July 2011

The Facts on the Chained CPI

Coverage of the so-called "chained CPI" has been heating up recently, due to rumors that it might be included in the latest round of debt negotiations. The Wall Street Journal reported that it could be a potential "link to a budget deal", as the idea of switching to the chained CPI has won support from both the left and the right. The Hill and Bloomberg covered the story as well, with the latter quoting CRFB’s own Marc Goldwein who stated that "It’s a no-brainer. We’re measuring inflation wrong now and it’s obvious we should measure it right--especially if it’s going to reduce the deficit."

For a little background, a number of federal programs and provisions of the tax code are indexed to inflation -- but they are indexed to a measure which overstates cost of living increases. Switching to the more accurate inflation measure known as the Chained CPI is not only good policy, but would reduce the deficit by over $250 billion over the next decade. 

Yet a recent distributional analysis from the Joint Committee of Taxation pours some cold water on this policy by suggesting that, according to a press release from Congressman Sander Levin, switching to chained CPI "would hit middle- and low-income Americans hardest."

Looking at JCT's tables without any context does indeed suggest that low-income individuals (particularly those making between $10,000 and $20,000 per year) are hit hard by this policy. However, a more complete analysis of the distributional affect from the Tax Policy Center shows the change to be close to distributionally neutral. 

JCT's estimates are limited in a few ways, including that they look at percent of taxes paid (so if someone pays $10 a year and this policy increases it to $12 that is a 20 percent tax increase) rather than percent of income and that they do not account for the many low income individuals who do not file tax returns. In addition, they assume the continuation of current law where a very large number of taxpayers are hit by the Alternative Minimum Tax (AMT) rather than the regular income tax -- even though Congress enacts AMT  "patches" every year. Taxpayers subject to the AMT are not affected by the changes in indexation of tax brackets or deductions from chained CPI, and the chained CPI would not affect a significant number of higher income earners because they are pushed into the AMT. Under a baseline which assumes continuation of an AMT patch, which prevents a dramatic increase in the number of taxpayers subject to the AMT, chained CPI would have a much greater impact on the top two quintiles. Looking at the above graph, taxpayers earning between $100,000 and $200,000 would be affected the most by a change to the chained CPI compared to a baseline that patches the AMT.

The Tax Policy Center analysis looks at the impact of chained CPI relative to current policy, and finds that pretty much everyone (except the very rich and very poor) would see their taxes go up by about 0.2 percent of income by 2021 -- compared to current projections.

Indeed, those making over $100,000 a year, according to TPC's analysis, will bear nearly 60 percent of the burden from switching to chained CPI (compared to 30 percent using JCT's current law numbers). The top quintile alone will pay more than 40 percent of the additional taxes.

More to the point, though, chained CPI is a more accurate measure of inflation and even if the distributional impacts were less favorable it would not change that. But if policymakers are concerned about the distributional impact of the chained CPI on certain taxpayers, any number of changes can be made to the tax code to achieve a desired distributional outcome in a far more targeted and efficient manner, just as the impact of chained CPI on certain Social Security beneficiaries could be offset by targeted policies such as an old-age benefit bump-up. Take the Fiscal Commission's tax plan which not only enacts the chained CPI but also raises an additional $1 trillion in revenue -- and yet actually reduces taxes for the bottom quintile.

Bottom line: there is no reason to maintain a $450 tax windfall for those in the top quintile just to protect a $25 windfall for those in the bottom quintile -- something like a $25 increase in the EITC or even child tax credit would be far cheaper and better targeted.

We have a tremendous debt problem ahead which will require at least $4 trillion in deficit reduction over the next decade alone. As we wrote recently, "addressing our fiscal challenges will require many tough choices and policy changes – but switching to the chained CPI represents neither."

Sen. Warner: "We Cannot Wait Much Longer"

In an op-ed today in The Washington Post, Sen. Mark Warner (D-VA) pleads with lawmakers to act quickly to raise the debt limit and to seek a comprehensive $4+ trillion deficit reduction package that looks at all areas of the budget. Warner writes, "Everything I learned about our economy and the financial markets as a businessman and as a governor tells me that we cannot wait much longer."

