net 

interest costs are one of the fastest growing components 

of the federal budget. They are projected to rise from 

$220 billion this year to $308 billion in 2011 (see Table 

1-7 on page 16)—an average annual increase of 7 percent. After 2011, net interest rises more slowly, by about 

1.6 percent a year, to $333 billion in 2016. About 80 percent of the total increase, or roughly $90 billion, reflects 

interest costs on the additional $1.8 trillion that the federal government is projected to borrow from the public 

(through sales of Treasury securities) between 2006 and 

2016. Most of the rest of that increase occurs because the 

Treasury will need to refinance maturing notes and bonds 

with new issues that are likely to carry higher interest 

Total, Total,

Actual 2007- 2007-

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2011 2016

519 549 582 612 643 679 716 759 806 856 911 970 3,231 7,534

333 372 446 475 512 549 605 613 682 742 808 909 2,586 6,340

182 181 195 213 232 249 269 290 312 337 363 392 1,158 2,852

38 37 36 41 43 44 50 44 49 51 53 59 214 470

49 52 53 54 55 54 54 37 37 37 38 38 271 458

33 31 32 35 39 42 44 46 48 50 52 55 191 443

33 35 35 35 36 37 37 38 39 40 41 42 179 379

24 24 24 24 24 24 24 24 24 24 25 25 120 242

13 14 14 15 16 16 17 18 18 19 20 21 78 174

6 7 7 7 7 8 8 8 8 9 9 9 37 80 ___ ___ ___ ___ ___ ___ ___ ___ ___ ___ ___ ___ _____ _____

196 200 202 212 219 225 234 215 225 231 237 248 1,091 2,247

64 68 72 75 78 81 84 87 90 94 97 101 389 858

39 41 44 46 47 49 50 51 53 54 56 57 235 507

36 36 35 39 40 41 45 40 44 45 46 51 199 424

9 7 7 7 7 8 9 9 10 11 12 13 38 93 ___ ___ ___ ___ ___ ___ ___ ___ ___ ___ ___ ___ ___ _____

148 152 158 166 172 178 187 188 197 204 210 221 862 1,882

Veteransd

Other

Subtotal

Foster care

Other Retirement and Disability

Federal civilianc

Military

Subtotal

Earned income and child tax credits

Food Stamps

Family supportb

Child nutrition

Unemployment compensation

Supplemental Security Income

Social Security

Medicarea

Medicaid

Income Support

13. Although CBO anticipates that significant funding will be necessary to continue operations in Iraq and Afghanistan, such funding 

will not be included in CBO’s next baseline if it has not been

provided by January. As a result, the January baseline could 

project much lower outlays for defense over the next 10 years than 

the current baseline does. (The next section of this chapter examines potential paths for budget projections that differ from the 

baseline.)
CHAPTER ONE THE BUDGET OUTLOOK 13

Table 1-4.

Continued

(Outlays, in billions of dollars)

Source: Congressional Budget Office.

Note: Spending for the benefit programs shown above generally excludes administrative costs, which are discretionary. 

a. Excludes offsetting receipts.

b. Includes Temporary Assistance for Needy Families and various programs that involve payments to states for child support enforcement 

and family support, child care entitlements, and research to benefit children.

c. Includes Civil Service, Foreign Service, Coast Guard, and other, smaller retirement programs as well as annuitants' health benefits.

d. Includes veterans' compensation, pensions, and life insurance programs.

e. Includes Medicare premiums and amounts paid by states from savings on Medicaid prescription drug costs.

Total, Total,

Actual 2007- 2007-

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2011 2016

19 17 15 13 13 12 11 11 10 10 10 10 64 115

6 7 8 8 9 10 10 11 12 13 14 15 46 112

15 28 4 4 4 4 4 4 4 4 3 3 20 38

6 7 7 8 8 8 9 9 9 9 9 9 40 85

5 6 5 5 5 5 5 5 5 5 5 5 27 52

5 5 5 5 5 5 5 5 5 5 5 5 25 51

Flood insurance 1 17 3 0 0 0 0 0 0 0 0 0 3 3

13 16 25 23 24 19 19 19 18 18 17 17 110 199 ___ ___ ___ ___ ___ ___ ___ ___ ___ ___ ___ ___ ____ ____

71 103 73 67 68 63 64 64 64 64 64 65 335 655

Medicaree -38 -49 -64 -71 -75 -79 -85 -91 -100 -111 -123 -138 -374 -936

Employer's share of 

-47 -48 -49 -51 -52 -54 -57 -59 -61 -63 -66 -69 -263 -581

Other -43 -44 -56 -54 -59 -51 -51 -52 -55 -55 -54 -56 -271 -543 ____ ____ ____ ____ ____ ____ ____ ____ ____ ____ ____ ____ ____ _____

-128 -141 -169 -176 -186 -184 -193 -201 -216 -230 -243 -263 -908 -2,060

Total Mandatory 

Spending 1,320 1,418 1,486 1,569 1,659 1,759 1,882 1,926 2,071 2,204 2,351 2,543 8,355 19,449

1,448 1,559 1,655 1,745 1,845 1,943 2,075 2,128 2,286 2,434 2,594 2,806 9,263 21,510

Medicare Spending Net of

Offsetting Receipts 295 323 382 405 437 469 520 522 583 631 685 771 2,213 5,404

Memorandum:

Mandatory Spending Excluding

Offsetting Receipts

Social services

Other

Offsetting Receipts

Subtotal

employee retirement

Subtotal

TRICARE For Life

Student loans

Universal Service Fund

State Children's Health Insurance

Other Programs

Commodity Credit Corporation Fund
14 THE BUDGET AND ECONOMIC OUTLOOK: AN UPDATE

Table 1-5.

CBO’s Baseline Projections of Discretionary Spending

(Billions of dollars)

Source: Congressional Budget Office.

Notes: Nondefense discretionary outlays are usually higher than budget authority because of spending from the Highway Trust Fund and the 

Airport and Airway Trust Fund, which is subject to obligation limitations set in appropriation acts. The budget authority for such programs is provided in authorizing legislation and is not considered discretionary.

Inflation in CBO’s baseline is projected using the inflators specified in the Balanced Budget and Emergency Deficit Control Act of 1985: 

the gross domestic product deflator (now called the GDP price index) and the employment cost index for wages and salaries.

rates. Relative to GDP, net interest is projected to peak at 

1.9 percent in 2008 and 2009 and then decline to 1.6 

percent by 2016.

The baseline assumes that the statutory limit on federal 

borrowing is raised as necessary to cover projected deficits 

as well as debt issued to other federal government accounts. CBO estimates that federal debt will reach the 

current limit of $8.965 trillion sometime between the 

end of June and October 2007.14

Revenues

Under the assumptions governing the baseline, CBO 

projects that total revenues will remain near 18.2 percent 

of GDP (the average since 1965) for the next four years. 

Growth in individual income tax receipts relative to GDP 

is expected to be offset by reductions in corporate income 

tax receipts and (to a lesser extent) in receipts from estate 

and gift taxes and excise taxes. After 2010, projected revenues increase sharply with the expiration of provisions of 

EGTRRA, JGTRRA, and the Tax Increase Prevention 

and Reconciliation Act of 2005; by 2012, revenues reach 

19.4 percent of GDP. Because of factors inherent in the 

structure of the individual income tax, total revenues 

continue to rise thereafter relative to GDP, equaling 19.8 

percent by 2016. 

Individual Income Taxes. If tax laws remain the same 

(except for currently scheduled changes and expirations), 

receipts from individual income taxes will rise in each of 

the next 10 years as a percentage of GDP—from 8.1 percent this year to 10.5 percent in 2016—CBO projects. 

That increase has two main causes. 

First, various changes in tax rules that are now scheduled 

to occur would have the effect of boosting individual 

income tax receipts relative to GDP. The exemption 

amounts for the alternative minimum tax (AMT) are set 

to decline in 2007 from this year’s level. That decline 

would greatly increase the number of taxpayers who are 

subject to the AMT starting in 2007—and thus increase 

receipts from the tax that year and, much more significantly, in 2008. In addition, a number of tax law changes 

originally enacted in EGTRRA and JGTRRA are schedTotal, Total,

Actual 2007- 2007-

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2011 2016

Budget Authority

500 557 572 585 599 613 627 642 657 673 689 705 2,996 6,361

487 439 478 489 502 512 524 536 549 561 575 588 2,505 5,313 ____ ____ _____ _____ _____ _____ _____ _____ _____ _____ _____ _____ _____ _______

Total 987 995 1,050 1,074 1,101 1,125 1,151 1,178 1,205 1,234 1,263 1,293 5,501 11,675

494 522 550 575 590 604 623 628 647 663 679 701 2,943 6,260

474 502 515 532 547 560 569 581 593 607 621 634 2,723 5,758 ____ _____ _____ _____ _____ _____ _____ _____ _____ _____ _____ _____ _____ _______

Total 968 1,025 1,065 1,106 1,138 1,164 1,192 1,209 1,241 1,269 1,299 1,335 5,666 12,018

Defense

Nondefense

Outlays

Defense

Nondefense

14. Federal debt subject to that limit includes debt held by the public 

and debt held by government accounts (such as the Social Security 

trust funds and the Civil Service Retirement and Disability Fund). 

It does not include debt issued by the Federal Financing Bank and 

by agencies other than the Treasury.
CHAPTER ONE THE BUDGET OUTLOOK 15

Table 1-6.

Supplemental Appropriations and 

Funding for Operations in Iraq and 

Afghanistan Provided in 2006

(Billions of dollars)

Source: Congressional Budget Office.

a. The Department of Defense, Emergency Supplemental Appropriations to Address Hurricanes in the Gulf of Mexico, and Pandemic Influenza Act, 2006 (Public Law 109-148), enacted on 

December 30, 2005.

b. The Emergency Supplemental Appropriations Act for Defense, 

the Global War on Terror, and Hurricane Recovery, 2006 (P.L. 

109-234), enacted on June 15, 2006.

c. P.L. 109-148 rescinded $23 billion of the $62 billion initially provided in fiscal year 2005 to the Federal Emergency Management 

Agency.

d. “An act making supplemental appropriations for fiscal year 2006 

for the Small Business Administration’s disaster loans program, 

and for other purposes” (P.L. 109-174), enacted on February 18, 

2006.

uled to expire at the end of December 2010, raising revenues sharply in 2011 and 2012. Those expirations would 

increase statutory tax rates on ordinary income, capital 

gains, and dividends; narrow the 15 percent tax bracket 

for people who file joint returns; and reduce the child tax 

credit, among other changes. 

Second, several structural characteristics of the tax code 

cause effective tax rates—the amount of taxes paid as a 

percentage of personal income—to increase over time. 

One characteristic is the phenomenon known as “real 

bracket creep,” in which the overall growth of real 

(inflation-adjusted) income causes more income to be 

taxed in higher tax brackets. In addition, as nominal 

income rises, a growing share of it is claimed by the AMT, 

whose structure is not indexed for inflation. Also, taxable 

distributions from tax-deferred retirement accounts, such 

as individual retirement accounts and 401(k) plans, are 

expected to grow more rapidly than other income as the 

population ages. Those various factors cause federal 

revenues to rise more quickly than total income in the 

economy.

CBO’s projection of the increase in individual income tax 

receipts from those two causes is muted by an assumption 

about how long the current strength of such receipts will 

last. As noted above, the sources of this year’s surge in 

individual income tax receipts will not be known until 

information from tax returns becomes available, starting 

this fall. In the absence of that information, CBO 

assumes that the “unexplained” receipts (those above the 

amount that can be explained by currently available data) 

will largely continue through 2007 and then gradually 

decline over the following several years. CBO assumes 

that in the longer term, taxable income will tend to 

return to its historical relationship to GDP.

Corporate Income Taxes. After rising sharply for the past 

three years, revenues from corporate income taxes are 

projected to decline gradually as a share of GDP over the 

next 10 years: from 2.6 percent in 2006 to 1.7 percent by 

2013—a level similar to that seen in the early 1990s. 

That decline mainly results from CBO’s forecast that corporate profits will grow more slowly than GDP after this 

year. Profits are projected to decrease from about 13 percent of GDP in 2006 to about 9 percent in 2016. 

The recent growth in corporate tax receipts relative to 

GDP reflects profits’ reaching new highs relative to the 

size of the economy. CBO expects that over the 2007–

2016 period, both profits and receipts will return to levels 

more consistent with their historical relationship to GDP.

Social Insurance and Other Taxes. Receipts from social 

insurance (payroll) taxes are projected to remain relatively 

stable over the next decade at 6.3 percent of GDP. Total 

revenues from sources other than income and payroll 

50

70 ___

120

28

-23 c

20 ___

25

6

2 ___

Total 153

177

Other Supplemental Fundinga, b, d

Rescission

Total Excluding the December 2005

Memorandum:

Enacted in December 2005a

Enacted in June 2006b

Subtotal

Funding for Avian Flu Preparednessa, b, d

2006

Budget Authority 

Funding for Military Operations and Other 

Defense Activities in Iraq and Afghanistan

Enacted in December 2005a

Enacted in June 2006b

Subtotal

Funding for Hurricane Relief and Recovery

Enacted in December 2005a
16 THE BUDGET AND ECONOMIC OUTLOOK: AN UPDATE

Table 1-7.

CBO’s Baseline Projections of Federal Interest Outlays and Debt

(Billions of dollars)

Source: Congressional Budget Office.

Note: n.a. = not applicable; GDP = gross domestic product.

a. Excludes interest costs on debt issued by agencies other than the Treasury (primarily the Tennessee Valley Authority).

b. Mainly the Civil Service Retirement, Military Retirement, Medicare, and Unemployment Insurance Trust Funds.

c. Primarily interest on loans to the public.

d. Earnings on private investments by the National Railroad Retirement Investment Trust.

e. Differs from gross federal debt primarily because most debt issued by agencies other than the Treasury and the Federal Financing Bank is 

excluded from the debt limit.

Total, Total,

Actual 2007- 2007-

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2011 2016

352 404 444 479 508 536 566 592 612 636 659 682 2,533 5,714

-92 -99 -107 -116 -127 -139 -151 -164 -178 -192 -206 -221 -640 -1,599

-69 -74 -77 -79 -82 -84 -86 -88 -90 -93 -94 -95 -407 -868 ___ ___ ___ ___ ___ ___ ___ ___ ___ ___ ___ ___ ___ _____

-161 -173 -184 -195 -209 -222 -237 -252 -268 -284 -300 -316 -1,047 -2,468

-4 -8 -10 -13 -15 -17 -19 -21 -24 -26 -29 -32 -75 -208

-3 -3 -1 -1 -1 -1 -1 -1 -1 -1 -1 -1 -7 -13 ____ ___ ___ ___ ___ ___ ___ ___ ___ ___ ___ ___ _____ _____

Total (Net interest) 184 220 249 270 282 295 308 317 319 324 329 333 1,404 3,026

4,592 4,851 5,149 5,434 5,750 6,088 6,324 6,387 6,469 6,539 6,600 6,696 n.a. n.a.

1,809 1,986 2,172 2,374 2,594 2,830 3,080 3,339 3,604 3,874 4,146 4,416 n.a. n.a.

1,504 1,625 1,727 1,836 1,937 2,031 2,118 2,218 2,310 2,408 2,498 2,577 n.a. n.a. _____ _____ _____ _____ _____ _____ _____ _____ _____ _____ _____ _____

Total 3,313 3,611 3,899 4,210 4,531 4,861 5,198 5,557 5,915 6,282 6,644 6,993 n.a. n.a.

7,905 8,463 9,048 9,644 10,281 10,949 11,522 11,944 12,383 12,821 13,244 13,689 n.a. n.a.

7,871 8,429 9,015 9,612 10,249 10,918 11,492 11,914 12,354 12,793 13,217 13,663 n.a. n.a.

as a Percentage of GDP 37.4 37.0 37.3 37.5 37.7 38.1 37.8 36.5 35.4 34.2 33.1 32.2 n.a. n.a.

Debt Held by the Public

Debt Held by Government Accounts

Social Security

Other government accountsb

Debt Subject to Limite

Debt Held by the Public

Gross Federal Debt

Interest on Treasury Debt Securities 

(Gross interest)a

Net Interest Outlays

Interest Received by Trust Funds

Social Security

Federal Debt (At end of year)

Memorandum:

Other trust fundsb

Subtotal

Other Interestc

Other Investment Incomed
CHAPTER ONE THE BUDGET OUTLOOK 17

taxes are projected to decline as a share of GDP in the 

first half of the 10-year projection period and then rebound to their current level. Those other revenues will 

drop from 1.3 percent of GDP this year to 1.2 percent 

next year, CBO projects, mainly because of a decline in 

telephone excise taxes. 

In May, following successful legal challenges, the Internal 

Revenue Service terminated the tax on long-distance and 

wireless telephone services, effective in August. (The tax 

on local telephone service remains in force.) As a result, 

CBO expects gross telephone tax receipts to fall from $5 

billion this year to $2 billion in 2007. In addition, the 

Internal Revenue Service will provide refunds to taxpayers for up to three years of past long-distance taxes. Those 

refunds are estimated to total about $9.5 billion in 2007 

and $2 billion in 2008. CBO anticipates that over time, 

people and businesses will choose packages that bundle 

their local and long-distance telephone services, in which 

case the local component will not be subject to taxation. 

By 2011, CBO projects, less than $200 million per year 

will be collected from the telephone tax.

Under current law, receipts from estate and gift taxes are 

projected to remain at about 0.2 percent of GDP through 

2009 and then decline to 0.1 percent of GDP as the estate tax is reduced and then repealed at the end of 2010 

under EGTRRA. However, the estate tax is scheduled to 

be reinstated in 2011, which causes projected receipts to 

rebound to 0.3 percent of GDP in 2012 and 0.4 percent 

of GDP by 2016. 

Revenues from customs duties, earnings of the Federal 

Reserve System, and other miscellaneous sources are projected to remain relatively stable as a percentage of GDP 

over the 2007–2016 period.

Budget Projections Under 

Alternative Scenarios

As noted above, future legislative actions will affect the 

budget outlook, causing deficits to be higher or lower 

than they are in CBO’s current-law baseline projections. 

To illustrate the potential effects of some possible legislative actions, CBO has estimated the impact of various alternative scenarios on revenues and outlays as well as on 

the government’s debt-service costs (see Table 1-8).

Different assumptions about spending for operations in 

Iraq and Afghanistan or about the growth rate of discretionary appropriations could produce very different estimates of the total deficit for the 2007–2016 period. For 

example, if the $177 billion in gross additional funding 

for those operations and in supplemental appropriations 

for other purposes enacted in 2006 was excluded from 

the amount of current appropriations extrapolated in future years, discretionary spending over the 2007–2016 

period would be almost $1.8 trillion lower than in the 

baseline, and debt-service costs would be more than $400 

billion smaller.

Alternatively, funding for operations in Iraq and Afghanistan and other aspects of the war on terrorism could be 

assumed to slow gradually if the number of troops involved in them declined instead of continuing at the current level for the next decade. For example, in 2007, the 

Department of Defense might slightly reduce the number 

of personnel deployed overseas in support of those operations from the present level of 220,000 to about 205,000. 

By 2011, that number could shrink to about 55,000 personnel and remain at that level for the rest of the projection period. That scenario, combined with not extrapolating other supplemental funding provided in 2006 

(such as for hurricane relief), would reduce discretionary 

outlays over the 2007–2016 period by nearly $1.3 trillion 

relative to the baseline. 

Alternative assumptions could also be made about overall 

discretionary appropriations. For example, if current appropriations (excluding supplementals and funding for 

activities in Iraq and Afghanistan) were assumed to grow 

at the same rate as nominal GDP through 2016 rather 

than at the rate of inflation, total projected discretionary 

spending would be $1.3 trillion higher over 10 years. In 

the other direction, if lawmakers opted not to increase 

appropriations each year to account for inflation, discretionary outlays would be $1.3 trillion lower over the 

2007–2016 period. 

The various tax provisions that are set to expire over the 

next 10 years (or that expired at the end of 2005) reduce 

revenues, on balance. Thus, if those provisions (except 

ones related to relief from the alternative minimum tax) 

were assumed to be extended rather than expiring as 

scheduled, projected revenues would be lower than in the 

baseline. If the expiring tax provisions originally enacted 

in EGTRRA and JGTRRA were extended, total revenues 

over the 2007–2016 period would be $1.5 trillion lower, 

CBO and the Joint Committee on Taxation (JCT) estimate. Extending other expiring tax provisions⎯includ-
18 THE BUDGET AND ECONOMIC OUTLOOK: AN UPDATE

Table 1-8.

