Federal Reserve Chairman Ben Bernanke delivered a speech today at the National Press Club that once again called attention to our growing deficits and debt. Just last month, Bernanke was on Capitol Hill giving a similar evaluation. Today, he reiterated that the economic recovery is strengthening, but unemployment will likely remain "stubbornly" high and inflation (especially core inflation, which does not include the more volatile commodity prices, like food and and energy) will stay low. In discussing monetary policy, he briefly mentioned the Fed's $600 billion quantitative easing round that was announced in November and reassured the audience that the Fed was monitoring the economic outlook and has the tools to unwind its commitments at the appropriate time.
The third and final topic he discussed was our fiscal policy outlook. He repeated many of his previous assertions, saying the U.S. must change course or else face a fiscal crisis. He said:
"[E]ven after economic and financial conditions have returned to normal, the federal budget will remain on an unsustainable path, with the budget gap becoming increasingly large over time, unless the Congress enacts significant changes in fiscal programs...
But if government debt and deficits were actually to grow at the pace envisioned, the economic and financial effects would be severe...In a vicious circle, high and rising interest rates would cause debt-service payments on the federal debt to grow even faster, causing further increases in the debt-to-GDP ratio and making fiscal adjustment all the more difficult...
By definition, the unsustainable trajectories of deficits and debt that the CBO outlines cannot actually happen, because creditors would never be willing to lend to a government with debt, relative to national income, that is rising without limit. The economist Herbert Stein succinctly described this type of situation: "If something cannot go on forever, it will stop." One way or the other, fiscal adjustments sufficient to stabilize the federal budget must occur at some point. The question is whether these adjustments will take place through a careful and deliberative process that weighs priorities and gives people adequate time to adjust to changes in government programs or tax policies, or whether the needed fiscal adjustments will be a rapid and painful response to a looming or actual fiscal crisis. Acting now to develop a credible program to reduce future deficits would not only enhance economic growth and stability in the long run, but could also yield substantial near-term benefits in terms of lower long-term interest rates and increased consumer and business confidence. Plans recently put forward by the President's National Commission on Fiscal Responsibility and Reform and other prominent groups provide useful starting points for a much-needed national conversation. Although these proposals differ on many details, they demonstrate that realistic solutions to our fiscal problems are available."
In his conclusion, he also called for our fiscal solution to be carefully constructed to promote economic growth:
"I hope that, in addressing our long-term fiscal challenges, the Congress and the Administration will seek reforms to the government's tax policies and spending priorities that serve not only to reduce the deficit, but also to enhance the long-term growth potential of our economy--for example, by reducing disincentives to work and to save, by encouraging investment in the skills of our workforce as well as in new machinery and equipment, by promoting research and development, and by providing necessary public infrastructure. Our nation cannot reasonably expect to grow its way out of our fiscal imbalances, but a more productive economy will ease the tradeoffs that we face."
Chairman Bernanke continues to be a voice of reason, consistently calling attention to this most important of issues. He also reaffirmed, once again, his membership in the Announcement Effect Club by arguing that a credible fiscal plan can improve our economic prospects in the short-term by reassuring creditors and keeping interest rates low. The consequences will indeed be "severe" if we do not develop a credible plan to satisfy investors that we will make good on our obligations. To do this, we must chart a sustainable course for the future -- one that not only brings our deficits into line, but also lays the foundation for sustainable long-term growth and prosperity.
To share your thoughts on how we should put our fiscal house in order, click here.
Today on Ezra Klein's blog, Derek Thompson (who contributes to a great blog over at The Atlantic) makes the liberal case for deficit reduction. He notes that current budget policy debates can leave you depressed because Congress lacks both the appetite for high impact spending today and the will to cut the deficit down the road. We know the feeling all too well.
"Progressives want new spending for education, innovation and infrastructure. But under the Republican House's cut-go rules, new spending must be offset with spending cuts. That leaves the stimulus crowd with two options: (1) identify low-impact policies to cut and shift the money toward better ideas, like an infrastructure bank, export financing or community college support; or (2) stimulate the economy in ways that cost next to nothing..."
"The second option is to pursue stimulating policies that cost basically nothing. Under this category, you could enact deficit-neutral corporate tax reform; reform the Byzantine rules for export control; increase visas for skilled foreign students; and even announce cash prizes for innovation breakthroughs that won't cost Washington a cent, unless companies really crack the code on photovoltaic efficiency, or whatever sweepstakes we want to set up. All of these measures would make the U.S. economy more productive (sorry, competitive), and you could have all of them and more for a bargain."
