By Steve Schifferes
Economics reporter, BBC News
The US economic is set to continue to shrink in 2009
The sharp slowdown in the US economy will push the federal budget deficit to more than $1 trillion, the non-partisan Congressional Budget Office (CBO) says.
The deficit of $1.186 trillion for the fiscal year ending on 30 September would be the largest on record.
The projected deficit does not include the extra $800bn spending being planned by US President-elect Barack Obama.
But it highlights the deep economic difficulties facing Mr Obama when he is inaugurated on 20 January.
The CBO says that the slowing economy will lead to the US budget deficit more than doubling from last year's figure of $455bn.
WHY DEFICITS MATTER
Increased debt costs for government
Increased risk of inflation
Long-term pressure on dollar
Could lead to higher taxes and spending cuts later
And it says that, although the economy may recover by 2010, the deficit will still be more than $700bn, and it projects an accumulated deficit of nearly $2 trillion over the next five years.
As a percentage of total economic output, the deficit will be 8.3% of GDP. The previous record was 6% of GDP, set in 1983.
The major reason for the deficit is the sharp decline in tax revenues, projected to fall by 6.6%, as well as the increase in spending due to the cost of the recession and the bail-out.
Mr Obama is trying to build a bipartisan consensus on the economy
The size of the budget deficit makes the shape of Mr Obama's stimulus package more of an issue.
Mr Obama has described America's economy as "very sick" and has said that the situation is worsening.
And he warned: "Potentially we've got trillion-dollar deficits for years to come, even with the economic recovery that we are working on at this point."
He has been urging Congressional leaders to back his stimulus package, which is expected to cost between $700bn and $800bn over two years and create up to three million jobs.
The plan would include about $300bn in tax cuts, as well as additional spending on infrastructure and aid to the states.
But he has said that he is determined to present plans to bring the long-term budget outlook into balance, and has appointed Nancy Killefer to the new post of governmental performance officer, charged with improving efficiency in government.
He said that in order to rebuild trust in government, it was necessary to "put government on the side of taxpayers and everyday Americans".
However, Mr Obama is also committed to major reforms of health care, education and the environment, all of which could increase spending.
The US central bank, the Federal Reserve, has already cut interest rates to nearly zero in a bid to stimulate the economy.
But even former Republican economists, such as Martin Feldstein, who advised Ronald Reagan, now say that a fiscal stimulus is needed because of the dysfunctional credit markets.
"The heavy lifting will have to be done by increased government spending," he said in a paper to the American Economic Association.
Meanwhile, further signs of the weakening of the US economy are likely this week.
Unemployment is rising as the slowdown bites
The US Labor Department will release its December employment report on Friday. Many economists are expecting the jobless figure to rise by 500,000, bringing the total US job losses for 2008 to about 2.5 million.
Mr Obama will be under pressure to allocate further funds to bail out the auto industry, with GM and Chrysler both having received short-term funding from the government for the next three months.
The automakers say that up to three million jobs could be at risk if the industry goes under.
In addition, the budget deficit does not include some $350bn in bail-out funds for the financial sector which have not been spent so far - half of the $700bn package approved in October.
In the longer run, the government also faces sharply higher costs for social security retirement payments and health care, as the Baby Boomer generation retires over the next decade.