We have similarly called for lawmakers to raise the debt limit and fix the budget by agreeing to at least $4 to $5 trillion in deficit reduction, and recent reports suggest that is what the President and leaders in Congress will be discussing in the coming weeks.

Here is the full op-ed by Sen. Warner:

Every serious observer knows that we need to increase our country’s debt ceiling and get behind a comprehensive, balanced, bipartisan solution to our $14 trillion debt and our $1.5 trillion annual deficit.

So what are we waiting for?

The Arizona senator (mis)interprets American voters.

We are waiting for politicians to quit drawing lines in the sand and admit that solving this gigantic problem in a time of divided government means that both sides will have to give ground.

We are waiting for business leaders to stop talking vaguely about the need to get our balance sheets in order and to call out elected leaders who stand in the way of doing it.

We are waiting for the leaders of Wall Street to speak out. They have recovered far more quickly than most Americans from the market meltdown of 2008, but they at least should understand the repercussions of playing Russian roulette with the debt ceiling.

I’m glad that President Obama has invited congressional leaders to the White House Thursday to discuss possible solutions to our country’s fiscal crisis. We add more than $4 billion to the national debt every day that we fail to act, and the Treasury’s Aug. 2 deadline on the debt ceiling is fast approaching.

For months, we have known that no plan will succeed if it just slashes programs such as Medicare or imposes big hikes in tax rates. We’ve known that we need a plan that eliminates at least $4 trillion in debt over the next decade, slows the growth in entitlement programs and raises new revenue through tax reform.

Everything I learned about our economy and the financial markets as a businessman and as a governor tells me that we cannot wait much longer.

Business leaders all tell me the same thing: Failing to raise the debt ceiling will increase interest rates, gut consumer confidence, and drag down business investment and job creation. Every one-point increase in interest rates increases the national debt by $1.3 trillion over a 10-year period, and who knows how much rates could increase.

Yet with few exceptions, our business leaders have not demanded an end to the political brinkmanship. Wall Street, too, has been strangely silent.

Two years after a near-collapse of our financial markets, even with ominous credit-watch pronouncements issued last month by Moody’s, Fitch and Standard & Poor’s, many business leaders yawn as some elected officials prepare to punt on the full faith and credit of the United States.

Maybe business leaders think that this debate is just political theater and assume that a deal will emerge. Maybe they don’t believe politicians who declare that they will never vote to raise the debt ceiling or casually rule out entitlement reform or a penny of additional revenue.

If we don’t act boldly before Aug. 2, working from both sides of the balance sheet, the smart money soon will begin to bet against us on world financial markets. Add that to financial upheaval in Europe, and you have a recipe for an economic disaster far worse than we faced in 2008.

Unlike 2008, however, our nation has already used the traditional economic tools available to us. The Federal Reserve slashed interest rates, and Congress passed a fiscal stimulus, but the U.S. recovery remains weak. And still the debt grows.

These are the facts that demand tough choices: Federal spending is at an all-time high of 25 percent of our GDP, and our government revenue is about 15 percent of GDP, a 60-year low.

It doesn’t take an MBA to recognize that the only way to close that gap and restore fiscal stability is to attack both sides of the ledger. We must cut spending, including defense and entitlements, and we must find reasonable ways to increase revenue.

In six months of increasingly tough negotiations as part of the Senate’s “Gang of Six,” I’ve learned that failing to embrace a bold, comprehensive, bipartisan plan will wreck our economic recovery, kill jobs and place our country at a competitive disadvantage for decades.

The president’s bipartisan fiscal commission called its report “The Moment of Truth.” Here is the truth: We need to raise the debt ceiling and ignore irresponsible politicians who would let us default.

To regain fiscal health, we need a plan that cuts our debt by at least $4 trillion. It can achieve that only with spending cuts and greater revenue.

Elected leaders who ignore the truth and business leaders who indulge them will be responsible if we fail.

The writer, a Democrat, is a member of the Senate’s Banking, Budget, Commerce and intelligence committees. He is a co-founder of Nextel and was governor of Virginia from 2002 to 2006.

President Seeking $4 Trillion, Comprehensive Plan

CRFB has been calling pretty much continuously for a debt reduction package which puts everything on the table, addresses entitlement spending growth, and achieves a minimum of $4 trillion in savings over the next decade. So, you can imagine what a pleasant surprise it was to see a front-page article in today's Washington Post suggesting that President Obama will call for $4 trillion in savings instead of $2.5 trillion, and will additionally call for Social Security reform.

