The Bottom Line
Even in best years the congressional appropriations process usually results in a proverbial train wreck. And this year is shaping up to be such a bad year that news headline writers may have to come up with a new description. The spending process which begins this week is fraught with bumps and unanswered questions.
First, House Democrats have been unable to reach a deal among themselves on a Fiscal 2011 budget resolution. The Senate Budget Committee, on the other hand, passed a budget blueprint in April. Since there won't be an official budget reconciliation process this year, the budget's main purpose is to set an overall discretionary spending level for the year. There's the rub. The House is likely to "deem" an overall spending plan that is some $7 billion below President Obama's budget plan. The Senate Budget Committee budget is $3 billion higher than the House. If a budget resolution had been adopted, those numbers would be the same. Without a budget resolution, each chamber can go on its merry way, spending up to its ceiling. A deal on discretionary spending would not be reached until the end of the process when the two Houses will have to agree on programmatic spending levels.
Then, there is the issue of whether there even will be a formal appropriations process as called for by law. Since 2010 is an election year, members will want to leave Washington early in the fall to go home and campaign. They may punt spending decisions until after the election, during a lame duck session. At that point, retiring and defeated members will be making key budget decisions.
Whatever happens, House Democrats are going to have to waive an obscure budget point of order to be able to even leave for the July 4th recess. Section 310(f) of the 1974 Budget Act prohibits the House from considering a resolution calling for an adjournment period lasting more than three days during the month of July unless it has completed work on its annual appropriations bills.
In short, the budget process is a mess and must be fixed. Spending decisions are being made on an ad hoc and haphazard basis. That is why the Peterson-Pew Commission on Budget Reform is preparing a proposal for a new budget process that would bring order and discipline to this mess. Its report will be issued later this year.
Americans will get the chance to have their voices heard on what policymakers should do about the unsustainable fiscal outlook at some upcoming events.
On Saturday, June 26, a “National Town Meeting” will seek to spur a national discussion on our fiscal future. AmericaSpeaks: Our Budget, Our Economy will convene meetings across the country and connect them via interactive video broadcast. Individuals can also participate from home via webcast. The goal of the forum is to encourage Americans to “come together to put our country on a sustainable path by setting national priorities and making decisions about how we are going to pay for them.” The organizers of the event will present the priorities that emerge from the discussion to policymakers. Information on where meetings will take place and how to participate is available here.
Concerned citizens will also have an opportunity to speak directly to key policymakers at the next meeting of the President’s National Commission on Fiscal Responsibility and Reform. The panel will conduct an open hearing on Wednesday, June 30 in Washington, DC. Information on how to sign up to speak is available on the commission’s website.
Public input will be critical to move politicians to act responsibly. A new survey from Public Agenda of “D.C Influencers” underscores the challenge. While eight in ten “movers and shakers” in Washington agree that the federal budget is on an unsustainable course and that national debt could harm the economy in the long run, few say that they are advocating policies based on reducing the debt. The overwhelming majority feel that although they believe there are practical policies for dealing with the debt, they don’t see them as politically possible. And few political leaders and opinion elites know what the current debt-to-GDP level is.
The National Academy of Public Administration will host an event on June 30 to discuss the results and “how America can rise above the partisan divide that is impeding progress on the issue.” Click here for information and registration for the event.
CRFB’s Stabilize the Debt online budget simulator is a great tool for learning about the fiscal situation and exploring solutions. Since its unveiling last month, over 50,000 people have checked it out. Users have spread the word virally and have shared their thoughts on CRFB's Facebook page. Policymakers and the public would benefit from doing the simulator to see what the current debt-to-GDP ratio is, where it is headed, and what can be done to get it to a sustainable level.
So, try the simulator, get the facts and then express your opinion at the public forums and see how to convince our leaders to work together to put the country on a solid fiscal course.
If the fiscal consolidation appears to the public as a credible attempt to reduce public sector borrowing requirements, there may be an induced positive wealth effect, leading to an increase in private consumption. Furthermore, the reduction of government borrowing requirements diminishes the risk premium associated with government debt issuance, which reduces real interest rates and allows the “crowding-in” of private investment.
Exactly. Along this same line of thinking, ECB said that there were many situations in which the costs are low and the benefits are high for fiscal consolidation:
- if confidence in a country's public finance is low
- if fiscal consolidation is pursued credibly and consistently
- if it makes the long-term finances more sustainable
- if economic adjustment is not impeded by nominal rigidities
- if many consumers are "Ricardian consumers" (meaning they think that fiscal consolidation precludes the need for more drastic fiscal adjustment in the future and increase their consumption)
- if the economy is very open
- if the fiscal consolidation is offset by expansionary monetary policy or currency depreciation.
