The Senate has just approved, by a 62-36 vote, HR 4213, which extends unemployment compensation and COBRA benefits for the unemployed, along with many tax breaks, until the end of the year. Democratic leaders have promoted it as a jobs bill. Differences with the much-smaller House version must now be worked out.

Most of the estimated $140 billion cost of the package is not offset. The unemployment and COBRA provisions, in addition to a seven-month delay in a 21 percent reduction in Medicare physician payments were deemed “emergency” spending not subject to PAYGO. The bare minimum of 60 Senators voted to waive a PAYGO point of order raised against the bill.

The small offsets in the bill, approximately $35 billion, are a point of contention because the House and White House want to use them to partially pay for health care reform.

CRFB called for longer term offsets for the entire package to ensure it does not add to the debt. An amendment from Senators Jeff Sessions (R-AL) and Claire McCaskill (D-MO) to institute discretionary spending caps fell one vote short. Another amendment from Senator Tom Coburn (D-OK) to increase transparency of Senate spending outside of PAYGO passed unanimously 100-0.

Sustaining the recovery will require us to convince markets and our creditors that we are serious about addressing our debt. Perhaps the House can compel more aggressive offsets, like they did last week with a $17.6 billion measure providing payroll tax incentives for employers who hire unemployed workers.

From Greg Mankiw:

Imagine you have a friend who has a budget problem.  Every month he spends more than he earns.  His credit card bills are piling up.  He is clearly on an unsustainable path.  Then one day he comes to you with an idea.

Friend: I am going to take off a few days from work and fly down to Bermuda for a quick vacation.

You: But isn't that expensive?  Won't that just add to your growing debts?

Friend: Yes, it is expensive.  But my plan is deficit-neutral.  I have decided to give up that half-caf, extra-shot caramel macchiato I order at Starbucks twice every day.  I really don't need that expensive drink.  And if I give it up for the next three years, it will pay for my Bermuda trip.

You: Well, then, how are you going to solve the problem of your growing debts?

Friend: I am going to figure that out as soon as I return from Bermuda.

You: But in light of your budget problem, maybe you should give up Starbucks and skip the Bermuda vacation.  Giving up Starbucks could be the easiest way to start balancing your budget.

Friend: You really aren't any fun, are you?

This conversation is meant to illustrate why claims of deficit-neutrality in the healthcare reform bill should not give much comfort to those worried about the U.S. fiscal situation.  Even if you believe that the spending cuts and tax increases in the bill make it deficit-neutral, the legislation will still make solving the problem of the fiscal imbalance harder, because it will use up some of the easier ways to close the shortfall.  The remaining options will be less attractive, making the eventual fiscal adjustment more painful.

On March 5, the Congressional Budget Office (CBO) gave us a preview of its take on the President’s budget proposals for Fiscal Year 2011 (starting October 1st this year) in a letter to Senate Appropriations Committee Chairman Inouye. CRFB blogged on key features of the preliminary analysis here and here. Buried in the letter is CBO's estimate that debt held by the public would rise to 90 percent of GDP by 2020 under the President’s budget. This is well above the administration’s own estimate (77 percent of GDP), and sets off alarm bells. Recent research by noted economists Carmen Reinhart and Ken Rogoff (R&R) shows that countries grow more slowly when fiscal debt goes over the 90 percent debt-to-GDP threshold.

R&R presented their research in a paper at the latest American Economic Association annual meeting. It has generated a lot of buzz in fiscal wonk circles, as has their recent book. (“Growth in a Time of Debt,” National Bureau of Economic Research Working Paper 15639, January 2010, and This Time is Different, 2009.)

It is worrying enough to think that sometime this decade we will reach a point where our debt is sufficiently high to slow growth in a significant way. However, a closer look at R&R’s work indicates that we probably don’t have to wait until 2020 to arrive at the 90 percent threshold. In fact, we are probably just about there right now.

If you look at OMB's “gross central government debt” (the numbers used by R&R) rather than “debt held by the public” (the numbers more commonly cited by CBO and the administration), our debt/GDP ratio last year was 83 percent of GDP and is projected to be 94 percent of GDP this year. So, the United States may soon be at the point at which our debt level is linked to slower economic growth, according to R&R.