The Budgetary Effects of Selected Policy Alternatives Not Included in 

CBO’s Baseline

(Billions of dollars)

Continued

ing the research and experimentation tax credit and the 

deductibility of state and local sales taxes, among several 

dozen others⎯would reduce revenues by $349 billion 

over the next 10 years.

Modifying the AMT, which many observers believe cannot be maintained in its current form, would also affect 

revenues. Because the AMT’s exemption amount and 

brackets are not indexed for inflation, the tax will have a 

growing impact in coming years as more taxpayers become subject to it. If the AMT were indexed for inflation 

after 2006, federal revenues would be $513 billion lower 

over the next 10 years, according to CBO and JCT.

Uncertainty and Baseline Projections

CBO’s baseline budget projections are based not only on 

statutory rules about the treatment of current laws and 

policies but also on various assumptions about how the 

economy will perform in the future and how tax and 

spending policies affect that performance. Because actual 

outcomes will almost certainly differ from CBO’s projections, it is useful to view those projections as a range of 

potential outcomes rather than as a single stream of

numbers.

Figure 1-2 illustrates a range of possible outcomes for the 

total deficit under current laws and policies, using the difTotal, Total,

2007- 2007-

2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2011 2016

Effect on the deficit 0 68 132 165 180 190 194 199 203 207 212 735 1,752

Debt service 0 2 7 14 23 33 43 54 66 79 92 78 413

Effect on the deficit 0 13 42 85 125 151 161 168 173 178 182 416 1,280

Debt service 0 * 2 5 10 17 25 34 44 54 65 34 255

Effect on the deficit 0 -14 -36 -61 -88 -115 -142 -171 -202 -233 -266 -313 -1,327

Debt service 0 * -2 -4 -8 -13 -19 -28 -38 -50 -64 -26 -224

Effect on the deficit 0 17 39 64 89 115 141 169 197 226 257 324 1,313

Debt service 0 * 2 4 8 13 20 28 38 50 63 28 227

Remove the Extension of Certain

Policy Alternatives That Affect Discretionary Spending

Appropriations from the Baseline

Freeze Total Discretionary 

Increase Regular Discretionary 

After 2006a

Remove the Extension of Certain

Appropriations and Include a

Phasing Down of Military Operations 

in Iraq and Afghanistanb 

Appropriations at the Growth Rate 

of Nominal GDPc

Provided for 2006

Appropriations at the Level 
CHAPTER ONE THE BUDGET OUTLOOK 19

Table 1-8.

Continued

(Billions of dollars)

Sources: Congressional Budget Office; Joint Committee on Taxation.

Notes: Positive amounts indicate a reduction in the deficit. “Debt service” refers to changes in interest payments on federal debt resulting 

from changes in the government’s borrowing needs.

* = between -$500 million and $500 million; GDP = gross domestic product; EGTRRA = Economic Growth and Tax Relief Reconciliation Act of 2001; JGTRRA = Jobs and Growth Tax Relief Reconciliation Act of 2003.

a. This alternative does not extrapolate the $50 billion in funding for operations in Iraq and Afghanistan enacted as part of the Department 

of Defense appropriation act for 2006 or any supplemental appropriations provided during the year for activities in Iraq and Afghanistan, 

hurricane relief, or other purposes.

b. This alternative does not extrapolate the $50 billion in funding for operations in Iraq and Afghanistan enacted as part of the Department 

of Defense appropriation act for 2006 or any supplemental appropriations provided during the year for activities in Iraq and Afghanistan, 

hurricane relief, or other purposes. However, it assumes that an additional $110 billion in budget authority will be provided in 2007 to 

carry out operations in Iraq and Afghanistan, followed by $90 billion in 2008, $65 billion in 2009, $40 billion in 2010, and then about $30 

billion a year from 2011 on (for a total of $483 billion over the 2007-2016 period).

c. This alternative assumes that the appropriations for operations in Iraq and Afghanistan and the supplemental appropriations for other 

purposes enacted during 2006 are projected according to statutory baseline rules (using specified measures of inflation). 

d. These estimates do not include the effects of extending the increased exemption amount or the treatment of personal credits in the alternative minimum tax, both of which expire at the end of 2006. The effects of such an extension are shown below.

e. This alternative assumes that the exemption amount for the alternative minimum tax (AMT), which was increased through 2006 in the Tax 

Increase Prevention and Reconciliation Act of 2005, is extended at its higher level and, together with the AMT tax brackets, is indexed for 

inflation after 2006. The treatment of personal credits against the AMT, which also expires at the end of 2006, is assumed to continue. The 

estimates shown are relative to current law. If this alternative was enacted jointly with the extension of both EGTRRA and JGTRRA, an 

interactive effect would occur that would make the combined reduction in revenues over the 2007-2016 period greater than the sum of 

the two separate estimates by about $388 billion (plus $49 billion in debt-service costs).

Total, Total,

2007- 2007-

2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2011 2016

Effect on the deficit 0 -3 -3 -3 -9 -145 -245 -269 -279 -289 -301 -164 -1,546

Debt service 0 * * * -1 -4 -14 -26 -41 -56 -72 -6 -214

Extend Other Expiring Tax Provisionsd

Effect on the deficit 0 -16 -17 -22 -29 -34 -39 -43 -47 -50 -53 -117 -349

Debt service 0 * -1 -2 -3 -5 -7 -9 -12 -15 -18 -12 -73

Effect on the deficit 0 -4 -65 -60 -71 -59 -35 -42 -50 -59 -68 -260 -513

Debt service 0 * -2 -5 -8 -12 -14 -17 -20 -23 -27 -27 -128

Memorandum:

 1,025 1,065 1,106 1,138 1,164 1,192 1,209 1,241 1,269 1,299 1,335 5,666 12,018

-260 -286 -273 -304 -328 -227 -54 -76 -64 -56 -93 -1,418 -1,761

Total Discretionary Outlays

in CBO's Baseline

Reform the Alternative Minimum Taxe

Policy Alternatives That Affect the Tax Code

Extend EGTRRA and JGTRRAd

Total Deficit in CBO's Baseline
20 THE BUDGET AND ECONOMIC OUTLOOK: AN UPDATE

Figure 1-2.

Uncertainty of CBO’s Projections of the Budget Deficit Under Current Policies

(Deficit or surplus as a percentage of gross domestic product)

Source: Congressional Budget Office.

Notes: This figure, calculated on the basis of CBO’s forecasting track record, shows the estimated likelihood of alternative projections of the 

budget deficit or surplus under current policies. The baseline projections described in this chapter fall in the middle of the darkest area 

of the figure. Under the assumption that tax and spending policies will not change, the probability is 10 percent that actual deficits or 

surpluses will fall in the darkest area and 90 percent that they will fall within the whole shaded area.

Actual deficits or surpluses will be affected by legislation enacted in future years, including decisions about discretionary spending. 

The effects of future legislation are not reflected in this figure.

For an explanation of how CBO calculates the probability distribution underlying this figure, see Congressional Budget Office, The 

Uncertainty of Budget Projections: A Discussion of Data and Methods (March 2006).

ferences between past CBO baselines and actual budgetary results as a guide. The current baseline projection of 

the deficit falls in the middle of the highest-probability 

area, shown as the darkest part of the figure. Other possible paths for the deficit shown in that part of the figure, 

although different from the baseline projection, have 

nearly the same probability of occurring. Paths that fall in 

progressively lighter parts of Figure 1-2 are less likely to 

occur than CBO’s current projection, but they still have a 

significant probability of coming to pass. 

CBO’s probability analysis indicates that future deficits 

could be significantly smaller or larger than the baseline 

projection. For example, CBO currently projects a deficit 

equal to 2.1 percent of GDP for 2007. But judging from 

past outcomes, there is an 80 percent chance that the 

actual deficit will be somewhere between 0.9 percent and 

3.2 percent of GDP if current laws do not change. That 

range of probable variation is wider for later years.

1989 1991 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011

-7

-6

-5

-4

-3

-2

-1

0

1

2

3

4

5

6

Actual Projected
CHAPTER

2

The Economic Outlook

Although the U.S. economy has been growing at 

a rapid rate since early 2003, growth is likely to slow to a 

moderate, sustainable pace over the next year and a half. 

The Congressional Budget Office forecasts that economic 

growth will diminish to an annual rate of 3 percent in the 

second half of this year and then remain steady through 

2007. Inflation in so-called core consumer prices (which 

excludes the more volatile prices of food and energy) will 

also moderate, CBO expects, dropping to 2 percent by 

the end of next year. CBO anticipates that the unemployment rate will average about 43⁄4 percent through 2007, 

and productivity growth will be roughly 2 percent. Interest rates on Treasury securities are forecast to rise in the 

second half of this year and then drop slightly during 

2007. (Table 2-1 presents CBO’s current economic projections on a calendar year basis.)

Several major forces are driving the economic outlook. 

Working to keep inflation under control, the Federal Reserve moved to a slightly restrictive stance in 2006, after 

having gradually removed the stimulus to short-term 

growth that it had maintained for several years. As a result, interest rates, especially short-term rates, have increased. At the same time, energy prices have risen, 

largely as a result of developments in world markets for 

petroleum and its products, and the housing market has 

begun a long-anticipated slowdown.

Those factors are expected to slow the growth of consumers’ purchases of goods and services. Higher interest rates 

reduce borrowing by consumers; higher energy prices reduce the real (inflation-adjusted) income of households; 

and the decline in the growth of house prices slows the 

rise in households’ wealth. CBO expects that over the 

next year and a half, consumer spending will grow more 

slowly than in recent years.

The outlook for investment by businesses in new structures, equipment, and software (business fixed investment) is bright. Demand for goods and services from 

domestic and foreign customers is still solid, so after investing at low rates in 2002 and 2003, many businesses, 

including oil companies, now seek to add capacity to 

meet it. In addition, firms’ profits are high, corporate 

debt is relatively low, and the cost of financing for investment is still favorable. 

Over the next 10 years, economic growth is projected to 

slow, as members of the baby-boom generation begin to 

leave the labor force. In CBO’s estimation, the average 

annual growth of real gross domestic product will decline 

from 3 percent in 2008 through 2011 to 2.6 percent in 

2012 through 2016. Core and overall inflation, as measured by the growth of the chained price index for personal consumption expenditures (PCE), are both assumed to average 2.0 percent over the 2008–2016 period, 

and the unemployment rate is expected to average 

5.0 percent. The average annual rate on three-month 

Treasury bills over the period will be about 4.5 percent, 

CBO projects; the rate on 10-year notes will average 

5.2 percent.

Since January 2006, CBO has made three changes to the 

economic assumptions about the labor market that affect 

its projection of GDP over the next 10 years. First, CBO 

lowered its estimate of the natural rate of unemployment 

from 5.2 percent to 5.0 percent;1 second, it lowered its 

estimates of the rate of labor force participation; and 

third, it raised its estimate of the rate of growth in average 

weekly hours worked in the nonfarm business sector. The 

first and third changes raise projections of future GDP, 

but they are more than offset by the second change. On 

balance, the changes reduce the projected level of real 

GDP by an average of 0.9 percent from 2008 to 2016. In 

2016, real GDP is now expected to be about $133 billion 

lower than CBO projected last January, but because the 

1. The natural rate of unemployment is the rate of unemployment 

arising from all sources except fluctuations in overall demand. 
22 THE BUDGET AND ECONOMIC OUTLOOK: AN UPDATE

Table 2-1.

CBO’s Economic Projections for Calendar Years 2006 to 2016

(Percentage change)

Sources: Congressional Budget Office; Department of Commerce, Bureau of Economic Analysis; Department of Labor, Bureau of Labor Statistics; Federal Reserve Board.

Notes: Year-by-year economic projections for 2006 to 2016 appear in Appendix C.

GDP = gross domestic product.

a. Values as of early July 2006, prior to the revisions to the national income and product accounts.

b. Level in 2011.

c. Level in 2016.

d. The personal consumption expenditure chained price index.

e. The personal consumption expenditure chained price index excluding prices for food and energy.

f. The consumer price index for all urban consumers.

g. The consumer price index excluding prices for food and energy.

12,487 13,308 13,993 16,914b 21,052c

6.4 6.6 5.1 4.9 4.5

3.5 3.5 3.0 3.0 2.6

2.8 3.0 2.0 1.8 1.8

2.8 3.0 2.4 2.0 2.0

2.0 2.2 2.3 2.0 2.0

3.4 3.5 2.5 2.2 2.2

2.2 2.6 2.5 2.2 2.2

5.1 4.7 4.8 5.0 5.0

3.1 4.8 5.0 4.5 4.4

4.3 5.1 5.4 5.2 5.2

11.5 13.4 11.7 10.1 9.0

45.7 45.0 45.4 45.8 45.8

1,438 1,781 1,641 1,587b 1,884c

5,712 5,994 6,354 7,771b 9,619c

Nominal GDP 6.4 6.3 5.0 4.8 4.5

Real GDP 3.2 3.6 3.1 3.0 2.6

GDP Price Index 3.1 2.6 1.9 1.8 1.8

PCE Price Indexd 3.0 2.9 2.0 2.0 2.0

Core PCE Price Indexe 2.0 2.5 2.1 2.0 2.0

Consumer Price Indexf 3.7 3.2 2.2 2.2 2.2

Core Consumer Price Indexg 2.1 2.9 2.3 2.2 2.2

Fourth Quarter over Fourth Quarter

2008 to 2011 2012 to 2016

GDP Price Index

Three-Month Treasury Bill Rate (Percent)

Ten-Year Treasury Note Rate (Percent)

Core Consumer Price Indexg

Nominal GDP

Real GDP 

Consumer Price Indexf

Nominal GDP (Billions of dollars)

Actual

2005a 2006 2007

Forecast Projected Annual Average

Year over Year

Unemployment Rate (Percent)

Tax Bases (Percentage of GDP)

Wages and salaries

Corporate book profits

Wages and salaries

Tax Bases (Billions of dollars)

Corporate book profits

PCE Price Indexd

Core PCE Price Indexe
CHAPTER TWO THE ECONOMIC OUTLOOK 23

Figure 2-1.

Total and Core Measures of the PCE 

Price Index

(Percentage change from previous year)

Sources: Congressional Budget Office; Department of Commerce, 

Bureau of Economic Analysis.

Notes: The total PCE price index is the personal consumption 

expenditure chained price index. The core PCE price index is 

the PCE price index excluding food and energy.

Data are monthly and are plotted through June 2006.

price level is now higher, the level of nominal GDP is 

only $12 billion lower than CBO’s estimate from last 

January.2

Forecasts and projections by their very nature are uncertain, particularly in times of international conflict, and 

the actual course of the economy could be different from 

CBO’s current outlook. Through the end of 2007, major 

economic developments that might result in a slower pace 

of growth than CBO anticipates are significantly higher 

energy prices; greater-than-expected inflation, which 

could trigger more monetary restraint by the Federal Reserve; a larger and much more widespread weakening in 

the growth of house prices; an unexpected slowing in economic growth among the United States’ trading partners; 

or a major terrorist attack. Alternatively, the economy 

might grow more quickly than forecast if house prices 

and sales were stronger than expected, energy prices 

dropped significantly, or foreign economies expanded 

more than had been anticipated. Over the next 10 years, 

paths for productivity, labor force participation, and national saving that differ from CBO’s projections could result in more or less growth than CBO anticipates.

Concerns About Higher Inflation

So far this year, overall consumer price inflation has remained higher than it has been in recent years, and core 

inflation has risen further above what many analysts believe is the Federal Reserve’s “comfort zone” for price 

growth—that is, 1 percent to 2 percent (see Figure 2-1). 

That higher core inflation has raised concerns that monetary policy will be tightened more than had been expected, which might slow economic growth more sharply. 

That possibility will become more of a likelihood if 

households and businesses begin to think that inflation in 

the future will be higher than it has been. History has 

shown that when households and businesses raise their 

expectations, it can be especially difficult to moderate 

price growth without significantly slowing down economic growth—because workers and firms may seek 

higher wages and prices to try to protect their incomes 

from losing purchasing power.

Yet the evidence is mixed on the outlook for inflation. Although some indicators suggest that inflation could rise 

further, other indicators suggest that the recent rise may 

be largely temporary—provided that energy prices do not 

climb even higher. CBO’s forecast incorporates the assumption that core inflation will ease over the next year 

and a half; however, inflation remains a major uncertainty in the economic outlook.

The Temporary Factor Pushing up Core

Inflation in 2006

The jump in core inflation this year stemmed largely 

from a sizable increase in the measured cost of housing 

services—that is, rent rather than the price of houses. 3

After rising by 2.6 percent in 2005, the index of housing 

services rose by 3.4 percent in the first quarter of this year 

and by 5.0 percent in the second quarter. 

2. See Congressional Budget Office, The Budget and Economic Outlook: Fiscal Years 2007 to 2016 (January 2006).

2000 2001 2002 2003 2004 2005 2006

4.0

3.5

3.0

2.5

2.0

1.5

1.0

Total 

Core 

0

3. A significant part of the overall housing services index is an estimate of the imputed rent for owner-occupied dwellings—essentially, what the owner could charge for renting the dwelling to 

someone else. In large part, that estimate is based on a survey of 

rents paid by people who live in apartments and other rental units.
24 THE BUDGET AND ECONOMIC OUTLOOK: AN UPDATE

Figure 2-2.

Crude Oil, Natural Gas, and

Gasoline Prices

Sources: Congressional Budget Office; Department of Commerce, 

Bureau of Economic Analysis; Department of Energy, 

Energy Information Administration; Department of Labor, 

Bureau of Labor Statistics; Wall Street Journal.

Note: Crude oil prices are for West Texas Intermediate. Natural gas 

prices are wellhead prices, extended to 1970 using the producer price index for natural gas. (Btu are British thermal 

units.) Gasoline prices are average retail prices, including 

taxes, for regular unleaded. Series are converted to 2006 

dollars using the GDP chained price index. For natural gas, 

the value for the second quarter of 2006 is estimated. All 

data are quarterly.

That increase will probably prove temporary, as have 

sharp jumps in the index in the past. One possible explanation for the recent rise is that in the estimate of imputed rental costs for homeowners, the cost of utilities is 

removed from the survey data on rents—a calculation 

that can make rental costs volatile when utility prices rise 

and fall. For example, natural gas prices rose rapidly in 

the second half of 2005 and then fell back equally sharply 

during the first half of 2006. If the changes in utility costs 

that those price changes produced were not reflected 

quickly in the rents in the survey, then subtracting utility 

costs from rents would temporarily push the rental cost 

index down, as gas prices rose, and then up, as gas prices 

fell. Such effects are likely to be transitory.

Key Determinants of the Inflation Outlook

Besides the reversal of temporarily faster growth in the 

price of housing services, the major determinants of the 

outlook for inflation are energy prices and the availability 

of productive resources (that is, labor and capital) relative 

to the growth of overall demand. The Federal Reserve’s 

actions ultimately determine inflation by controlling the 

growth of demand for goods and services.

Energy Prices. Besides their direct impact on the level of 

prices through the cost of motor and heating fuels and 

electricity, energy prices affect the cost of other goods and 

services through the cost of the fuels used to produce and 

transport them and in some cases through the cost of industrial feedstocks (the raw materials required for industrial processes). In those ways, energy prices are an important determinant of core inflation as well as of overall 

inflation. The growth of energy prices may have raised 

core consumer inflation by about one-half of a percentage 

point in 2005 and, in CBO’s estimation, will add a similar amount this year. Over the past two and a half years, 

rising energy prices have probably increased overall consumer inflation by nearly 1 percentage point (measured at 

an annual rate).4

Petroleum-based energy prices have been climbing over 

the past six months. Since the end of 2005, the price 

of crude oil (West Texas Intermediate) has risen by 

about $15 per barrel, reaching $74 in July 2006 (see 

Figure 2-2). That price hike stems from the strong world 

demand for oil and low level of investment in oil production when prices were much lower than they are now. 

1970 1975 1980 1985 1990 1995 2000 2005

16

14

12

10

8

6

4

2

0

2006 Dollars per Barrel 2006 Dollars per Million Btu

Crude Oil, 1970 to the Second Quarter of 2006 

1970 1975 1980 1985 1990 1995 2000 2005

16

14

12

10

8

6

4

2

0

2006 Dollars per 1,000 Cubic Feet 2006 Dollars per Million Btu

Natural Gas, 1970 to the Second Quarter of 2006

1970 1975 1980 1985 1990 1995 2000 2005

3.0

2.5

2.0

1.5

0

2006 Dollars per Gallon

Gasoline, 1976 to the Second Quarter of 2006

90

80

70

60

50

40

30

20

10

0

2

4

6

8

10

12

14

16

0

4. See Congressional Budget Office, The Economic Effects of Recent 

Increases in Energy Prices (July 2006).
CHAPTER TWO THE ECONOMIC OUTLOOK 25

Efforts by the petroleum industry to maintain higherthan-normal levels of inventories, perhaps in response to 

new uncertainty about supplies from the Middle East, 

may also be contributing to higher crude oil prices by 

limiting the available supply.