Obviously, the first condition applies to many European countries, especially the PIIGS, who would have much to gain from an increase of confidence in public finance. ECB says that for these countries, fiscal consolidation can be beneficial in both the long-run and the short-run. For other countries, they indicate that the short-run costs may still be offset to an extent by the "expectation effects" of announcing a fiscal plan. And of course, they say that the long-term benefits to economic growth of reduced public borrowing more than outweigh the short term costs.
The ECB is now in the Announcement Effect Club. Congratulations.
In remarks at the think tank Third Way, House Majority Leader Steny Hoyer covered the bases in talking about our deficits and debt. Among the topics he covered were timing of deficit reduction, PAYGO, temporary policies, entitlements, defense, and the fiscal commission.
First, he defended the stimulus as necessary in order to save the economy from a nose-dive and made the case for more stimulus. He did, however, say that we should not simply deficit spend:
And many Members of Congress agree with the Washington Post, when it argued in an editorial this month, ‘We’d find the stimulus-now, spinach-later argument more credible if its advocates gave some hint of where the long-term belt-tightening will take place.’ I agree. An excellent way to build support for the job creation we still need is making credible and detailed plans to tackle the long-term debt. So now is the time to start talking about a solution to the structural deficit—one we’ll be ready to put in place once the economy is fully recovered.
Hoyer then went on to talk about the necessity of PAYGO and, interestingly, the necessity of a loophole-ridden PAYGO:
Some have criticized PAYGO for exempting the extensions of current policy on middle-income tax cuts, the estate tax, the alternative minimum tax, and the ‘doc fix’ that helps seniors see their Medicare doctors. I understand that criticism—but it neglects the fact that a PAYGO law without those exemptions would simply be waived again and again and would become toothless.
He also pointed out that PAYGO's effect goes beyond bills that Congress passes. Rather, its effect is more fully measured in "the bills that never see the light of day because we can't find offsets for them." Obviously, it's impossible for the public to know exactly how much PAYGO has stifled potential bills, but as Majority Leader, Hoyer has claimed to have seen it alot.
As for some of those exempted policies, Hoyer called for permanent fixes. The AMT, the estate tax, and the doc fix, he said, should all be fixed permanently. He also said that "at a minimum," the House will not extend the 2001/2003 tax cuts for those making $250,000 or more, opening up the possibility that he may take a bigger bite out of those tax cuts than his own Democrats prefer.
Hoyer also said that no part of the budget should be off limits. He praised Defense Secretary Robert Gates' efforts to scrub the defense budget clean of unwanted or unnecessary spending. He also said that revenue has to be on the table, especially since "the Republican Party has run away from Paul Ryan’s plan, even though you’d expect it to rush to embrace a proposal based on spending cuts."
The Majority Leader also brought up a "budget enforcement resolution" that the House was working on that would "set limits on discretionary spending that require further cuts below the President’s budget; reinforce our commitment to PAYGO; direct committees to identify reforms to eliminate waste, duplication, and inefficiencies within their jurisdiction; endorse the goals of the president’s bipartisan fiscal commission; and reiterate the commitment to vote on the commission’s recommendations." He seemed to be hopeful that the executive fiscal commission could provide the starting point for a bipartisan deficit reduction plan.
On the entitlement side, he offered a few solutions: raise the retirement age and peg it to life expectancy, and make Social Security and Medicare benefits more progressive (presumably by instituting progressive benefit indexing and raising premiums for upper-income recipients, respectively).
Overall, Hoyer's remarks are very much in line with our own. He emphasized pairing short-term stimulus with a longer-term deficit reduction plan to take effect when the economy recovers, much like what we have said (see here, here, here, and here for example.) He also said to keep no part of the budget untouched in order to keep a sense of fairness and balance. We appreciate Rep. Hoyer's remarks on dealing with our debt issues, and we hope he has success in enacting a successful plan.
As our Budget Simulator grows in popularity, more and more people have taken the spending challenge to voice how they would like to see government spending cut. One popular suggestion has been that something be done regarding federal pay and benefits, which have fared relatively well in this economy while the private sector has felt the stronger sting of the recession.
