The Bottom Line

October 25, 2010

In an op-ed in today’s Wall Street Journal, Alan Blinder discusses his frustrations with what he dubs the “fiscal policy paradox”: that the economy-boosting “policies that might work won’t be tried,” due to partisan infighting, and the “policies that will be tried might not work.” He laments that fiscal policy has largely been on the sidelines while monetary policy undertaken by the Federal Reserve has done most of the heavy lifting to spur the economy. He argues for the reverse and contends that while monetary policy is close to being out of bullets, there is plenty of fiscal artillery left. Blinder goes on to detail just a few of the ways in which fiscal policy could help speed up economic growth.

  • A sustained, large-scale new jobs tax credit would offer tax incentives for firms to increase employment above a certain level;
  • Increased government hiring, like that done by FDR during the New Deal, would also put more people back to work and increase growth;
  • Third, a sales tax cut to encourage consumer spending.

These three options are only a few of the myriad possibilities out there, says Blinder, but partisan paralysis and demagoguery are preventing any comprehensive response. Blinder is correct in pointing out that political factors are hindering the formulation of rational fiscal policy at a critical time. He is also right in arguing that stimulative measures, coupled with credible future deficit reduction, could pack a potent punch. We wish he would have provided his best deficit reduction proposals along with his stimulus ideas.  

This argues for a credible fiscal plan to be implemented as the economy gains strength. The deficit should not be an excuse for blocking all stimulative measures, but medium- and long-term debt concerns dictate that any stimulus be well-crafted to have the most bang for the buck and be devised in a way that it does not add to the debt in the longer run.

October 25, 2010

David Chavern of the Chamber of Commerce and Christina Romer, former chair of the Council of Economic Advisors (CEA), both joined the Announcement Effect Club this month. Interesting that two people on very different sides of the economic debate have something in common.

First, Romer in a New York Times article on Sunday:

Such backloaded deficit reduction would not hurt growth in the short run — and could raise it. If uncertainty about future budget policy is harming confidence, as some business leaders suggest, spelling out future spending and tax changes could be helpful. More important, showing that policy makers can come together and make essential decisions about our fiscal challenges would reassure all Americans that our economic future is better than the current grim reality.

She notes that backloaded plans have been done before with regards to Social Security and taxes, with some changes not taking effect until years or even decades (think 1983 Social Security changes) after the plans were passed.

It's also important to note that Romer makes this point in an article in which she calls for more stimulus (the title of the article is "Now Isn't the Right Time to Cut the Budget Deficit"). It cannot be stressed enough that short-term stimulus and deficit reduction are not mutually exclusive; in fact, pairing them can make each separate component more effective.

Now on to Chavern, who takes a little different approach to the AEC:

Now, imagine if you will, that we took our biggest and most politically intractable domestic problem - long term deficits and entitlement reform - and solved it!  Not solved it completely or immediately, but adopted a reasoned compromise plan that gave high assurance that long-term deficits would be dramatically reduced over next several decades. All of the sudden, the future of the U.S. doesn't look so bleak. We would have a reasonable fiscal outlook (unlike Europe), a favorable demographic outlook (unlike Europe or China), some of the best creative talent and entrepreneurs in the world and continued access to tremendous natural resources. Where would you want to put your money then?  Maybe, in fact, the pain of long-term deficit reduction could lead to a large short-term economic gain.

While many Club members have advocated for medium-term deficit reduction, few have put solving our long-term problem as a way to stimulate growth. Certainly it would need to be backloaded, since the twin problems of aging and health care cost growth can't be solved overnight. And as reducing medium-term deficits would reduce pessimism about the outlook of the next decade, so would alleviating our long-term imbalances reduce pessimism about the next half-century or so. Imagine: no more of those ubiquitous exponentially growing debt projection charts! Obviously, it's easier said than done.

For a full list of members in the Announcement Effect Club, see here

October 25, 2010

Surprises We Want to See – With pivotal mid-term elections next week that will decide control of Congress, observers are awaiting this year’s “October surprise” – the breaking news that could change the course of the election. We at The Bottom Line have our own ideas for surprises we would like to see.

Candidates Move Beyond Rhetoric – Those running for office have been quick to decry the large federal budget deficit, but few have offered detailed plans on how they will address the mounting debt and put the country on a sustainable fiscal course. CRFB has endeavored to move the campaign rhetoric from sound bites to solutions by providing ten questions voters should ask their candidates on fiscal responsibility last week. We also are leading the way with a Let’s Get Specific series of papers and recent event. Our Stabilize the Debt budget simulator provides everyone the opportunity to see how numerous specific ideas can contribute to closing the fiscal gap.

U.S. Devises a Fiscal Plan – CRFB has been calling for the creation of a credible plan now to be implemented as the economy recovers. Some recent events provide hopeful signs this may occur. U.S. Treasury Secretary Tim Geithner sent a letter to G-20 ministers supporting the setting of medium-term fiscal targets consistent with sustainable debt levels. The Peterson-Pew Commission on Budget Reform recommended a goal of a 60 percent debt-GDP ratio by 2018 in the report, Red Ink Rising. The United Kingdom also announced a comprehensive plan to reduce its debt.

A Rational Budget Process is Created – Congress will return for a lame duck session beginning November 15. One of the reasons it must reconvene is to complete its work funding government operations. The new fiscal year began on October 1 without any of the annual appropriations bills enacted, requiring a stopgap funding measure to prevent a government shutdown. Congress was also unable to adopt a budget blueprint this year, for the first time since the 1974 Budget Act the House was unable to approve of a budget resolution. The U.S. cannot properly address its fiscal challenges with a dysfunctional budget process. The Peterson-Pew Commission on Budget Reform will soon unveil its recommendations for creating a more effective, transparent, and accountable budget process.