In essence, to pave the way for more growth-friendly policies and to further invest in education and infrastructure for the future, we've got to deal with deficits to create the budgetary flexibility. These sentiments were also echoed in the Fiscal Commission's idea for a Cut-and-Investment Committee. Also be sure to check out Rep. Earl Blumenauer's (D-OR) version of the liberal case for fiscal reform at the New York Times.
Back in October, CRFB president Maya MacGuineas made the case for additional ways to strengthen the recovery, but with strings attached to force fiscal reform at the state and federal level.
The Senate Budget Committee held a hearing on tax reform this morning, featuring testimony from four witnesses who all unequivocally called for fundamental reform to our tax code.
In his opening statement, Committee chairman Kent Conrad (D-ND) – who has repeatedly stressed the need for the government to adopt a long-term fiscal plan – called the U.S. tax code “indefensible”, and said that an agreement on tax reform must be reached this year, not be put off once again. He also called for reform that’s along the lines of the tax proposals in the President’s Fiscal Commission report; reform that repeals tax expenditures, broadens the base, and reduces rates across the board.
Echoing similar sentiments, Donald Marron of the Tax Policy Center called our tax system “broken”, saying:
"It’s needlessly complex, economically harmful, and often unfair. It fails at its most basic task, raising enough money to pay our government’s bills. And it’s increasingly unpredictable, with large, temporary tax cuts not only in the individual income tax, but in corporate, payroll, and estate taxes."
Like the momentum behind debt reduction, the momentum behind tax reform has also been building. In his State of the Union speech, President Obama himself called for tax reform – specifically to lower the corporate rate, an idea that has also gotten increased attention lately. A significant amount of time was spent discussing this issue in today's hearing, and ranking member Jeff Sessions (R-AL) even said – in what could be a break from traditional party lines: "I think we need to figure out a way to reduce the rates. And if it has to be paid for by some tax increases in other areas, I'm willing to consider doing that."
CRFB board member and Urban Institute scholar Gene Steuerle summed up how support for reforming the tax code spans the political spectrum in his testimony.
"Many tax and budget reforms know no ideological or party boundaries. While legitimate debates transpire on degrees of progressivity or size of government, no one favors the unequal justice, inefficiency, and complexity we see in our tax code today. Neither does anyone really favor the ways that tomorrow’s scheduled deficits—over and beyond any amount related to recession—threaten economic slowdown and place unfair burdens on our children."
By broadening the base and reducing rates, we can simplify our tax code and reform it in a manner that promotes economic growth and international competitiveness. CRFB applauds the early steps that Congress and the Administration are taking and we hope that momentum continues to build.
Click here to read about some of our tax reform ideas.
It's an interesting time in the fiscal policy world right now. A lot of uncertainty is up in the air about what will happen with our deficits and debt. Last week, a lot of bad news came in. CBO showed a deteorioration in our ten-year outlook, while the IMF and Moody's prodded/warned the U.S. to get going on fiscal reform. But it's not all bad.
There seems to be an increased willingness to negotiate a comprehensive fiscal package along the lines of the Simpson-Bowles plan. Senators Kent Conrad (D-ND) and Tom Coburn (R-OK) have been active proponents for a while now (and former commissioners who supported the commission plan), but they have especially stepped up their vocalness in the new Congress. But now more lawmakers seem to be jumping on the bandwagon for bipartisan negotiations, not just the discretionary spending cuts we've been hearing about for the past few weeks.
Sens. Mark Warner (D-VA) and Saxby Chambliss (R-GA) have put together a bipartisan group of senators looking to enact a similar proposal to Simpson-Bowles, or at least use the plan as a starting point. Right now, they are looking to make the plan into real legislation. As Chambliss said:
"We've got to have a comprehensive package," Chambliss told POLITICO. "There is no silver bullet. Fixing Social Security will not do it. Raising taxes won’t do it. Spending cuts won’t do it. You have to have all of the above. It’s going to take every leg of the stool being on the table for debate.”
The Simpson-Bowles plan got the support of 11 of 18 commissioners and the attention of many more people. But with the passage of time and a new Congress, attention shifted away from the plan. Now that appears to be changing. Even Commission Co-Chair Alan Simpson sees it: "The wonderful thing that is clear is there is movement."
Another encouraging sign was a bipartisan group of about forty Senators who attended the Senate Budget Committee hearing yesterday. Clearly, deficits and debt, not just cutting spending, are on the minds of many in Congress.