Truth be told, federal employees do quite well for the most part. In fact, a recent USA Today analysis found that in a job-to-job comparison, a typical federal employee is paid about 20% more than his private sector counterpart.
It is true that much of this difference is due to differing levels of education attainment, as Peter Orszag explains here. But in addition to high wages, federal employees receive extremely generous benefits. Among them are a very generous health care plan, life and disability insurance, two types of retirement benefits (a DB pension and a 401(k)-type plan with a match), and a significant amount of paid time off. Not to mention flexible work schedules and a level of job security unheard of in the private sector.
The gap between federal and private employees has worsened some as the recession has taken hold. Over the past two years, government wages have grown 4.5% while private wages have grown only 2.2%. Over the last year, private wage have actually fallen. In other words, government wages have maintained strength over the course of the recession, while private sector wages have suffered.
Source: Bureau of Economic Analysis, National Income and Product Accounts Table, 6.6D
One recent analysis actually found that 19% of civil servants earn salaries above $100,000 – compared to 14% before the recession. Few other industries have been so lucky. To us, this suggests that federal compensation might be an area ripe for reform.
And military compensation must be on the table as well as civilian compensation. The 2008 Quadrennial Review of Military Compensation found that service members made a larger salary than 80 percent of comparable civilians. And a Defense Department sponsored study by CAN Corp. found in 2006 that enlisted service members made over $13,000 more (including benefits) than their civilian counterparts. Officers were found to make almost $25,000 more.
To be sure, we cannot solve our debt woes just by reining in on federal wages and benefits. If the pendulum swings too far in the other direction, the quality of our federal workforce could suffer.
Still, there are a number of ways we could begin to pare back some of the generosity in federal compensation. Some of the options highlighted below could help produce savings for our fiscally-strapped government:
|Policy Option||Savings (billions)|
|Reduce military pay raises by 1 percent for five years||$15|
|Calculate federal pension benefits based off five years of earnings to conform with private sector||$4|
|Base COLAs for federal and military pensions and veterans' benefits on alternative measures of inflation||$23|
|Increase federal employees' contributions to pension plans||$9|
|Reduce benefits under the federal employees' compensation act||$2|
|Freeze federal civilian pay for 1 year||$30|
|Freeze federal civilian pay for 3 years||$90|
|Base federal retirees' health benefits on length of service||$1|
|Adopt a voucher plan for the Federal Employees Health Benefits Program||$33|
|Increase health care cost sharing for family members of active-duty military personnel||$7|
|Introduce minimum out-of-pocket requirements under TRICARE for life||$40|
|Increase medical cost sharing for military retirees who are not yet eligible for Medicare||$25|
|Require copayments for medical care provided by the Dept. of Veterans Affairs to enrollees without a service-connected disability||$7|
|Remove tax exclusions on certain allowances for federal employees abroad||$18|
|Remove the tax exclusions of military pay and benefits||$68|
|Remove tax exclusions on veterans' disability compensation and pensions||$43|
Some of these options deal with pay directly. A one-year freeze on federal civilian pay (in other words, no cost of living adjustment) would save $30 billion over the next decade and restore much of the growing wage disparity resulting from the recession. We estimate a three-year pay freeze could save three times that. And simply tying basic military pay raises to 0.5 percentage points below the Employment Cost Index (the measure used for calculating wages and salaries of private-sector workers), for five years rather than 0.5 percentage points above it, could save $15 billion.
Pension benefits can also be reformed. In the private sector, where defined benefit pensions still exist, benefits tend to be based off of five years of earnings – yet public pension benefits are calculated off of three years, which does not usually capture as big of a range of earnings. Meanwhile, federal employee contributions to their pensions tend to be low, and benefits are adjusted annually based on an inaccurate measure of inflation. Correcting these issues, together, could save more than $35 billion dollars over a decade.
And then there is health care. Federal, military, and veteran health benefits are driven by the same factors as Medicare, yet were left untouched in health reform. Some reforms to the Federal Employee Health Benefits (FEHB), such as replacing it with a voucher program, could save over $30 billion. Meanwhile, introducing some cost sharing and premiums into the military TRICARE program – which hasn’t seen either rise in even nominal terms since its creation – could save over $70 billion.
Finally, there’s the matter of tax expenditures. The tax code itself subsidizes federal workers in a number of ways. For example, many benefits and allowances, and even some types of direct pay, are exempt from taxation for members of the military. The same is true for many federal workers living abroad. And veteran’s pension and disability benefits also seem to get a special place in the tax code. Taken together, these benefits will cost taxpayers about $130 billion in lost revenue over the next decade.