According to the article:

As part of his pitch, Obama is proposing significant reductions in Medicare spending and for the first time is offering to tackle the rising cost of Social Security...Rather than roughly $2 trillion in savings, the White House is now seeking a plan that would slash more than $4 trillion from annual budget deficits over the next decade, stabilize borrowing, and defuse the biggest budgetary time bombs that are set to explode as the cost of health care rises and the nation’s population ages.

We are hopeful that this "go big" strategy will be successful in getting both parties to agree to a package. As CRFB president Maya MacGuineas said in our release yesterday on the negotiations:

Settling for a "down payment" and punting the real choices on structural entitlement and fundamental tax reform until after the election should not be seen as enough. We need to lift the debt ceiling immediately and at the same time put in place plans to complete a full fiscal package by the end of the year. The only excuse for waiting any longer is an unwillingness by politicians to face up to the tough fiscal choices we obviously are going to have to face. Every bit of delay creates the risk that we will wait too long.

Senator Rockefeller Offers Up Revenue Plan

While much of the conversation on tax increases in a debt ceiling budget deal has seemed to focus on corporate jet owners, Sen. Jay Rockefeller (D-WV) has offered up a broader range of tax increases to reduce future deficits.

These tax increases focus almost exclusively on the wealthy, but they would raise a lot more revenue than the $3 billion saved from repealing accelerated depreciation for corporate jets. Some of the bigger ticket items (with ten-year savings relative to current law) are:

  • Repeal the 2001/2003/2010 tax cuts for people making over $250,000 at the end of 2011, instead of waiting until the end of 2012 for them to expire ($41 billion)
  • Raise capital gains rate to pre-1997 level of 28 percent ($125 billion)
  • Revert to pre-2001 estate tax parameters this year ($32 billion)
  • Cap itemized deductions at 28 percent ($300 billion)
  • Enact a three percent millionaires' surtax ($200 billion)
  • Repeal oil and gas subsidies ($35 billion)

Other small measures include a possible soda tax, repealing the ethanol tax credit, legalizing and taxing internet gambling, disallowing yachts to be claimed as second homes for the mortgage interest deduction, and repealing accelerated depreciation for racehorses and (yes) corporate jets.

Combined, Sen. Rockefeller's office claims that these measures would raise $1.3 trillion relative to current law; in other words, they could pay for roughly half of the extension of the 2001/2003/2010 tax cuts for people making under $250,000. That would certainly be an improvement over the December tax cut extension that fully extended the tax cuts (among other policies) without any offsets.

We applaud Sen. Rockefeller for coming up with specific revenue proposals. Sen. Rockefeller touches on closing some of the special credits, deductions, and exclusions in the tax code, but could make the code even simpler and fairer by taking an even harder look at the $1 trillion in tax expenditures. While his proposal would be a good start on deficit reduction, it will be impossible to get a grip on future deficits and debt if the rise in health care costs and retirement spending is not tackled. A balanced, comprehensive tax reform plan combined with spending cuts in all areas of the budget of at least $4 trillion in savings would be a great start. Nonetheless, Sen. Rockefeller has provided some individual provisions that could be useful for lawmakers to consider in current discussions.

As Debt-Limit Deadline Nears, Lawmakers Must Avoid Budget Gimmicks

At a press briefing yesterday, President Obama invited Congressional leaders of both parties to the White House tomorrow to continue ongoing debt ceiling negotiations. As the August 2nd deadline for raising the limit draws nearer, the President also stressed the need for lawmakers to be open to compromise, saying he hoped "that everybody is going to leave their ultimatums at the door."

As pressure intensifies and opposing parties continue to cast blame, using budget gimmickry as a quick fix to the problem probably seems like an increasingly appealing solution. However, as we stated in our recent paper What Needs to Come Out of the Debt Ceiling Negotiations, using budget gimmicks to avoid making the necessary tough choices is a huge DON'T.