Fundamental Tax Reform is Tackled – Congress will also address the matter of the expiring 2001/2003 tax cuts as well as other expiring tax provisions in the lame duck. The debate over extending all or a portion of the tax cuts has overshadowed the need for comprehensive reform of the tax code. Creating a simpler tax system with a broader base will be essential to tackling our fiscal challenges. CRFB made some recommendations for reforming tax expenditures in a recent paper.

October 22, 2010
It's Not All Just About China

We at CRFB applaud Treasury Secretary Tim Geithner’s support of medium-term fiscal targets, in the run-up to this weekend’s meeting of G-20 finance ministers. In the context of correcting external imbalances, Treasury Secretary Geithner sent a letter (excerpts from the Financial Times) indicating three steps that he believes G20 countries should commit to:

  1. Reduce external imbalances. Countries "should boost national savings by adopting credible medium-term fiscal targets consistent with sustainable debt levels and by strengthening export performance."
  2. Don't undervalue currencies. Countries should commit to refraining from weakening their currencies, or preventing undervalued currencies from appreciating.
  3. IMF Involvement. The IMF should monitor progress on these commitments.

As budget wonks, we find the first goal especially important – although history shows that the importance of avoiding competitive currency devaluations should not be underestimated.

Credible medium-term fiscal targets are a way to begin signaling to markets that we are serious about deficit reduction. With a reasonable target path agreed to (a sort of budget constraint), the challenge will be for policymakers to work together with taxpayers to figure out how the U.S. can sensibly meet our fiscal goals so that we can bring our debt back down to sustainable levels. The Peterson-Pew Commission has argued for a fiscal target of a 60 percent debt-GDP ratio by 2018, and other groups have argued for similar goals.

For why fiscal goals are important and how they can help bring down future debt, see CRFB president Maya MacGuineas's testimony from July before the Fiscal Commission. We hope other policymakers join the Treasury Secretary in supporting fiscal goals.

Photo Credit: Chip Somodevilla / Getty.

October 22, 2010
All Eyes on the Fed, but Meanwhile, What’s Happened to Fiscal Policy?


Most of the week, markets continued to reflect expectations that the Fed would increase its purchases of Treasury securities (known as quantitative easing round two, or QE2) to support the weak economy. The decision is widely anticipated to come at the Fed’s monetary policy group meeting (the Federal Open Market Committee or FOMC) in early November. With nearly all other major central banks tightening at the same time the Fed is expected to go in a different direction, the dollar has headed lower against most major currencies and, as part of the global currency moves, global traders shifted out of Treasuries at the margin. While bonds didn’t hit an all-time low, yields were pretty low. (The 30-year bond had gone below 4 percent in recent trading.)
But a new wrinkle appeared: while the markets had priced in expectations of considerable QE2, questions started to be raised during the week about whether the Fed would take giant steps or small steps, based on remarks by a top Fed policymaker. With uncertainty about the Fed’s next moves arising during the week, bonds reversed course and yields rose.   
By the end of this week, another new wrinkle appeared front and center to make markets cautious as we head into the weekend. The Group of 20 Finance Ministers meet in Korea today and tomorrow; and whatever they decide (if anything) will be followed up by a meeting of the heads of government in November. (The G-20 countries represent most of the world economy.) The basic worry is that currency wars will erupt, as countries try to maintain growth through competitive devaluations as they embark on fiscal consolidation programs. Global trade wars are considered by many experts to have played a major role in the Great Depression of the 1920s and 1930s. But, global imbalances persist and are a root cause of our economic and financial crisis. The US, as a large debtor nation, is considered to be part of the problem. It’s not all about China.
There was no major economic data news during the week, although continuing worries over the mortgage market mess remain (highlighted by the latest Fannie and Freddie projections under different housing scenarios and news of ongoing efforts on the legal front). Weekly employment claims, although showing a slight improvement, still give a picture of underlying weakness for awhile. Some company profit reports have been better than expected, but the fundamentals are hard to interpret.  



October 21, 2010

Update: This blog has been updated to reflect additional information.

A new report by the Federal Housing Finance Agency shows the agency's first look at how much the government’s financial backing of Fannie Mae and Freddie Mac may cost. The report, released Thursday, provides three scenarios demonstrating the Government Sponsored Enterprises' (GSEs) financial  condition and how much they will cost the taxpayers through 2013.

As a reminder, Fannie Mae and Freddie Mac are two GSEs that back mortgage loan guarantees. They allow banks to sell the mortgages that they make, providing the banks with more capital for loans. This creates a market distortion in which money lent by banks for mortgages is less expensive and less risky for the banks but more risky for Fannie and Freddie. With the 2008 economic collapse and the housing sector calamity that followed, the GSEs required a insignificant infusion of cash through purchases from the U.S. Treasury. This program remains in place today. The Treasury, through authority granted to it in the Housing and Economic Recovery Act of 2008, has provided $148 billion (in gross terms) in assistance to Fannie and Freddie.

Going forward, uncertainty remains with how much more support both GSEs will require. In the August update CBO projects that over the 2011-2020 period, outlays to Fannie and Freddie will run about $53 billion, on top of the $137 billion (in net terms) that has gone out the door already.

FHFA detailed three scenarios in its report: a low-cost, medium-cost, and high-cost scenario. All three scenarios rely on the same assumptions on interest rates, securities pricing, Agency MBS swap spreads, credit growth guarantees, and non-performing loan portfolio growth. The scenarios differ in their treatment of the three different Moody’s housing pricing scenarios:

  • The low-cost scenario assumes Moody’s "Stronger Near-term Recovery" house price path, which leads to higher housing prices in a housing market economy;
  • The medium-cost scenario assumes Moody’s “Current Baseline” house price paths, which leads to slightly lower future housing prices and then improvement;
  • The high-cost scenario assumes Moody’s “Deeper Second Recession” house price paths, which assumes a second economic recession resulting in deep housing price reductions.

See Page 5-6 of the FHFA report for a discussion of Moody's projected housing pricing.