To be sure, even adopting every one of the policies together would still only reduce the deficit by less than $400 billion over the next decade. That isn’t nearly enough to stabilize our debt or get deficits under control. But it would be a great start, and certainly one worth considering.
Today, the British government released its latest proposed budget, one which will dramatically slash spending and significantly raise taxes. All government departments will be forced to cut spending across-the-board, aside from the National Health Service (which is protected by law). On January 4th of next year, Britain’s Value-Added Tax (or VAT) will increase from 17.5 percent to a full 20 percent, expected to raise government revenues by 13 billion pounds annually. At midnight tonight, a higher capital gains tax rate will take effect, impacting Britain’s highest earners, while the effects of the budget cuts on the nation’s poorer citizens is meant to be offset by a increase in the number of Britons who will qualify to pay no income tax at all.
Britain’s Chancellor of the Exchequer, George Osborne, said that these dramatic new budget measures—amounting to the nation’s “harshest budget in decades”—are critical to the stabilization of the recently ballooning British deficit (projected to be 12% of GDP this year, highest of all the EU nations) and the establishment of a sustainable long-term fiscal path. It comes in response to increasing worries in recent years over the UK federal debt, which has been growing at a rate faster than any other European country in recent years and has made this budget “unavoidable.”
Osborne claims that this proposal should ensure that the structural current deficit will be balanced by 2015, with debt beginning to fall as a percentage of GDP (from this year’s 62.2%) by roughly that same year. The budget proposal is also meant to jumpstart economic growth in Britain, predicted to rise from a tiny 1.2% to 2.3% in 2011—and decrease unemployment two percentage points, from 8% to 6%, by 2015.
These budget cuts are indeed a bold move, but indicative of the kind of widespread, sweeping changes that we may need to make in the United States as well in order to curtail our growing deficit and expanding debt. As Osborne told the British Parliament today, “Some have suggested that there is a choice between dealing with our debts and going for growth. That is a false choice. The crisis in the Eurozone shows that unless we deal with our debts there will be no growth.”
The statutory PAYGO law left a gaping hole for spending designated as an emergency. Since the designation has no formal definition, it can technically be used for anything; so far, it has mainly been used to exempt stimulus spending from PAYGO. But no more! Keith Hennessey has an answer on how to define emergencies:
There is a definition first created in 1991 by the Bush (41) Office of Management and Budget. It’s a five-part test for whether a particular spending provision should be designated as an emergency. This is an AND test, meaning a provision must meet all five criteria to earn an emergency designation.
According to this 1991 definition, to qualify as emergency spending, the provision must be:
- necessary; (essential or vital, not merely useful or beneficial)
- sudden; (coming into being quickly, not building up over time)
- urgent; (requiring immediate action)
- unforeseen; and
- not permanent.
Originally intended to be used in conjunction with the PAYGO law enacted in the 1990 Budget Enforcement Act, the OMB definition was never put in statute. The BEA PAYGO law expired in 2002. Now that we have a new PAYGO law, it's time once again to look at codifying the 1991 definition. It has been included in many congressional budget resolutions, but it has never been put in statute.
The big provisions that have been designated as an emergency, and are in the current extenders bill, are the unemployment benefits extension and the Medicaid matching extension. Let's go down the checklist to see if they would fit the definition. Necessary? Check. Sudden? Not for provisions enacted in February 2009. Urgent? Check. Unforeseen? Not at this point. Not permanent? Probably.
Both of these provisions would fail under this definition and Congress would have to pay for them. So far, Congress has exempted $25 billion under the "emergency requirement" tag, and it has all come from provisions like the two we just looked at, from other extenders bills. Instead of allowing for flexibility, the current emergency spending designation has only undermined the strength of statutory PAYGO.
Hennessey recommends codifying this definition of emergency spending and requiring 60 votes to waive a point of order against an emergency designation. Finally, he says that if the current extenders bill is so important to Congress, "they should prioritize and either cut other spending (my preference) or raise taxes." We agree.
The choice of who will replace Peter Orszag at OMB is a critical one.
We were thrilled when President Obama chose Orszag, Summers, and Geithner, to be in the three top economic positions because of the weight they each give to responsible budgeting. However, we always worried one or all of them might leave before the nation pivoted from stimulus to deficit reduction—when we would need them the most. We really, really need the Orszag influence going forward as we try to figure out how to climb out of this deficit hole.
