February 2010

So What Does "Current Policy" Look Like?

Here at CRFB, we love constructing baselines. Whenever CBO constructs its own budget baseline, in fact, we rush to adjust it. CBO's projections, as our readers know, are constrained by a combination of "current law" (they can't assume legislative action, even when there is a near certainty it will occur) and budget convention.

We, of course, face no such constraint. And so we use a combination of CBO cost-estimates and our own calculations to determine what the deficit would be if we -- as a country -- continued on our current path, and as our readers know, the answer isn't pretty. But whereas there is only one definition of "current law," for the sake of budgeting, many of us disagree on just what "current policy" includes.

Today, CBO released projections of one such scenario, as requested by Paul Ryan. Since Congressman Ryan was aiming to show how much taxes would need to increase if we were to balance the budget from that side of the ledger alone (the answer: a lot), he focused on tax assumptions. Specifically, he asked CBO to assume that the 2001/2003 tax cuts scheduled to expire on December 31st are continued permanantly. He also asked CBO to assume policymakers continue to impliment regular "patches" for the Alternative Minimum Tax (AMT), and to assume funding for Iraq and Afghanistan at the levels outlined in the President's budget.

As a result of these assumptions, deficits over the next decade would equal $9.4 trillion, instead of $6 trillion under CBO's current law baseline (FY2011-FY2020). And 5.3% of GDP in 2020, as opposed to 3% of GDP.

Yet as bad as that situation is, the reality is probably worse. About a month ago, we constructed our own current policy baseline. In addition to Ryan's assumptions (and somewhat different Iraq assumptions), our baseline assumed that policy makers would continue to update Medicare physician payments -- as they always have -- and that discretionary spending will grow at the same rate as the economy, rather than the rate of inflation.

Under that scenario, deficits would be $12.4 trillion (rather than $6 trillion) over the next decade, and nearly 7.8% of GDP (rather than 3%) in 2020. Even under an alternative "reasonable policy baseline," in which tax cuts for families making over $250,000 are allowed to expire, we calculate cumulative deficits of $11.6 trillion over ten years, and 7.2% of GDP in 2020.

Other organizations (including the OMB) have come to different conclusions, depending on what policy assumptions they make. We have graphed many of these baselines as a percent of GDP (based on CBO's GDP estimates) here:



Although the projections may vary, the message is the same. Continuing current law levels of borrowing would be bad. Continue current policy would be devastating.

We need to reverse course.

Bunning is Right on Unemployment: “We Should Pay For It”

Last night, Senator Jim Bunning blocked an effort to pass a one-month “extenders” bill by unanimous consent. The bill includes temporary extensions of unemployment benefits (and related provisions), COBRA health insurance subsidies, Medicare physician payment updates (to block a 21 percent cut), and other smaller provisions – all scheduled to expire on Sunday. The total cost is estimated at about $10 billion.

Bunning voiced his support for these provisions, but declared “I believe we should pay for it,” and promised to thwart efforts not to do so.

We agree with Senator Bunning – this country no longer has the fiscal room to deficit-finance any legislation.

There is an argument that raising taxes or cutting spending to pay for stimulus will undermine said stimulus efforts – but this is only true if the offsets take place immediately. Accompanying stimulus with future offsets can actually reinforce the stimulus. Immediate stimulus will offer to directly boost aggregate demand, while “the anticipation of a future spending reversal generally raises the expansionary impact of today’s fiscal stimulus through its effect on long-term real interest rates” (according to an economic study by André Meier, Giancarlo Corsetti, and Gernot Müller).

Of course, $10 billion by itself is unlikely to have much of an effect in either direction. But deficit-financing it sends the wrong signal to policy makers, the public, and the markets – it tells them all that the United States can and will continue to borrow beyond its means. That unchecked borrowing needs to stop.

Obama Appoints Four More to the Deficit Commission

President Obama has named his remaining appointees to the Commission, including David Cote (CEO for Honeywell International), Alice Rivlin (former CBO Director and OMB Director), Andy Stern (president of the Service Employees International Union) and Ann Fudge (former CEO of Young & Rubicon Brands).