The reasons for the linkage of slower growth to the 90 percent threshold are not well-understood, but R&R and Savastano suggest a plausible explanation in another paper. Individual countries may well have a specific debt threshold above which investors demand an increase in risk premia to hold a country’s debt.  A country’s debt threshold may be based on perceptions of its historical experience [comment: or even technical issues related to its debt and financing structures]. As a country approaches its debt “limit”, interest rates will rise as risk sentiments shift. Growth will be slower as a result  (Reinhart, Rogoff, Savastano, “Debt Intolerance,” NBER Working Paper No. 9908, 2003)

For the United States, what will happen when we cross the 90 percent threshold this year?

There is tremendous uncertainty about the outlook – to say the least. While we’ve seen some signs of nervousness about our rising debt from domestic and international investors in the past year, that nervousness has not led so far to the problems that R&R highlight. The United States has so far retained its appeal as a “safe haven” (perhaps more accurately described as the international lender of last resort).

But, at some point, investor sentiment will shift, at the very least because judgment over the risk:return ratio for relative assets will change as the global economic and financial situation changes. How will investors then regard U.S. government assets relative to other assets in the United States and around the world? With our domestic savings gap likely to remain large, we will be increasingly vulnerable to a shift in investor sentiment as our public debt leverage rises.

So seeing that we are about to cross our high debt threshold now rather than in 2020 should give us pause – at a minimum. While some argue there is no magic number (see Paul Krugman's recent blog), R&R's findings suggest that once debt exceeds a certain share of the economy, there are costs in the form of lower growth. Their research offers a compelling argument about the costs of waiting to make credible, concrete plans to put our fiscal house in order once the economy is on stronger footing. 

 Here's a good one for you: Using the House legislative calendar as a guide, as of March 10, Congress will have 16 legislative days to enact a budget resolution to meet its April 15 statutory deadline. Sixteen days? Congress can't even name a Post Office after someone in 16 days. Under the Budget Act of 1974 and its later amendments, Congress is required to complete work on the resolution by that date; if the House and Senate fail to meet the deadline, appropriators are allowed to begin work on their annual spending bills on May 15. The goal, of course, is to finish all spending bills by Sept. 30, the last day of the fiscal year.

Barring an unforeseen breakout of bipartisan comity, Congress will miss the April 15 deadline this year. In fact, Congress cannot even enact a final budget blueprint until the budget reconciliation-health reform bill is signed by the President. If it did, it would void the reconciliation instructions contained in the Fiscal 2010 budget plan.

Missing budget deadlines is not a new development. The Congressional Research Service reports that between Fiscal 1976 and Fiscal 2010, Congress met that deadline only six times. On average, the House and Senate fail to meet the April 15 deadline by more than a month. In Fiscal 1991, they missed the deadline by a whopping 177 days, finally passing a resolution on Oct. 9, 1990.

A late budget resolution can wreak havoc over the rest of the legislative year. If appropriators wait for a budget plan to start their work, their markups and eventual floor action on the spending bills may be delayed. If they are delayed much, Congress will have to pass continuing resolutions to keep the federal government open. In an election year, with members anxious to go home and campaign, that may result in hasty and even sloppy work. Congress could quickly pass spending bills and go home or even pass a continuing resolution that lasts until after the election. Then, Congress would return to finish the bills.

The deadline debacle is another indication that the budget process is broken. Congress cannot finish its business on time and ultimately makes spending decisions based on what is expedient and what allows the House and Senate to adjourn at the end of the year. Is it any wonder that the federal deficit and debt are spiraling out of control?

The process needs fixing. The Peterson-Pew Commission on Budget Reform is examining the budget process and later this year will make its recommendations on how to best repair the process.

Temporary Tax Extensions Avoid “The Hurt Locker” – The Senate passed H.R. 4691, a 30-day extension of several expired tax breaks and unemployment and health-care benefits, last week after reaching a deal with Senator Jim Bunning (R-KY). He had blocked the vote because the $10 billion measure was not paid for. Under the deal the Senate considered a Bunning amendment to offset the cost; the proposal was voted down.