Peter was instrumental in getting the parts of health care reform that will do the most to control costs in as part of the final reform package. Within the Administration, he has been one of the strongest advocates for responsible fiscal policies. As we move onto the next step in fiscal consolidation—putting together a comprehensive plan—we could really use his policy ideas and political influence.
There will be a lot of attention on OMB in the coming months and years. Finding a replacement to fill Orszag’s shoes will not be easy, but it is critical we get this right.
UPDATE: CRFB encourages readers to provide their own suggestions in the comment field below for who should be the next OMB Director.
Here are the highlights from this weekend’s editorials on fiscal and budget policy:
The Denver Post argued against both a second stimulus and the delaying of a return to fiscal balance. The Post said that there was no reason to add more to the deficit when it is very unclear whether last year's stimulus was effective and the national debt is skyrocketing. Although they acknowledged that the US had more flexibility than European countries to deal with relatively high levels of debt, they said that "banking on the resilience of U.S. capitalism while the government stacks up debt becomes wildly irresponsible." They called for concrete action by next year.
The Los Angeles Times, working off of the news that France proposed to raise its retirement age from 60 to 62, noted the problems that many developed countries were facing with pensions. Demographic problems are one issue, but they also pointed out that the US has an added problem that many people rely on private pensions, which have been hammered by the financial crisis. As for public old-age benefits, The Times said that raising the retirement age with life expectancy increases is reasonable.
The Financial Times also picked up on the French pension story, praising both the retirement age and public pension reforms, but saying that Sarkozy should have gone further. They said that even with the reform, France would still have one of the lowest retirement ages in all of Europe and said he should have pushed for a 63 or 64 retirement age. They wanted further changes that would make the public pension system sustainable to be presented quickly.
The Orlando Sentinel praised a bill proposed by Ileana Ros-Lehtinen (R-FL) and Ron Klein (D-FL) that would crack down on Medicare fraud. The bill is designed to prevent fraud more on the "front-end" than on the "back-end" by mandating background checks and other screening processes for Medicare providers; also, it would double the penalty for Medicare fraud. The Sentinel said that the more effort put into stopping fraud, the better.
Alberto Alesina of Harvard University has a new paper out that talks about how differences in the composition of debt reduction packages make a difference in terms of success. He looks at which contractions have been fiscally successful, less harmful to growth, fiscally unsuccessful, or more harmful to growth. In addition, he examines the political ramifications of tightening fiscal policy and whether they necessarily lead to the incumbent being voted out of office. The conclusions he draws buck the convential wisdom that all fiscal tightening need be contractionary and that all fiscal tightening need be politically damaging.
How he determines the economic and fiscal success of adjustments goes as follows. For economically successful adjustments, he takes the difference in the average growth rates between that country and the average G7 growth rate over the first three years after tightening. The top 25 percent relative to other episodes of fiscal adjustment are considered "expansionary." Fiscal adjustments are considered successful if they reduce the debt-to-GDP ratio by at least 4.5 percentage points in the first three years.
Alesina then talks about the composition of economic adjustments. He emphasizes their importance in determining the economic and fiscal success of the consolidations. The numbers below show the amount of spending cuts and tax increases in each type of adjustment. As the evidence suggests, spending cuts have produced more growth friendly and more successful fiscal consolidation packages.
On the political side, Alesina indicates that there is little relationship between fiscal contraction and political "losses." In fact, he points to past research by Adi Brender and Allan Drazen that suggests "in more experienced democracies voters punish those politicians who opportunistically manipulate fiscal policy to be reelected."
As for the political conditions that are most conducive to fiscal consolidation:
Stabilizations are more successful and easier to come by in presidential systems, in systems in which the executive faces fewer institutional veto points, in periods of unified government in which the same party holds the executive and the legislature, and in systems in which the majority of the ruling party (or parties) is large.
The last few conditions he mentions are especially intriguing, considering that over the last 30 years in the US, fiscal consolidation has generally taken place in divided governments (George H.W. Bush and the Democrats, Bill Clinton and the Republicans) while much of the fiscal expansion has come when governments were unified.