With the uncertainty of the housing market, it is hard to know for sure which of these three scenarios is the most likely, nor is it recommended that the middle scenario be used as a realistic measure since it is no more likely than the other two (see here for a new report from the Fed on the housing market). With the uncertainty of the economy, continued uncertainty over tax policy, problems with the mortgage market (such as the foreclosure legal problems arising now), it is very difficult to project what the housing market will look like over the next three years.

Note: These numbers are gross estimates which do not include dividend earnings.

With the current outlays by the government already at $148 billion, the three estimates predict the federal government ultimately will spend billions more. The low-cost estimate adds $73 billion, the medium-cost adds $90 billion, and the high-cost adds $215 billion by 2013. Putting these estimates on par with CBO, which looks at net outlays, FHFA projects $22 billion less than CBO in the low-cost scenario, $9 billion less than the middle-cost scenario, and $96 billion more for the high cost scenario for the next three years.  Also, see for up-to-date tracking of Fannie and Freddie costs, and all other Fed and economic stimulus actions.

These two GSE are vital to the housing market and we remain quite hopeful about President Obama’s plan for reforming these two entities, which will be released in January. We welcome all other reform plans that  policymakers propose. GSE reform is vital and it should be done sooner rather than later to better insulate taxpayers from exposure and additional cost. Until then, it's just another reason to hope that our economy does not sink into a new recession.

October 21, 2010

Budgeteers have been closely watching the United Kingdom during the past six months, as Chancellor of the Exchequer George Osborne and Prime Minister David Cameron have been attempting to overhaul the U.K. budget (see here, here, here, and here). Their plans have come out in small pieces,  but now, the entire plan is available.

In June, the British government issued its Budget, setting a target of serious debt reduction (about £113 billion, or about $180 billion) to be reached by 2014-2105. The June Budget set broad tax rates, making several changes to raise an additional £29 billion in revenue, leaving £83 billion in savings to be found among Departmental Expenditure Limits (i.e. discretionary spending) in the 2010 Spending Review.

The British government released the 2010 Spending Review this week, with Osborne identifying £83 billion (about $130 billion) in cuts and savings over the next four years. They amount to an average of a 19 percent cut across all departments--less than the 25 percent that was expected. While the National Health Service is protected from budget cuts and International Development funding is increased, the same cannot be said for the other departments; all of them face cuts of varying degrees.

Welfare programs are cut an additional £7 billion through changes in housing benefits and some tax credits. In addition, employee contributions to public sector pensions will increase by £3.5 billion. Higher education spending will take a significant hit, as will the Foreign Office, the Home Office, law enforcement and Justice, and money to local governments. Defense will face a cut of about 8 percent in real terms, and overall Education a relatively small one (one percent in real terms).

In addition to these changes, the government will increase the retirement age for old-age pensions to 66 by 2020, six years earlier than had been scheduled. These spending cuts come with tax changes that already have been made, such as making their bank levy permanent, raising the VAT rate by 2.5 percentage points, and raising capital gains rates. The sum of all these changes is projected to eliminate the structural deficit by 2015.

The Office of Budgetary Responsibility (basically, the UK's CBO) estimates that the spending cuts could result in the cutting of 500,000 public sector jobs by 2015.

Members of the Labour Party have already been calling for more debate and even votes on the Spending Review. But it looks like, historically, not very many changes have been made to Spending Reviews.

Cameron's and Osborne's fiscal consolidation plan is ambitious and it cuts across a wide spectrum  of government, which is laudable. In the U.S., candidates are more willing to fence off parts of the budget (Social Security, Medicare, security spending) or oppose all tax increases than say which parts of the budget they would actually change (click here to read our new release on questions to ask candidates to help determine whether they are serious about fiscal responsibility). Perhaps, David Cameron and company have provided a useful blueprint for the beginning of a deficit reduction plan for the U.S.

In the same light as CRFB's Stabilize the Debt budget simulator, The Guardian has launched a simulator for the U.K budget! In response to the 2010 Spending Review, the simulator lets users make the cuts that they would choose, with a goal of finding £49 billion ($78 billion) in savings by 2014-2015. We recommend having a look.


October 20, 2010

Getting to real solutions to the fiscal challenges facing the country requires asking the right questions. Today CRFB offered “Ten Questions to Ask the Candidates” in order to move the election rhetoric away from the grandstanding and finger-pointing that are dominating the campaign.

Candidates of all stripes are talking about the deficit, yet few are offering specific ideas that will address the issue in a significant way. This new reference from CRFB was designed to help voters identify truly fiscally responsible candidates. The questions involve critical topics such as extending the tax cuts, Social Security, health care, and defense spending.

The deficit has become a top campaign issue, which is promising, but such prominence for the topic will only be helpful if it gets policymakers and candidates for office to seriously talk about the issue and what will be required to address it.

Why is this so important? Our national debt is headed toward previously unseen levels. It is rapidly rising as a share of our economy. The primary drivers are rising health care costs, our aging population, and an imbalance of government revenue and spending.



Soaring debt will cause multiple problems:

Economic: Crowds out private investment, driving up the cost of capital and credit, slowing economic growth, lowering standards of living.

Budgetary: Growing interest payments squeeze out other spending and room for future tax cuts.

Fiscal: Loss of fiscal flexibility for when we need to respond to the next emergency.

Psychological: Uncertainty for individuals and businesses.

Risk: Increases the likelihood of a fiscal crisis.

So ask your candidates the tough questions and demand answers. While you are at it, challenge them to do CRFB’s Stabilize the Debt budget simulator and make their results public.


October 19, 2010

Following Friday's announcement by the Social Security Trustees that there would be no automatic increase for Social Security benefits in 2011 and the slew of compelling arguments about why that is appropriate, there has been significant discussion about how prices have changed over the past few years and how Americans aged 62 and older have faired. (To read why politicians should not go the pander-to-seniors-route, see our commentary on the announcement and the political pandering of lawmakers here, the Washington Post editorial here, the Los Angeles Times piece here, and CNN piece here.)