While failing to raise the debt ceiling in time would be a serious mistake, so too would be failing to enact a credible plan to reduce and stabilize the debt. If the plan resulting from ongoing negotiations is seen as weak or ineffective in addressing long-term drivers of the debt, it could be perceived as a sign that Washington is unable to correct its fiscal imbalances, which could also damage the economy. Using budget gimmicks would undermine the credibility and effectiveness of any fiscal plan, and should be avoided.

Here are some potential budget gimmicks to look out for:

  • Manipulating the baseline: There are many reasonable baselines for policymakers to choose from. However, different baselines can make the total amount of savings bigger or smaller than the $4 trillion target we have called for -- so each baseline requires a different deficit target. Policymakers should focus on what levels they can get deficits and debt down to.
  • Counting war savings: Under current law, spending in Iraq and Afghanistan is technically projected to grow with inflation, despite plans for withdrawal being in place. While it may be sensible to apply budget controls to war spending, such savings (which could total more than $1 trillion) should not be counted towards the $4 trillion in total deficit reduction since policies to achieve them are already in place.
  • Expanding the timing window: Stabilizing and reducing the national debt will require at least $4 trillion in savings over ten years compared to our plausible baseline. Extending that time frame to more than ten years would result in insufficient deficit reduction and should be avoided.
  • Excessively back-loading savings: A sensible plan to stabilize the debt will implement policies gradually both to avoid disrupting a very fragile economic recovery and to give people time to adjust. However, excessive and arbitrary back-loading might be a sign that politicians are not serious about deficit reduction and are instead counting on future Congresses to override what they have put in place.
  • Assuming expiring provisions are paid for (or expired): When identifying a plan's effect on the debt and deficit, lawmakers must make realistic assumptions about the future. In assuming current law (under which the Bush tax cuts, the AMT, and the SGR either expire or revert to levels never allowed by Congress), lawmakers could greatly exaggerate the effectiveness of their plan.

The debt ceiling offers lawmakers an opportunity to begin dealing with deficits and debt. Let's hope they avoid resorting to budget gimmicks.

4:40pm Today President Briefs Press on State of Debt Talks

At 4:40pm today, the President will brief the press on the state of the budget negotiations and the next steps. See the live streaming video here -- starting now.

‘Line’ Items: Independence Day Edition

More Fireworks in Store – Washington, DC celebrated Independence Day on Monday night with its annual fireworks display on the National Mall. Though the traditional pyrotechnics may be out of the way, lawmakers returning to work today could produce more fireworks in the nation’s capital. The Senate cancelled its planned recess this week to tackle debt limit negotiations, but leaders still appear to be no closer on the matter of whether taxes will be included in a package pairing a debt ceiling increase with deficit reduction. President Obama asked Congress to stay in Washington until a debt limit agreement is reached in a White House press conference on Tuesday. He also called for a balanced approach that includes reductions in defense spending, entitlements, and “spending in the tax code,” also known as tax expenditures. To put it all in perspective, CRFB last week updated its Long-Term Realistic Baseline, which now shows the national debt reaching 88 percent of GDP in 2020 and 140 percent by 2035.

Heading Towards a Short Term Debt Limit Deal? – The Declaration of Independence remains an enduring document 235 years after its adoption. Those negotiating a debt limit increase have a much shorter timeframe in mind, perhaps very short. With no signs of the impasse over taxes being lifted, an increase of a few months is looking more likely. Former President Bill Clinton urged Obama to take such an approach if Republicans don’t budge on taxes, and Sen. John Cornyn (R-TX) hinted on Sunday that things may go in that direction. CRFB offered its thoughts on what the debt limit negotiations should accomplish in a recent paper.

Declaring Independence from Tax Breaks – Tax expenditures have become a popular topic on Capitol Hill as policymakers look for revenues to include in a debt limit deal. President Obama specifically singled out tax breaks for oil and gas companies and corporate jet owners in his Tuesday press conference. Senate Majority Leader Harry Reid (D-NV) said he may schedule a vote on ending a particular tax expenditure or package several together for a vote. Meanwhile, Sens. Amy Klobuchar (D-MN), John Thune (R-SD), and Dianne Feinstein (D-CA) are working on legislation to pare back tax subsidies for ethanol. Also, Sen. Kent Conrad (D-ND) suggested that coupling tax increases with permanent relief from the Alternative Minimum Tax (AMT) could achieve Republican support. See here and here for ideas for eliminating and reducing tax expenditures.

