BOX II: The fiscal gap as an alternative measure of the fiscal situation-------------------------
The fiscal gap is an alternative measure of the fiscal situation that aims to address the
three shortcomings we have discussed: the stock-flow disconnect, falling interest rates and the
need to look forward. It was originally developed by Laurence Kotlikoff and Alan Auerbach and
is regularly updated by government institutions (e.g., CBO 2019b) and academics (e.g.,
Auerbach, Gale, and Krupkin 2019). The concept is the immediate and permanent change in the
primary balance—either through an immediate increase in taxes or an immediate reduction in
non-interest spending—that would be needed to stabilize the debt as a percentage of GDP at its
current value for a specific period of time. As such, the fiscal gap incorporates information not
just about the past debt but also about future primary deficits, GDP, and interest rates.
The fiscal gap is a more meaningful and useful concept than the debt-to-GDP ratio. It
does, however, suffer from three problems. First, unlike measures like nominal or real interest as
a share of GDP it does not provide an objective measure that can be used across time, across
countries, or even measured at a point of time because it depends on projections about the
uncertain future.
Second, and relatedly, fiscal gaps have extremely large error bands because they depend
on deficit and debt forecasts that have extremely large error bands. To put this in perspective, if
the debt follows the mid-course trajectory shown in Figure 17 then the fiscal gap would be 0.5
but at the upper and lower 90 percent confidence intervals the fiscal gap could be anywhere from
-2.0 to +3.2 percentage points as shown in Table II.1. Projecting further in the future results in
even larger errors, with the large majority of infinite horizon fiscal gaps driven by projections
that are decades or more in the future.
Third, the fiscal gap measures the immediate adjustment that would be needed to stabilize
the debt-to-GDP ratio at its current value. Its current value, however, is arbitrary and
uninformative about what the goal of policymakers should be. The primary deficit adjustment
needed to achieve different fiscal targets varies enormously as shown in Table II.1 which shows
the immediate primary balance adjustment needed to achieve different debt-to-GDP goals in
2050. Does the United States need to make an immediate fiscal adjustment of 2.1 percent of
GDP to get the debt down to 50 percent of GDP or would it be reasonable for the debt to rise to
112 percent of GDP through 2050, in which case no adjustment, beyond social security reform,
would be needed? Note that all of the estimates in Table II.1 assume the equivalent of current
law on Social Security (i.e., Social Security reform happens). If a law is passed to continue
paying full benefits after the trust fund is exhausted that would add about 1.3 percent of GDP to
these fiscal gap measures.