But aren’t costs for the elderly going up faster? Some have asked us. Take for instance, a comment we recently received on our website:

“…the price index used for S.S. [calculation] is based on the "market basket" of wage earners and clerical workers--in other words, the actual spending of retired persons is deliberately excluded from the weights in the index base! Spending by the elderly includes proportionately more out-of-pocket medical expenses than spending by households of working age, and medical costs consistently rise faster than the costs of other components of household budgets…. In view of the typical under-estimation of the inflation actually experienced by seniors and others with high medical expenses in calculating their COLAs, I think a modest one-time extra payment at a time of general economic hardship is not outrageous."

Well, that is a great question and a legitimate concern. Let’s address it…

Since annual cost-of-living adjustments (COLAs) are calculated from third quarter to third quarter changes in inflation (as measured by the CPI-W), here’s a look at price changes over the past few years according to a few distinct measures.


  CPI^ % Change Change in S.S Benefit Levels for Following Year* CPI-E % Change
Chained CPI % Change
2007  203.6 2.3%  2.3  224.8   2.6% 120.4 2.0%
2008  215.5  5.8%  5.8  236.3   5.1% 126.7 5.2%
2009  211.0 -2.1%  0  233.0  -1.4% 125.1 -1.2%
2010  214.1  1.5%  0  235.2   1.0% 126.3 1.0%

Note: CPI estimates shown reflect non-seasonally adjusted data for the third quarter (July, August, September) of the given year, as used by the Social Security Trustees in calculating annual COLAs.
^Reflects third quarter average for the Consumer Price Index for all urban wage earners and clerical workers (CPI-W).
*Based on percentage change in CPI from previous year to current year.


First off, we all agree that while prices (as measured by the CPI) have increased over the past year, they have not yet returned to the levels reached in the third quarter of 2008 - the period when the last COLA of 5.8 percent was set. And remember, COLAs cannot be negative--they face a zero bound.

But what’s also important is how inflation has fallen according to other measures as well, specifically the CPI-E which seeks to measure price changes affecting those aged 62 or older.

The experimental Consumer Price Index (CPI-E), shown in the table above, attempts to measure price changes affecting those aged 62 or older. The CPI-E differs from other CPI measures only in the relative weights of the 211 categories in the measure's basket of goods to reflect purchasing patterns among more elderly Americans. Granted, the CPI-E has not fallen as much as the CPI over the past few years, but even according to this alternate measure, prices have not reached their peak 2008 levels.

But don't energy prices affect older Americans less, meaning that prices for them didn't fall as much after 2008? Some critics contend that since the CPI-E puts less weight on the changes in costs of energy (because older Americans presumably have fewer energy and fuel needs), then prices haven't really dropped for older Americans as much as is being claimed. But extending this logic back to the last COLA calculated in 2008 would mean that older Americans didn't need the large 5.8 percent increase in benefits levels for 2009--since most of the uncharacteristically high COLA for 2009 was based on inflated energy prices during the summer of 2008.

Of course, CPI-E is not without its downsides though (including substitution bias problems, sampling issues arising from seeking to only focus on people aged 62 and older, and not factoring in senior citizens discounts). See CBO's report on inflation measures for more info.

But haven’t Medicare Part B premiums gone up, meaning that seniors should still receive a COLA? Well, not for the large majority of Medicare beneficiaries. With Social Security benefits frozen in nominal terms, Medicare Part B premiums will also remain frozen for about 75 percent of all Medicare beneficiaries due to the "hold-harmless" provision, which prevents Medicare beneficiaries from paying higher Medicare premiums (despite increases in Medicare expenditures) when they don’t receive an annual COLA. So, arguing that Medicare premiums have been increasing as a rationale for a COLA doesn’t apply for most beneficiaries.

Another significant argument for why actual prices have likely not returned to their peak 2008 levels is that many experts and economists believe that CPI measures (including CPI-W and CPI-U) actually overstate inflation as a result of this economic substitution problem (i.e. people changing their spending patterns between categories and not just within them in response to changing prices). To correct for this problem, economists developed another measure of inflation, the chained CPI. CBO concludes that the chained CPI has been on average 0.3 percent points lower each year than normal CPI inflation estimates. So we’re not talking about a “typical underestimation of inflation experienced by seniors”, but more likely an overestimation.

Thus, even according to the chained CPI, prices haven't returned to previous levels, meaning that the actual purchasing power of benefits today are higher than they were last year. And if Social Security relied on the chained CPI, the last COLA would have been 5.2 percent instead of 5.8 percent.

The public and our readers continue to bring up great questions about inflation and Social Security COLAs. But no matter how you look at it, the slight price increases this past year just haven’t been large enough to warrant a new COLA. Yet this hasn’t stopped lawmakers from proposing a CORA—a “Cost of Reelection Adjustment" (or as Andrew Samwick puts it at Capital Gains and Games, a “Cost of Lobbying Adjustment”).

October 19, 2010

On Friday, Fed Chairman Bernanke provided a lesson that fiscal policymakers should take to heart: Expectations matter.

In a much anticipated speech at the Federal Reserve Bank of Boston, Bernanke confirmed that the Federal Open Market Committee (FOMC), the Fed's decision making board, is likely to move toward generating more liquidity and adding more downward pressure on interest rates. Fed-watchers were anxious to learn whether Chairman Bernanke would support additional easing (now commonly referred to quantitative easing, round two--or just QE2 for short). That question seems to have been answered with a resounding "yes." With inflation trending too low and unemployment too high, Bernanke said taking further monetary policy steps are warranted.

But then he went on to note:

"To address such concerns and to ensure that it can withdraw monetary accommodation smoothly at the appropriate time, the Federal Reserve has developed an array of new tools. With these tools in hand, I am confident that the FOMC will be able to tighten monetary conditions when warranted, even if the balance sheet remains considerably larger than normal at that time."

Call this the Announcement Effect Club: Monetary Policy version.

