Policies to Reduce Federal Budget Deficits by Increasing Economic Growth

Discover how growth-enhancing policies can help reduce federal budget deficits and stabilize debt.

Paper reviewed:

Elmendorf, Douglas W. and Hubbard, Glenn and Liscow, Zachary D., Policies to Reduce Federal Budget Deficits by Increasing Economic Growth (May 26, 2025). Available at SSRN: https://ssrn.com/abstract=5268965 or http://dx.doi.org/10.2139/ssrn.5268965

Summary

This research assesses seven areas of economic policy to determine if growth-enhancing policies can reduce federal budget deficits. The authors conclude that while these policies alone are unlikely to stabilize federal debt, they can reduce the need for explicit tax hikes or spending cuts.

Key Findings

• The paper assesses seven areas of economic policy to determine if growth-enhancing policies can reduce federal budget deficits: immigration of high-skilled workers, housing regulation, safety net programs, regulation of electricity transmission, government support for research and development (R&D), tax policy related to business investment, and permitting of infrastructure construction.
• The authors conclude that while growth-enhancing policies alone are unlikely to stabilize federal debt, they can reduce the need for explicit tax hikes or spending cuts.
• A 0.5 percentage point increase in annual total factor productivity growth could raise GDP by 7% and reduce the budget deficit by 1.2% of GDP within a decade.
• Increasing immigration of high-skilled workers can boost productivity and reduce deficits; admitting 200,000 additional foreign workers with advanced STEM degrees could increase annual total factor productivity growth by 0.003 to 0.053 percentage points after 25 years.
• Relaxing housing regulations could increase GDP by nearly 8% by improving housing affordability and mobility.
• Investments in safety-net programs can increase future earnings and reduce poverty; $1 spent on Medicaid expansions for children generated $1.78 in future budgetary benefits.
• Improving electricity transmission could yield benefits with a net present value of $1.60 to $1.80 for every $1 spent.
• Increasing federal support for R&D could have significant economic returns, potentially "paying for itself" in budgetary terms.
• Tax policies that strengthen incentives for business investment can have significant positive effects on output, but generally do not "pay for themselves."
• Reforming permitting restrictions could accelerate infrastructure projects and boost economic growth.

Implications

Business and Policy Implications

• Businesses and policymakers can use these findings to inform strategies for boosting economic growth and reducing budget deficits.
• Companies can benefit from policies that increase high-skilled immigration, improve infrastructure, and support R&D.
• Policymakers can design policies that balance economic growth with other social and environmental considerations.
• Understanding the interactions between different policy areas is crucial for effective policymaking.

Introduction

The United States is facing a significant fiscal challenge, with federal debt held by the public projected to rise sharply relative to GDP under current policies. At the same time, economic growth has been strong but below its historical average. Policymakers are seeking ways to boost economic growth while reducing federal budget deficits. This paper examines whether policy changes can achieve both goals by assessing seven areas of economic policy.

Background and Context

The U.S. federal debt-to-GDP ratio has risen dramatically since 2007, driven by large budget deficits and slow economic growth. The Congressional Budget Office (CBO) projects that federal debt will continue to rise relative to GDP under current policies. Economic growth is influenced by factors such as productivity growth, labor supply, and capital investment. Policymakers have proposed various policy changes to boost economic growth, including changes to immigration policy, housing regulation, safety-net programs, energy policy, R&D support, tax policy, and infrastructure permitting.

Projected Federal Budget Deficits and Economic Growth

The CBO projects that ongoing large budget deficits will further increase federal debt relative to GDP. The debt-to-GDP ratio is influenced by the growth of debt and the growth of GDP. Policy changes that raise GDP growth can help stabilize the debt-to-GDP ratio.

Sensitivity of Deficits and Debt to Faster Productivity Growth

CBO analysis shows that a 0.5 percentage point increase in annual total factor productivity growth would raise GDP by 7% and reduce the budget deficit by 1.2% of GDP within a decade. This suggests that policies that boost productivity growth can have significant effects on the economy and the budget.

Policy Changes, Productivity Growth, and Budget Deficits

Some policy changes that boost productivity involve changes in federal regulations or investments in R&D, while others involve cuts in federal taxes or increases in federal spending. The net effect on the debt-to-GDP ratio depends on the specifics of the policies.