The rising cost of crude oil was part of the reason that the 

average retail price of regular gasoline increased during 

2006, reaching $2.84 per gallon in the second quarter 

and $2.98 in July. Gasoline prices were also pushed up by 

the lingering effects of refineries’ lost production following Hurricane Katrina, by federal regulatory changes that 

affected the production of gasoline, and by strong summer demand for gasoline and diesel fuel. 

Although the price of natural gas has fallen sharply from 

its post-Katrina high, it remains historically elevated because of the upward trend in demand by households and 

electric utilities and temporarily reduced supplies as a result of the losses of gas production in the Gulf of Mexico.

For the remainder of 2006 and 2007, CBO’s current 

forecasts of prices for energy commodities generally reflect the prices in the futures market in mid-2006. Accordingly, prices for oil and gasoline in CBO’s forecast remain near their current levels. Natural gas usage and 

prices, which are extremely sensitive to seasonal temperatures, were held down this year by the warm winter, resulting in higher-than-usual stocks during the summer. 

(The seasonally low price in July was $6.21 per 1,000 cubic feet.) In mid-2006, the futures market projected that 

prices would rise to an average of about $9 in 2007—an 

estimate that probably reflects the assumption that temperatures this winter will be closer to normal.5 CBO assumes that after 2007, the prices of energy commodities 

will rise with general inflation, although considerable uncertainty surrounds that projection.

On the basis of the outlook for energy prices, CBO expects that energy costs will have little further effect on 

core inflation in 2007. That forecast reflects CBO’s assumption that the effects of past increases in energy prices 

have largely been “passed through”—incorporated into 

the current prices of other goods and services.

Figure 2-3.

Output and Unemployment Gaps

(Percent) (Percentage points)

Sources: Congressional Budget Office; Department of Commerce, 

Bureau of Economic Analysis; Department of Labor, 

Bureau of Labor Statistics.

Notes: The output gap is the difference between actual GDP and 

potential GDP expressed as a percentage of potential GDP. 

(Potential GDP is the level of GDP that corresponds to a high 

level of resource—labor and capital—use.) The unemployment gap is the difference between the civilian unemployment rate and the natural rate of unemployment (the rate 

arising from all sources except fluctuations in overall 

demand). 

Data are quarterly and are plotted through the second quarter of 2006.

Emerging Resource Constraints. Most estimates suggest 

that the economy has limited room to grow quickly without generating inflationary pressures. However, those estimates are uncertain, as are the effects of resource constraints on the extent of such pressures.

Several indicators provide mixed evidence about the degree of resource constraint in the labor market. The unemployment rate, at about 43⁄4 percent, has been somewhat below CBO’s 5 percent estimate of the natural rate 

of unemployment, indicating some constraint on labor 

resources (see Figure 2-3); also, recent data show an acceleration in unit labor costs that could add to inflation. 

However, other data—from the employment cost index, 

usually thought to be more reliable—show no similar inflationary pressures. Moreover, the rate of unemployment 

has been below the estimated natural rate in some other 

5. Futures price contracts are for gas for delivery at the Henry Hub, a 

major interconnection point for natural gas pipelines. Prices at the 

wellhead (shown in Figure 2-2) average about 40 cents lower than 

those at the hub.

1970 1975 1980 1985 1990 1995 2000 2005

6

4

2

0

-2

-4

-6

-8

-10

3

2

1

0

-1

-2

-3

-4

-5

Output Gap

(Left scale) 

Unemployment Gap 

(Inverted, right scale)
26 THE BUDGET AND ECONOMIC OUTLOOK: AN UPDATE

periods, such as from 1997 to 2001, and at those times, 

core inflation was neither high nor rising. 

Another common gauge of the degree of resource use

—the difference, or gap, between GDP and potential 

GDP—suggests that the economy still has some, though 

not much, excess capacity. (Potential GDP is a benchmark measure that corresponds to a high rate of use of labor and capital.) Data for the manufacturing sector also 

indicate little underused productive capacity. (In June of 

this year, capacity utilization in manufacturing was essentially at its historical average of 81.2 percent.)

CBO’s Forecast for Inflation

If oil prices remain at current levels and the recent increase in the growth rate of the price index for housing 

services proves transitory, growth of both core inflation 

and the overall PCE price index will decline to about 

2 percent in 2007, CBO estimates. CBO expects some 

pressure from emerging constraints on resources that will 

partly offset the downward effect of assuming little further pass-through of higher energy prices.

The consumer price index for urban consumers (CPI-U), 

which affects CBO’s projections of federal outlays, is expected to rise a little faster than the PCE price index, 

largely because of differences in weighting the price components. By 2007, inflation in the CPI-U in CBO’s forecast slows to 2.5 percent, an estimate consistent with recent surveys of expectations about the future path of 

inflation. For several years, confidence in the policies of 

the Federal Reserve—confidence based on the fact that 

actual inflation has remained low—has kept people from 

expecting a rise in inflation. Those expectations are 

shared by professional forecasters, according to a survey 

of inflation forecasts collected by the Federal Reserve 

Bank of Philadelphia, which shows little if any increase in 

expected inflation in the next 10 years.

Nevertheless, the effects of the uncertainty that necessarily surrounds the inflation outlook, as discussed above, 

are apparent in the bond markets. On the basis of the 

yields on nominal and inflation-indexed Treasury securities, expectations about the five-year rate of CPI-U inflation five years down the road (currently, the rate of inflation for the 2012–2016 period) recently rose. In the past 

several years, that measure of inflation expectations had 

exhibited a downward trend, moving from a range of 

2.75 percent to 3.25 percent (annual rate) in 2003 to between 2 percent and 2.25 percent for most of 2005. In 

the second quarter of 2006, however, the measure rose to 

between 2.5 percent and 2.75 percent.

The Outlook for Real Growth in

2006 and 2007

CBO based its economic forecast for 2006 and 2007 on 

its best judgments about short-term developments in the 

economy, including its assessment of how the business cycle is likely to affect that outlook. (By contrast, in its projections for later years, CBO mainly considered economic 

and demographic trends rather than attempting to forecast the timing and magnitude of future business cycles.)

The Business Sector

CBO assumes that investment by businesses (which accounts for about 11 percent of GDP, on average) will 

continue to propel economic growth in the second half of 

this year and in 2007. The growth of demand over the 

past few years, firms’ currently high profits, and favorable 

conditions in the debt and equity markets will encourage 

businesses to make additional investments. Inventory

accumulation by businesses is expected to increase by 

more than half of its relatively slow pace in 2005—a 

slowdown that in part reflected reductions in retail stocks 

of motor vehicles.

Business Fixed Investment. The outlook for investment 

by businesses in structures, equipment, and software remains strong. Since 2003, demand for goods and services 

has grown faster than productivity; as a result, firms need 

to add capacity to keep pace with sales. As of mid-2006, 

investment had not yet risen to a level at which the 

growth of the capital stock was keeping pace with the 

growth of demand for goods and services. Investment was 

also below its historical share of potential GDP (see 

Figure 2-4). 

Although business fixed investment slowed in the second 

quarter of 2006, indicators of capacity utilization point to 

healthy growth during the rest of this year and in 2007. 

First, capacity utilization in manufacturing rose from 

78.7 percent in June 2005 to 81.1 percent in June 2006, 

indicating that at recent rates of investment, growth in 

demand was still outpacing growth in supply. Second, 

semiannual surveys by the Institute for Supply Management show that the operating rate for nonmanufacturing 

firms rose from 86.9 percent to 88.4 percent between 

April 2005 and April 2006. Third, CB Richard Ellis, a 

private real estate research firm, reports that the vacancy 
CHAPTER TWO THE ECONOMIC OUTLOOK 27

Figure 2-4.

Business Fixed Investment

(Percentage of potential gross domestic product)

Sources: Congressional Budget Office; Department of Commerce, 

Bureau of Economic Analysis.

Note: Data are quarterly and are plotted through the second quarter of 2006.

rate for office space during the second quarter of 2006 

fell to its lowest level since 2001. And finally, Reis Inc., 

another such firm, notes that in the first quarter of 2006, 

the national office vacancy rate posted the largest quarterly drop in at least seven years—and then fell again in 

the second quarter. In addition, high oil and gas prices 

will continue to spur investment in exploration and wells.

Economic profits, at more than 12 percent of GDP in the 

first quarter, are at their highest level in 40 years and significantly above the post-World War II average of 

9.4 percent of GDP.6 Even though the level of profits 

might decline for several reasons (higher required contributions by firms to employee pension plans under the 

Employee Retirement Income Security Act and increases 

in wages, depreciation, and interest costs), economic 

profits should be ample to fund much of the increase in 

business investment that CBO forecasts.7

A relatively low cost of funds also supports CBO’s current 

outlook for business investment. In recent years, corporations’ liabilities have dropped significantly relative to 

their assets, and at 45.1 percent in the first quarter, that 

ratio was the lowest in roughly two decades, indicating 

strong financial positions. The risk premium (the extra 

cost for private-sector borrowing, measured relative to the 

rates on government securities) has fallen consistently 

since 2002. The real cost of corporate borrowing, which 

reflects those factors, is expected to remain near its current level, which is close to the average for the post-World 

War II period. Similarly, there has been little increase in 

the real cost of raising funds through the equity markets. 

Inventories. Inventory accumulation depends not only 

on techniques of inventory management, which have improved over time, but also on unexpected variations in 

sales. CBO assumes that inventory accumulation through 

2007 will average between $30 billion and $40 billion 

annually (in 2006 dollars) after averaging $20 billion in 

2005. If advances in management are significantly slower 

this year and next than they have been in recent years—as 

was the case, on average, between 1970 and 2000—inventory accumulation could be somewhat larger. 

The Household Sector

Real spending by households is likely to grow more 

slowly than output through 2007. CBO estimates that 

spending for consumer goods and services will grow at a 

modestly slower pace in light of continued high energy 

prices, less robust growth of households’ net wealth (because of the cooling market for housing), and higher interest rates on consumer and mortgage loans. Residential 

investment is expected to fall in response to the significant drop over the past year and a half in the ability of 

households to afford a new home as well as the less optimistic outlook for gains from the appreciation of real estate. Although job growth is likely to be somewhat slower 

than it has been over the past several years, the growth of 

wages and salaries will remain strong this year, CBO forecasts, supporting households’ spending.

Consumer Spending. The growth of consumer spending 

for goods and services has been erratic during recent 

quarters, but overall, its pace appears to have slowed. The 

growth of consumer purchases, measured as the percentage change from a year ago, stayed within a range of 

roughly 31⁄2 percent to 4 percent for most of 2004 and 

6. Economic profits are adjusted to remove distortions in depreciation allowances caused by tax rules and to exclude the effect of 

inflation on the value of inventories. They are considered a better 

measure of profits from current production than are the so-called 

book profits reported by corporations for tax purposes.

7. CBO assumes that under current law, contributions to definedbenefit pension plans will rise significantly in 2007. 

1970 1975 1980 1985 1990 1995 2000 2005

14

13

12

11

10

9

0
28 THE BUDGET AND ECONOMIC OUTLOOK: AN UPDATE

Figure 2-5.

Prices of Houses

(Percentage change at an annual rate)

Sources: Congressional Budget Office; Office of Federal Housing 

Enterprise Oversight.

Notes: The measure of house prices in this figure is the house price 

purchase-only index published by OFHEO. The index (which 

is based on transactions involving conforming, conventional 

mortgages purchased or securitized by Fannie Mae or Freddie Mac) measures average price changes in repeat sales of 

the same single-family properties.

Data are quarterly and are plotted from 1991 through the 

first quarter of 2006.

2005 but fell to only 3 percent to 31⁄2 percent during the 

first half of 2006. That slowdown was primarily due to 

weak spending in two areas: energy goods and services 

(because of the relatively mild winter weather and possibly some conservation stemming from higher energy 

prices) and motor vehicles and parts (because of fewer 

purchases of light trucks such as sport-utility vehicles, 

presumably a response in part to high prices for gasoline). 

Excluding energy and motor vehicles and parts, however,

the course of consumer spending has changed very little 

this year.

The outlook through 2007 is for a modest further slowdown in the growth of consumer spending. Continued 

high prices for energy are likely to lower the amount of 

energy demanded by consumers and further shift sales of 

vehicles away from light trucks. The growth of all other 

consumer spending is likely to slow because of lower real 

income and the slower growth of households’ wealth as a 

result of the cooling housing market. According to the 

seasonally adjusted purchase-price index of the Office of 

Federal Housing Enterprise Oversight, house prices grew 

at an annual rate of 7.3 percent in the first quarter of 

2006, down from 11.2 percent for all of last year and the 

slowest rate of increase since that for the last quarter of 

2001 (6.7 percent), which coincided with the end of the 

last recession (see Figure 2-5). In addition, the growth 

rates (measured on a year-over-year basis) of both the median and average prices of new homes continue to slow. 

Another factor in the slowing growth of consumer spending is a slight increase in interest rates on consumer and 

mortgage loans, which raises the cost of borrowing and 

lessens the attractiveness of cashing out equity from 

homes through the mortgage market.

Labor Markets. The labor market remains healthy, supporting a moderate outlook for the growth of households’ 

spending. Although the rate of growth of nonfarm employment, as measured by the establishment survey conducted by the Bureau of Labor Statistics (BLS), dropped 

from 1.7 percent in the first quarter of 2006 to 1.2 percent in the second, the rate as measured by BLS’s household survey was higher, averaging 2.1 percent in the first 

half of the year.8 Moreover, weekly initial claims for unemployment insurance have averaged about 315,000 over 

the past several months, a rate consistent with continued 

economic expansion. CBO’s forecast of job growth (as 

measured in the establishment survey) averages 1.4 percent in the second half of 2006 and 1.3 percent in 2007.

The growth of total wages and salaries strengthened in 

the first half of this year, and CBO expects that stronger 

pace to continue. Nominal income from wages and salaries is expected to grow by roughly 6 percent this year and 

next. In its forecast of wage and salary growth, CBO assumes that average hourly earnings (of production and 

nonsupervisory workers) will continue to grow by between 3 percent and 31⁄2 percent. Growth of wages and 

salaries will support consumer spending and contribute 

to some rise in the personal saving rate. 

1990 1995 2000 2005

15

10

5

0

-5

8. The household survey measure is derived from the Current Population Survey (CPS), a monthly survey of households conducted 

by the Bureau of the Census for BLS. It provides a comprehensive 

body of data on the labor force, employment, unemployment, and 

individuals not in the labor force. The growth rate in the CPS 

measure is adjusted for a break in the underlying population estimate between December 2005 and January 2006.
CHAPTER TWO THE ECONOMIC OUTLOOK 29

Figure 2-6.

Housing Affordability Index

(Index)

Sources: Congressional Budget Office; National Association of 

Realtors.

Notes: A housing affordability index value of 100 means that a family with the median income has exactly enough income, with 

a down payment of 20 percent, to qualify for a mortgage on 

a median-priced single-family home. An index above 100 

signifies that a family earning the median income has more 

than enough income to qualify for a mortgage loan on a 

median-priced home.

Data are quarterly and are plotted from 1971 through the 

second quarter of 2006.

Housing. For the past two years, the housing market has 

experienced unusually rapid growth in the price of 

homes, facilitated by low mortgage rates and—in some 

regions in recent years—possibly high expectations of 

gains from appreciation. Now, though, the housing market has lost some of its upward momentum. The growth 

of home sales has moderated as potential buyers have 

found home ownership less affordable in the face of 

rising house prices and mortgage interest rates and what 

appear to be less promising gains from appreciation (see 

Figure 2-6). In June, monthly sales of new plus existing 

single-family homes were nearly 9 percent lower than at 

the same time last year. Slowing demand has led to 

sharply increasing numbers of new and existing homes on 

the market, especially on the East and West Coasts. As 

housing inventories have accumulated across the nation, 

builders have reduced the number of housing starts. 

(Since January, starts of single-family homes have declined in most months, and in June of this year, the number of homes begun was 14 percent below the number 

begun in June 2005.) Housing starts are expected to decline through 2007 to help work off the excess inventory.

Under the assumption that mortgage interest rates will be 

modestly higher and the growth of income and employment will be moderate, housing construction and sales 

are likely to continue to decline further, and the growth 

of home prices is likely to slow through the end of 2007. 

CBO expects that real residential investment will fall, on 

average, by about 6 percent this year and next, measured 

on a fourth-quarter-over-fourth-quarter basis. 

Uncertainty About the Household Sector. The primary 

factors that could cause spending by households to be 

faster or slower than CBO has projected are the paths of 

energy prices, households’ net worth (including house 

values), mortgage interest rates, and personal saving. 

Consumer spending could falter if energy prices rose significantly, reducing real disposable income and possibly 

boosting core inflation—which might prompt a further 

tightening of monetary policy. Under that scenario, the 

housing market might decline further, an outcome that 

would adversely affect households’ net worth, especially if 

it led to a significant decline in house prices nationwide. 

Higher mortgage interest rates might lead to significantly 

more defaults on adjustable-rate mortgages whose terms 

are due to be adjusted in the upcoming year and whose 

loan balances may consequently grow to exceed the value 

of the homes, particularly if house prices fall markedly. 

By contrast, consumer spending could be stronger than 

CBO projects if wage growth is faster, energy prices drop 

significantly below current levels, or the housing market 

heats up again.

A greater desire on the part of households to raise their 

personal net worth could also slow the growth of consumer spending. For more than a year, the personal saving rate, as measured in the national income and product 

accounts, has been negative, indicating that, on average, 

consumers have been spending more than their disposable income.9

 Given the uncertainty that surrounds

1970 1975 1980 1985 1990 1995 2000 2005

160

140

120

100

80

60

0

9. Disposable income is income that individuals receive (including 

transfer payments) minus the taxes and fees they pay to governments. In the NIPAs, personal saving equals disposable income 

minus outlays by consumers. Thus, it does not include saving in 

the form of capital gains on real estate and other assets.
30 THE BUDGET AND ECONOMIC OUTLOOK: AN UPDATE

Figure 2-7.

Personal Saving Plus Firms’ Retained 

Earnings

(Percentage of disposable personal income)

Sources: Congressional Budget Office; Department of Commerce, 

Bureau of Economic Analysis.

Notes: The value for retained earnings (firms’ undistributed profits) 

for the second quarter of 2006 was unavailable at the time of 

publication. Disposable personal income is the income that 

individuals receive, including transfer payments, minus the 

taxes and fees they pay to governments.

Data were smoothed using a four-quarter moving average 

and are plotted through the second quarter of 2006.

the future course of inflation, interest rates, and the housing market, households might increase their saving for 

precautionary purposes. CBO has incorporated a small 

rise in personal saving in its forecast, but consumers 

could decide to save much more. 

Alternatively, favorable economic developments, such as a 

rebound in the housing market, could result in less saving 

of disposable income. Households might also decide not 

to increase their saving if they are stockholders and view 

increases in stock values—such as those stemming from 

corporations’ retained earnings (undistributed profits)—

as part of their personal saving. Including retained earnings in an adjusted, broader measure of personal saving 

produces a much higher measure of saving by households, although it is still only about a third of its postwar 

average of 11.6 percent of disposable personal income 

(see Figure 2-7).

The Government Sector 

Government purchases of goods and services are not expected to grow as fast as the economy, reflecting CBO’s 

assessment that the growth of demand on the part of 

states and localities will continue at roughly recent rates 

and the assumption (based on the conventions of CBO’s 

projections for the federal budget—see Chapter 1) that 

the pace of federal purchases will slow a bit in the near 

term. The growth of federal consumption plus investment spending (as measured in the NIPAs) has varied 

widely in recent quarters but on average has slowed economic growth in the first half of 2006. Similarly, the 

growth of purchases by state and local governments has 

been slower than output growth thus far this year, even 

though it accelerated from the very slow pace prevailing 

in the past few years as a result of tighter budgetary 

constraints.

Supplemental appropriations for defense and other activities enacted in June, which are extrapolated into future 

years at a specified rate of inflation under CBO’s baseline 

procedures, have boosted CBO’s current-law projection 

for federal purchases, compared with the projection in 

CBO’s January 2006 budget outlook.10 The supplemental legislation included $70 billion for activities in Iraq 

and Afghanistan, mainly for compensation, fuel, materials, and equipment. It also included another $24 billion, 

mostly related to recovery from Hurricane Katrina.