Democratic Budget on Deck – Like throwing burgers on the grill, we can soon add another budget plan to the heat of scrutiny. Sen. Conrad, who is chairman of the Senate Budget Committee, will share his long-awaited budget proposal with his fellow Senate Democrats this week. Conrad says it will contain over $4 trillion in deficit savings over the next decade. But there are still no plans for a committee mark-up because Conrad wants to reserve the budget resolution as a vehicle for a possible debt limit deal. Compare the fiscal plans that have already been released using CRFB’s comparison tool.

Appropriations Bills March Forward – With the House back from its recess, the parade of FY 2012 spending bills will continue. Floor action on the Defense appropriation measure will resume with votes on amendments and final passage expected this week. The Energy-Water spending bill is next in line for floor consideration. On the other side of the Capitol, the Senate Appropriations Committee adopted its first spending bill (Military Construction-Veterans Affairs) last week, with a price tag of $142 billion. But work on other bills is not expected as the chamber has yet to agree on a top-line spending figure to guide the process. With the budget process becoming more drawn out, the ideas offered by the Peterson-Pew Commission on Budget Reform for making the process more functional in Getting Back in the Black are becoming more essential.

More Warnings on Debt Limit – Like Paul Revere making his famous ride, there are plenty of voices warning of the perils of the forthcoming debt limit deadline, which the Treasury Department reaffirmed is August 2. Bond rating firm Standard & Poor’s warned that failure to increase the debt ceiling would result in a swift lowering of the U.S. credit rating. And a detailed analysis by the Bipartisan Policy Center illustrates the effects on government operations that will ensue if the limit is not raised by early August. Check out CRFB’s ongoing Debt Ceiling Watch to stay abreast of the “extraordinary measures” being taken by the Treasury Department to avoid breaching the limit.

Medicare Changes Considered – The New York Times reports that the White House is offering Medicare and Medicaid cuts as part of a debt limit deal, contingent on if Republicans agree to revenue increases. In addition, last week Sens. Joe Lieberman (ID-CT) and Tom Coburn (R-OK), introduced Medicare reform legislation designed to strengthen the program’s long-term finances and save over $600 billion over ten years. See some ideas from CRFB for health care savings.

Spending Cap Bill Introduced – While many removed their caps at some point this weekend for the national anthem, Sen. Pat Toomey wants to put on a cap, namely a cap on federal spending. He unveiled legislation last week that divides federal spending into six categories with different caps. For example, non-discretionary defense spending would be reduced to $435 billion in 2012, frozen at that level for seven years and then indexed to inflation thereafter. CRFB has provided a handy Fiscal Toolbox that summarizes and compares various budget tools being discussed to reduce the national debt, such as spending caps and debt triggers. See more budget resources here.

Promoting Bipartisanship – Just as the signers of the Declaration of Independence cast aside ideological differences in agreeing on the document, Sen. Mark Udall (D-CO) is seeking that same spirit in addressing the debt. He is circulating a letter for signatures supporting a bipartisan approach to addressing the national debt using the recommendations from the White House Fiscal Commission as a template. Meanwhile, the Moment of Truth Project, which is led by Fiscal Commission Co-chairs Sen. Alan Simpson and Erskine Bowles and “aims to use the Fiscal Commission’s findings to spark a national discussion on the need to implement a comprehensive budget fix, and to help further develop the policy reforms to improve the nation’s fiscal outlook,” launched its new website last week, along with an updated estimate of the Commission’s proposal.

Rockefeller Rolls Out Ideas – Sen. Jay Rockefeller (D-WV) has put forth his ideas for reducing the deficit. His 18 proposals, all on the revenue side, would reduce the deficit by $1.29 trillion over ten years, according to his office. Recommendations include eliminating tax breaks for oil and ethanol, ending the 2001/2003/2010 tax cuts for the wealthy, and capping itemized tax deductions.

Key Upcoming Dates

July 6

July 7

  • House Budget Committee hearing on “Budgeting for America’s National Security” at 10:00 am.

July 8

  • House Ways and Means Committee hearing on Social Security’s finances at 9:00 am.

August 2

  • Treasury Secretary Geithner says that the U.S. will default on its obligations by around August 2 if the statutory debt ceiling is not increased before then.