Jobs Bill Round One “Up” for Another Senate Vote – The House passed a $17.6 billion package Thursday that includes payroll tax relief for businesses that hire unemployed workers and an extension until the end of 2010 for federal highway and aviation programs. The first piece of Democrats’ jobs agenda was modified to expand the Build America Bonds program, which raised by over $2 billion the price tag from the Senate-passed $15 billion version. At the insistence of the Blue Dogs, changes were also made to comply with PAYGO rules requiring the costs to be fully offset. The Senate is expected to vote on the amended version this week.

Senate Continues “Inglorious” Work on Round Two – The Senate will continue consideration of H.R. 4213 this week, which extends unemployment and health care benefits, and tax breaks such as the research and development tax credit until the end of the year and delays the scheduled 21 percent reduction in Medicare physician payments for seven months. A vote on final passage may occur as early as Tuesday. Several amendments have been voted on, with more to go. Last week the Senate barely rejected by a 59-41 vote an amendment from Senators Jeff Sessions (R-AL) and Claire McCaskill (D-MO) that would have instituted discretionary spending caps after a Budget Act point of order was raised against the amendment by Appropriations Committee Chairman Daniel Inouye (D-HI). Senator George LeMieux (R-FL) raised a point of order against the $140 billion bill because the unemployment, health care, and Medicare provisions were deemed “emergency spending” and, therefore, not required to be offset. The Senate voted to waive the PAYGO rules requiring offsets for those provisions. CRFB issued a press release calling for the bill to be paid for and blogged on it here. The Senate also rejected an amendment from Senator Bernie Sanders (I-VT) that would have given Social Security beneficiaries a $250 check at a cost of $14 billion.

Obama Becomes the “Avatar” for Health Care Bill – President Obama is in Pennsylvania today discussing the need for health insurance reform. In a speech last Wednesday he expounded on his latest health care proposal that merges legislation passed by the House and Senate and includes some ideas offered by Republicans. That proposal is expected to be the basis for a bill that Congress will consider under budget reconciliation procedures later this month. Today’s Wall Street Journal observes that cost containment is the key issue for many undecided legislators; Politico dubbed these Members the “Cost Containment Caucus” and also notes the ongoing “CBO Shuffle” as House and Senate leaders send bills to the nonpartisan arbiter for analysis and then revise the proposals based on the CBO cost estimates. CRFB and many other organizations have called for strong cost containment measures in health care reform legislation.

House Leaders Considering Ban of “Precious” Earmarks – Roll Call today reports that House Speaker Nancy Pelosi (D-CA) is considering a party-wide one-year earmark ban and Congressman Jeff Flake (R-AZ) is asking House Republicans to support an earmark moratorium within their caucus. Senator Jim DeMint (R-SC) wants the Senate to adopt a similar ban.

CBO Hits President’s Budget from “The Blind Side” – A preliminary analysis from the CBO of the President’s FY 2011 budget indicates that it will have a more adverse fiscal impact than the White House projects. The CBO says the budget will increase the debt held by the public to 90 percent of GDP by 2020.

On Friday evening, the FDIC reported that it has taken over an additional four banks (Centennial Bank, Waterfield Bank, Bank of Illinois, Sun American Bank) for a cost to the FDIC of about $305 million. This brings the total number of failed banks since the beginning of 2008 to 192. Total deposits of all failed banks now equal $13.6 billion for 2010 and $384 billion since the beginning of 2008, all at an estimated cost to the FDIC of $63 billion. Visit Stimulus.org for more details and a full list of FDIC bank closings.

In last week's backgrounder blog post on budget reconciliation, we said that the process has been used 22 times in the past, with the President having vetoed three of the bills. That leaves 19 bills that have become law through this special process since 1980. In the graph below, we show the net effect on the deficit of all these bills over the years defined by that year's budget resolution rules.

Budget Reconciliation Bills Enacted into Law (billions)

Source: Congressional Research Service, "Budget Reconciliation Measures Enacted into Law: 1980-2008."