Just as a lack of an "exit" from expansionary fiscal policy can lead to big trouble when the economy recovers, the perception that the Fed is a helicopter that perpetually drops money also can cause trouble. Perceptions of both fiscal and monetary policy can be affected by actions that, on their own would seem to be small, but, in fact, “anchor” basic views of where we’re headed in the future. So the Fed has talked about keeping rates low "for an extended period," meaning "we will not raise interest rates for awhile." At the same time,  Bernanke has talked about ways to tighten monetary policy effectively when we reach that point, in an effort to show that the Fed's expanded balance sheet will not be permanent.

This strategy in monetary policy is easily adaptable in fiscal policy. Budget blueprints such as the President's Budget and the Congressional budget resolution (or the lack thereof this year!) show when, how, and to what extent fiscal policy may be expanded or tightened in the future. Legislative actions, such as how Congress deals with the President's Fiscal Commission's recommendations or how the House and Senate handle a possible ad-hoc Social Security payment, can idicate how serious policymakers are about getting the nation's fiscal policy back on a sustainable track.

Expectations matter – and expectations of policy can be extended into the future, as far as the eye can see, whether we’re talking monetary policy – or fiscal policy.

The fiscal world can learn plenty from the Fed here. Fiscal policymakers have been unable to constructively shape expectations that policy will be well- managed. Of course, the number one indication of seriousness would be to enact a medium-term deficit reduction plan that kicks in slowly once the recovery is on firm footing.

To take some lessons from the Fed, just try substituting “fiscal” for “monetary” – and the appropriate fiscal concepts and institutions where applicable – in Bernanke’s remarks:

“To evaluate policy alternatives and explain policy choices to the public, it is essential not only to forecast the economy, but to compare that forecast to the objectives of policy. Clear communication about the longer-run objectives of monetary policy is beneficial at all times but is particularly important in a time of low inflation and uncertain economic prospects such as the present. Improving the public's understanding of the central bank's policy strategy reduces economic and financial uncertainty and helps households and firms make more-informed decisions. Moreover, clarity about goals and strategies can help anchor the public's longer-term inflation expectations more firmly and thereby bolsters the central bank's ability to respond forcefully to adverse shocks.”


October 19, 2010

On, we have been tracking the number of bank failures by FDIC-insured institutions since the beginning of 2008. As we have mentioned before, due to the financial crisis, the number of bank failures and their cost in each of the past three years has completely dwarfed the numbers from the prior eight years. This fact shows the depth of the recession we were in and the problems we still face. Even though the recession was dated to have ended in June 2009, and the collapse of Lehman Brothers (which helped set off widespread bank failures) is two years in our rear view mirror, bank failures still continue to roll as frequently as ever. In fact, this year's total will, in all likelihood, surpass the total from 2009 (although the cost to the FDIC will probably be lower).

With three more bank failures last week, we've reached a "milestone": 300 bank failures since the start of 2008. We've broken down the number of failures and the cost by year in the table below.

FDIC Bank Failures and Costs Since 2008
Year Number of Bank Failures Cost (billions)
2008 25 $22
2009 140 $36
2010 135 $21
Total 300 $79


It's interesting to note that 2008 has been more costly than 2010, despite this year having many more failures. This, of course, is due to the fact that two of the largest bank failures in FDIC history occurred in 2008: Washington Mutual and IndyMac. These two alone cost the FDIC about $20 billion!

These failures show just one aspect of the cost of the financial crisis. For other aspects of the cost and the response to the recent recession, check out We'll keep tracking the bank failures, since they show no sign of slowing down.

October 18, 2010

Loads of BCS – The first edition of this season’s rankings from the much-maligned BCS is now out. The system uses computer algorithms and polls to determine which two teams will ultimately face off for the college football championship. So, we at The Bottom Line fired up our supercomputers to rank some of the recent developments regarding the political football of fiscal policy.

  1. FY 2010 Deficit Near $1.3 Trillion – On Friday, a joint statement from the Treasury Department and OMB put the official federal budget deficit for fiscal year 2010 at $1.294 trillion (See our short blog on this here). At 8.9 percent of GDP, this is the second largest deficit as a share of the economy (just behind last year’s 10 percent) since World War II. The statement attributed the $122 billion improvement over last year to a combination of higher receipts and lower outlays. While individual and payroll tax receipts actually declined, higher corporate income tax receipts and higher earnings from the Federal Reserve’s investment portfolio boosted receipts. The decline in outlays was mostly attributable to significant decreases in spending related to TARP, aid to Fannie Mae and Freddie Mac, and the deposit insurance activities of FDIC and NCUA. Excluding those three programs, outlays for other government agencies and programs increased 5.5 percent. In the statement, the heads of OMB and Treasury “underscored the Administration's commitment to getting Federal finances back on a sustainable path and ending emergency programs that proved instrumental to reviving growth while beginning the process of bringing down our deficit.”
  2. This COLA War Won’t be So Refreshing – Also on Friday, the Social Security Trustees announced there would be no cost-of-living adjustment (COLA) for Social Security benefits for the second straight year. The automatic COLA was instituted in 1975 to ensure that inflation does not erode the value of benefits. Since a 5.8 percent adjustment was announced in 2008 for benefit levels in 2009, the economic recession brought consumer prices down significantly and they have yet to return to the previous level. Social Security benefits were not lowered when prices fell. House Speaker Nancy Pelosi and others are calling for a vote on a one-time payment of $250 during the upcoming lame duck session. CRFB is strongly against a one-time payment or an ad-hoc COLA (see here and here), seeing it as a fiscally irresponsible political ploy.
  3. Concern for Deficit High in Poll; Support for Solutions, Not So Much – According to a Bloomberg poll released last week 55 percent of respondents believe that the federal budget deficit “is dangerously out of control and threatens our economic future.” Yet the poll also found that the public is fairly split over whether several possible solutions should be considered or taken off the table. A separate poll from The Hill newspaper found that 52 percent of independent voters see debt reduction as a priority, compared to 39 percent who prioritize increased federal spending to spur the economy.
  4. Defensive About Defense Spending – Last week 57 members of Congress sent a letter to the White House fiscal commission asking that the defense budget not be immune from the “rigorous scrutiny” that the rest of the budget will be subject to. At the same time, others are warning that looking to defense for savings would be unwise.
  5. Feldstein Gets Specific – Martin Feldstein has a new paper out with a three-part plan (subscription required) to reduce the national debt to less than 50 percent of GDP. The strategy includes reducing proposed spending increases and tax reductions over the next decade; augmenting “the tax-financed benefits for Social Security, Medicare and Medicaid with investment based accounts;” and reducing tax expenditures. Feldstein participated in CRFB’s recent “Getting Specific” forum and CRFB has encouraged specific ideas to address fiscal imbalances through its new Lets’ Get Specific series.
  6. Cranford Gives the ‘Hook’ to Announcement Effect – CQ Weekly columnist John Cranford pans the “announcement effect” in his recent column (subscription required). He contends that trusting lawmakers to come together to enact medium and long-term fiscal rules, and especially to follow through on those rules down the road, is the stuff of fantasy. He concludes that “it might be easier to keep Tinkerbell alive.” CRFB, as Cranford notes, is a big proponent of the announcement effect, believing that announcing a credible plan now to reduce the long-term debt to be implemented as the economy recovers will be economically beneficial. Our “Announcement Effect Club” highlights those who agree with this view. Cranford’s skepticism that policymakers will have the political will to carry out such a plan is well taken. We understand that political will is the biggest obstacle and have no fantasies regarding how difficult that will be to overcome. Yet, after being accused by so many of being gloom and doom, it is nice that someone considers us to be wide-eyed optimists.
  7. States Debate TaxesUSA Today points out that taxes will be on hundreds of state and local ballots in next month’s election. States like California, Massachusetts, and Washington will vote on revenue measures.
October 18, 2010