Wyoming Residents Ask Politicians to Endorse Fiscal Commission

After a sold-out presentation in Jackson Hole, Wyoming last week in which Fiscal Commission co-chair Senator Alan Simpson detailed the Commission's $4+ trillion long-term deficit reduction plan, over 200 Wyoming residents signed a letter urging their elected officials -- President Obama, Senators Enzi and Barrasso, and Congresswoman Lummis -- to endorse a compromise along the lines of the Commission plan, if not the plan itself. As a sign of bipartisan agreement on the letter, leading the signees are the chairs of the Democratic and Republican parties for Teton County (the county that Jackson Hole is in).

This letter is just one example of the support many citizens have for bipartisan action on a comprehensive plan that can set our nation on a sound fiscal path. The signers write:

"The political games must end. Everything needs to be on the table and compromise will be essential to success."

Sen. Simpson, a member of the CRFB board, spends much of his time on the road giving talks just like the one in Jackson Hole. With a little luck, he and other voices can help lead the discussion across the country toward promoting a long-term, comprehensive fiscal consolidation plan.

Check out the letter at the Concord Coalition's website here.

Projecting Defense Spending

In a recent report, CBO estimated the base defense budget from 2012 out through 2030 using the Defense Department's Future Years Defense Program (FYDP) -- DoD's five-year plan for defense spending submitted to Congress in April 2011 -- to project future spending.

While the FYDP only provides for spending through 2016, CBO has extrapolated what defense spending would be if the budget were to be maintained through 2030, projecting the budgetary effects of decisions included in the near-term five-year window. For the 2012-2016 period, CBO estimates that the FYDP would grow defense spending by 1.8 percent annually after adjusting for inflation. Beyond 2016, the budget would have 0.5 percent real growth.

CBO expects that increases in operation and support costs will be the big driver of the increases in defense spending over the next few decades under this budget plan. This category basically breaks down into spending on military personnel -- compensation and health care -- and operation and maintenance. Both categories are expected to be on the rise through the next decade in the FYDP, taking up a larger share of the overall defense budget. We've broken down spending by category (in 2012 dollars) in the table below.

Defense Spending by Category (Billions of 2012 Dollars)

2012 2016 2021 2030
Operation and Maintenance $207 $226 $248 $284
Military Personnel $143 $144 $155 $175
Procurement $113 $140 $140 $110
Research and Development $76 $69 $69 $58
Military Construction $13 $12 $13 $13
Family Housing $2 $2 $2 $2
Total, Base Budget $554 $594 $625 $642

 

Compared to last year, the path is similar for the first decade, but growth rates diverge in the second decade. Based on the average growth rates, defense spending by 2030 in this year's FYDP is about $50 billion lower than last year's FYDP. In particular, the acquisitions portion of the budget is more restrained compared to last year's plan.

Of course, making projections for discretionary spending can be very difficult, given that lawmakers must appropriate funding each year and the unpredictability of future security needs. However, it is still useful to see what the Pentagon is looking to spend on defense over the long-term as we comb through the defense budget for savings. With this in mind, defense spending -- like all areas of the budget -- should be part of any fiscal plan to put our fiscal house in order.

MY VIEW: Dan Crippen

In today's Washington Post, CRFB board member Dan Crippen makes the case for closing the tax loophole for online retailers.

Mr. Crippen argues that the tax break harms local retailers that pay state and local taxes, create jobs, and contribute to the local economy and community. He also points out that because online retailers can escape sales taxes, "state and local governments will be forced to rely more heavily on personal and corporate income taxes, undermining consumption taxes that economists mostly favor." He concludes:

"States are under enormous fiscal pressure. All states must balance their budgets, and the erosion of the sale tax base means less money for education, transportation, infrastructure and the myriad services that states uniquely provide.

There are thousands of organizations focused on Washington, trying to preserve federal funding for their specific programs while Congress tries to cut spending. Constituents might be well served if lawmakers closed this glaring loophole so states can collect what they are owed, and helped prevent the creation of other special-interest exemptions."

 Click here to read the full op-ed.

 

"My Views" are works published by members of the Committee for a Responsible Federal Budget, but they do not necessarily reflect the views of all members of the Committee.