The growth of purchases by state and local governments 

is expected to remain faster than its weak pace in recent 

years but slower than the growth of the economy. That 

stronger trend in spending, however, could be tempered 

if the growth of revenues slowed. In addition, purchases 

could be slowed if state and local governments decided to 

address their unfunded pension liabilities, which recent 

estimates put in the neighborhood of $250 billion to 

$350 billion. (Those figures can be compared with estimated total state and local revenues in the first half of 

2006 of roughly $1.8 trillion, measured at an annual rate 

and on a NIPA basis.)11 However, the potential budget1970 1975 1980 1985 1990 1995 2000 2005

20

15

10

5

0

-5

Personal 

Saving

Personal 

Saving Plus 

Retained

Earnings

10. See Congressional Budget Office, The Budget and Economic Outlook: Fiscal Years 2007–2016, and What Is a Current-Law Economic Baseline? (June 2005).

11. See Wilshire Associates Inc., 2006 Wilshire Report on State Retirement Systems: Funding Levels and Asset Allocation (March 2006). 

The Public Fund Survey of the National Association of State 

Retirement Administrators reports similar estimates.
CHAPTER TWO THE ECONOMIC OUTLOOK 31

ary problems posed by unfunded pensions and other retiree benefits (such as health insurance) are not expected 

to greatly influence overall state and local budget decisions in the 2006–2007 period.12

The International Sector

The U.S. trade deficit increased during the first half of 

2006 and is expected to grow throughout the rest of this 

year. CBO anticipates that in 2007, the trade deficit will 

decline slightly, as foreign economies continue to rebound, the dollar continues its downward adjustment, 

and oil prices remain near current levels. Faster growth of 

exports will help account for that expected narrowing, 

but slower growth of imports is likely to play a larger role. 

Over the 2008–2016 period, the trade deficit and the 

current-account deficit are both expected to decline gradually relative to GDP.

Trade Deficit. In the first half of 2006, the nominal trade 

deficit (exports minus imports) averaged about $775 billion, or 5.9 percent of GDP—a level approximately 

$95 billion higher than in the first half of 2005. Higher 

oil prices contributed to those record deficits by increasing the amount spent on oil imports; higher prices may 

also have added to the trade deficit indirectly by lowering 

interest rates and stalling the dollar’s depreciation.13

In real terms, exports have grown significantly faster than 

imports throughout most of the past year and a half, reversing a trend of many years. After rising by 6.7 percent 

over the four quarters of last year, real exports grew at an 

average annual rate of 8.5 percent in the first half of 2006 

(mainly in the first quarter), with most of that strength 

concentrated in goods. Real imports grew by 5.2 percent 

over the four quarters of 2005 and at an average annual 

Figure 2-8.

The U.S. Trade Deficit

(Percentage of gross domestic product)

Sources: Congressional Budget Office; Department of Commerce, 

Bureau of Economic Analysis.

Note: Data are annual and are plotted through 2016.

rate of 4.5 percent in the first half of this year (also 

mainly in the first quarter). The growth of real imports of 

capital goods has been especially vigorous this year; by 

contrast, the level of real imports of petroleum and petroleum products has fallen. CBO expects some weakening 

next year (compared with the first half of this year) in the 

growth of real demand for imports as a result of continued high oil prices, the depreciating dollar, and the slowdown in consumer spending more generally. By contrast, 

CBO expects stronger growth of real exports as a result of 

improving economic activity abroad and the dollar’s 

depreciation. 

CBO does not anticipate any significant reduction in the 

trade deficit in coming years, although as GDP grows, 

the deficit will begin to fall as a share of output (see 

Figure 2-8). Because the level of imports is about one and 

a half times that of exports, exports must grow one and a 

half times as fast as imports simply to keep the trade deficit from growing. Because mounting U.S. liabilities will 

eventually lead to declines in net international investment 

income, the current-account deficit is projected to continue to grow slightly in dollar terms and to narrow by 

somewhat less than the trade deficit as a percentage of 

GDP. CBO projects that the current-account deficit, 

which was $835 billion in the first quarter of 2006, will 

12. Recent changes in accounting procedures recommended by the 

Governmental Accounting Standards Board (GASB) call on states 

and localities to more explicitly account for unfunded liabilities 

for health insurance and other postemployment benefits. The 

GASB guidelines will be fully phased in for fiscal years that begin 

after December 2008. See GASB Statement No. 43 (April 2004) 

and No. 45 (June 2004).

13. The surge in oil prices from roughly $35 per barrel in the beginning of 2004 to about $74 per barrel in the middle of 2006 has 

effectively increased saving in the rest of the world, boosting purchases of U.S. assets and providing extra liquidity to U.S. financial 

markets. Thus, oil price hikes may have indirectly contributed to 

the widening of the trade deficit by interrupting the depreciation 

of the dollar and the rise of long-term interest rates.

1980 1985 1990 1995 2000 2005 2010 2015

0

-1

-2

-3

-4

-5

-6

-7
32 THE BUDGET AND ECONOMIC OUTLOOK: AN UPDATE

Figure 2-9.

The Trade-Weighted Value of the

U.S. Dollar

(Index)

Sources: Congressional Budget Office; Federal Reserve Board.

Notes: The trade-weighted value of the U.S. dollar is a weighted 

average of the foreign exchange values of the dollar against 

the currencies of a large group of the United States’ major 

trading partners. The index weights, which change over 

time, are based on a country’s share of U.S. imports and 

exports. The real trade-weighted value is adjusted for 

changes in relative prices.

Data are quarterly and are plotted through the second quarter of 2006.

stay between $900 billion and $1 trillion a year through 

2016 and, correspondingly, that foreign investors will 

continue to lend sums of that magnitude to the United 

States.

Exchange Value of the Dollar. CBO expects the dollar, 

measured on a trade-weighted basis, to continue its 

downward adjustment, depreciating by 1 percent to 

3 percent per year (in nominal terms) as a result of the 

large U.S. current-account deficit and the corresponding 

growth in the United States’ international liabilities. The 

dollar had been depreciating for nearly three years, since 

early in 2002; then, during most of 2005, the downward 

adjustment stalled, in large part because of short-term 

factors that have either faded or begun to fade.14 So far 

this year, the dollar has depreciated by about 3 percent 

(see Figure 2-9). That adjustment has occurred not only 

in relation to currencies against which the dollar has been 

dropping for several years (such as the euro and the Japanese yen) but also in relation to the currencies of Asian 

countries other than Japan, including China, Korea, and 

Singapore, against which the dollar has depreciated relatively little for many years. 

Economic Growth Outside the United States. The economies of the United States’ trading partners grew rapidly in 

the second half of last year, despite the negative effects of 

higher oil prices. Strong growth in China and a resumption of growth in Japan combined with continuing economic robustness in Canada, in newly industrialized 

countries, and in other emerging economies. In the first 

half of this year, China’s economy continued its rapid expansion, led by investment and net exports. Real GDP in 

China grew by 10.9 percent from the first half of 2005 to 

the first half of 2006, following growth of 9.9 percent 

from 2004 to 2005. Japan’s economy (real GDP) grew by 

3.1 percent in the first quarter of this year (measured as 

an annual rate), following solid 4.0 percent growth in 

2005. Among economies whose currency is the euro, 

signs of revival are also evident: growth of real GDP rose 

to a 2.4 percent annual rate in the first quarter of this year 

(after growth of 1.7 percent in 2005) and is expected to 

exceed 2 percent for the year overall. 

The acceleration in economic growth abroad has 

prompted many central banks, especially the European 

Central Bank and the Bank of Japan, to tighten their 

monetary policies to contain inflationary pressures. 

More-restrictive financial conditions coupled with high 

oil prices suggest that the growth of foreign economies 

may moderate somewhat. Nevertheless, CBO expects 

that solid domestic demand for goods and services in 

other countries will spur economic growth in those nations. Such growth will continue to be robust—with rates 

of roughly 4 percent this year and next—and exceed the 

rate of expansion of the U.S. economy, on average, over 

the next 10 years.

Monetary Policy and Financial Market Conditions

Because of higher inflation in recent months, it currently 

appears that monetary policy will maintain a slightly re1980 1985 1990 1995 2000 2005

180

160

140

120

100

80

60

0

Real

Nominal

14. Those factors include a very accommodative monetary policy in 

Japan while U.S. monetary policy was moving toward restraint; 

the sharp rise in oil-exporting countries’ revenues, which such 

nations tend to invest in dollar assets; and the increase in the repatriation of overseas profits prompted by the American Jobs Creation Act of 2004, which boosted the demand for dollar assets 

during its roughly one-year duration. 
CHAPTER TWO THE ECONOMIC OUTLOOK 33

strictive stance this year and next. The federal funds rate 

is now likely to remain above the so-called neutral rate of 

4 percent to 5 percent—a range that many analysts believe roughly balances the goals of sustainable growth and 

low inflation in the current financial environment. As a 

result, other interest rates have risen, and the spread, or 

difference, between rates on short-term and long-term securities has widened. Despite the increase in interest 

rates, however, overall financial conditions are still contributing to the growth of demand in the economy.

Monetary Policy. CBO’s outlook for a slightly restrictive 

monetary policy reflects its view that the Federal Reserve 

intends to keep core inflation at an acceptably low level as 

well as maintain what are currently low expectations of 

future inflation. The central bank increased its target for 

the federal funds rate to 5.25 percent in June and then, in 

August, paused in its rate hikes—the first time the target 

has not been raised in 17 meetings of the Federal Open 

Market Committee (the group within the Federal Reserve 

System that determines the stance of monetary policy). In 

early August, the consensus among the approximately 

50 forecasters surveyed for the Blue Chip economic indicators was that one further 25-basis-point increase might 

be possible, taking the federal funds target to 5.5 percent 

by the end of 2006. (A basis point is one-hundredth of a 

percentage point.) CBO shares that view but does not expect the federal funds rate to persist at a higher level unless inflation increases further. If core inflation subsides 

next year, as CBO forecasts, the target for the federal 

funds rate is likely to move down toward the neutral 

range.

Interest Rates. The rate on three-month Treasury bills, 

which was nearly 5 percent in July, is expected to climb to 

5.2 percent by year’s end and then recede to 5.0 percent 

by the end of 2007, a path that reflects CBO’s expectations about monetary policy. The rate on 10-year Treasury notes—5.1 percent in July—is expected to reach 

5.5 percent by the end of this year and remain elevated, at 

5.4 percent, through 2007. Those estimates imply that 

the spread between the rates on Treasury notes and bills 

will stay near its mid-2006 level of 40 basis points 

through 2007.

Borrowing terms in the private sector are somewhat less 

favorable now than they were earlier in the year. Since 

April, the rate on Aaa corporate bonds has been above 

5.8 percent, compared with last December’s level of 

5.4 percent. Similarly, the rate on Baa corporate bonds 

has risen, moving from 6.3 percent in December to 6.8 

percent in July, and rates on 30-year conventional mortgages have also climbed from about 6.3 percent to 6.8 

percent. At the same time, interest-rate spreads between 

Treasury and private securities have fallen slightly this 

year. If, instead, those spreads had widened to a significant degree, resulting in yet higher rates in the private 

sector, private credit would have become more costly, 

thus tending to slow economic activity even more. In addition, a widening of the spreads would have suggested an 

increased risk of default. Analysts expect default rates on 

corporate bonds and bank loans to rise during the next 

year or so but not beyond levels that financial institutions 

can be expected to absorb without significant effects on 

their profits. 

Financial Conditions. Monetary and financial conditions 

are still conducive to growth, but they are becoming less 

so. According to an index constructed by Macroeconomic 

Advisors, LLC, the contribution of financial variables 

(such as interest rates, real exchange rates, and households’ wealth) to the growth of real GDP fell from 

3.8 percent in the fourth quarter of 2005 to 2.9 percent 

in the second quarter of 2006, a level indicating that 

overall financial conditions were making the smallest 

contribution to the growth of real GDP since the last 

quarter of 2003 (see Figure 2-10). During the first half of 

2006, two components of that index—the federal funds 

rate and the corporate bond rate—were dampening 

growth; by contrast, two other components—households’ 

wealth and the depreciation of the dollar—were contributing significantly to growth. Conditions in the financial 

markets are expected to slow economic growth through 

2007 as the effects of restrictive monetary policy spread 

across credit markets and the rate of growth of households’ wealth declines. 

Uncertainty and Risks. Although monetary and financial 

conditions currently do not seem to pose a significant risk 

to the growth of GDP, some aspects of world financial 

markets may increase the possibility that economic 

growth will slow. In recent months, for example, those 

markets have experienced correlated movements; most 

notably, stock markets in many countries dropped 

sharply—by roughly 5 percent in May—and in general 

have not yet fully rebounded. Synchronous movements of 

that sort mean that a weakening in stock markets in the 

United States is reinforced by a weakening in international stock markets. Such movements thus raise the
34 THE BUDGET AND ECONOMIC OUTLOOK: AN UPDATE

Figure 2-10.

Index of Monetary and Financial

Conditions

(Percentage points of GDP growth)

Sources: Congressional Budget Office; Macroeconomic Advisers, 

LLC.

Notes: This index estimates how much financial conditions contribute to the growth rate of real, or inflation-adjusted, GDP 

(gross domestic product). It draws on statistical relationships between real GDP and financial variables such as interest rates, exchange rates, and stock market values. When 

the index is positive, overall conditions in financial markets 

are conducive to the growth of real GDP; when the index is 

negative, overall financial market conditions are a drag on 

growth.

Data are quarterly and are plotted through the second quarter of 2006.

possibility that U.S. economic growth will be affected by 

large and abrupt downturns in equity markets. 

The growth of global hedge funds could pose another risk 

to worldwide financial markets. Hedge funds can increase 

the efficiency of global financial markets, but the risks associated with large, overly leveraged funds became a focus 

of concern when the Federal Reserve in 1998 helped in 

the private sector’s restructuring of the hedge fund Long 

Term Capital Management. The ongoing attention to 

such risks since then by the Federal Reserve and other key 

participants in financial markets here and abroad has led 

to various steps to broadly improve risk management and 

monitoring.15 As a result, despite the growth in the number and complexity of hedge funds, the markets appear 

thus far to be capable of weathering financial turbulence 

(such as the large decline in stock prices in May). At the 

same time, the markets’ ever-growing complexity implies 

that concerns about the risks associated with global hedge 

funds will continue.

The Outlook Through 2016

CBO projects that real GDP will grow at an average annual rate of 2.8 percent during the 2008–2016 period, or 

at the same pace as that of potential GDP. (Those rates 

are very similar to the estimates that CBO published in 

January 2006.) Inflation as measured by the growth of 

the PCE index will average 2.0 percent during the period, 

CBO estimates, and CPI-U inflation, 2.2 percent. Unemployment will average 5.0 percent, identical to CBO’s 

estimate of the natural rate of unemployment. Over the 

period, the rate on three-month Treasury bills will average 4.5 percent (4.4 percent after 2009), and the rate on 

10-year Treasury notes will average 5.2 percent.

To develop its estimates for 2008 to 2016, CBO projects 

paths for the factors that underlie potential GDP, such as 

the growth of the labor force (a variable that determines 

total hours worked), capital services (the productive services provided by the economy’s capital stock), and total 

factor productivity (TFP).16 In doing so, CBO takes into 

account the effect that current fiscal policy may have on 

those variables, but it does not attempt to forecast 

business-cycle fluctuations beyond the next two years.

1985 1990 1995 2000 2005

6

4

2

0

-2

-4

-6

15. For additional discussion, see “Remarks by Chairman Ben S. Bernanke: Hedge Funds and Systemic Risk,” May 16, 2006, available 

at www.federalreserve.gov/boarddocs/speeches/2006/200605162/

default.htm.

16. Total factor productivity is average real output per unit of combined labor and capital services. The growth of total factor productivity is defined as the growth of real GDP that is not 

explained by the growth of labor and capital.
CHAPTER TWO THE ECONOMIC OUTLOOK 35

Table 2-2.

Key Assumptions in CBO’s Projection of Potential Output

(By calendar year, in percent)

Source: Congressional Budget Office.

Note: TFP = total factor productivity; GDP = gross domestic product; * = between zero and 0.05 percent.

a. Values as of early July 2006, prior to the revisions to the national income and product accounts.

b. The ratio of potential output to the potential labor force.

c. An adjustment for a conceptual change in the official measure of the GDP chained price index.

d. An adjustment for the unusually rapid growth of TFP between 2001 and 2003.

e. The estimated trend in the ratio of output to hours worked in the nonfarm business sector.

Total, Total,

1950– 1974– 1982– 1991– 1996– 1950– 2006– 2012– 2006–

1973 1981 1990 1995 2005a 2005a 2011 2016 2016

3.9 3.2 3.1 2.6 3.3 3.4 3.0 2.6 2.8

1.6 2.5 1.6 1.2 1.2 1.6 0.9 0.5 0.7

2.3 0.7 1.5 1.4 2.1 1.8 2.1 2.1 2.1

4.0 3.6 3.3 3.0 3.7 3.7 3.4 3.0 3.2

1.4 2.3 1.7 1.2 1.1 1.5 1.0 0.7 0.8

3.7 4.2 3.9 2.7 4.4 3.8 4.3 3.7 4.0

1.9 0.7 0.9 1.4 1.6 1.5 1.5 1.5 1.5

1.9 0.7 0.9 1.3 1.3 1.4 1.3 1.3 1.3

0 0 0 * 0.2 * 0.1 0.1 0.1

Price measurementc 0 0 0 * 0.1 * 0.1 0.1 0.1

Temporary adjustmentd 0 0 0 0 0.1 * 0 0 0

0.9 1.6 1.2 0.8 0.8 1.0 0.7 0.5 0.6

1.1 1.3 1.2 0.8 1.3 1.2 1.3 1.1 1.2

1.9 0.7 0.9 1.4 1.6 1.5 1.5 1.5 1.5

___ ___ ___ ___ ___ ___ ___ ___ ___

Total Contributions 4.0 3.6 3.3 3.0 3.7 3.7 3.4 3.0 3.2

2.6 1.3 1.6 1.8 2.6 2.2 2.4 2.3 2.4

Capital input

Potential TFP

Memorandum:

Potential Labor Productivity

in the Nonfarm Business Sectore

Overall Economy

Nonfarm Business Sector

TFP adjustments

Contributions to the Growth of Potential 

Potential Output

Potential Labor Force

Potential Labor Force Productivityb

Potential Output

Potential hours worked

Projected Average

Average Annual Growth Annual Growth

Output (Percentage points)

Potential Hours Worked

Capital Input

Potential TFP

Potential TFP excluding adjustments
36 THE BUDGET AND ECONOMIC OUTLOOK: AN UPDATE

Figure 2-11.

Real Potential Output, Potential

Labor Force, and Potential Labor 

Force Productivity

(Average annual growth rate)

Source: Congressional Budget Office.

Note: Growth rates are rounded. 

a. Potential labor force productivity is the ratio of real potential 

GDP (the level of inflation-adjusted gross domestic product that 

corresponds to a high level of resource—labor and capital—

use) to the potential labor force (the labor force adjusted for 

movements in the business cycle).

Potential Output

Growth of potential output (potential GDP) will average 

2.8 percent during the years from 2006 to 2016, CBO 

projects (see Table 2-2 on page 35). Over the course of 

that period, the growth of potential GDP slows, averaging 3 percent annually from 2006 to 2011 and then subsiding to 2.6 percent, on average, from 2012 to 2016. 

The slowdown arises largely because of declining growth 

in the potential labor force.

The projected rate of growth of potential output is lower 

than its average pace of 3.3 percent over the past 40 years 

(see Figure 2-11). The drop is due to slower growth in the 

potential labor force, which expands at a rate 1.0 percentage point slower than its 40-year average of 1.7 percent. 

By contrast, the capital stock and TFP are projected to 

grow at rates that are closer to their long-run averages, 

implying a larger-than-average increase in capital per 

worker. As a result, potential labor force productivity (or 

potential GDP per potential labor force member) grows 

more quickly over the 10 years of CBO’s projection than 

it has in most of the postwar period.

Labor Force and Hours Worked. CBO projects that the 

potential labor force will grow at an average annual pace 

of 0.7 percent during the 2006–2016 projection period, a 

rate slightly lower than that projected last January and 

considerably below the average rate of growth during the 

past several decades. The decrease stems largely from demographic forces, as more and more of the large cohort 

of workers born during the postwar baby boom retire. 

The drop also stems from the expected effects that the expiration of several tax provisions will have on the supply 

of labor. When those provisions (contained in the Economic Growth and Tax Relief Reconciliation Act of 2001 

and the Jobs and Growth Tax Relief Reconciliation Act of 

2003) expire at the end of 2010, the marginal tax rate on 

labor (the rate on the last dollar of income) will rise, decreasing people’s incentives to work and somewhat reducing the potential labor supply. 