The paper then goes on to examine the seven areas of economic policy in more detail, starting with increasing immigration of high-skilled workers. The authors analyze the potential effects of admitting 200,000 additional foreign workers with advanced STEM degrees on productivity growth and the federal budget. They estimate that this policy change could boost annual total factor productivity growth by 0.003 to 0.053 percentage points after 25 years.

The authors also discuss the potential benefits of relaxing housing regulations, investing in safety-net programs, improving electricity transmission, increasing federal support for R&D, using tax policy to increase business investment, and reforming permitting restrictions. They highlight the need for further research to quantify the likely effects of potential policy changes and to understand the interactions between different policy areas.

Overall, the paper provides a comprehensive analysis of the potential for growth-enhancing policies to reduce federal budget deficits. The authors conclude that while these policies alone are unlikely to stabilize federal debt, they can make a significant contribution to reducing the need for explicit tax hikes or spending cuts.

Main Results

The paper "Policies to Reduce Federal Budget Deficits by Increasing Economic Growth" by Douglas W. Elmendorf, R. Glenn Hubbard, and Zachary Liscow presents a comprehensive analysis of seven areas of economic policy that could potentially boost economic growth and reduce federal budget deficits. The main findings of the paper are summarized below.

Key Discoveries

The authors assess the potential impact of policy changes in seven areas: immigration of high-skilled workers, housing regulation, safety net programs, regulation of electricity transmission, government support for research and development (R&D), tax policy related to business investment, and permitting of infrastructure construction. They find that while growth-enhancing policies alone are unlikely to stabilize federal debt, they can make a significant contribution to reducing the need for explicit tax hikes or spending cuts.

Quantitative Estimates

The authors provide quantitative estimates of the potential impact of policy changes in each of the seven areas. For example, they estimate that admitting an additional 200,000 foreign workers with advanced degrees in STEM fields would boost annual total factor productivity growth by 0.003 to 0.053 percentage points after 25 years. They also estimate that relaxing restrictions on housing construction could increase GDP by nearly 8%.

Policy Areas

The authors examine the potential impact of policy changes in each of the seven areas, including:

• Increasing immigration of high-skilled workers: The authors estimate that a substantial one-time increase in immigration of high-skilled workers would make a noticeable but small difference in the trajectory of federal debt.
• Relaxing restrictions on housing construction: The authors suggest that relaxing land and housing regulations could boost economic growth by lowering the cost of housing construction.
• Investing in safety-net programs: The authors find that certain safety-net programs can increase the future output produced by family members who receive benefits.
• Improving electricity transmission: The authors estimate that improving electricity transmission could lead to substantial reductions in the cost of energy and increases in output.
• Increasing federal support for R&D: The authors suggest that government support for R&D is "possibly" self-financing, with different empirical estimates implying subsequent tax revenue that ranges from a partial offset to more than a full offset of the initial budgetary cost.
• Using tax policy to increase business investment: The authors find that tax cuts that strengthen incentives for business investment can have significant positive effects on output.
• Reforming permitting restrictions: The authors suggest that easing the restrictions imposed by permitting laws has the potential to boost economic growth and reduce budget deficits.

Methodology Insights

The authors use a variety of methodologies to estimate the potential impact of policy changes, including:

• Dynamic scoring: The authors discuss the advantages and disadvantages of dynamic scoring, which refers to estimates that include all of the likely behavioral responses to proposals and allow overall output and income to change.
• Macroeconomic modeling: The authors use macroeconomic models to estimate the potential impact of policy changes on economic growth and the federal budget.
• Empirical evidence: The authors draw on empirical evidence from a range of studies to inform their estimates of the potential impact of policy changes.

The authors highlight the importance of using dynamic scoring and macroeconomic modeling to estimate the potential impact of policy changes. They also emphasize the need for further research to quantify the likely effects of potential policy changes and to understand the interactions between different policy areas.

Analysis and Interpretation

The authors' analysis suggests that growth-enhancing policies can make a significant contribution to reducing the need for explicit tax hikes or spending cuts. However, they also note that the magnitudes of the effects on growth, and thus of the effects on the federal budget, are quite uncertain for many possible changes because of limitations in the empirical evidence to date.