Named members now include:

  • Eskine Bowles (Democratic Co-Chair)
  • Alan Simpsons (Republican Co-Chair)
  • Alice Rivlin (Presidential Appointee - Democrat)
  • David Cote (Presidential Appointee - Republican)
  • Andy Stern (Presidential Appointee - Democrat)
  • Ann Fudge (Presidential Appointee - Democrat)
  • Kent Conrad (Senate Democrat)
  • Max Baucus (Senate Democrat)
  • Dick Durbin (Senate Democrat).

We expect more appointments soon.


IMF Paper Outlines Fiscal and Monetary Exit Strategies

The IMF just recently released a new report, Exiting from Crisis Intervention Policies, arguing that as the crisis winds down, it is more important than ever for policymakers around the world to develop and implement exit strategies for policies enacted to combat the crisis. According to the report, the strategic goal should now be to reverse the rise in debt, not just stabilize it at pre-crisis levels. Back in July 2009, CRFB called on policymakers to do exactly this.

The report advised most advanced economies to maintain stimulus in 2010 and begin tightening in 2011 (so long as the recovery proceeds as expected), yet emerging economies can begin fiscal tightening now. In advising this, however, the IMF affirmed that the timing and details of each country's tightening will differ, but that "macroeconomic stimulus should not be withdrawn until there is firm evidence of durable financial and a self-sustaining recovery in private demand." 

Also included among the report's recommendations and findings were:

  • Effective exit strategies should include integration among sectors and policy areas, flexibility, market-based incentives (to the extent possible), and clear communication of basic principles and plans for tightening.
  • Specific debt targets should reflect country-specific characteristics (for many advanced economies, targeting debt ratios below 60 percent -- a level also recommended by the Peterson-Pew Commission on Budget Reform -- may be appropriate; emerging economies should aim even lower).
  • Ensuring fisal sustainability should be a key priority, and will be a policy challenge.
  • Although temptation to stabilize debt at high levels will be strong, high levels of debt into the medium-term pose significant drawbacks.
  • Unwinding many parts of fiscal and monetary stimulus should not be overly challenging, given that they were temporary in nature and were set to unwind on their own.
  • Measures to increase growth can facilitate fiscal adjustment.
  • Exiting from some monetary stimulus programs, such as purchases of public sector securities, may be more difficult because they may signal that a robust recovery is underway.
  • Governments should design strategies for monetary stimulus unwinding so as to assure the independence of central banks.
  • The potential for international spillovers from exit policies highlights the importance of international consistency, and potential benefits also exist from international consistency.

The report once again reiterated the IMF's belief that strategies for fiscal consolidation should be communicated now to reassure markets (see CRFB's Announcement Effect Club).

Two Economists Join the Announcement Effect Club

In a blog post today on Voxeu.org, European economists Tim Besley and Andrew Scott joined the Announcement Effect Club, stating that a switch to tight fiscal policy risk could derail the recovery, but "continuing deficits are spooking markets." Besley and Scott argue for continued expansionary policies in the short-term, but also urge policymakers to develop independent assessments of fiscal consolidation plans in order to make them credible:

"One of the principal problems of running a structural deficit is the heightened risk that a government will have to make economically and politically difficult adjustments to its tax and spending plans — precisely the situation that the UK now faces. Independent fiscal assessments of a credible plan to manage the deficit should help to provide necessary reassurance to the markets. This would minimise the risk of further changes being necessitated by a downgrade in the UK’s credit rating, whether justified or not. It is important that fiscal adjustment is managed as far as possible by long-term economic factors."

That's what we've been arguing for: a credible plan to manage the deficit once the economy recovers to both reassure our creditors and bolster the economic recovery.

Click here for a full list of members in our Announcement Effect Club.


President's Health Care Summit

The President's effort to forge a bipartisan solution to health care reform at today's summit has just started and is televised on C-Span (click here to watch it live). Also, be sure to follow the live Twitter feed of the summit by our friends over at New Health Dialogue here.

Happy 35th Birthday CBO!!!

According to CBO Director Doug Elmendorf:

CBO is celebrating its 35th birthday! The agency was created by the Congressional Budget and Impoundment Control Act of 1974 (P.L. 93-344) and officially opened for business on February 24, 1975, when [CRFB Board Member] Alice Rivlin became its first director. Since then, under eight different directors*, the agency has provided the Congress with objective, non-partisan budget and economic information on a wide variety of issues. I am delighted to have the privilege of leading such a superb organization and the opportunity to work with such a skilled and dedicated staff. CBO looks forward to many more years of serving the Congress as it grapples with the important issues facing the nation.