It apparently has not been hard for Senators to jump on board the bipartisan bandwagon. But of course, this might have something to do with the fact that every piece of legislation that passes the Senate will need the support of both parties. It will be more difficult--and more crucial--to get both the House and the White House on board.
Let's see if this effort gains momentum.
On Monday, Senator Tom Coburn (R-OK) sent a letter to the Chief of Naval Operations calling for the Pentagon to get its finances in order in the face of elevated budget scrutiny. Although many politicians view defense spending as sacrosanct -- particularly on Senator Coburn's side of the aisle -- there is a growing consensus that the defense budget must be brought under control. In the letter, Senator Coburn noted the Bowles-Simpson plan's inclusion of defense savings:
"After months of study, commissioners from across the political spectrum agreed that the Department of Defense's budget must be reduced in the coming years in order to deal with our debt. The Commission called for reductions in defense acquisition and investment accounts as well as reforms to operations and maintenance, health care, and personnel policies."
Senator Coburn also called for the Pentagon to improve its financial management and prepare for an audit:
"As you know, the Pentagon is one of the few agencies in the federal government that cannot produce auditable financial statements in accordance with the law...
For decades, the mission of the Department of Defense to comply with basic financial standards has been viewed as a waste of scarce resources, even more so during a time of war. However, this is not supported by the actual experiences of Department of Defense agencies. For example, the Marine Corps is already seeing impressive returns on their meager investments in the pursuit of financial improvement and audit readiness. The Defense Information Systems Agency has also identified tens of millions in net savings by improving their financial operations.
In light of these savings and upcoming budget challenges, I ask you to aggressively pursue financial improvement and audit readiness in order to preserve the military's ability to take care of our troops today and to invest in the needed modernization of our weapon systems for the future. If done properly, this effort to improve your financial management will yield savings and prevent cuts to military personnel and programs which could occur otherwise."
Senator Coburn is right on the mark here. Every aspect of federal spending -- domestic discretionary, entitlements, and defense -- as well as our tax code will have to face serious scrutiny as we try to get out of the fiscal hole we have dug ourselves into.
As policymakers look to make serious cuts in the defense budget -- cuts which will probably need to go far beyond the Gates proposals -- it would be best if they had a full understanding of where money is being used effectively and where efficiencies can be found. Defense spending accounted for over 20 percent of overall spending last year at $689 billion. Surely, we can better track where $689 billion is spent.
As the saying goes: if you can't measure it, you can't manage it.
Today the Senate Budget Committee, led by chairman Kent Conrad (D-ND) and ranking member Jeff Sessions (R-AL), held a hearing on The Budget and Economic Outlook: Fiscal Years 2011-2021. The panel testifying before the committee was made up of three economists -- Dr. Richard Berner, chief U.S. economist at Morgan Stanley; Dr. Simon Johnson, senior fellow at the Peterson Institute and a professor at MIT; and Mr. David Malpass, of Encima Global.
The U.S. fiscal outlook received a substantial amount of attention during this hearing. Sen. Conrad began the session with opening remarks that reiterated his past calls to get serious about developing a comprehensive fiscal plan. His statements mirror the kind of attitude we believe is necessary to address the daunting challenge facing us. Sen. Conrad said today:
I believe that the deficit and debt reduction plan assembled by the President’s Fiscal Commission on which I served got it about right...
There were 18 members on the commission, 11 supported the report – 5 Democrats, 5 Republicans, one independent – that’s 60 percent of the commissioners supported the conclusions of the report that would reduce the debt by $4 trillion over the next 10 years. I believe that proved that Democrats and Republicans can join forces when we face an imminent threat to this country. And I believe this debt threat is an imminent threat to the nation.
We can put together a credible, responsible, realistic bipartisan budget plan. This year, we need to finish the job. It will require Presidential leadership and it will require a Congress that is willing on both sides to come together, to do things both of us would prefer not to have to do. I hope very much we face up to this, because a failure to do so would mean very serious consequences for the country in the future...
Sen. Conrad renewed his previous call for a summit between the White House and Congress to work out a fiscal plan and said it should happen before the debt ceiling vote. He also made a statement about the need to get serious about addressing all aspects of the budget. He criticized those who claim that cutting non-defense discretionary spending alone will be enough to get us back on a sustainable path. He rebutted these assertions, speaking about entitlements, saying:
And yet, somehow we don’t want to talk about it. I think I know why we don’t want to talk about it, because if you ask the American people they say you don’t need to touch Medicare, you don’t need to touch Social Security, you don’t need to touch defense, you don’t need to touch revenue.