In a blog yesterday and op-ed today, OMB Director Peter Orszag defended the President's health care plan as reducing "deficits by roughly $100 billion over the next ten years" without gimmicks. As he explains:

• First, it’s true that loading savings up front and costs in later years is a time-honored budget gimmick.  It has a single purpose—to hide the ball and make programs look paid for in the near term that will in fact substantially add to the deficit over the long-term.

• Second, it’s also true that some of savings under the health plan start sooner than the major costs in the legislation.  We can move quickly to begin identifying waste and improving quality in the current health care system, as well as make certain reforms to rebalance the tax code.  But, the major coverage expansion does not occur until 2014, in part because we need to take time to establish a system of state-based exchanges through which private insurance companies will provide quality insurance to those not getting it through their employer. Still, it is important to note that the vast majority of the savings in the next ten years occur in 2014 and thereafter.

• Third, this is not a budget gimmick.  The purpose the tried-and-true gimmick described above is to make a proposal that adds to long-term deficits appear fiscally responsible. But if that were the course we were taking, we would expect to see a large fiscal hole at the end of the first decade and larger and larger deficits in the second decade. Instead, over the long-term, the savings under the President’s plan are expected to grow faster than the costs.  So, when the Congressional Budget Office is done with its scoring, we expect it will find that the President’s plan reduces deficits by roughly $100 billion in the first 10 years and roughly $1 trillion in the decade after that.  In other words, health reform should reduce the deficit by growing amounts over the long-term.

Put simply: Health reform will reduce the deficit in this decade, and it will reduce the deficit by even more thereafter.  There’s no gimmick in that.

This is correct, of course. There is nothing wrong with implementing different pieces of the bill as they become administratively feasible -- and the Senate bill (from which the President's plan will need to be at least deficit neutral) would technically reduce the deficit over ten years, in the tenth year, and beyond.

But that doesn't mean there are no gimmicks.

For one, Orszag claims the coverage portion of the bill doesn't begin until 2014 "because we need to take time to establish a system of state-based exchanges." Perhaps, but earlier versions of the bill started the coverage piece in January 2013. The start date was moved back twice, first to the middle of 2013 and then to January of 2014. The purpose of this was not to mask deficit impact of the bill as some critics claim, but rather mask the gross cost. Moving the start date allowed the coverage provisions to come in at $871 billion over ten years -- below the $900 billion threshold set by President Obama.

And the bill includes at least two other gimmicks (which we warn about here, and discuss in detail here).

The first is the inclusion of something called the CLASS Act. This long-term care insurance programs appears to reduce deficits over the first decade; but this is because of a five-year vesting period in which premiums are coming in, but benefits are not being paid. Eventually, all the revenue raised from the CLASS Act will be spent -- plus interest. And due to some design flaws, some experts believe it will need to seek new sources of revenue (or borrowing) to remain sustainable. (In fairness, the President has said that the CLASS Act would be made more sustainable under his plan -- although we have not seen all the details of this).

The second is the omission of something often referred to as the Doc Fix. Essentially, Medicare physician payment rates are scheduled for a 21 percent cut this year -- and has been subject to similar (but smaller) cuts in previous years. Although Congress has tended to deal with this with temporary patches on a year-by-year basis, the original version of the House health care reform bill included a permanent fix to this problem.

But offsetting the Doc Fix was expensive -- about $250 billion over ten years. And so Congress and the President have not only removed it from the broader health care reform bill, but have also exempted it from statutory pay-as-you-go laws --- so that it will never have to be paid for.

If we were to remove the phony savings from the CLASS Act, and add the real costs from the Doc Fix, we'd be looking at a bill which increases the deficit by $190 billion, rather than reducing it by $130 billion.

That's hardly gimmick-free deficit reduction.

Still, the bill will likely begin to reduce deficits in the second decade, even despite these gimmicks. By Washington standards, that's not half bad.