*CRFB's board includes six of CBO's eight directors: Alice Rivlin, Rudy Penner, Robert Reischauer, June E. O'Neill, Dan Crippen, and Doug Holtz-Eakin. The remaining two are currently holding public office, as the heads of the OMB (Peter Orszag) and CBO (Doug Elmendorf).

From our entire board and staff, we'd like to wish CBO a very happy birthday.

CBO Scores Second Senate Jobs Bill

Today, Senate Majority leader Harry Reid introduced a second jobs bill, following the first $16 billion jobs bill (-$1.1 billion 11-year deficit impact) that passed the Senate on Wednesday. According to the CBO, this bill would provide about $10 billion for temporary extensions in existing measures, including unemployment insurance benefits, COBRA health subsidies, and Medicare physician payments. (Compare to the House jobs bill here and the first Senate jobs bill here.)

None of these costs are offset, however, given that bill designates all provisions (except for the Medicare physician pay patch) as emergency requirements -- rendering them no longer subject to PAYGO rules. Paying for the Medicare pay patch, or "doc fix," is waived because it adjusts a current policy, which were also exempted from PAYGO rules.


Provision 2010-2011 Cost (billions) 2010-2020 Cost (billions)
Extension of Unemployment Insurance $7.10 $8.0
Extension of COBRA Health Subsidies $1.1 $1.1
Increase in Medicare Physician Payment Update $1.0 $1.0
Other Spending Provisions $0.1 $0.1
Total $9.3 $10.3


Accounting for Fannie and Freddie

 An editorial yesterday in the Wall Street Journal called on the Administration to support the reform of the two housing financing enterprises originally sponsored and now owned by the federal government, Fannie Mae and Freddie Mac, and at a minimum, to show the full cost of those organizations in its budget. 

Mr. Obama …can order the White House budget office to embrace honest accounting today and bring Fannie and Freddie on the federal budget.
In the wake of the financial and fiscal crises of the past two years, budgeters have struggled to devise appropriate budgetary accounting for new and extraordinary financial and fiscal interventions. Luckily, many of these have a precedent: the 1990 Credit Reform Act.   That act mandated how the budget should treat the cost of loan and loan guarantee programs. Under the Act, OMB and CBO calculate the cost of loans and guarantees as the net discounted present value of the expected cash flows to and from the federal Treasury resulting from the extension of the loan or guarantee, including any default costs net of recovered resources and any premiums or fees paid to the Government. (The cost for credits extended in the budget year divided by the volume of new direct and guaranteed loans is the subsidy rate). The subsidy cost for credit is included in budget outlays and the deficit in the year the loans are made. For the TARP, the Economic Stabilization Act mandated that TARP purchases be treated similarly, with the added stipulation that the cost of direct loans and guarantees should be calculated using fair market values. 
In the case of Freddie and Fannie, OMB and CBO disagree about whether they should now be included in the budget as government agencies. In September 2008, the federal government placed the GSEs in conservatorship to address their growing financial losses.  In exchange for a federal commitment to provide an infusion of cash, Fannie and Freddie gave Treasury a controlling equity interest in the enterprises. 
CBO argues that because “conservatorship” means the federal government now owns and controls Freddie and Fannie, their costs should be recorded in the budget as though they were federal agencies.  Earlier this year, CBO issued a report  and its Director wrote a blog on why CBO believes these two agencies and their costs should be on-budget.  In addition, in its budget update, it included the cost of covering their past financial losses AND included an estimate of the government’s cost over the next ten years in its budget projections. CBO now treats Fannie and Freddie purchases of loans and mortgage-backed securities as though they were being made by federal agencies.
In contrast, the President’s FY 2011 Budget continues to show both entities as off-budget. It shows the cost of the government’s cash payments to the entities to keep them afloat in 2009. It does not address the costs of future transactions at the point of control, or when Fannie and Freddie purchases mortgage-backed securities or otherwise take on additional risks.  In 2009, CBO shows outlays of nearly $300 billion for Fannie and Freddie support, while OMB records cash payments of less than $100 billion.
The current difference between CBO and OMB only deals with two failed GSEs. However, there are others still operating with the financial benefit of federal sponsorship.  Budget reform needs to look at the subsidies conveyed by government sponsorship of large financial enterprises such as the Federal Home Loan Banks and the Farm Credit System.  The budget should not shy away from recording the real cost of government commitments to the stability of such quasi-private entities. The subsidies are real, taking the form of lower funding costs than would be demanded of such risky entities if the Government were not behind them. The budget should record the costs of such federal commitments when they arise, not just when the bills are due. If the budget recognizes the potential costs of these programs as subsidies are conveyed, policymakers can act ahead of time to limit or offset the cost of the government subsidy and reduce the risk of a future bailout of other housing funds or programs.