Compared with its estimates of last January, CBO has 

made three changes that together have resulted in a 

downward revision to potential hours worked for both 

2005 and the 2006–2016 period (see Box 2-1).

0.0

0.5

1.0

1.5

2.0

2.5

3.0

3.5

3.3 3.1 3.1 3.2

2.8

Past 40

Years

Past 30

Years

Past 20

Years

Past 10

Years

CBO

Projections,

2006–2016

Real Potential Output

0

0.0

0.5

1.0

1.5

2.0

2.5

3.0

3.5

1.7 1.6

1.3 1.2

0.7

Potential Labor Force

Potential Labor Force Productivitya

Past 40

Years

Past 30

Years

Past 20

Years

Past 10

Years

CBO

Projections,

2006–2016

Past 40

Years

Past 30

Years

Past 20

Years

Past 10

Years

CBO

Projections,

2006–2016

0

0 0

0.5

1.0

1.5

2.0

2.5

3.0

3.5

1.5 1.5

1.8 2.0 2.1

0
CHAPTER TWO THE ECONOMIC OUTLOOK 37

Figure 2-12.

Actual and Potential Labor Force

Participation

(Percent)

Sources: Congressional Budget Office; Department of Labor, Bureau 

of Labor Statistics.

Notes: The potential labor force participation rate is the rate consistent with full employment.

For the actual participation rate, data are quarterly and are 

plotted through the second quarter of 2006. For potential 

participation rates, data are annual and are plotted through 

2016.

B First, CBO has lowered its estimate of the rate of labor 

force participation—and hence its view of what the labor force would be if the economy was operating at its 

potential—both for 2005 and through 2016 (see 

Figure 2-12). Much of the decline in participation 

that has occurred in recent years—particularly for 

younger workers and women ages 25 to 54—appears 

to be more permanent than transitory. That change 

has the effect of reducing potential output throughout 

the years of CBO’s outlook.

B Second, CBO has lowered its estimate of the natural 

rate of unemployment (the rate that would prevail, on 

average, in the absence of cyclical fluctuations) from 

5.2 percent to 5.0 percent. That change raises potential output throughout the projection period but not 

by enough to fully offset the effect of a lower potential 

level of the labor force.

B Third, CBO has incorporated in its forecast the assumption that average hours per worker per week will 

decline more slowly than they have in recent years. Although that change does not affect the current level of 

potential output, it does increase potential output 

slightly by 2016.

Capital Services. Capital services will grow during the 

projection period, in CBO’s estimation, at an average annual rate of 4.0 percent, which is slightly below the pace 

of 4.1 percent that CBO projected in January. The estimate has been reduced, even though the level of business 

investment in CBO’s current projections is higher and investment grows faster during the 2006–2016 period than 

CBO had projected in January. The difference stems 

from a change in the composition of investment relative 

to what CBO had assumed last winter. Specifically, 

CBO’s current projection incorporates the assumption 

that business investment will shift toward assets that provide slightly lower levels of capital services per year (such 

as nonresidential structures) and away from assets that 

provide relatively higher levels of services (such as producers’ durable equipment and software).

Total Factor Productivity. Potential total factor productivity (potential TFP) is expected to rise at an average annual rate of 1.5 percent during the 2006–2016 period, up 

slightly compared with CBO’s January projection. The 

upward revision in the projected growth rate results in 

part from new data and in part from CBO’s downward 

revision to the natural rate of unemployment (which is 

used to calculate potential TFP). A lower estimate of the 

natural rate, all else being equal, implies that potential 

GDP is higher relative to actual GDP than was previously 

thought—and that in turn implies a higher value for potential TFP than had previously been estimated.

Inflation, Unemployment, and Interest Rates

For the most part, CBO’s outlook for inflation during the 

2008–2016 period has not changed much since January. 

Core and overall inflation as measured by the PCE price 

index are both projected to average 2.0 percent over the 

period, an outlook based on the assumption that the 

Federal Reserve will manage to keep inflation in check. 

Overall CPI-U inflation will average 2.2 percent, CBO 

projects, and the growth of the GDP price index will average 1.8 percent. The unemployment rate is expected to 

average 5 percent. 

1970 1975 1980 1985 1990 1995 2000 2005 2010 2015

70

68

66

64

62

60

0

January

2006

Estimate

of Potential 

Current 

Estimate of

Potential

Potential

Actual
38 THE BUDGET AND ECONOMIC OUTLOOK: AN UPDATE

Box 2-1.

Changes in CBO’s Assumptions About the Labor Market

Over the past five years, the growth of the labor force, 

employment, and hours worked in the nonfarm business sector has continued to be slower than the 

growth expected on the basis of past business cycles. 

As a consequence, the Congressional Budget Office 

(CBO) has changed its projections of those variables.

The Labor Force

Since the end of the 2001 recession, the growth of the 

labor force has consistently fallen short of expectations. Until now, CBO had assumed that the decline 

in the labor force participation rate—from 67.1 percent in 2000 to a low of 65.8 percent in the first 

quarter of 2005 and an average of 66.1 percent during the first half of 2006—was largely a cyclical phenomenon; consequently, CBO expected that participation would rebound significantly, as would the 

labor force.1

 But that rebound has failed to materialize. In particular, the participation rate of women 

ages 25 to 54 has dropped, reversing a long upward 

trend, and participation rates have fallen sharply for 

teens and dropped for young adults (see the figure to 

the right). CBO now believes that a large portion of 

the decline in participation is permanent rather than 

cyclical—that is, the overall participation rate is unlikely to regain much of the ground that it has lost.2

In its current forecast, CBO has reduced its estimate 

of the potential participation rate for 2005—the rate 

consistent with full employment—to 66.2 percent, 

only slightly higher than the actual participation rate 

during the first half of 2006 (see Figure 2-12 on 

page 37). CBO’s current revision to participation 

rates follows a series of smaller revisions since 2004.5

For 2016, the lower potential participation rate in 

CBO’s current projection reduces the level of the projected labor force by a million people (to 161.7 million) compared with last January’s projection; that 

drop corresponds to a reduction—from 64.7 percent 

to 64.2 percent—in the potential participation rate 

for that year. (The decline in the rate between 2005 

and 2016 mainly reflects the retirement of more and 

more baby boomers, an element of CBO’s labor force 

projections that has not changed significantly since 

2004.) 

1. See Congressional Budget Office, CBO’s Projections of the 

Labor Force (September 2004).

2. Economists at the Federal Reserve Board have reached a similar conclusion. They also suggest that the cyclical component reflects exceptional strength during the late 1990s at 

least as much as it reflects the 2001 recession and subsequent 

period of slow growth. See Stephanie Aaronson and others, 

The Recent Decline in the Labor Force Participation Rate and 

Its Implications for Potential Labor Supply, Brookings Papers 

on Economic Activity (Washington, D.C.: Brookings Institution, forthcoming). 

3. In CBO’s January forecast, the potential participation rate 

was 66.5 percent. See Congressional Budget Office, The 

Budget and Economic Outlook: Fiscal Years 2007 to 2016

(January 2006).
CHAPTER TWO THE ECONOMIC OUTLOOK 39

Box 2-1.

Continued

Labor Force Participation Rates,

Selected Groups

(Percent)

Sources: Congressional Budget Office; Department of Labor, 

Bureau of Labor Statistics.

Note: All data are annual.

The Natural Rate of Unemployment

CBO’s lower estimate of the natural rate of unemployment is directly related to the downward revision 

in its estimate of the potential labor force and reflects 

the lower participation rates since 2000 for teens and 

young adults. The teenage unemployment rate stood 

at 16.6 percent in 2005; if the teen participation rate 

had not fallen but remained at its 2000 level, the 

overall unemployment rate would have been 0.1 percentage point higher than it actually was.4 The declining participation rate among 20- to 24-year-olds 

and the increase in the share of the labor force composed of people ages 55 and older (who have belowaverage unemployment rates) have also reduced the 

natural rate by an additional 0.1 percentage point 

since the late 1990s. However, the projected composition of the labor force over the next 10 years implies 

no further drop from the 2005 level.

Average Weekly Hours

A third revision affecting CBO’s assumptions about 

the labor market involves the length of the workweek. 

CBO’s January forecast incorporated the assumption 

that the downward trend in average weekly hours per 

worker in the nonfarm business sector would continue at the same rate throughout the projection period. In the current projection, by contrast, that 

downward trend slows to less than half its pace of the 

past 20 years. The change reflects CBO’s view that 

the downward trend is largely attributable to a shift 

in the composition of employment by industry—specifically, the rapid decline that has occurred in the 

share of employment accounted for by manufacturing. (The workweek for production workers in manufacturing averaged 41.1 hours during the first half 

of 2006, compared with 33.8 hours for all production and nonsupervisory workers in the private sector.)5

 The change CBO has made in its assumptions 

reflects its view that the pace of compositional change 

will slow and manufacturing employment will rebound somewhat in response to firms’ strong investment spending and a depreciating dollar.

4. CBO assumed for that estimate that the declining teen participation rate affected neither the teen unemployment rate 

nor the labor force status of adults.

1970 1975 1980 1985 1990 1995 2000 2005

100

90

80

70

60

50

40

0

 Women, 

Ages 25 to 54

Young Adults,

Ages 20 to 24

Teens,

Ages 16 to 19

5. During the 1970s and early 1980s, by contrast, the decline in 

average weekly hours largely reflected the increasing share of 

part-time work that accompanied the rapid rise in women’s 

labor force participation over that period. However, the percentage of workers employed part time has not increased further over the past two decades. 
40 THE BUDGET AND ECONOMIC OUTLOOK: AN UPDATE

The rate on three-month Treasury bills will average about 

4.5 percent during the 2008–2016 period, in CBO’s estimation, and the rate on 10-year Treasury notes will average 5.2 percent. To project nominal interest rates in that 

period, CBO added expected inflation (its projection of 

the CPI-U) to its estimates of real interest rates. The real 

interest rate on three-month Treasury bills is projected to 

average 2.3 percent during the 2008–2016 period and 

the real rate on 10-year Treasury notes, 3 percent.17

CBO’s current projection of the real long-term rate is the 

same as the estimate it published in January; however, its 

current projection of the real short-term rate over the 

next 10 years is 0.1 percentage point higher—because 

projected rates are higher from 2006 through 2009. During the 2010–2016 period, real short-term rates average 

2.2 percent, identical to the rate that CBO projected in 

January.

Projections of Income 

CBO’s economic projections are the basis for its projections of federal revenues. Most directly affecting the outlook for revenues are projections of the various categories 

of national income as measured in the NIPAs: specifically, 

wages and salaries, corporate profits, proprietors’ income, 

interest income, and dividend income.18 Although those 

categories do not precisely correspond to the income concepts reported on tax forms for calculating tax liabilities, 

projections of them provide an important starting place 

for CBO’s estimates of federal revenues.

CBO projects the components of national income as 

shares of output, or GDP. At the broadest level, GDP can 

be divided into a share for labor income, a share for capital income, and a share that reflects taxes on production 

and imports. Those shares have been fairly stable during 

the postwar period, averaging 62.3 percent for labor, 

29.9 percent for capital, and 7.8 percent for taxes. 

Labor income consists of the total compensation that employers pay their employees—that is, the sum of wages 

and salaries and supplemental benefits (the employer’s 

share of health and other insurance premiums and employers’ contributions to pension funds)—and the employer’s share of payroll taxes (Social Security and Medicare). In addition, CBO assumes that about 65 percent of 

proprietors’ income is part of labor’s share of GDP. Capital income consists of domestic corporate profits, depreciation charges, interest and transfer payments made by domestic businesses, rental income, and the remaining 35 

percent of proprietors’ income.

Recent NIPA data indicate that labor’s share of GDP during the last half of 2005 and the first half of 2006—about 

61.4 percent of GDP—was low relative to its historical 

average; however, CBO anticipates that that share will 

rise during the rest of this year. CBO projects that in subsequent years, labor’s share of income will gradually revert 

to its historical average (see Figure 2-13). 

Wages and salaries is the single most important category 

of income for projecting revenues, making up the largest 

part of the income base that is used to project individual 

income taxes and to estimate payroll taxes (including 

contributions by employers and employees). Estimates 

from the NIPAs indicate that the wage and salary share of 

GDP was smaller in late 2005 and early 2006 than it had 

been during the past decade. However, CBO anticipates 

that over the next two years, the labor market will be 

tight enough to put upward pressure on wages and salaries and their share of GDP is likely to rebound. 

CBO projects faster growth of benefits than of GDP over 

the next 10 years. In the short term, that increase comes 

from payments to pension plans: firms must make additional contributions to their underfunded defined-benefit 

pension plans. For the most part, businesses will not pay 

the required contributions for 2006 until 2007—resulting in a jump in those payments next year. Beyond 2007, 

the growth of benefits is mainly attributable to the 

growth of employers’ contributions for health insurance.

17. The estimates of real rates are based on two economic assumptions. First, the real long-term rate on Treasury securities is 

assumed to converge to the real return to nonfinancial capital 

assets (structures, equipment, and software) after an adjustment 

for the risk of default inherent in financial claims on private assets. 

Second, the real short-term rate on bills is assumed to converge to 

a lower level. The difference between long- and short-term rates 

reflects, among other things, the fact that interest rates on longterm bonds include a premium for the uncertainty that surrounds 

future interest rates. In its economic projections for the next 

10 years, CBO incorporates the assumption that the spread 

between the rates increases from 40 basis points in 2007 to 

80 basis points, which is much lower than the average of 140 basis 

points for the post-World War II period as a whole. 

18. See Congressional Budget Office, How CBO Forecasts Income 

(forthcoming).
CHAPTER TWO THE ECONOMIC OUTLOOK 41

Figure 2-13.

Labor Income

(Percentage of gross domestic product)

Sources: Congressional Budget Office; Department of Commerce, 

Bureau of Economic Analysis.

Note: Data are annual and are plotted through 2016.

a. The total compensation that employers pay their employees, 

including benefits, the employer’s share of payroll taxes, and 

some proprietors’ income.

Capital’s share of GDP will move inversely with that of 

labor, declining rather quickly during the next few years 

and then trending down more slowly. Corporate economic profits, which account for roughly a third of capital’s GDP share, are forecast to fall even more than the 

overall share will. During the next two years, businesses’ 

interest payments, which reduce profits, are likely to 

climb, as interest rates continue to rise and corporate debt 

increases. After 2007, profits will fall as a share of GDP, 

in CBO’s estimation, mainly because of a steady increase 

in costs for depreciation. Such costs have generally been 

declining since the 2001 recession because investment 

was at a low ebb from 2001 until mid-2003 and the corporate capital stock thus grew slowly. However, in CBO’s 

current projection, depreciation costs increase relative to 

GDP because of faster growth in investment and in the 

capital stock. 

The basis for projecting corporate tax liabilities is not 

economic profits but book profits. Book profits more 

closely track the profits that firms report under Internal 

Revenue Service (IRS) rules for depreciation, inventory 

valuation, and the like. By contrast, economic profits use 

economic principles for depreciation and inventory valuation rather than IRS rules. Book profits have deviated 

sharply from economic profits in recent years because the 

IRS rules for depreciation were temporarily changed under the partial-expensing provisions of the Job Creation 

and Worker Assistance Act of 2002 and JGTRRA, which 

permitted much larger depreciation charges than economic estimates of depreciation implied. CBO projects 

that over the next 10 years, book profits will gradually decline relative to economic profits.

Changes in the Outlook Since

January 2006 

Changes to CBO’s economic forecast since January have 

increased both projected revenues and projected outlays 

for the 2006–2016 period—but revenues have been 

boosted to a greater degree than outlays have. Thus, the 

changes to CBO’s economic outlook have reduced its 

projections of the budget deficit. CBO’s current projections do not include the effects of the late-July revisions 

to the NIPAs (see Box 2-2).

In response to current developments, CBO has slightly 

reduced its estimate of the growth of real GDP over the 

next five years (see Table 2-3 on page 45). As a result, the 

level of real GDP throughout the 2006–2016 period is 

lower than that projected in January. At the same time, 

however, the rate of growth in the GDP price index has 

been raised for 2006 and 2007 (as have forecasts of other 

inflation measures). The net effect of those two changes is 

to decrease the level of nominal GDP by about $206 billion from 2008 to 2016, or about 0.1 percent of cumulative GDP for that period. In the short term, nominal 

GDP is higher than CBO had projected last January.

By itself, the downward revision to nominal GDP after 

2007 would slightly reduce projected revenues, whereas 

the upward revisions for 2006 and 2007 would slightly 

raise them. However, CBO has substantially increased its 

projection of corporate profits relative to GDP for the 

years 2006 to 2011, and especially in the early years of 

that period, because data from the NIPAs indicated that 

profits for the first quarter of 2006 were much stronger 

than CBO had projected in January. (In part, profits were 

stronger because large payments by corporations to their 

defined-benefit pension plans that had been incorporated 

into CBO’s projections did not appear in the NIPA numbers.) In response to the information from the NIPAs and 

the estimated effects of H.R. 4, the Pension Protection 

Act of 2006, CBO has raised its estimate of cumulative 

1965 1975 1985 1995 2005 2015

70

65

60

55

50

45

0

Wages and Salaries 

Total Labor Incomea

Post-World 

War II Average 
42 THE BUDGET AND ECONOMIC OUTLOOK: AN UPDATE

corporate profits for the 2006–2010 period by roughly 

$640 billion, relative to its January estimate.19 For 2011 

to 2016, CBO has reduced profits by $171 billion compared with January’s estimate because of lower nominal 

GDP and corporate profits’ slightly smaller share of 

output.

At the same time, wages and salaries for the first half of 

2006 were lower than CBO had projected in January. As 

a result, CBO has reduced the estimated level of wages 

and salaries throughout the 10-year period by about 

$26 billion per year, compared with its estimates last 

winter.

Changes in CBO’s projections of inflation, unemployment, and interest rates all affect its projections of budget 

outlays. CBO has raised its projection of inflation in the 

CPI-U price index for this year and next to a significant 

degree, and that change will increase outlays for various 

programs, including cost-of-living adjustments for federal 

retirement programs (which are indexed for inflation). In 

addition, CBO has boosted its forecast of interest rates 

slightly, on average, from 2006 to 2009, thus adding 

somewhat to federal interest costs. By contrast with those 

Box 2-2.

Recent Revisions to the National Income and Product Accounts

Each July, the Department of Commerce’s Bureau of 

Economic Analysis (BEA) releases a revised set of national income and product accounts (NIPAs). Typically, the revisions cover the previous three years and 

reflect new sources of data, changes to previously 

published data, and methodological changes. BEA released its latest revised estimates of gross domestic 

product (GDP) and other data on July 28, 2006.1

(The revisions affected data for 2003 through the 

first quarter of 2006.) Those changes came too late to 

be incorporated in the Congressional Budget Office’s 

(CBO’s) current economic forecast, but CBO’s preliminary assessment indicates that the revised data are 

unlikely to have a major impact on the broad outlines 

of its economic and budget projections.

In general, those revised data show that the rate of 

economic growth during the past three years has been 

lower and inflation slightly higher than was previously thought. Growth of real (inflation-adjusted) 

GDP for the years 2003 through 2005 is now estimated to average 3.2 percent annually, down from 

the previously estimated 3.5 percent. The primary 

reasons for that reduction are lower estimates of business fixed investment (especially for spending on 

equipment and software) and a reduction in personal 

consumption expenditures for nondurable goods 

(particularly food but also energy). Investment in residential structures was revised slightly upward.

As a result of the revisions, average annual growth of 

the GDP price index was faster (2.7 percent instead 

of 2.5 percent) during the 2003–2005 period than 

had previously been reported. That change occurred 

primarily because of higher estimates of growth in the 

prices of residential structures and in government 

consumption and investment expenditures. Measures 

of core inflation (excluding food and energy) were 

also revised upward to a slight degree. Growth in the 

core price index for personal consumption expenditures is now estimated to average 1.8 percent during 

the 2003–2005 period, up about 0.1 percentage 

point compared with the estimate before the revision.

BEA substantially revised several categories of income, but on balance, the effects of its changes to the 

data for taxable components of income were relatively small. For example, it lowered the estimate of 

labor compensation in the NIPAs by $37 billion for 

1. BEA will publish details of the July 28 revisions in the August 

2006 edition of Survey of Current Business, available at 

www.bea.gov.

19. Among its other provisions, the Pension Protection Act of 2006 

(at the time of this writing, awaiting signature by the President) 

extends from five years to seven (or more) the time sponsors of 

underfunded defined-benefit plans may take to make the required 

catch-up contributions to their pension funds.
CHAPTER TWO THE ECONOMIC OUTLOOK 43

changes, CBO has lowered its projection of the unemployment rate by about 0.2 percentage points throughout 

the 2006–2016 period, and that modification reduces 

outlays, mainly for unemployment insurance.