Getting All A-Twitter on the Budget

It’s hard to deny that Twitter has become an important medium, having recently surpassed 300 million registered users. The White House has recognized its emergence by scheduling its first Twitter Townhall for Wednesday, July 6. The topic will be the economy and there likely will be, and should be, questions on the debt limit and national debt in general. You can submit your own question via Twitter using the #AskObama hashtag.

CRFB has been active on Twitter as well with our @BudgetHawks account recently surpassing 1,000 followers. Among our recent followers is @DavidHasselhoff, “The Hofficial Tweet!” If you are not following us already, we encourage you to do so for the latest fiscal news, timely information and discussion on the federal budget and national debt.

Understanding the Long Term Budget Projections

As if we didn't have enough on CBO's Long Term Outlook last week, we have more long-term budget projections, this time in the form of CRFB's Realistic Baseline!

Our projections use slightly different assumptions than both the Extended Baseline and the Alternative Fiscal Scenario (AFS). The resulting fiscal path just about splits the difference between the two baselines, which amounts to a wholly unsustainable fiscal outlook (if slightly less dire than the AFS). Under the CRFB Realistic Baseline, debt reaches 88 percent of GDP by 2020, 140 percent by 2035, and 437 percent by 2080. You can read more on the assumptions we made and the numbers that come out of it here.

But understanding why our baseline differs from CBO's other two scenarios requires understanding the difference between their current law scenario ("Extended Baseline") and their current policy scenario ("Alternative Fiscal Scenario"). Under the former, debt never exceeds 90 percent of GDP (and would fall to about 60 percent by 2050 if the wars were drawn down) while in the latter it exceeds 200 percent by 2037. The differences that lead to these disparate outcomes include:

  • Doc Fixes: Under current law, Medicare physician payments are scheduled to be cut by 30% as part of something called the Sustainable Growth Rate. The AFS (and CRFB's Realistic Baseline) assumes politicians freeze physician payments instead.
  • AMT Patches: The Alternative Minimum Tax is a secondary tax meant to capture high earners with low tax burdens. However, for a number of reasons, it now technically impacts middle-income families and so politicians pass annual "patches" to avoid this from occurring. Under current law, patches will stop while under the AFS (and CRFB's Realistic Baseline) they continue.
  • Tax Cuts: Under current law, the 2001/2003/2010 tax cuts expire at the end of 2012, as do a number of temporary "extenders". The AFS assumes that policymakers make both permanent (while CRFB's Realistic Baseline only assumes the 2001/2003/2010 tax cuts continue).
  • PPACA Cost Controls: The health reform law included a number of cost controls for Medicare and the exchange subsidies which are now part of current law but may prove unsustainable over the long-run. The AFS assumes that they are effective through 2021 but are overridden thereafter (CRFB's Realistic Baseline assumes they are partially overridden).
  • Discretionary Spending Growth: By budget convention, the current law baseline assumes discretionary spending grows with inflation through 2021 (as does CRFB's Realistic Baseline). The Alternative Fiscal Scenario instead assumes it grows with GDP.
  • Revenue Freeze: Were all the tax cuts (and AMT patches) to be renewed, revenue would still grow as a share of GDP due mainly to something called "real bracket creep" -- as well as due to the effect of the health care excise tax. However, the Alternative Fiscal Scenario holds revenue constant at 18.4 percent of GDP after 2021, essentially assuming that policy makers will enact future additional tax cuts.
  • War Drawdown: By  convention, CBO's current law baseline assumes all discretionary spending -- including for the wars -- will grow with inflation. However, the Alternative Fiscal Scenario (as well as CRFB's Realistic Baseline) assumes that troops will gradually be drawn down.

Here is a graphical bridge between the two scenarios (with the war drawdown added to current law).

Note: Interaction between the tax cuts and the AMT has been distributed among the two categories proportionally.

Not surprisingly, the tax cut extension contributes a significant chunk of debt to the AFS, although over the 75-year window, the assumption that revenue is frozen as a share of GDP plays a bigger role. AMT patches, discretionary spending growth, and the success of health reform's cost controls all play a big role as well.

The AFS and our Realistic Baseline paint a very bleak fiscal picture. However, as we pointed out earlier in the week, if lawmakers simply pay for any policy that diverges from current law, we will find ourselves in a much better situation.