The authors identify several key insights from their analysis, including:

• Regulatory changes tend to offer greater promise in achieving the goals of boosting economic growth and reducing budget deficits than tax or spending changes.
• Regulatory changes that could boost growth include some changes that would ease regulation and some changes that would strengthen regulation.
• The relationship between increased economic growth and budget deficits can be altered by policy changes that increase economic growth and do not pass as much of that growth through to Social Security benefits as would occur under the current benefit formula.

Overall, the paper provides a comprehensive analysis of the potential for growth-enhancing policies to reduce federal budget deficits. The authors' findings suggest that while these policies alone are unlikely to stabilize federal debt, they can make a significant contribution to reducing the need for explicit tax hikes or spending cuts.

Practical Implications

The findings of this research have significant practical implications for businesses, managers, and policymakers. The study highlights the potential for growth-enhancing policies to reduce federal budget deficits, which can have far-reaching consequences for the economy.

Real-World Applications

The research identifies seven areas of economic policy that can be leveraged to boost economic growth and reduce budget deficits. These areas include:

• Increasing immigration of high-skilled workers
• Relaxing restrictions on housing construction
• Investing in safety-net programs
• Improving electricity transmission
• Increasing federal support for research and development (R&D)
• Using tax policy to increase business investment
• Reforming permitting restrictions

Strategic Implications

The study's findings have important strategic implications for businesses and managers. By understanding the potential for growth-enhancing policies to reduce budget deficits, companies can make more informed decisions about investments and resource allocation.

• Businesses can benefit from policies that boost economic growth, such as increased immigration of high-skilled workers or investments in R&D.
• Companies can also benefit from policies that reduce regulatory barriers, such as reforming permitting restrictions or relaxing restrictions on housing construction.

Who Should Care

The findings of this research are relevant to a wide range of stakeholders, including:

• Business leaders and managers
• Policymakers and government officials
• Economists and researchers
• Investors and financial analysts

These stakeholders can benefit from understanding the potential for growth-enhancing policies to reduce budget deficits and boost economic growth.

Actionable Recommendations

Based on the research findings, the following actionable recommendations can be made:

1. Increase immigration of high-skilled workers: Policymakers can consider increasing the number of H-1B visas or other programs that allow high-skilled workers to enter the country.
2. Relax restrictions on housing construction: Local and state governments can reform zoning laws and other regulations to allow for more housing construction.
3. Invest in safety-net programs: Policymakers can consider investing in programs that provide benefits to lower-income families, such as Medicaid or early childhood education.
4. Improve electricity transmission: Policymakers can consider reforms to improve the efficiency and reliability of electricity transmission, such as empowering the Federal Energy Regulatory Commission (FERC) to preempt local authorities.
5. Increase federal support for R&D: Policymakers can consider increasing funding for R&D or providing tax incentives for private sector R&D investments.
6. Use tax policy to increase business investment: Policymakers can consider reforms to the tax code to encourage business investment, such as allowing immediate expensing of investment.
7. Reform permitting restrictions: Policymakers can consider reforms to simplify and streamline the permitting process for infrastructure projects.

Implementation Considerations

When implementing these recommendations, policymakers should consider the following:

• The potential budgetary costs and benefits of each policy change
• The potential impact on different stakeholders, including businesses, workers, and low-income families
• The need for careful design and implementation to avoid unintended consequences

Conclusion

In conclusion, the research findings highlight the potential for growth-enhancing policies to reduce federal budget deficits and boost economic growth. By understanding the practical implications and strategic implications of these findings, businesses, managers, and policymakers can make more informed decisions about investments and resource allocation.

The actionable recommendations provided above offer a starting point for policymakers to consider when designing and implementing growth-enhancing policies. By carefully considering the implementation considerations and potential trade-offs, policymakers can create policies that achieve the desired outcomes and promote economic growth.

Overall, the study's findings suggest that a pro-growth agenda that includes a combination of policy changes in multiple areas can make a significant contribution to reducing the need for explicit tax hikes or spending cuts. By prioritizing growth-enhancing policies and carefully designing and implementing them, policymakers can promote economic growth and reduce budget deficits.