For the specific economic timing of when to tighten fiscal policy, we turn to Paul Krugman. He has been arguing constantly for new stimulus to prop up the economy in the short run, but in yesterday's New York Times, he wrote an op-ed also calling for addressing our fiscal problems after the recovery. He suggested, similarly to Ezra Klein's "worst-of-both worlds," that politicians were in fact doing the worst possible fiscal policy right now: cutting back now, while doing little about the long term budget outlook. The time for fiscal contraction should come "when, and only when, the Federal Reserve has regained some traction over the economy, so that it can offset the negative effects of tax increases and spending cuts by reducing interest rates." So, he argued for a deal that exchanged a fiscal consolidation package for a hold-off on rate hikes by the Federal Reserve (though keeping them at some point above near-zero.)
While he did talk about the medium term outlook in this op-ed, Edmund Andrews slammed a different Krugman op-ed for being too non-chalant about deficits in the next decade (and joined the Announcement Effect Club in the process.) Andrews stated (based on yet another Krugman op-ed) "he thinks we can wait til 2020 to take active measures against the deficit. He even suggests we don't need to start planning until close to 2020." To him (and us), that spells disaster (though obviously Krugman did not say that in his recent piece.) Then came the sentence we were waiting for from Andrews:
I think the existence of a credible plan with a credible political commitment would be a huge relief to the bond markets, well ahead of us actually doing anything.
Timing and composition are everything. If a fiscal package takes effect too soon, it could damage the economic recovery; coming too late, it would not be enough to head off future problems. Spending cuts will have to compose a majority of any deficit reduction package that addresses our long term debt, so Alesina's findings are a good sign that a well-designed plan might not be so economically disastrous. And a good design is exactly what we'll need.
Summertime, but the Living Isn’t Easy in Congress – Today brings the first official day of summer, but Washington has already been experiencing searing days and the Capitol dome is about to blow off from the heat inside. The longest day of the year comes as lawmakers face a long road on appropriations and taxes, not to mention the never-ending “extenders” bill, which still has no end in sight.
Extenders Bill: Clay Pigeons and Dead Ducks – Legislation to extend tax breaks and expanded unemployment assistance has stalled in the Senate with the lack of 60 votes. Disagreement over offsetting the price tag remains the major obstacle. Without a breakthrough, the bill is dead in the water. Meanwhile, several pending amendments remain to be considered that will only add to the tough slog and could produce some interesting votes. Senator Tom Coburn (R-OK) introduced an amendment to pay for the legislation by “reducing wasteful spending, inefficient, and duplicate government spending.” He has used a procedure called the “clay pigeon” to divide the amendment up into 20 separate amendments. Barring some sort of agreement, there will be 20 separate votes. According to Coburn, if all the provisions are adopted, it will result in savings of at least $379 billion. Senator George LeMieux (R-FL) has an amendment to roll back federal spending to 2007 levels and one from Senator Robert Casey (D-PA) would restore some COBRA subsidies for the unemployed; the cost will be partially offset by eliminating the advance earned income tax credit.
Doc Fix Not What the Doctor Ordered – The Senate did agree late last week to a six-month extension of relief for physicians from a 21 percent reduction in Medicare payments that is fully paid for. However, House Speaker Nancy Pelosi (D-CA) poured cold water on the deal, calling the compromise “inadequate” and casting doubt on if the House will vote on it. As we pointed out last week, an agreement to extend the so-called “doc fix” in the short term will not fix the problem.
House Set to Bypass Budget Resolution – House leaders indicate they will move forward with the appropriations process without a budget resolution. The news is not surprising seeing that the April 15 deadline for adopting a customary five-year budget blueprint passed over two months ago and little movement has been made in that direction. Many lawmakers are wary of engaging in a debate that will underscore the bleak fiscal outlook. Centrists and progressives could not reconcile disagreements over non-defense discretionary spending cuts. CQ reports that the Democratic leaders may try to move a “deeming” resolution this week that will set the spending cap that appropriators must adhere to. Leaders call it a “budget enforcement resolution” and it may move attached to the war supplemental. They are also considering adding language indicating support for reducing the deficit from 9.4 percent of GDP in fiscal 2010 to 3 percent of GDP in fiscal 2015, which is the goal announced by the White House. This will mark the first time since the current budget process was created in the 1970s that the House has failed to produce an initial budget blueprint.
Yes, financial markets too are being affected by the World Cup. So far today, trading is quiet – even though today is one of the famous Triple Witching Days (which is not about Harry Potter but the day each quarter when contracts in three main markets must be settled and which are famous for being unpredictable). Sometimes however thin markets can be volatile.
This week’s markets have been driven by increasing concerns over the strength of the U.S. economy. They have also continued to be buffeted by more back and forth from safe haven effects related to the ups and downs of eurozone fiscal developments. Yields at the longer end remain quite low.