Herszenhorn Discusses Reconciliation For Health Care

Ever since Scott Brown's victory in Massachusetts, there has been a lot of talk about Democrats using budget reconciliation to pass a comprehensive health care bill in the Senate.  A New York Times article by David Herszenhorn describes reconciliation as an "evening out."

Budget reconciliation relies on policy changes to "even out" federal spending and revenues, so that the government can meet goals set in the annual budget resolution adopted by Congress, which generally means hitting targets for reducing the deficit

In the past, reconciliation has been used to pass deficit reduction packages such as the Omnibus Budget Reconciliation Acts of 1990 and 1993, the 1996 welfare reform, and more recently, the 2001 and 2003 Bush tax cuts.  Obviously, the focus has been on the fact that legislation pushed through reconciliation would be filibuster-proof, requiring only a simple majority to pass.  But the process is not that simple.  There are other procedural hurdles that the Democrats would have to overcome.

In general, reconciliation measures must comply with rules that are stated in the previous budget resolution.  Additionally, the Byrd rule requires that all provision of a reconciliation measure have a direct budgetary impact that advances the fiscal goals of the budget resolution.  Any provision that violates the Byrd rule is automatically struck from the reconciliation package.  Thus if the Senate wanted to include some of President Obama's new provisions, such as the Health Insurance Rate Authority, they would not be able to pass it through reconciliation since the provision would not have a direct fiscal impact. 

Another hurdle Herszenhorn mentions is that the Byrd rule requires any reconciliation package to be at least deficit-neutral in every year after the period it covers (in this case, five years.)  The passed Senate bill reduces the deficit over ten years, but much of the savings are back-loaded, and if they adopt Obama's proposal to delay the excise tax on high-cost insurance plans until 2018, it would become much harder for the Senate to achieve savings in 2015 and beyond.

Beyond the procedural difficulties of reconciliation, the more widely noted aspect is the political storm the potential use of the process has stirred up.  Republicans have criticized the use of reconciliation as an attempt to jam a partisan piece of legislation through Congress, while Democrats have pointed to Republican measures, especially the 2001/2003 tax cuts, which used reconciliation to get passed.

Regardless of the arguments over whether it would be right to use reconciliation, Senate Democrats would still have the arduous task of navigating the minefield of reconciliation's rules.


Democrats Named to Deficit Panel

A little less than a week after the President signed an Executive Order establishing a National Commission on Fiscal Responsibility and Reform, the Democratic leadership has appointed three Democrats to sit on the Commission. Senate Minority Leader Mitch McConnell has yet to appoint any Republicans. The co-chairs of the Commission were named last week; they are former Sen. Alan Simpson (R-Wy) and former Clinton White House Chief of staff Erskine Bowles.

Majority Leader Harry Reid appointed Senate Budget Committee Chairman Kent Conrad (D-N.D.), Senate Finance Committee Chairman Max Baucus (D-Mont.), and Majority Whip Dick Durbin (D-Ill.). The Commission will be composed of 18 members: 6 appointed by the President (no more than 4 from the same party); 3 members of the House appointed by the House Speaker; 3 members appointed by the Majority Leader of the Senate; 3 members appointed by the Minority Leader of the Senate; and 3 members of the House appointed by the Minority Leader of the House. 

Click here to find a joint statement on the Commission put together by the Committee for a Responsible Federal Budget, the Concord Coalition, and the Committee for Economic Development. The statement lays out five keys the groups see as essential for success, including true bipartisanship, a broad mandate, a lack of preconditions, transparency, and finally, the guarentee of a vote in Congress on any recommendations.