CRFB president Maya MacGuineas has another commentary on, talking about potential ways a fiscal crisis could go down. You can check it out here.


"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.

October 18, 2010

Treasury and OMB released the final deficit number for FY 2010 on Friday: $1.294 trillion. While $120 billion lower than last year's deficit, it still represents the second biggest deficit in the country's history in nominal terms. It also represents 8.9 percent of GDP, a percentage point lower than last year's deficit.

The final number is just about the same as the one that CBO produced in its final Monthly Review for FY 2010. However, the deficit is a few hundred billion dollars lower than the Administration projected either in the President's Budget or in the Mid-Session Review. All of that difference is accounted for with lower outlays. In fact, instead of increasing by a couple hundred billion dollars--as both projections expected--outlays actually declined from 2009 to 2010. Also, the deficit is $50 billion lower than CBO projected in August. Regardless of these differences, the deficit number is unusually high.

Receipts, Outlays, and Deficits in FY 2009 and 2010 (billions)
  Receipts Outlays Deficit
FY 2009 Actual $2,104 $3,520 $1,416
(Percent of GDP) 14.9% 25.0% 10.0%
FY 2010 Estimates
President's Budget $2,165 $3,721 $1,556
Mid-Session Review $2,132 $3,603 $1,471
CBO August Budget Update $2,143 $3,485 $1,342
FY 2010 Actual $2,162 $3,456 $1,294
(Percent of GDP) 14.9% 23.8% 8.9%


Much of the decrease in the 2010 deficit compared to 2009 is due to lower spending on emergency programs, mainly TARP, Fannie Mae and Freddie Mac, and deposit insurance. In fact, excluding these three programs, outlays actually increased by slightly less than $200 billion. The net effect was a $65 billion decline in outlays, which, coupled with economic growth over the past year, decreased outlays as a percentage of GDP by 1.2 percentage points between 2009 and 2010. The rest of the deficit decrease is accounted for by increased revenue as a result of moderate economic improvement since 2009.

The decline in the deficit, though, does not mean we'll be out of the woods in a few years. Even when our deficit declines as the economy (presumably) recovers, it never reaches a sustainable point. It will only decline to about 4 percent of GDP (in the President's Budget) before rising again by the end of the decade; this means that the national debt will continue to grow as a share of the economy throughout the decade.

The $1.3 trillion deficit this year may be tolerated as a necessary move to get the economy going, but it serves as a reminder that we have some serious fiscal problems to deal with very soon.


October 15, 2010

Today, the Social Security Trustees announced that for the second year in a row, there will be no additional cost-of-living-adjustment (COLA) for Social Security benefits next year. Automatic COLAs, first established in 1975, increase the dollar amount Social Security beneficiaries receive to make sure that inflation does not erode the real level of benefits. As a result, the COLA is determined by the Consumer Price Index and is calculated based off of third quarter to third quarter (July, August, September) changes in inflation. (Read our press release from earlier today here.)

This year, like last year, the Social Security Trustees have determined that the changes in the CPI-W do not warrant additional monetary benefits. The purchasing power of Social Security benefits has not fallen since the last 5.8 percent adjustment for benefits in 2009. The following table presents the CPI-W inflation changes that the economy has experienced since July 2008 (as measured by the Bureau of Labor Statistics).


As can be plainly seen, even though there has been some inflation increases over the past year, benefits are still higher than what they could have been if they are allowed to fall in line with prices. Even looking at the CPI-E (an experimental measure looking at price changes affecting older Americans), prices still have not reached the peak levels of 2008 when the last COLA was set.

What is truly troubling is that both lawmakers and the Administration are once again pandering to seniors.  The Administration and several lawmakers have directly called for a one-time payment of $250 to seniors to "compensate" them for not having a COLA. Speaker Pelosi even said last night that the House would hold a vote on a one-time payment of $250 to seniors in November.