Comparison with Other Forecasts 

CBO’s economic forecast differs in some ways from those 

of the Administration and the Blue Chip consensus of 

about 50 private-sector forecasters (see Table 2-4 on 

page 46). In general, however, those differences are not 

large. 

CBO’s forecast for 2006 and 2007 does not differ for the 

most part from the Administration’s or the Blue Chip’s. 

CBO expects less real growth than the Administration 

does in 2007, measured on a fourth-quarter-to-fourthquarter basis, but higher growth than the Blue Chip consensus expects in both 2006 and 2007. CBO’s forecast of 

inflation, as measured by the growth in the GDP price 

index, is lower than both the Administration’s and the 

Blue Chip’s for both years. Although CBO expects more 

consumer price inflation in 2006 than the Administration does, its forecast of inflation in the CPI-U for 2007 

is lower. CBO anticipates a slightly lower rate of unemployment than that forecast by the Administration for 

2006 and a rate slightly lower than the Blue Chip’s for 

2007. Three-month Treasury bill rates for 2006 are 

slightly less in CBO’s than in the Blue Chip’s forecast; for 

2007, rates are higher in CBO’s forecast than in the 

Box 2-2.

Continued

2004 and $83 billion for 2005. However, much of 

that revision was caused by changes to the estimate of 

employer-provided health care and pension benefits, 

which are excluded from the tax base. BEA’s revision 

to wages and salaries was smaller, with upward 

changes of less than $3 billion for 2003 and 2004, a 

downward change of $47 billion for 2005, but little 

change for the first half of 2006. Moreover, the new 

pattern of year-to-year growth in wages and salaries 

conforms better to the pattern in tax withholding 

data for the past year and a half.

Similarly, BEA’s revised data for corporate profits are 

more consistent with the strength in corporate tax receipts observed during 2004 and 2005. Economic 

profits were revised upward (by $21 billion) for 2004 

and then downward by about the same amount for 

2005.2

 However, book profits (the measure that more 

closely tracks income that is taxed) were revised upward by $85 billion for 2004 and $80 billion for 

2005. The revision in book profits stems from a 

sharp reduction in BEA’s estimate of the amount of 

depreciation that corporations claimed in 2004 and 

2005 in response to changes in tax law in 2002 and 

2003. (A smaller estimate of corporate depreciation 

deductions raises book profits because depreciation is 

deducted from income for tax purposes.)

The revisions to the NIPAs may affect CBO’s outlook slightly when complete information on them—

including the revisions to capital stocks—is available 

and CBO has analyzed their implications. For example, the trend growth in CBO’s estimate of potential 

GDP may be revised downward because of BEA’s 

downward revision to output growth in recent years. 

However, it is unclear at present whether the revisions 

would significantly change CBO’s view of the economy or its projections. Similarly, the revisions would 

not significantly affect CBO’s baseline budget projections. Wage and salary disbursements, the primary 

income category for CBO’s revenue forecasting, were 

revised only modestly, and the projections anticipated 

a substantial share of the revised estimates of book 

profits.

2. Economic profits are the profits of corporations, adjusted to 

incorporate more-accurate depreciation allowances than 

those specified in the tax rules and to exclude the effect of 

inflation on the value of inventories. Economic profits are a 

better measure of profits from current production than are 

book profits, which are calculated using book (or tax) depreciation and standard accounting conventions for inventories.
44 THE BUDGET AND ECONOMIC OUTLOOK: AN UPDATE

Administration’s. CBO’s estimate of the rate for 10-year 

Treasury notes is slightly higher than the Administration’s 

for 2006; for 2007, CBO’s forecast is the highest.

For the 2008–2011 period, CBO projects less real growth 

and less inflation but a slightly higher rate of unemployment than the Administration does. (The Blue Chip’s estimates do not extend past 2007.) In addition, CBO 

projects a lower interest rate than the Administration 

does for 10-year Treasury notes but the identical rate for 

three-month Treasury bills.
CHAPTER TWO THE ECONOMIC OUTLOOK 45

Table 2-3.

CBO’s Current and Previous Economic Projections for Calendar Years

2006 to 2016

Sources: Congressional Budget Office; Department of Commerce, Bureau of Economic Analysis; Department of Labor, Bureau of Labor Statistics; Federal Reserve Board.

Note: Percentage changes are year over year; GDP = gross domestic product.

a. Values as of early July 2006, prior to the revisions to the national income and product accounts.

b. Level in 2011.

c. Level in 2016.

d. The consumer price index for all urban consumers.

Nominal GDP (Billions of dollars)

August 2006 12,487 13,308 13,993 16,914b 21,052c

January 2006 12,494 13,262 13,959 16,954b 21,064c

Nominal GDP (Percentage change)

August 2006 6.4 6.6 5.1 4.9 4.5

January 2006 6.5 6.1 5.3 5.0 4.4

Real GDP (Percentage change)

August 2006 3.5 3.5 3.0 3.0 2.6

January 2006 3.6 3.6 3.4 3.1 2.6

GDP Price Index (Percentage change)

August 2006 2.8 3.0 2.0 1.8 1.8

January 2006 2.7 2.4 1.8 1.8 1.8

Consumer Price Indexd

 (Percentage change)

August 2006 3.4 3.5 2.5 2.2 2.2

January 2006 3.4 2.8 2.2 2.2 2.2

Unemployment Rate (Percent)

August 2006 5.1 4.7 4.8 5.0 5.0

January 2006 5.1 5.0 5.0 5.2 5.2

Three-Month Treasury Bill Rate (Percent)

August 2006 3.1 4.8 5.0 4.5 4.4

January 2006 3.2 4.5 4.5 4.4 4.4

Ten-Year Treasury Note Rate (Percent)

August 2006 4.3 5.1 5.4 5.2 5.2

January 2006 4.3 5.1 5.2 5.2 5.2

Tax Bases (Billions of dollars)

August 2006 1,438 1,781 1,641 1,587b 1,884c

January 2006 1,434 1,451 1,438 1,555b 1,901c

August 2006 5,712 5,994 6,354 7,771b 9,619c

January 2006 5,723 6,050 6,383 7,785b 9,647c

Tax Bases (Percentage of GDP)

August 2006 11.5 13.4 11.7 10.1 9.0

January 2006 11.5 10.9 10.3 9.4 9.0

August 2006 45.7 45.0 45.4 45.8 45.8

January 2006 45.8 45.6 45.7 45.9 45.8

Real Potential GDP (Percentage change)

August 2006 2.9 3.1 3.2 3.0 2.6

January 2006 3.0 3.2 3.2 3.0 2.6

2012 to 2016

Memorandum:

Corporate book profits

Wages and salaries

2008 to 2011

Wages and salaries

Corporate book profits

Actual

2005a 2006 2007

Forecast Projected Annual Average
46 THE BUDGET AND ECONOMIC OUTLOOK: AN UPDATE

Table 2-4.

Comparison of CBO, Administration, and Blue Chip Forecasts for Calendar Years 

2006 to 2011

Source: Congressional Budget Office; Department of Labor, Bureau of Labor Statistics; Federal Reserve Board; Council of Economic Advisers, 

Department of the Treasury, and Office of Management and Budget, “Administration Economic Forecast” (joint press release, 

July 11, 2006); Aspen Publishers, Inc., Blue Chip Economic Indicators (August 10, 2006).

Notes: The Blue Chip consensus is the average of about 50 individual Blue Chip forecasts. The latest Blue Chip consensus does not extend 

past 2007.

GDP = gross domestic product; n.a. = not applicable.

a. Values for CBO and the Administration do not incorporate the July 2006 revisions to the national income and product accounts. Values for 

the Blue Chip consensus do incorporate those revisions, but they are probably not fully incorporated in the Blue Chip projections.

b. The consumer price index for all urban consumers.

Actual

2005a 2006 2007

Nominal GDP

CBO 6.4 6.3 5.0

Administration 6.4 6.6 5.7

Blue Chip consensus 6.4 6.3 5.2

Real GDP

CBO 3.2 3.6 3.1

Administration 3.2 3.6 3.3

Blue Chip consensus 3.1 3.3 2.8

GDP Price Index

CBO 3.1 2.6 1.9

Administration 3.1 2.9 2.3

Blue Chip consensus 3.1 2.9 2.3

Consumer Price Indexb 

CBO 3.7 3.2 2.2

Administration 3.7 3.0 2.4

Blue Chip consensus 3.7 3.2 2.5

Unemployment Rate

CBO 5.1 4.7 4.8

Administration 5.1 4.8 4.8

Blue Chip consensus 5.1 4.7 4.9

Three-Month Treasury Bill Rate

CBO 3.1 4.8 5.0

Administration 3.2 4.8 4.7

Blue Chip consensus 3.2 4.9 5.0

Ten-Year Treasury Note Rate

CBO 4.3 5.1 5.4

Administration 4.3 5.0 5.2

Blue Chip consensus 4.3 5.0 5.2

3.1

2.1

n.a.

Calendar Year Average (Percent)

n.a.

n.a.

2.5

2.2

Forecast

2008 to 2011

5.3

n.a.

n.a.

n.a.

4.8

3.0

1.8

Projected Annual Average,

Fourth Quarter to Fourth Quarter (Percentage Change)

n.a.

5.5

4.5

5.0

4.5

5.2

4.9
APPENDIX

A

Changes in CBO’s Baseline Since March 2006

In the five months since the Congressional Budget 

Office (CBO) published its previous baseline budget projections, its estimate of the deficit for fiscal year 2006 has 

declined significantly.1 That decrease results mainly from 

higher-than-anticipated revenues this year. On the outlay 

side of the budget, spending for some programs in 2006 

will be lower than previously estimated, but those 

changes are more than offset by spending from supplemental appropriations enacted in June. 

The cumulative deficit that CBO is projecting for the 

2007–2016 period has increased by $1 trillion since 

March (see Table A-1). That change does not represent a 

significant revision to the budget outlook, however. 

Rather, it results from extrapolating nearly $95 billion in 

recently enacted supplemental appropriations, as required 

by the statutory rules that govern the baseline. CBO’s 

view of the underlying budget and economic outlook for 

the next decade has not changed materially in recent 

months.

When CBO updates its 10-year baseline projections, it 

divides the changes into three categories according to 

their cause: 

B Enacted legislation, 

B Changes to CBO’s economic outlook, and 

B Other, so-called technical factors that affect the

budget.2

Legislative changes have added about $30 billion to this 

year’s estimated deficit and $1.4 trillion to the total deficit projected for the 2007–2016 period (mostly because 

of the extrapolation of recent supplemental appropriations). Economic and technical changes to the baseline—

which are more reflective of the underlying budget outlook—have reduced the estimated 2006 deficit by $107 

billion and the total 10-year deficit by $411 billion.

The Effects of Recent Legislation

Supplemental funding enacted in the past five months 

has had a major impact on CBO’s 10-year projections of 

discretionary outlays. Other laws enacted since March 

have had a small effect on projected outlays, but they 

have reduced projected revenues for the 2007–2016 

period by $145 billion.

Discretionary Spending

Recent laws have added an estimated $95 billion in discretionary budget authority and $25 billion in discretionary outlays to this year’s budget totals—mostly from 

additional appropriations provided for military opera1. In An Analysis of the President’s Budgetary Proposals for Fiscal Year 

2007 (March 2006), CBO estimated that the 2006 deficit would 

total $336 billion under current law and $371 billion if the President’s proposals (including supplemental appropriations for operations in Iraq and Afghanistan and funding for hurricane relief) 

were enacted. This appendix compares CBO’s latest baseline budget projections with the current-law estimates from March. (The 

comparisons at the beginning of Chapter 1 relate to the March 

estimates that included the President’s budgetary proposals.)

2. The categorization of such changes should be interpreted with 

caution. For example, legislative changes represent CBO’s best 

estimates of the future effects of laws enacted since the previous 

baseline was prepared. If a new law proves to have different effects 

than CBO initially estimated, the difference will appear as a technical change in later versions of the baseline. The distinction 

between economic and technical changes is similarly imprecise. 

CBO classifies economic adjustments as those resulting directly 

from changes in the components of its economic projections 

(interest rates, inflation, the growth of gross domestic product, 

and so on). Changes in other factors related to the economy (such 

as the size of capital gains realizations) are shown as technical 

adjustments.
48 THE BUDGET AND ECONOMIC OUTLOOK: AN UPDATE

Table A-1.

Changes in CBO’s Baseline Projections of the Deficit or Surplus Since 

March 2006

(Billions of dollars)

Continued

Total, Total,

2007- 2007-

2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2011 2016

-336 -265 -250 -224 -216 -117 58 53 74 91 70 -1,072 -726

Changes to Revenue Projections

-4 -32 -7 -21 -16 -7 -6 -12 -13 -14 -16 -84 -145

Economic 18 35 33 26 20 17 14 12 13 13 12 130 196

Technical 77 51 48 27 3 7 11 8 8 10 7 135 180 __ __ __ __ __ __ __ __ __ __ __ ___ ___

Total Revenue Changes 90 53 74 32 7 17 19 9 8 9 4 182 231

Changes to Outlay Projections

Pension Protection Act 0 * * * -1 -1 -1 -1 -1 -1 -1 -2 -5

Other * 2 * * * * * * * * * 2 2 _ _ _ _ __ __ __ __ __ __ __ __ __

Subtotal, mandatory * 2 * * -1 -1 -1 -1 -1 -1 -1 * -3

Defense 22 51 65 69 72 74 75 77 78 80 82 331 721

Nondefense 4 14 21 26 29 29 29 30 30 31 32 119 271 __ __ __ __ ___ ___ ___ ___ ___ ___ ___ ___ ___

Subtotal, discretionary 25 65 86 96 101 102 104 106 108 110 113 450 992

* 4 9 15 20 26 33 40 47 55 63 75 313 __ __ __ ___ ___ ___ ___ ___ ___ ___ ___ ___ _____

Subtotal, legislative 26 72 95 110 120 128 136 145 155 165 176 525 1,301

Economic

Social Security 0 4 5 5 5 5 5 6 6 6 7 26 57

Other -2 * 1 2 1 1 1 * -1 -1 -1 6 3 _ _ _ _ _ _ _ _ ___ __ ___

Subtotal, mandatory -2 5 6 7 7 7 6 5 5 6 6 31 60

* 2 3 3 3 4 4 4 4 4 4 16 36

Debt service * -1 -2 -3 -3 -3 -4 -4 -4 -5 -5 -13 -34

Rate effect/inflation 4 9 11 8 4 3 2 1 1 1 1 36 41 _ __ __ __ __ __ __ __ __ __ __ ___ ___

Subtotal, net interest 4 8 9 6 1 * -2 -3 -3 -4 -4 23 8

Subtotal, economic 3 15 18 16 11 10 8 6 6 6 7 70 104

Legislative

Total Deficit (-) or Surplus 

as Projected in March 2006

Legislative

Mandatory outlays

Discretionary outlays

Net interest outlays (Debt service)

Mandatory outlays

Discretionary outlays

Net interest outlays
APPENDIX A CHANGES IN CBO’S BASELINE SINCE MARCH 2006 49

Table A-1.

Continued

(Billions of dollars)

Source: Congressional Budget Office.

Note: * = between -$500 million and $500 million.

a. Negative numbers indicate an increase in the deficit or a decrease in the surplus.

tions and other defense activities in Iraq and Afghanistan. 

As required by the rules set forth in the Balanced Budget 

and Emergency Deficit Control Act of 1985, CBO’s 

baseline assumes that those appropriations will continue 

in future years at the current level, adjusted for projected 

rates of inflation. As a result, legislative changes since 

March have increased the total discretionary outlays projected for the 2007–2016 period by $992 billion.

Defense. In June, the Emergency Supplemental Appropriations Act for Defense, the Global War on Terror, and 

Hurricane Recovery, 2006 (Public Law 109-234), provided $66 billion in budget authority to the Department 

of Defense (DoD) to cover the costs of operations in Iraq 

and Afghanistan. (DoD also received supplemental 

appropriations of roughly $2 billion for activities related 

to hurricane relief and border security.) CBO estimates 

that the department will spend about $22 billion of that 

funding in 2006—with half of the outlays going for military pay. Most of the rest of those outlays are expected to 

cover other day-to-day operating expenses, such as costs 

associated with transportation, base support, and maintenance and repair of equipment. Extrapolating the recent 

2006 supplemental appropriations through 2016 

increases projected defense outlays over 10 years by 

$721 billion.

Total, Total,

2007- 2007-

2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2011 2016

Medicaid -8 -4 -2 -1 -1 -1 -1 -1 * * * -9 -12

Student loans 8 * * * * * * * * * * * *

Other -9 * -4 -2 * 1 1 1 2 3 2 -3 6 ___ __ __ __ __ __ __ _____ ___ ___

Subtotal, mandatory -10 -4 -6 -3 * 1 * 1 2 2 2 -13 -6

-3 -1 * * * * * * * * * -1 -1

Debt service -1 -6 -9 -12 -13 -14 -15 -16 -17 -18 -19 -54 -137

Other -1 * -1 * * * 1 1 1 1 1 -1 5 __ __ ___ ___ ___ ___ ___ ___ ___ ___ ___ ___ ____

Subtotal, net interest -2 -7 -10 -12 -13 -13 -13 -15 -15 -17 -18 -54 -132

Subtotal, technical -14 -12 -16 -14 -13 -12 -13 -14 -14 -14 -16 -68 -139 ___ ___ ___ ___ ___ ___ ___ ___ ___ ___ ___ ___ _____

Total Outlay Changes 14 75 96 112 118 126 130 138 147 156 167 527 1,266

76 -21 -23 -80 -112 -110 -111 -129 -139 -147 -163 -346 -1,035

-260 -286 -273 -304 -328 -227 -54 -76 -64 -56 -93 -1,418 -1,761

-30 -104 -102 -131 -137 -135 -142 -157 -168 -179 -192 -609 -1,446

16 20 15 10 8 6 6 6 7 7 6 60 92

91 62 64 41 16 20 24 22 22 24 23 203 319

Total Impact on the Deficit or Surplusa

Total Deficit as Projected

in August 2006

Technical

Memorandum:a

Total Legislative Changes

Total Economic Changes

Total Technical Changes

Mandatory outlays

Discretionary outlays

Net interest outlays

Changes to Outlay Projections (Continued)
50 THE BUDGET AND ECONOMIC OUTLOOK: AN UPDATE

Nondefense. P.L. 109-234 also provided $26 billion in 

appropriations for nondefense programs—mainly for relief and recovery from hurricane damage ($19 billion); 

State Department activities and foreign assistance programs, primarily for Iraq ($4 billion); and avian flu research, preparedness, and response ($2 billion). Extrapolating that additional funding raises projected nondefense 

discretionary outlays by $271 billion between 2007 and 

2016.

Mandatory Spending

Recent legislative changes to mandatory programs have 

been modest—reducing projected spending over the 

2007–2016 period by just $3 billion. That reduction 

mostly comes from higher projected collections of offsetting receipts as a result of the Pension Protection Act of 

2006 (H.R. 4). Those additional receipts are partly offset 

by slightly higher projected spending as a result of the 

National Flood Insurance Program Enhanced Borrowing 

Authority Act of 2006 (P.L. 109-208). 

The Pension Protection Act is expected to reduce net outlays by a total of $5 billion over the 10-year projection 

period. Most of the law’s impact on spending will stem 

from changes in the premiums that companies pay to the 

Pension Benefit Guaranty Corporation (PBGC). The act 

alters funding requirements for defined-benefit pension 

plans; increases the amount of plans’ underfunding on 

which firms pay premiums to the PBGC; and permanently extends the special premium paid by sponsors of 

plans that are terminated on an involuntary or distressed 

basis. (That premium had been scheduled to expire in 

December 2010.)

P.L. 109-208 increases the Federal Emergency Management Agency’s borrowing authority by $2.275 billion to 

cover flood insurance claims resulting from Hurricanes 

Katrina, Rita, and Wilma in 2005. CBO expects that the 

additional outlays will occur in 2007.

Revenues

Legislation enacted since March has had a modest impact 

on CBO’s revenue projections. CBO and the Joint Committee on Taxation (JCT) estimate that recently enacted 

laws will lower revenues by $4 billion this year, $32 billion in 2007, and $145 billion over the 2007–2016

period. 

