The Cyclically Adjusted Budget Balance

The cyclically adjusted budget balance, as of 2025Q3, remains on an improving trajectory. However, when the revenue from the illicit IEEPA tariffs is removed from the equation, the picture becomes less certain. Figure 1, sourced from the Congressional Budget Office (CBO) and calculated by the author, demonstrates the Federal budget balance as a share of potential GDP, with one line representing the balance excluding automatic stabilizers (in blue) and the other excluding the IEEPA tariffs (in red).

The author emphasizes that the dataset only extends to Q3, as the CBO's projections cease after this point. The author hypothesizes that the revenue from these tariffs, which is expected to be fully refunded beginning in Q1 of 2026, could have a significant impact on the overall budget balance once that time comes. The CBO estimates that the cyclically adjusted balance to potential GDP will be -5.8% in FY2027. This figure is crucial in understanding why real rates are anticipated to remain high.

However, the author expresses uncertainty about how the ongoing war, tariff refunds, and the challenges posed by newly announced tariffs will affect the cyclically adjusted balance. These factors are currently in a state of flux, making it difficult to predict their long-term effects. The author suggests that one way to gauge the uncertainty in customs revenue is by examining Paweł Skrzypczyński’s calculations, which provide a breakdown of the revenue, net revenue, and refunds.