Well, I just say this. If that really is the conclusion, that Social Security doesn’t have to be touched, and it is cash negative today, Medicare doesn’t have to be touched, defense doesn’t have to be touched, revenue doesn’t have to be touched, you can’t solve the problem. It is a mathematical certainty you cannot solve the problem.
So, some of us are going to have to help the American people understand the unfortunate reality here. And the unfortunate reality is I believe all those things are going to have to be touched, and the sooner we do it the better, because the less draconian the solutions will be later on. The worst time to deal with this is when you are in a crisis. If there is anything Greece should have taught us, and Ireland should have taught us, and Portugal should teach us, is the worst time is when you are in a crisis.
Well said, Senator. We would also like to highlight a portion of Mr. Malpass' testimony. In his policy recommendations, he called for deep spending cuts as part of a deal to raise the debt limit, which Treasury Secretary Geithner says will occur between March 31 and May 16. Furthermore, he advocates tying the debt ceiling increase to placing a firm limit on the U.S. debt as a percentage of GDP. He states:
A better limit would be based on the marketable debt-to-GDP ratio, say at 50% of GDP, enforced by escalating penalties on government leaders and institutions if the limit is exceeded. Like the Constitution, this type of limit might last decades or centuries. As a complement, I would support a spending per GDP limitation, though federal expenditures vary substantially from decade to decade based on demographic needs, defense posture and interest rates.
CRFB has proposed setting fiscal goals tied to lowering the debt-to-GDP ratio. The tone set today by Chairman Conrad and the ideas put forth by the witnesses are important contributions to the national discussion on changing our fiscal trajectory. We applaud Sen. Conrad for his leadership and hope his colleagues heed his call to action.
Another bipartisan group of Senators is introducing legislation to promote fiscal reform. Recently we saw Senators Jeanne Shaheen (D-NH) and Johnny Isakson (R-GA) work together in support of biennial budgeting. Today, Senators Claire McCaskill (D-MO) and Bob Corker (R-TN) are introducing legislation to enact graduated caps on federal spending -- the Commitment to American Prosperity (CAP) Act.
Sen. McCaskill has been an outspoken advocate of spending caps. Last year, she and Sen. Jeff Sessions (R-AL) -- the new ranking member of the Senate Budget Committee -- repeatedly forced votes on a discretionary spending cap. The idea had strong support in the last Congress, but fell just short of the 60 vote threshold.
In this renewed initiative, Sen. McCaskill has joined forces with Sen. Corker, another strong supporter of spending caps. The CAP Act would reduce both discretionary and mandatory spending over a period of 10 years by capping total spending at 20.6 percent of GDP by the end of the decade. Under CBO's current law baseline, revenue is projected to be closer to 24 percent of GDP.
In the press release, Sen. McCaskill said, "This bill isn't just about cutting back this year or next year; it's about instilling permanent discipline to keep spending at a responsible level." Sen. Corker continued,
"Cutting trillions of dollars from the federal budget in the coming years won't be easy or painless; it will require backbone and discipline on the part of policy makers and shared sacrifice for the country. I believe Americans will be willing to make short-term sacrifices for the long-term good of our country and demand commensurate actions from their elected officials."
The CAP Act has seven co-sponsors on board: Sens. Lamar Alexander (R-TN), Richard Burr (R-NC), Saxby Chambliss (R-GA), Jim Inhofe (R-OK), Johnny Isakson (R-GA), Mark Kirk (R-IL), and John McCain (R-AZ).
In the proposal, spending caps would begin in 2013 at an effective rate of 22.25 percent of GDP, and this cap will be incrementally decreased each year over the course of the decade. Caps would be enforced through a sequester, and require a two-thirds vote in both Houses to be exceeded.
CRFB applauds this attempt to address our burgeoning debt, and is a supporter of identifying budget process reforms to help stabilize the debt. Importantly, the CAP Act looks beyond simply cutting spending in 2011 and puts forward a medium term spending framework.
The caps are, however, quite severe -- bringing total spending down to below 21 percent of GDP whereas other fiscal plans out there have had a hard time getting it down to 22 percent. In addition, the plan exempts tax expenditures, which could lead politicians to simply substitute spending through the tax code for traditional spending.
Still, aggregate spending caps such as these certainly merit consideration, and such proposals are quite helpful in moving the fiscal conversation forward. By moving beyond discretionary spending caps, the CAP Act recognizes that all areas of the budget -- not just domestic discretionary spending -- must be subject to scrutiny. We agree.
Note: Blog has been updated from the initial posting