Almost all of those changes result from the Tax Increase 

Prevention and Reconciliation Act of 2005, or TIPRA 

(P.L. 109-222), which was enacted in May 2006, and the 

Pension Protection Act of 2006. TIPRA makes a number 

of changes to tax law, including: 

B Extending the 15 percent and zero tax rates for longterm capital gains and qualified dividends through 

December 31, 2010;3

B Increasing the amount of income exempt from the 

individual alternative minimum tax and allowing certain nonrefundable credits to be claimed under the tax 

through December 31, 2006; 

B Extending some tax provisions that affect controlled 

foreign corporations through the end of 2008;4

B Raising from 14 to 18 the age of children whose 

investment income (currently in excess of $1,700) can 

be taxed at their parents’ tax rate; 

B Removing the income limitation for converting traditional individual retirement accounts (IRAs) to Roth 

IRAs after 2009 and allowing taxpayers who convert 

their IRAs to Roth IRAs in 2010 to pay the resulting 

tax liability in equal installments in 2011 and 2012; 

B Indexing for inflation the amount of foreign-earned 

income that U.S. citizens can exclude from U.S. taxes, 

starting in 2006; 

B Capping the reimbursed expenses for foreign housing 

that can be excluded from taxable income, also starting in 2006;

B Requiring 3 percent withholding on certain payments 

for property and services made in 2011 or later by the 

federal government and by state and local governments; and

B Altering the timing of some estimated corporate tax 

payments in certain years. 

Together, TIPRA’s provisions will reduce revenues by 

$4 billion this year, $33 billion in 2007, and $72 billion 

3. Those rates depend on taxpayers’ tax brackets and amount of realized capital gains.

4. A controlled foreign corporation is a foreign company in which 50 

percent or more of the stock is owned by those U.S. shareholders 

who individually own at least 10 percent of the company’s stock.
APPENDIX A CHANGES IN CBO’S BASELINE SINCE MARCH 2006 51

over the 2007–2016 period, according to estimates by 

JCT.5

Besides changing the funding requirements for definedbenefit pension plans, the Pension Protection Act makes 

permanent the higher contribution limits for IRAs and 

employment-based retirement plans that were scheduled 

to expire at the end of 2010. It also extends a tax credit 

for contributions to certain retirement savings accounts 

that was set to expire at the end of 2006. JCT estimates 

that the law will increase revenues by $0.5 billion in 2007 

but reduce them by a total of $73 billion over the 2007–

2016 period.

Net Interest

Overall, legislation enacted since March has increased the 

projected deficit for the 2007–2016 period by $1.1 trillion. The additional federal borrowing needed to finance 

that increase in the deficit is projected to add $313 billion 

to the government’s debt-service costs over the 10-year 

period (for a total legislative impact of $1.4 trillion).

The Effects of Economic Changes

CBO has raised its projections of both spending and revenues over the next 10 years because of changes to its economic outlook. Those increases largely offset each other, 

resulting in a relatively small effect on the baseline deficits 

or surpluses projected in March. On net, economic revisions cut $16 billion from the deficit estimated for this 

year and $92 billion from the total deficit for the 2007–

2016 period.

Mandatory Spending

Changes to CBO’s projections of inflation, wages, unemployment, and other economic variables affect the outlook for various mandatory programs. Such changes have 

reduced CBO’s estimate of mandatory outlays in 2006 by 

$2 billion but have raised baseline projections of mandatory spending from 2007 through 2016 by $60 billion.

Most of those changes involve the largest mandatory program, Social Security. Inflation (as measured by the consumer price index for urban wage earners) has been significantly higher in 2006 than CBO expected. Because of 

that increase, CBO has added 1.0 percentage point to its 

estimate of the cost-of-living adjustment that will be 

made to Social Security benefits in 2007, which in turn 

raises projected payments to beneficiaries each year. In 

addition, higher estimates of growth in Social Security’s 

national average wage index raise projected benefit payments for future recipients. Together, those changes have 

boosted outlay projections for Social Security over the 

2007–2016 period by $57 billion.

Other economic changes to projections of mandatory 

spending result from upward and downward revisions 

that mostly offset each other and thus have a relatively 

small net effect—increasing outlays over the 10-year projection period by $3 billion. Higher estimates of inflation 

are the largest factor. They raise projected spending over 

the 2007–2016 period for programs such as civil service 

and military retirement (by $10 billion), the earned 

income and child tax credits (by $8 billion), and Supplemental Security Income (by $4 billion).

CBO is now projecting that the unemployment rate will 

be roughly 0.2 percentage points lower each year through 

2016 than it previously projected. Mainly as a result of 

that change, estimated outlays for unemployment compensation have declined by $1 billion for this year and by 

$21 billion for the following 10 years.

Discretionary Spending

By law, CBO must project discretionary budget authority 

using two measures of inflation: the gross domestic product (GDP) deflator (now called the GDP price index) 

and the employment cost index for wages and salaries. 

In CBO’s current economic forecast, the growth rates of 

both measures have risen for 2007 (by 0.4 percentage 

points for the GDP price index and by 0.1 percentage 

point for the employment cost index). Together, those 

increases add $36 billion to projected discretionary outlays over the 2007–2016 period. Beyond 2007, CBO’s 

estimates of the growth rate of the two measures of inflation are unchanged.

Revenues

Changes to the economic outlook have caused CBO to 

raise its revenue projections by $18 billion for this year 

and by $196 billion for the subsequent 10 years. Those 

increases are largest for 2007 and 2008 ($35 billion and 

$33 billion) and smaller for later years of the projection 

period (between $12 billion and $14 billion after 2011). 

The increases reflect higher projections of corporate and 

5. JCT based those estimates on CBO’s January 2006 baseline. They 

differ from the amounts that JCT estimated when TIPRA was 

under consideration, which were based on the January 2005 

baseline.
52 THE BUDGET AND ECONOMIC OUTLOOK: AN UPDATE

individual income tax receipts, partly offset by lower projections of revenues from social insurance taxes.

Recent quarterly data suggest that corporations’ book 

profits (called profits before tax in the national income 

and product accounts) will be $330 billion higher in calendar year 2006 than previously projected. That outlook 

for stronger profits has caused CBO to raise its estimates 

of future profits by steadily smaller amounts over the projection period. (The increase is smaller for each succeeding year because CBO expects profits, which are now at a 

historically high level relative to GDP, to gradually return 

close to the levels that it projected in January, when CBO 

previously updated its economic projections.) In all, 

CBO has increased its projection of corporate receipts 

over the 2007–2016 period by about $130 billion in 

response to the changed economic forecast.

CBO’s forecast for various types of personal income, 

especially interest income, has also risen. That increase 

adds about $86 billion to projected individual income tax 

receipts between 2007 and 2016, almost three-quarters of 

it in the second half of the 10-year period. 

Although CBO’s projection for personal income has increased, on net, its projection for wages and salaries (the 

most highly taxed form of income) has decreased slightly: 

by 0.3 percent over the 2007–2016 period. As a result, 

receipts from social insurance taxes—which are largely 

assessed on wage and salary disbursements—are about 

$23 billion smaller over that period than in the previous 

baseline projections.

Net Interest

Economic revisions to projections of net interest spending have two parts: the effects of changes in the outlook 

for interest rates and inflation, and changes in debtservice costs that result from the impact of all other economic changes on the baseline deficits or surpluses. The 

first factor has increased projected net interest outlays, 

and the second factor has lowered them—for a net 

increase of $8 billion over 10 years.

Higher inflation this year than CBO expected has 

boosted the amount of interest that the Treasury will pay 

on inflation-protected securities in 2006 by about $4 billion. Further, CBO’s forecast for three-month and 10-

year interest rates in 2007 and 2008 has risen by an average of about 0.5 and 0.2 percentage points, respectively. 

Because of those higher rates, projected interest outlays 

are $36 billion higher over the 2007–2011 period (and 

another $6 billion higher between 2012 and 2016). In 

the other direction, economic changes to the baseline 

have, on net, reduced the projected 10-year deficit, so 

they have lowered projected debt-service costs over that 

period by $34 billion, CBO estimates.

The Effects of Technical Changes

Technical changes comprise other revisions to the baseline that are not directly attributable to newly enacted 

laws or to changes in CBO’s economic forecast. Most of 

the technical revisions since March relate to revenue projections and the resulting impact on debt-service costs. 

Those revisions have increased projected revenues and 

slightly decreased projected outlays—for net reductions 

of $91 billion in this year’s estimated deficit and $319 billion in the deficits projected for the 2007–2016 period.

Revenues

CBO has raised its revenue projections by $77 billion for 

2006 and $180 billion for the following 10 years because 

of various technical factors—the most important of 

which is higher-than-expected receipts from individual 

income taxes this year. About 70 percent ($125 billion) of 

the total technical change to revenues over the 2007–

2016 period involves the projections for 2007 through 

2009.

Collections of individual and corporate income taxes so 

far this year have been substantially higher than CBO 

estimated in March. CBO now expects individual income 

tax receipts to grow by more than 14 percent in 2006 to 

almost $1.1 trillion and corporate receipts to grow by 22 

percent to $340 billion. Those totals are $56 billion and 

$38 billion higher, respectively, than CBO projected in 

March. 

As explained in Chapter 1, the underlying sources of the 

recent strength in individual income tax receipts will not 

be known until information from tax returns becomes 

available in the future. However, that strength has been 

observed in final payments made with tax returns (which 

reflect economic activity in 2005); withholding on wages 

and salaries earned in recent months; and quarterly payments based on taxpayers’ expected income for 2006. 

Without enough information available to explain the 

recent strength in individual income tax receipts, CBO 

assumes that the amount of receipts above what can be 
APPENDIX A CHANGES IN CBO’S BASELINE SINCE MARCH 2006 53

explained by recent economic data will largely continue 

through 2007 and then gradually decline over the following several years. CBO assumes that taxable income will 

eventually tend to return to its historical relationship to 

GDP. 

Total technical changes to revenue projections are smaller 

for 2007 ($51 billion) than for 2006 in part because of 

anticipated reductions in net receipts from the telephone 

excise tax. After the Internal Revenue Service eliminated 

most of that tax in response to legal challenges, CBO 

reduced its projection of receipts from the tax by about 

$12 billion for 2007 (including refunds of about $9 billion to be paid that year) and by $5 billion to $6 billion 

per year for 2008 to 2016—for a total reduction of $59 

billion over the 10-year period.

Other changes to CBO’s revenue models and forecasting 

methods—especially to those involving receipts from 

income taxes and estate and gift taxes—have also contributed to the latest technical revisions: 

B This year’s corporate income tax receipts are higher 

than can be explained by currently available data on 

corporate profits. As it did with individual income 

taxes, CBO assumes that some of that unexplained 

strength will persist in the near term.

B CBO has raised its projections of individual income 

tax receipts through 2016 to reflect new projections of 

the difference between the amount of receipts that the 

Treasury collects and the amount that is reported on 

tax returns (the starting point for CBO’s estimates).6

B CBO has increased its projections of receipts from 

estate and gift taxes, mainly after 2011, to reflect 

more-recent information about the distribution of 

wealth in the U.S. population.

Mandatory Spending

Recent technical revisions have had a modest effect on 

the outlook for mandatory spending. On net, such 

changes have trimmed $10 billion from CBO’s estimate 

of mandatory spending for 2006 and a total of just $6 

billion from the projections for the 2007–2016 period. 

The biggest changes involve the Medicaid program and 

student loans.

On the basis of outlays so far this year and an analysis of 

spending in individual states, CBO has lowered its estimates of federal Medicaid outlays by $8 billion for 2006 

and by $12 billion for the 2007–2016 period. CBO now 

expects that Medicaid will spend slightly less this year 

($181.5 billion) than it did in 2005 ($181.7 billion). 

That lack of growth partly reflects the fact that the new 

Medicare prescription drug program is paying for some 

benefits that were previously covered by Medicaid. 

Information from the Administration’s Mid-Session 

Review has led CBO to add about $8 billion to its estimate of outlays for student loans in 2006. About a third 

of that increase occurs because the Administration is 

planning a further budget adjustment (called a credit 

subsidy reestimate) to account for higher-than-expected 

subsidy costs for outstanding student loans. Much of the 

remaining difference results from the Administration’s 

budgetary treatment of consolidation loans, which differs 

significantly from that of CBO. The Administration 

treats a consolidated loan as a new loan, which generally 

raises loan subsidy costs, whereas CBO (as specified by 

law) treats consolidation as one of the terms of the original loan. Because the Treasury Department will report 

outlays using the Administration’s treatment, that difference will substantially increase the loan subsidy costs 

reported in 2006. 

Other technical changes reduce estimates of mandatory 

spending this year by $9 billion. The largest of those 

changes is a net reduction of $3 billion in estimated 

Medicare spending, based on actual outlays so far this 

year. CBO’s estimate of spending for Parts A and B of 

Medicare has declined by roughly $7 billion, whereas its 

estimate of spending for the Part D prescription drug 

program has grown by about $4 billion (largely because 

of higher-than-expected enrollment and lower-thanexpected premium payments). Among those other 

changes, CBO has increased its estimate of receipts from 

sales of military equipment to foreign governments and 

its estimate of collections from outstanding loans for international assistance programs. Together, those increases 

in offsetting receipts reduce the mandatory outlays projected for 2006 by roughly $2 billion. 

6. One reason for that difference is that some lower-income workers 

who do not owe income taxes have tax withheld from their paychecks but do not file tax returns to receive refunds.
54 THE BUDGET AND ECONOMIC OUTLOOK: AN UPDATE

Discretionary Spending

Technical changes to CBO’s baseline projections for discretionary programs have been minimal since March. 

Together, those changes have lowered projected outlays 

by $3 billion for this year and by a total of just $1 billion 

for the 2007–2016 period. 

Net Interest

Technical changes have reduced CBO’s projections of net 

interest outlays over the next 10 years by $132 billion. 

Most of that reduction stems from lower projected debtservice costs because technical changes have increased 

projected revenues (mainly from corporate and individual 

income taxes) and lowered projected outlays (mostly for 

Medicaid). Other, smaller changes to projections of net 

interest spending reflect revisions to CBO’s projections of 

intragovernmental interest payments and of the borrowing needs of federal loan programs.
APPENDIX

B

A Comparison of CBO’s and OMB’s Baselines

The Administration’s Office of Management and 

Budget (OMB) published its annual Mid-Session Review

of the President’s budget on July 11, 2006.1

 In that 

report, OMB updated its baseline and policy projections 

and its economic assumptions through 2011. This 

appendix compares OMB’s baseline projections—which 

that agency labels its “current-services” baseline—with 

those prepared by the Congressional Budget Office 

(CBO).2

For fiscal year 2006, CBO anticipates a deficit of $260 

billion, $31 billion less than OMB’s current-services estimate of $290 billion.3

 Both agencies expect about the 

same amount of revenues for the year, but CBO anticipates that outlays will be $31 billion less than OMB

estimates. 

Comparing the two baselines for subsequent years is not 

straightforward, however, because they are conceptually 

different. In the past, OMB and CBO constructed their 

baselines using similar concepts derived from the Balanced Budget and Emergency Deficit Control Act of 

1985. Consequently, discrepancies between the agencies’ 

estimates were attributable primarily to differences in 

their respective technical and economic assumptions. 

But, this year’s projections reflect the continuation of a 

recent pattern in which OMB has deviated from the conceptual framework specified in the Deficit Control Act. 

The Administration has not followed the statutory baseline rules in two significant areas. First, it has not extrapolated and inflated all of the discretionary funding provided in 2006. Its current-services baseline excludes 

further funding for U.S. activities in Iraq and Afghanistan, which has totaled $120 billion this year. It also does 

not extrapolate supplemental budget authority provided 

for hurricane relief and recovery ($48 billion), avian flu 

preparedness ($6 billion), and other programs ($2 billion). By contrast, CBO’s baseline follows the specifications of the Deficit Control Act and assumes that all appropriations for 2006 are continued in future years, with 

adjustments for inflation. As a result of differing treatments of supplemental appropriations, CBO’s projection 

of discretionary outlays is $735 billion higher than that of 

the Administration over the 2007–2011 period.

Second, OMB’s current-services baseline assumes that 

most major provisions initially enacted in the Economic 

Growth and Tax Relief Reconciliation Act of 2001 

(EGTRRA) and the Jobs and Growth Tax Relief Reconciliation Act of 2003 (JGTRRA) will be extended, 

although, under statutory baseline rules, they should be 

assumed to expire as scheduled.4

 Most of those tax provisions are slated to expire at the end of December 2010, 

thereby causing CBO’s estimates of revenues to exceed 

OMB’s by $157 billion between 2007 and 2011. Most of 

that disparity occurs in 2011.

In addition to those conceptual adjustments, OMB made 

two small changes in the way it accounts for increases in 

pay and administrative expenses when projecting discretionary spending. Those changes result in lower levels of 

1. Office of Management and Budget, Fiscal Year 2007 Mid-Session 

Review: Budget of the U.S. Government (July 11, 2006).

2. This appendix analyzes the differences between CBO’s and 

OMB’s baseline projections over the next five years. A 10-year 

analysis was not possible because OMB’s baseline ends in 2011. 

3. OMB’s $290 billion baseline deficit is slightly lower than the 

$296 billion deficit that it estimated assuming the enactment of 

additional funding for the National Flood Insurance Program, an 

extension of the research and experimentation tax credit, and a 

few other proposals.

4. The Tax Increase Prevention and Reconciliation Act of 2005 

extended lower tax rates for long-term capital gains and qualified 

dividends through 2010. Those lower rates were originally 

enacted through 2008 in JGTRRA.
56 THE BUDGET AND ECONOMIC OUTLOOK: AN UPDATE

Table B-1.

A Comparison of CBO’s August 2006 Baseline and OMB’s July 2006 

Current-Services Baseline

(Billions of dollars)

Continued

Total,

2007-

2006 2007 2008 2009 2010 2011 2011

2,403 2,515 2,672 2,775 2,890 3,156 14,007

1,798 1,878 2,001 2,068 2,146 2,377 10,471

605 637 671 707 744 779 3,536

1,418 1,486 1,569 1,659 1,759 1,882 8,355

1,025 1,065 1,106 1,138 1,164 1,192 5,666

220 249 270 282 295 308 1,404 _____ _____ _____ _____ _____ _____ ______

2,663 2,801 2,945 3,079 3,217 3,382 15,425

On-budget 2,235 2,349 2,479 2,594 2,713 2,858 12,993

Off-budget 428 451 466 485 505 525 2,432

-260 -286 -273 -304 -328 -227 -1,418

-437 -471 -478 -526 -567 -481 -2,522

177 185 204 221 239 254 1,104

2,403 2,470 2,673 2,791 2,955 3,129 14,018

1,798 1,841 2,000 2,081 2,202 2,330 10,454

605 629 673 710 753 799 3,564

1,439 1,482 1,566 1,664 1,761 1,884 8,358

1,035 1,006 966 975 991 1,016 4,955

219 247 264 275 284 290 1,360 _____ _____ _____ _____ _____ _____ ______

2,693 2,736 2,796 2,914 3,036 3,191 14,673

On-budget 2,265 2,287 2,332 2,431 2,532 2,664 12,245

Off-budget 428 449 464 483 505 527 2,428

-290 -266 -123 -122 -81 -62 -654

-468 -446 -332 -349 -330 -333 -1,791

177 181 209 227 249 271 1,137

OMB's July 2006 Current-Services Baseline

Revenues

On-budget

Off-budget

Outlays

Mandatory

Discretionary

Revenues

On-budget

Off-budget

CBO's August 2006 Baseline

Outlays

Discretionary

Mandatory

Net interest

Total

Deficit (-) or Surplus

On-budget

Off-budget

Off-budget

Net interest

Total

Deficit (-) or Surplus

On-budget
APPENDIX B A COMPARISON OF CBO’S AND OMB’S BASELINES 57

Table B-1.

Continued

Sources: Congressional Budget Office (CBO) and the Office of Management and Budget (OMB).

Notes: OMB’s current-services baseline deviates from the concepts delineated in the Balanced Budget and Emergency Deficit Control Act of 

1985 in two significant ways: it does not extrapolate supplemental appropriations provided for 2006 into future years, and it assumes 

that most tax provisions enacted in 2001 and 2003 will be extended.

* = between -$500 million and $500 million.

a. Positive numbers denote that the Administration’s deficit estimate is higher than CBO’s, and negative numbers denote that the Administration’s deficit estimate is lower than CBO’s.

spending relative to CBO’s estimates. Finally, because 

OMB’s estimates were prepared earlier than CBO’s, 

OMB’s baseline estimates do not include most of the 

effects of legislation enacted since early July (primarily 

the Pension Protection Act of 2006).5

Over the next five years, CBO’s estimate of baseline deficits exceeds OMB’s projection. In total, CBO’s projection 

of baseline deficits for the 2007–2011 period—$1.4 trillion—is twice as large as OMB’s figure of $0.7 trillion 

(see Table B-1).