There's just no excuse here. A one-time payment to seniors or ad-hoc COLA would be economically unjustifiable since doing so would actually be relative benefit payment increase. With our fiscal outlook so poor and with Social Security's projections just as bad, increasing relative benefits, while politically a good move (I mean, who wouldn’t want free money!), is a terrible fiscal idea. Such a proposal (whether offset or not) would truly reflect poor policymaking and blatant pandering. (Click here to read our ranking of the most harmful to least harmful options for an ad-hoc COLA or one-time payment.)

If members of Congress feel that giving additional money to seniors is an appropriate use of money for economic stimulus purposes, then that is a separate debate that would have to be judged on different merits. No one here at CRFB underestimates the concerns about poverty among older-aged Americans, and in fact we have recommended and old-age bump-up in Social Security benefits to help combat this. This move, however, appears to be completely political. The COLA was not designed to give people additional real benefits, but to keep their benefit levels the same and unaffected by inflation.

This is the same nonsense that happened last year when the Trustees announced that there would be no COLA. Policymakers are setting a horrible precedent where they decide they should directly pander to a specific voting block, even when the Trustees, by their own pre-determined formula, decide that there is no economic reason for additional money based on inflation. If we are to give more out more Social Security benefits and fix the problem of impoverished seniors, we must have in place a concrete plan to make it a long-term viable program.

Instead of a COLA, this is more like lawmakers offering their own version: the CORA, or Cost of Reelection Adjustment. Members of Congress should be honest to seniors and the public. They should have a frank discussion with the public about the budget and Social Security's challenges. People will admire their honesty and bravery, not their pandering.

As CRFB President Maya MacGuineas said today in CRFBs press release, “This issue can be seen as a litmus test for fiscal responsibility. Let's hope politicians prove more committed to addressing the nation's fiscal challenges than to pandering to influential voters."

October 15, 2010

Change is in the air, but plenty of uncertainty remains. As of mid-morning, the dust is still settling in U.S. and global markets as they take stock and adjust to today’s speech by Fed Chairman Bernanke in which he discusses the outlook for continuing US economic weakness (a demand shortage not a structural problem, he says) and what the Fed may well do about it (most expect the Fed to resume quantitative easing after its next meeting in early November, despite some continuing internal dissent among Fed policymakers).

Fiscal news has been on the back burner, other than attention-grabbing final official numbers for last fiscal year’s deficit.

With expectations about the Fed’s next moves dominating market moves, this week’s economic news has taken a back seat. We’ve had good news this week (September’s retail sales were strong – and stronger than expected; inflation remained very low in September – although some see this as the tip of the deflationary hole); and some disappointments (jobless claims are rising again; the University of Michigan consumer sentiment index headed down, contrary to expectations). But most importantly, throughout the week, critical problems in the mortgage markets, bubbling below the surface for awhile, popped out into the open. These problems continue to create serious bottlenecks in the economy and financial sector, and tend to limit the effects of normal policy prescriptions for recovery.
In an immediate reaction to the Bernanke speech, bond yields rose slightly (with the expectation of more quantitative easing increasingly priced in over the week). Mid-morning, bond yields on the benchmark 10-year bond were above 2.50 percent; and the thirty year bond was at 3.99 percent after briefly heading above 4 percent. The stock market has bounced up and down so far today, as addressing economic weakness was considered a positive, new data on the economy was of concern, and Friday profit taking always around. 
Domestic market developments are – as usual – all the more complex to understand because of global capital movements. Currency markets throughout the week have also been extremely active, as traders increasingly expected the Fed to further ease policy, in contrast to expectations that other central banks and fiscal authorities were tightening policy. The relative shift in global policy stances drove the dollar down rapidly against major currencies. A lower dollar will presumably help boost the U.S. economy through the export channel, although it can also raise import prices, which may or may not be passed on to consumers depending on market dynamics. Other countries also want the competitiveness of their exports supported by their exchange rate.


October 14, 2010

The new fiscal year has begun without a budget blueprint or any spending guidance enacted; the fiscal year 2010 deficit has been pegged at around $1.3 trillion, the second highest (behind last year) as a share of the economy since World War II; public debt is projected to rise to previously unseen levels; opinion polls consistently rate deficits/debt as a top issue; and candidates campaigning for office across the country are talking about the topic, though few are yet offering detailed plans to address it.

So, what to do about it all? It’s time for specific ideas to be discussed and for detailed plans to emerge. CRFB is leading the way with its recent “Getting Specific” event and the Let’s Get Specific series of papers with detailed proposals.

But don’t just leave the ideas and plans up to the wonks and politicians, offer your own. CRFB’s Stabilize the Debt online budget simulator offers you the opportunity to make your own budget choices and see how they would contribute to the goal of reducing the debt. The simulator--that has received over 100,000 hits since it was launched in May and has been well-received from all sides of the political spectrum--is now better than ever!

We have made some significant updates and improvements to the simulator so that it is an even better tool for understanding the scope of the problem and the tough decisions that will be required, as well as for discussing potential solutions.

We listened to the feedback from simulator users and have added several new policy choices, such as instituting a public health care option, freezing federal civilian pay, and taxing fringe benefits. These join especially pertinent options involving the 2001/2003 tax cuts, troop levels in Iraq and Afghanistan, stimulus funding, Social Security, farm subsidies, research and development, a VAT, a carbon tax, and the mortgage interest deduction.

We also updated the baseline numbers based on new figures from the Congressional Budget Office. Since our new projections based on reasonable policy assumptions indicate a worsening of the longer-term debt outlook compared to previous forecasts, reaching the goal of reducing the debt to 60 percent of GDP by 2018 is now more difficult. Even if you have tried it before, it is worth doing again.

Additionally, it is now easier to save and share your full results with a new print and save function on the "Results" page. This makes the simulator even more practical for class assignments, town halls, etc. Recommend it to friends. Challenge your candidates for office to do it and compare results.

There is plenty of talk about budget and fiscal policy during this election season, which will only increase afterwards with a post-election session of Congress set to tackle tax and spending bills and a White House fiscal commission due to release recommendations for improving the fiscal outlook. Don’t get left out of the debate. Take the simulator challenge and join the discussion on CRFB’s Facebook page.

