The United States economy is in the early stages of a deficit doom loop caused by rapidly rising interest payments to service the federal debt, which stands today at 100% of GDP.  At this level, every 1% increase in interest rates raises federal spending to service the debt by an additional 1% of GDP. Today, interest payments on the deficit are the fastest-growing part of federal spending. Servicing the debt costs the country over 3% of GDP or $1 trillion per year. This is not sustainable. 

In spite of the efforts of the Department of Government Efficiency and the tariffs of President Donald Trump, the deficit continues to devour GDP. The nonpartisan Congressional Budget Office reported this week that the annualized federal deficit is running at about 6.7% of GDP, exceeding last year’s deficit of 6.1% at this same point last year. Spending cuts alone will not solve the problem. Americans hate paying taxes but strongly favor keeping the cost-ballooning Social Security, Medicare, and Medicaid unchanged.

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All three of those programs are growing significantly faster than nominal economic growth. So, the only realistic way is to stabilize the deficit and reduce it as a percentage of GDP for faster economic growth.

The House of Representatives’ version of the omnibus Reconciliation bill, currently under Congress’s consideration, will not achieve substantially faster growth. It may actually reduce long-term economic growth because the House bill will dramatically increase the deficit. This will push interest rates higher and lower capital investment, which is essential for faster growth and rising productivity levels. Faster productivity growth enables everyone to enjoy a higher standard of living.

Fortunately, the Senate version of the reconciliation bill will probably include three very pro-growth business tax provisions. These provisions could be the catalyst for a business investment supercycle. The Senate Finance Committee is anticipated to propose making permanent the three business tax provisions that would lower corporate taxes, increase free cash flow, and raise capital investment. 

The committee will propose that business expenses for research and development be deductible. It will also propose that businesses be able to deduct interest costs for borrowing for capital spending projects and push for 100% bonus depreciation of capital investment, immediately writing off such expenses against taxes. 

These policies are very pro-growth. Capital investment is the oxygen of a thriving economy. Capital investment drives productivity improvement, which in turn raises long-run economic growth. Moreover, making the three pro-growth tax provisions permanent gives businesses the certainty they need to invest. The House version of the reconciliation bill includes the three pro-growth tax provisions, but the policies would expire at the end of 2029 under the House bill. That’s a problem because business requires certainty. Major capital investment projects have long lead times. The largest U.S. technology companies and energy companies are already planning investments for 2030 and beyond.

The point must be emphasized: business investment in R&D drives economic growth. It is the critical element of long-run productivity and innovation. Government funding for R&D is declining because spending on entitlements has squeezed out appropriations for fundamental research. The private sector increasingly does the heavy lifting for R&D. More spending on R&D will increase long-run economic growth.

Businesses often borrow to finance capital investment. Paying interest on such borrowed funds is a legitimate expense. The Senate Finance Committee proposal would increase the ability of companies to deduct interest payments for productive capital investments. This is good policy.

A 100% bonus depreciation allowance would allow businesses to immediately deduct the full cost of certain assets, particularly machinery and new factories. This incentive would stimulate investment in property, equipment, and other business assets by providing tax savings. When businesses have increased free cash flow, they increase investment. 

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All three of these proposals would also reduce corporate taxes, which are among the most pernicious provisions of the tax code. Corporate taxes reduce long-run economic growth. By contrast, lower corporate taxes drive higher business investment, leading to a higher standard of living for all Americans. The reduction in the corporate tax rate, a major part of the 2017 Tax Cuts and Jobs Act, demonstrated that when corporate taxes are lower, business invests more, pay higher wages, and increase employment.

Top line: If all three pro-growth tax provisions become permanent law, the Republican Reconciliation bill will increase the country’s long-run economic growth rate and help solve the deficit crisis.

James Rogan is a former U.S. foreign service officer who has worked in finance and law for 30 years. He writes a daily note on the markets, politics, and society. He can be followed on X and reached at [email protected].