Most of that discrepancy stems from the differing conceptual approaches applied to supplemental appropriations and expiring tax provisions. CBO estimates that if 

OMB were to follow the conventions specified in the 

Deficit Control Act (and could account for recent legislation) the gap would shrink from $763 billion to $94 billion.6

 Adjusted for the conceptual differences and recent 

legislation described above, CBO’s revenue projections 

would be lower than OMB’s by $163 billion, or 1.2 percent of total revenues. CBO’s estimate of outlays would 

also be lower than OMB’s, differing by just $70 billion 

over the five-year period.

Total,

2007-

2006 2007 2008 2009 2010 2011 2011

* 45 -1 -16 -66 27 -11

* 38 1 -13 -56 46 17

0 7 -2 -3 -10 -20 -28

-21 4 3 -5 -3 -3 -3

-11 59 140 163 173 176 711

1 2 6 8 11 18 45 ___ ___ ___ ___ ___ ___ ___

-31 65 149 165 181 191 752

On-budget -30 62 147 163 181 194 748

Off-budget * 3 2 2 * -3 5

31 -20 -150 -182 -247 -165 -763

31 -25 -145 -176 -237 -148 -731

* 5 -5 -5 -10 -17 -32

Difference (CBO's Baseline Minus OMB's)

Revenues

Deficit (-) or Surplusa

On-budget

Off-budget

Outlays

Mandatory

Discretionary

Net interest

Total

On-budget

Off-budget

5. OMB’s current-services baseline does include the effects of those 

provisions of the Pension Protection Act of 2006 (PPA) that 

extend some retirement provisions initially enacted in EGTRRA. 

Those components of PPA include permanently extending higher 

contribution limits for individual retirement accounts and 

employment-based retirement plans that were scheduled to expire 

at the end of 2010.

6. OMB has not published complete details on the impact of its 

conceptual adjustments to the baseline. CBO used its own calculations to estimate the effect of such differences. 
58 THE BUDGET AND ECONOMIC OUTLOOK: AN UPDATE

Outlays

CBO expects total outlays in 2006 to be $31 billion 

lower than OMB’s current-services estimate, with the 

largest differences attributable to spending for defense, 

Medicare, and Medicaid. For the 2007–2011 period, 

CBO projects $752 billion more in total outlays than 

OMB does in its current-services baseline. Conceptual 

differences and recent legislation boost CBO’s estimate of 

outlays over OMB’s by about $822 billion. However, 

underlying economic and technical assumptions cause 

CBO’s outlay projections to be $70 billion lower than 

OMB’s current-services estimates.

Mandatory Spending

CBO anticipates that mandatory outlays in 2006 will be 

$21 billion lower than the amount reported by the Administration. The largest differences are found in estimates of spending on Medicare ($7 billion) and Medicaid 

($3 billion). Most of the remaining gap stems from differences in estimates in several areas, including unemployment compensation, the Universal Service Fund, the 

National Flood Insurance Program, and liquidating 

accounts for credit programs.7

For the 2007–2011 period, CBO projects only $3 billion 

less in mandatory outlays than OMB does. CBO projects 

higher outlays for Medicaid ($36 billion) and Medicare 

($8 billion) and fewer receipts from auctions of portions 

of the electromagnetic spectrum ($11 billion). However, 

those estimates are more than offset by OMB’s higher 

projections of spending on veterans’ programs ($23 billion), student loans ($14 billion), Social Security ($4 billion), and a number of other programs.

Discretionary Spending

CBO estimates that outlays for defense in 2006 will total 

$522 billion—$10 billion less than OMB’s estimate of 

$532 billion. For the 2007–2011 period, CBO’s projections for defense outlays exceed OMB’s by $538 billion. 

Much of that difference results from the fact that OMB 

does not assume future-year appropriations equal to the 

inflated value of the $124 billion in funding provided in 

fiscal year 2006 for military operations in Iraq and Afghanistan and other supplemental funding.8

 Extrapolating that funding adds $547 billion to CBO’s baseline for 

defense outlays over the five-year period. Excluding such 

funding, CBO’s projection of defense discretionary outlays would be similar to that of the Administration, differing by only $9 billion (less than 1 percent) between 

2007 and 2011. 

For nondefense discretionary spending, CBO’s 2006 estimate of $502 billion is nearly identical to OMB’s total of 

$503 billion. For the 2007–2011 period, CBO projects 

that nondefense discretionary outlays will exceed OMB’s 

estimate by $173 billion under baseline assumptions. 

Again, most of that difference stems from the supplemental budget authority of about $53 billion that CBO extrapolates in its baseline, thereby adding $189 billion in 

outlays over the five-year period.9

 Excluding the extension of supplemental funding from CBO’s numbers, the 

Administration’s projections of nondefense discretionary 

outlays would be $16 billion higher than CBO’s, which 

represents a difference of less than 1 percent.

Net Interest

CBO’s estimate of net interest in 2006 is $1 billion 

higher than OMB’s, partly reflecting minor technical differences in the estimate of interest receipts from federal 

loan programs. For the 2007–2011 period, CBO’s projection of net interest outlays exceeds OMB’s by $45 billion. Conceptual differences cause CBO’s estimate of 

interest to be $75 billion above OMB’s total; differences 

in assumed interest rates, inflation, and other factors offset $30 billion of that amount.

Revenues

CBO’s estimate of revenues for 2006 is almost the same 

as OMB’s current-services estimate. Over the following 

five years, differences in projected revenues between the 

two agencies fluctuate. For 2007, CBO’s projection of 

revenues is $45 billion higher than OMB’s—nearly 2 percent of the total. For 2010, OMB’s projection is $66 billion greater than CBO’s. In 2011, the sign reverses

7. Liquidating accounts record the cash flows of federal credit programs for loans and loan guarantees provided prior to 1992.

They are sometimes referred to as pre-credit reform loans and 

guarantees. 

8. Appropriations related to activities in Iraq and Afghanistan totaled 

$116 billion for military operations and $4 billion for nondefense 

programs. Other supplemental appropriations provided $8 billion 

in budget authority for defense programs.

9. Policymakers also rescinded $23 billion from previous appropriations provided to the Federal Emergency Management Agency, 

but that rescission is not extended into the future in CBO’s

baseline. 
APPENDIX B A COMPARISON OF CBO’S AND OMB’S BASELINES 59

again as CBO’s projection exceeds that of OMB by $27 

billion.

Over the five-year period from 2007 to 2011, CBO’s estimate of total revenues is almost identical to OMB’s, 

although there are some offsetting differences underlying 

the $11 billion gap. CBO’s estimate is $163 billion (or 

1.2 percent) lower for economic and technical reasons 

and $5 billion lower because of recent legislation. Conceptual differences, however, boost CBO’s estimate by 

$157 billion (or 1.1 percent).

Differing economic projections, especially for wage and 

salary disbursements, explain some of the disparities between the agencies’ estimates for the 2007–2011 period. 

First, CBO assumes slightly lower growth in real (inflation-adjusted) gross domestic product (GDP) and slower 

increases in prices. As a result, CBO projects lower levels 

of nominal GDP and corresponding taxable incomes, 

especially wage and salary disbursements. (For CBO’s 

updated economic forecast, see Chapter 2.) In total, 

CBO projects that wages and salaries will be lower than 

OMB does over the 2007–2011 period by about $596 

billion (or 1.7 percent), which reduces CBO’s estimate of 

individual income and social insurance revenues relative 

to OMB’s estimate. The effects of those differing economic and technical assumptions are particularly evident 

in 2011, accounting for a $114 billion difference in revenues. Over half of that amount, or $66 billion, is attributable to differing wage and salary assumptions, and the 

remaining $48 billion is the result of other differences 

in the economic forecasts and miscellaneous technical 

differences. 

The conceptual differences derive from OMB’s inclusion 

of the effects of making permanent certain elements of 

the tax provisions initially enacted under EGTRRA and 

JGTRRA. The effects are particularly evident in 2011, 

when the Administration’s estimate includes an extension 

of the provisions scheduled to expire in December 2010. 

CBO and the Joint Committee on Taxation estimate that 

extending those elements of the tax laws would reduce 

revenues by about $157 billion between 2007 and 2011; 

a large portion of that reduction would take place in 

2011.

Legislation enacted after the Administration published its 

current-services baseline reduces CBO’s baseline revenue 

estimates relative to OMB’s estimates. The Pension Protection Act of 2006 lowers revenues by roughly $8 billion 

over the 2007–2011 period; however, $3 billion of that 

total stems from provisions that were assumed in the 

Administration’s current-services baseline.

APPENDIX

C

CBO’s Economic Projections for 2006 to 2016

The tables in this appendix expand on the information in Chapter 2 by showing the Congressional Budget 

Office’s (CBO’s) year-by-year economic projections for 

2006 to 2016 (by calendar year in Table C-1 and by fiscal 

year in Table C-2). CBO does not forecast cyclical fluctuations in its projections for years after 2007. Instead, the 

projected values shown in the tables for 2008 through 

2016 reflect CBO’s assessment of average values for that 

period. That assessment takes into account economic and 

demographic trends but does not attempt to forecast the 

frequency and size of ups and downs in the business 

cycle.
62 THE BUDGET AND ECONOMIC OUTLOOK: AN UPDATE

Table C-1.

CBO’s Year-by-Year Forecast and Projections for Calendar Years 2006 to 2016

Sources: Congressional Budget Office; Department of Commerce, Bureau of Economic Analysis; Department of Labor, Bureau of Labor Statistics; Federal Reserve Board.

Note: Percentage change is year over year; GDP = gross domestic product.

a. Values as of early July 2006, prior to the revisions to the national income and product accounts.

b. The personal consumption expenditure chained price index.

c. The personal consumption expenditure chained price index excluding prices for food and energy.

d. The consumer price index for all urban consumers.

e. The consumer price index for all urban consumers excluding food and energy prices.

f. The employment cost index for wages and salaries of workers in private industry.

Actual

2005a 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016

12,487 13,308 13,993 14,685 15,425 16,174 16,914 17,684 18,491 19,317 20,167 21,052

6.4 6.6 5.1 4.9 5.0 4.9 4.6 4.6 4.6 4.5 4.4 4.4

3.5 3.5 3.0 3.1 3.2 3.0 2.8 2.7 2.7 2.6 2.5 2.5

2.8 3.0 2.0 1.8 1.8 1.8 1.8 1.8 1.8 1.8 1.8 1.8

PCE Price Indexb

2.8 3.0 2.4 2.0 2.0 2.0 2.0 2.0 2.0 2.0 2.0 2.0

Core PCE Price Indexc

2.0 2.2 2.3 2.0 2.0 2.0 2.0 2.0 2.0 2.0 2.0 2.0

3.4 3.5 2.5 2.2 2.2 2.2 2.2 2.2 2.2 2.2 2.2 2.2

2.2 2.6 2.5 2.2 2.2 2.2 2.2 2.2 2.2 2.2 2.2 2.2

2.5 2.9 3.3 3.3 3.3 3.3 3.3 3.3 3.3 3.3 3.3 3.3

5.1 4.7 4.8 4.9 5.0 5.0 5.0 5.0 5.0 5.0 5.0 5.0

3.1 4.8 5.0 4.8 4.5 4.4 4.4 4.4 4.4 4.4 4.4 4.4

4.3 5.1 5.4 5.3 5.2 5.2 5.2 5.2 5.2 5.2 5.2 5.2

Corporate book profits 1,438 1,781 1,641 1,624 1,580 1,573 1,587 1,621 1,675 1,736 1,806 1,884

Wages and salaries 5,712 5,994 6,354 6,706 7,069 7,430 7,771 8,117 8,478 8,847 9,226 9,619

Corporate book profits 11.5 13.4 11.7 11.1 10.2 9.7 9.4 9.2 9.1 9.0 9.0 8.9

Wages and salaries 45.7 45.0 45.4 45.7 45.8 45.9 45.9 45.9 45.8 45.8 45.7 45.7

(Percentage change)

Nominal GDP 

 Forecast Projected

Core Consumer Price Indexe

(Billions of dollars)

Nominal GDP 

(Percentage change)

(Percentage change)

Consumer Price Indexd

Real GDP

(Percentage change)

GDP Price Index

(Percentage change)

Bill Rate (Percent)

(Percentage change)

Employment Cost Indexf

(Percentage change)

(Percentage change)

Tax Bases

(Percentage of GDP)

Ten-Year Treasury

Note Rate (Percent)

Tax Bases

(Billions of dollars)

Unemployment Rate

(Percent)

Three-Month Treasury 
APPENDIX C CBO’S ECONOMIC PROJECTIONS FOR 2006 TO 2016 63

Table C-2.

CBO’s Year-by-Year Forecast and Projections for Fiscal Years 2006 to 2016

Sources: Congressional Budget Office; Department of Commerce, Bureau of Economic Analysis; Department of Labor, Bureau of Labor Statistics; Federal Reserve Board.

Note: Percentage change is year over year; GDP = gross domestic product.

a. Values as of early July 2006, prior to the revisions to the national income and product accounts.

b. The personal consumption expenditure chained price index.

c. The personal consumption expenditure chained price index excluding prices for food and energy.

d. The consumer price index for all urban consumers.

e. The consumer price index for all urban consumers excluding food and energy prices.

f. The employment cost index for wages and salaries of workers in private industry.

Actual

2005a 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016

12,294 13,108 13,823 14,509 15,236 15,989 16,727 17,488 18,286 19,109 19,951 20,827

6.5 6.6 5.5 5.0 5.0 4.9 4.6 4.5 4.6 4.5 4.4 4.4

3.7 3.4 3.2 3.1 3.1 3.1 2.8 2.7 2.7 2.6 2.6 2.5

2.7 3.1 2.2 1.8 1.8 1.8 1.8 1.8 1.8 1.8 1.8 1.8

PCE Price Indexb

2.8 3.1 2.6 2.0 2.0 2.0 2.0 2.0 2.0 2.0 2.0 2.0

Core PCE Price Indexc

2.1 2.1 2.4 2.1 2.0 2.0 2.0 2.0 2.0 2.0 2.0 2.0

3.3 3.7 2.8 2.2 2.2 2.2 2.2 2.2 2.2 2.2 2.2 2.2

2.2 2.4 2.7 2.2 2.2 2.2 2.2 2.2 2.2 2.2 2.2 2.2

2.5 2.7 3.3 3.3 3.3 3.3 3.3 3.3 3.3 3.3 3.3 3.3

5.2 4.8 4.7 4.9 5.0 5.0 5.0 5.0 5.0 5.0 5.0 5.0

2.7 4.5 5.1 4.9 4.6 4.4 4.4 4.4 4.4 4.4 4.4 4.4

4.2 4.9 5.4 5.3 5.2 5.2 5.2 5.2 5.2 5.2 5.2 5.2

Corporate book profits 1,327 1,733 1,671 1,632 1,586 1,576 1,580 1,611 1,661 1,720 1,788 1,863

Wages and salaries 5,657 5,909 6,265 6,618 6,977 7,341 7,687 8,029 8,386 8,754 9,130 9,519

Corporate book profits 10.8 13.2 12.1 11.2 10.4 9.9 9.4 9.2 9.1 9.0 9.0 8.9

Wages and salaries 46.0 45.1 45.3 45.6 45.8 45.9 46.0 45.9 45.9 45.8 45.8 45.7

Employment Cost Indexf

(Percentage change)

Unemployment Rate

(Percent)

Tax Bases

(Percentage of GDP)

Three-Month Treasury 

Bill Rate (Percent)

Ten-Year Treasury

Note Rate (Percent)

Tax Bases

(Billions of dollars)

Core Consumer Price Indexe

(Percentage change)

Real GDP

(Percentage change)

GDP Price Index

(Percentage change)

(Percentage change)

(Percentage change)

Consumer Price Indexd

(Percentage change)

Nominal GDP 

(Billions of dollars)

Nominal GDP 

(Percentage change)

Forecast Projected

APPENDIX

D

Contributors to the Revenue

and Spending Projections

The following Congressional Budget Office analysts prepared the revenue and spending projections in this report:

Revenue Projections

Mark Booth Individual income taxes

Paul Burnham Retirement income

Barbara Edwards Social insurance taxes, Federal Reserve System earnings

Pamela Greene Corporate income taxes, estate and gift taxes, excise taxes

Laura Hanlon Excise taxes

Ed Harris Individual income taxes

Andrew Langan Excise taxes

Larry Ozanne Capital gains realizations

Kevin Perese Tax modeling

Monisha Primlani Individual income taxes

Emily Schlect Customs duties, miscellaneous receipts

Kurt Seibert Earned income tax credit and depreciation

David Weiner Individual income taxes

Spending Projections

Defense, International Affairs, and Veterans’ Affairs

Sarah Jennings Unit Chief

Kent Christensen Defense

Sunita D’Monte International affairs (conduct of foreign affairs and informationexchange activities), veterans’ housing

Raymond Hall Defense (stockpile sales, atomic energy defense)

David Newman Defense (military construction and family housing, military activities in 

Iraq and Afghanistan and for the war on terrorism)

Sam Papenfuss International affairs (development, security, international financial 

institutions)
66 THE BUDGET AND ECONOMIC OUTLOOK: AN UPDATE

Michelle Patterson Veterans’ health care, military health care

Matthew Schmit Defense (military personnel, military activities in Iraq and Afghanistan 

and for the war on terrorism)

Michael Waters Military retirement, veterans’ education

Jason Wheelock Defense (other programs), radiation exposure compensation, 

energy employees’ occupational illness compensation

Mark Whitaker Energy employees’ occupational illness compensation

Dwayne Wright Veterans’ compensation and pensions

Health

Tom Bradley Unit Chief

Julia Christensen Federal Employees Health Benefits program, Public Health Service

Jeanne De Sa Medicaid, State Children’s Health Insurance Program

Sarah Evans Medicare, Public Health Service

Geoffrey Gerhardt Medicare

Tim Gronniger Medicare, Public Health Service

Eric Rollins Medicaid, State Children’s Health Insurance Program, Medicare

Shinobu Suzuki Medicare

Camile Williams Medicare, Public Health Service

Human Resources

Paul Cullinan Unit Chief

Christina Hawley Anthony Unemployment insurance, training programs, Administration on 

Aging, foster care, Smithsonian, arts and humanities, report 

coordinator

Chad Chirico Housing assistance, education

Sheila Dacey Old-Age and Survivors Insurance, Social Security

Kathleen FitzGerald Food Stamps and nutrition programs

Justin Humphrey Elementary and secondary education, Pell grants

Deborah Kalcevic Student loans, higher education

Matthew Kapuscinski Low Income Home Energy Assistance Program, refugee assistance

Craig Meklir Federal civilian retirement, Pension Benefit Guaranty Corporation, 

Railroad Retirement

Jonathan Morancy Child Support Enforcement, Temporary Assistance for Needy 

Families, Social Services Block Grant program, child care programs, 

child and family services

David Rafferty Disability Insurance, Supplemental Security Income
APPENDIX D CONTRIBUTORS TO THE REVENUE AND SPENDING PROJECTIONS 67

Natural and Physical Resources

Kim Cawley Unit Chief

Megan Carroll Energy, conservation and land management, air transportation

Mark Grabowicz Justice, Postal Service

Kathleen Gramp Spectrum-auction receipts, energy, deposit insurance, Outer Continental 

Shelf receipts

Greg Hitz Agriculture

Daniel Hoople Science and space exploration, Bureau of Indian Affairs, justice, 

community and regional development

David Hull Agriculture

James Langley Agriculture

Susanne Mehlman Pollution control and abatement, Federal Housing Administration 

and other housing credit programs

Julie Middleton Water resources, Federal Emergency Management Agency, other natural 

resources

Matthew Pickford General government

Deborah Reis Recreation, water transportation, legislative branch, conservation and 

land management

Gregory Waring Justice, community and regional development, highways, Amtrak, mass 

transit

Susan Willie Commerce, Small Business Administration, Universal Service Fund

Other

Janet Airis Unit Chief, Scorekeeping; legislative branch appropriation bill

Jeffrey Holland Unit Chief, Projections

Edward Blau Authorization bills

Barry Blom National income and product accounts, federal pay, monthly Treasury 

data, report coordinator

Joanna Capps Appropriation bills (Interior and the environment, Labor-HHS)

Kenneth Farris Computer support

Mary Froehlich Computer support

Ann Futrell Other interest, report coordinator

Virginia Myers Appropriation bills (Commerce-State-Justice, energy and water)

Jennifer Reynolds Appropriation bills (Agriculture, foreign relations)

Mark Sanford Appropriation bills (Defense, Homeland Security)

Eric Schatten Interest on the public debt, report coordinator

Luis Serna National income and product accounts, report coordinator

Phan Siris Computer support

Esther Steinbock Appropriation bills (Transportation-Treasury-HUD, military quality of 

life and veterans’ affairs, District of Columbia)

Patrice Watson Database system administrator




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