Let your voice be heard. Be a part of the discussion -- and the solution.


October 14, 2010

Continuing with our Let’s Get Specific series, which lays out specific plans and policies to help reduce our national debt, today we have released our recommendations for tax expenditures. Let’s take a look at what we propose…

Tax expenditures are deductions, credits, exemptions, exclusions, and other tax preferences that have undercut the effectiveness, efficiency, transparency, and fundamental fairness of the tax system. There are roughly 250 separate tax expenditures for individuals and corporations. They function much like spending programs but receive no annual budget oversight, moving year-to-year on autopilot while costing taxpayers hundreds of billions of dollars (in fact, over $1 trillion this year alone!).

We believe the tax expenditure budget must be brought under control, with correct oversight to broaden the tax base, simplify our tax code, and increase revenue collection. All of this could occur while also removing tax expenditures that distort incentives, thus altering aspects of our economy. We offer four specific steps to fix this massive budgetary hole:

Step One: Reform Large Tax Expenditures

Step Two: Consolidate and Simplify Overlapping Tax Expenditures

Step Three: Review and Eliminate Other Tax Expenditures

Step Four: Incorporate Tax Expenditures into the Budget Process

The most important of these is reforming the four largest tax expenditures:

  10-Year Savings ($billions)
Replace Employer Provided Health Insurance Exclusion with a
Gradually Reduce the Mortgage Interest Deduction $50
Eliminate the Deduction for State and Local Taxes $850
Put a Floor on the Charitable Deduction at 2% of Income $200

Source: Congressional Budget Office.


All these tax expenditures programs directly influence our economy, such as the mortgage interest deduction decreasing the cost of buying a house, thus increasing the demand and pricing of housing.

In the paper, CRFB argues that we should subject tax expenditures to annual scrutiny, like other areas of the budget. Lawmakers should also prevent the creation or expansion of any new or existing tax expenditures and should conduct a thorough review of them all. Enhancing the economic efficiency of the tax code and significantly reducing tax expenditures over the coming decade should be the goal of such a review process.

Reforming the largest tax expenditures (and the smaller ones too!) can greatly contribute toward getting the budget back on a sustainable path.

Click here to read the full report.

October 14, 2010

For most, the world of inflation statistics can be mind-numbing.  Economists have developed a variety of indices. And there are three different ones that the federal government uses or could use:  the CPI-U, the CPI-W, and the chained CPI-U.

Well, now there may be a fourth: the Google Price Index (GPI).  The GPI will measure the cost of goods sold on the Internet, so it will not be a strict replacement for the other CPIs. It may, however, be more timely than official statistics. Google's chief economist, Hal Varian, remarked that the GPI could update its estimates during any given month, as opposed to the U.S. Labor Department, which waits until a month ends to estimate changes in the CPI.

So what does the GPI tell us? For one, it shows the changing nature of price indices. As economists and others find new ways to better account for changes in price levels, the price indices must change or new ones be created.  We see this with the three traditional CPIs: the CPI-U was created as an alternative to the original CPI-W, and the chained CPI-U is intended as an improvement upon the CPI-U (read in more detail about the indexing alternatives in CBO's report here).

Currently, many areas in the budget are indexed to measures of inflation that are believed to overstate the degree to which consumers are affected by inflation, since they ignore the full amount of substitution that occurs when prices go up. Switching to the newer “chained CPI” would generate savings on both the tax and spending side of the budget.

Making the switch could save the government a few hundred billion dollars over the next ten years while still adjusting programs to reflect price growth in the economy. But there is no question that we should adapt government accounting as new and better measures for inflation and other metrics are created.

October 14, 2010

Yesterday, 57 members of Congress sent a letter to the President’s Fiscal Commission advising the commission to put the defense budget under the “rigorous scrutiny” that the rest of the budget will receive. Here are some important parts of the letter:

...cutting the military budget must be a part of any viable proposal. The Department of Defense currently takes up almost 56% of all discretionary federal spending, and accounts for nearly 65% of the increase in annual discretionary spending levels since 2001. Much of this increase, of course, is attributable to direct war costs, but nearly 37% of discretionary spending growth falls under the "base" or "peacetime" military budget. Applying the adage that it is necessary to "go where the money is" requires that rigorous scrutiny be applied to military spending. We believe that such an analysis will show that substantial spending cuts can be made without threatening our national security, without cutting essential funds for fighting terrorism, and without shirking our obligations as a nation to our brave troops currently in the field, our veterans, and our military retirees.

Much of these potential savings can be realized if we are willing to make an honest examination of the cost, benefit, and rationale of the extensive U.S. military commitment overseas... We also think that significant savings can be found if we subject to similar scrutiny strategic choices that have led to the retention and continued development of Cold War era weapons systems and initiatives such as missile defense... Additionally, we believe that significant savings can be realized through reforming the process by which the Pentagon engages in weapons research, development and procurement, manages its resources, and provides support services. Former Secretary of Defense Donald Rumsfeld has speculated that waste and mismanagement accounted for at least 5% of the Pentagon budget annually, and despite a long history of calls for reform from outside the Pentagon, and actual reform initiatives within it, it is clear that much more remains to be done.

As your commission scrutinizes the federal budget and discretionary spending, we ask that you look closely at the Department of Defense in regard to the issues we have raised, and others. We hope that the report you release this coming December will subject military spending to the same rigorous scrutiny that non-military spending will receive, and that in so doing a consensus will be reached that significant cuts are necessary and can be made in a way that will not endanger national security. We strongly believe this to be the case, and we strongly believe that any deficit reduction package must contain significant cuts to the military budget.

Budgetary constraints should not be the primary reason to reign in security spending. But as DoD Secretaries from the past two Administrations have pointed out, there are significant savings to be found. We concur that done thoughtfully and prudently, changes to the security budget can lead to significant savings in the nation’s budget.

A copy of the letter can be found here.


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