On the US economy front: sentiment has shifted in recent weeks and markets are looking for data confirming signs of weakness. Most important were weak price data and weak/little change in recent unemployment claims, adding to worries from housing starts and retail activity.
In terms of safe haven ups and downs for the dollar and U.S. Treasury instruments: the eurozone got some surprising support from strong eurozone production news, even though the weak euro should be expected to stimulate EU exports. Also, on the ups and downs of the U.S. debt market as a safe haven: more fiscal consolidation plans were announced by EU countries – although markets are reluctant to give their approval to deficit reduction plans driven by perhaps “hair shirt” policies (to paraphrase a recent excellent column by Martin Wolf in the FT), seen as anti-growth. EU leaders appear poised to tighten up their fiscal framework – although agreement to a central fiscal authority still seems a gleam in the European Commission’s eyes.
And next week could be busy.
As always, more economic data (mainly from May) comes out next week (click here for the Treasury Department’s economic calendar). On the business side, we’ll see industrial production, durable goods, and producer prices. We also get the final normal revision of first quarter GDP, more housing data, the weekly unemployment claims, and some consumer confidence indicators.
The Fed’s Open Market Committee (aka the FOMC) meets June 22-23 (Tuesday and Wednesday). The FOMC will release its policy statement as usual mid-afternoon on Wednesday. The meeting comes at a critical time as real questions about the underlying strength of the economy are coming to the fore. It will also the time in which the Fed prepares for Chairman Bernanke’s semi-annual monetary policy testimony (and the Fed’s related report) before Congress in July and so the discussion and supporting background materials will be particularly in-depth.
Plus, a new wrinkle (based on still limited reports) is that private companies have started to return to market, to start competing again with Treasury debt. But it’s still quite early days – particularly given indications from the consumer and producer price data that companies don’t yet have pricing power. And we’ll see next week as corporate earnings start to be announced just how solid companies’ financials look now.
We reported last week many times on efforts by the Obama Administration to save small chunks of change (see here, here, and here.) But they're not finished yet! A few more small savings ideas have been reported on OMB's website this week.
The first idea is to make all payments from the US government to individuals electronically. OMB director Peter Orszag says that this reform has the double benefit of both saving taxpayer money (about $1 billion over ten years) and making benefits more convenient and less susceptible to being lost or stolen.
The second idea, which is actually already being implemented, would save money on Air Force cell phone plans by optimizing the plans they choose for actual cell phone usage. The idea actually came from a participant in the SAVE awards, which had federal employees submit ideas to save the government money. The savings, though, are miniscule even for the ideas that have been proposed so far ($2 million per year), but Orszag did say that they would look to further optimize the cell phone plans in order to achieve more savings.
Regardless of how much (or little) these ideas save, there is no downside to making the government run better at a lower cost. The White House should keep coming up with these ideas, but they should not lose focus of the bigger picture: our long term budget problems.
Legislation to extend tax breaks that expired last year, as well as expanded social safety net provisions and relief for doctors from a steep cut in Medicare payments, continues to languish in the Senate as lawmakers cannot agree on paying for the costs of the bill.
Consideration of The American Jobs and Closing Tax Loopholes Act (HR 4213) will drag into next week after a vote to end debate late last night failed to attract the necessary 60 votes. No Republicans voted for cloture in the 56-40 vote. Earlier in the day a GOP alternative that would completely pay for the extensions with spending cuts elsewhere failed on a 41-57 vote with only one Democrat joining Republicans.
The bill has become ground zero in the intensifying conflict between stimulating the economy and confronting the mounting debt. It is critical that the right balance be achieved between aiding the nascent recovery so that it can be sustained while also correcting a long-term debt trajectory that is unsustainable.
As we have argued here, the best solution is to finance short-term stimulus with longer-term offsets. That way the effects of the stimulus will be enhanced because creditors will be reassured that we are not adding to the long-term debt that is already a cause of great concern. We have also pointed out that jittery markets would be encouraged if the U.S. developed a credible fiscal plan now that would be implemented as the economy recovered. This would aid the recovery by keeping interest rates lower. Crafting a credible stimulus is key.
Democrats have scaled-back the bill several times in order to attract more votes, but those changes have consisted mainly of reducing the length of the extensions, which does nothing to reduce costs in the long run if they simply will be extended again down the road. CRFB called for offsets and provided some suggestions in a recent paper.