Unable to pass health care reform using “regular order,” Congressional Democrats now are turning to much-misunderstood process known as “budget reconciliation” to enact the measure. They'll still have to do legislative back flips to get the job done, but the process gives Democrats two major advantages: In the Senate, debate is limited to 20 hours--in other words, no filibusters allowed--and it can pass the Senate with 51 votes, rather than the 60 that much legislation has been required to overcome the filibuster threat. For that reason, congressional Republicans are crying foul, saying the process undermines the rights of the minority. Democrats counter, saying that reconciliation is a legitimate tool, which has been used regularly by both parties to pass high-priority legislation.  Republicans have a few legislative tools with which to protest the process and already are discussing that possibility.

The Democrats are certainly correct that both parties have used reconciliation. Of the 22 times it has been employed, 14 were initiated by a Republican-controlled Congress, and eight by a Democratic Congress. Three have been vetoed, all by President Clinton. Congress, with the cooperation of presidents, has enacted several major policy initiatives using the expedited reconciliation rules. For instance, in 1985, Congress passed the Consolidated Omnibus Reconciliation Act (COBRA), which, among other things, established a program allowing employees to continue their health insurance even after leaving employment. Reconciliation does have its limits. In particular, it cannot include any provisions which are not germane to the budget, it cannot increase the deficit outside of the budget window, and in this case it must reduce the five-year deficit by $1 billion. How these rules might impact efforts for health reform remains to be seen. But Congress appears poised to use the tool to attempt to pass the largest reconciliation bill in history.

Here's how it would work: Both the House and Senate passed health reform bills last year. Normally, that would mean that House and Senate conferees would meet, hammer out a compromise, which would go to the floor of each chamber. Democrats would need 60 votes to pass the compromise in the Senate, since Republicans would filibuster the measure. But with the election of Sen. Scott Brown (D-Mass.), Democrats no longer have 60 members. That means Democrats need to pass the bill with fewer than 60 votes.  How do you do that? Using reconciliation. The House is likely to pass the Senate's health bill. Then, House Democrats, who are unhappy with some provisions of that measure, will pass a bill to change the Senate measure. That will be the reconciliation bill. The Senate will then consider the House-passed reconciliation bill, which only will need 51 votes to pass.

Budget reconciliation is an optional procedure designed to make it easier for Congress to change current law in order to bring revenue, spending and debt-limit levels in line with the annual budget resolution. It was established in the Budget Act of 1974, and first used successfully in 1980, when it made several changes in entitlement programs and raised revenues in an effort to save $8.276 billion between 1981 and 1985.

Reconciliation is essentially a two-stage process. First, Congress includes reconciliation instructions in its concurrent budget resolution. These instructions direct committees to develop legislation implementing the instructions. This already has been done as part of the Fiscal 2010 budget resolution – and these instructions will remain in place until the next resolution or the end of the Congress. Once these instructions are written, authorizing committees must write legislation complying with them and meeting other budget rules. . 

Normally, the House passes a special rule limiting amendments and debate on the bill. However, strict rules apply in the Senate, with the limits one debate. In addition, all amendments must be germane and not include extraneous material. However, there is no limit on amendments that can be offered. That often has resulted in dozens of amendments introduced and then dispensed with during what has become known as a “Vote-a-Rama.” While all debate time will have been used, normally amendment sponsors and opponents are given a couple of minutes to debate the proposed change.  Republicans already are discussing the possibility of using this tactic.

Because of the many attempts over the years to add extraneous matters into reconciliation bills, in the 1980s, the Senate adopted the Byrd Rule, which requires that all matters included in reconciliation are germane and that they cannot increase the deficit outside the budget window. Material is considered extraneous if it does not produce a change in outlays or revenue, recommends changes in Social Security or increases the deficit outside the “budget window.” The Byrd Rule has been used to block large chunks of legislation. For instance, in 1993, the Senate stripped more than 80 pages of statutory language dealing with Medicare that had been hammered out by the House Ways and Means Committee. During the debate over the Republicans’ large reconciliation bill in 1995, the Senate struck huge portions of the House bill, including 46 welfare reform provisions, including a cap on assistance to families. Provisions dropped have come to be known as “Byrd Droppings.” Republicans are intent on scouring the health bill to find such droppings.