Congress must work together and design a package that gets the most bang for the stimulus buck in the short-term while not contributing to long-term debt. The balance is achievable if policymakers put aside partisanship and pursue real solutions.
In the aftermath of the Greek financial crisis, leaders of European nations like France and Spain are taking steps to stabilize their economies and reassure lenders that their governments are getting their fiscal houses in order. The New York Times reports that the French and Spanish government announced plans Wednesday to reduce their national fiscal deficits to more sustainable levels and to take more basic steps to improve their economic performances. Both countries had entered the global economic and financial crisis over the past few years with very little "fiscal space", so that they had very little fiscal room for maneuver to take countercyclical measures. With signs of global recovery starting to appear, it became all the more important for these countries (and others) to exit from fiscal stimulus in an orderly way before worried markets forced a solution - as they did in Greece. At the same time, taking steps to improve the fiscal path down the road by tackling other basic weaknesses in their economies will improve growth prospects.
France will raise its minimum retirement age to 62 from 60 by 2018, a move that has garnered criticism from labor unions (and no doubt others) but is meant to help put French pension spending more in line with the government's fiscal resources. (France faces population aging pressures similar to those in the United States within the next decade.) Spain, with similar aging issues but also with its own outsized real estate boom in the past decade and related financial sector loan issues, has seen dramatic increases in borrowing costs this week (an increase of 0.7 percentage points in yield from last month alone). Faced with a downgrade by credit ratings agencies, the government took measures responding to new concerns that it could soon need to tap into the IMF’s European ‘rescue fund’ to finance its obligations. Based on proposals by the Spanish Prime Minister’s economic advisors, labor market reforms were enacted in an attempt to jumpstart the nation’s economy by reducing severance pay for fired contractual employees. The move is meant to save the government money and also reduce the recently growing reliance on temporary contracts that has increased Spain’s unemployment rate to more than 20%.
Other EU countries are taking considerable measures as well to put their fiscal policies on sustainable paths and to undertake reform of economic weak spots. Plus, as in the United States, the EU banking sector will be subjected to stress tests by the financial authorities to determine what the vulnerable spots in the financial sector are.
Despite some criticisms these policies have encountered, there appears to be a general consensus that they are necessary for the overall, sustained fiscal health of the EU countries. Moreover, it is crucial that most of these countries acted before the nervous markets transformed a manageable situation into a crisis - like what happened in Greece. And it is true that, besides ultimately lowering federal deficits, an increased retirement age helps national economies in other indirect ways too: it would provide more experienced labor in the workforce for longer, more capital, a greater ability to save individually for retirement, and more income tax revenue for the government. These are remarkable steps for France and Spain, where labor rights are even more protected, and more of a ‘sacred cow,’ than they are in the US—and if they can consider fiscally responsible reforms, we should be able to do the same here.
With much of the nation's attention focused on President Obama's oil spill address and much of the fiscal policy universe focused on the extenders bill, another bill was passed by the House on Tuesday. The Small Business Jobs Tax Relief Act of 2010 (H.R. 5486) provides, as you would expect, a number of small business tax breaks, although the gross cost is expected to be very small (less than $4 billion). The bill is actually expected to raise revenue (about $3.5 billion, although CBO has not yet weighed in) due to a few revenue raising provisions, most notably the tightening of the cellulosic biofuels credit.
The House's intention is to pair this bill with the Small Business Lending Fund Act of 2010 (H.R. 5297). This bill would create a (you guessed it) Small Business Lending Fund of $30 billion, which would buy equity in small lending institutions. The dividends these institutions would pay to the Treasury would depend on how much they increased their small business lending. CBO estimates the cost of this bill at $3.4 billion, with about $1.4 billion being the "subsidy cost" of the Lending Fund and with $2 billion being the cost of a Small Business Credit Initiative (which would provide money to states that are doing similar lending projects.)
The House is expected to pass SBLF very soon, which would send both bills to the Senate. Combined, they are deficit-neutral, so the Senate might find an easier time trying to pass these bills than they are having with another piece of legislation. But the real meat-and-potatoes of whatever stimulus effort comes out of Congress will be in the extenders bill, so it's important that that bill is made as fiscally responsible as the small business bills are.
The Senate released yet another version of the tax extenders and social safety net bill (The American Jobs and Closing Tax Loopholes Act of 2010 - H.R. 4213), decreasing the gross cost of the bill from $137 billion to $118 billion. CBO has yet to release an updated cost estimate of the bill, but press accounts report that the bill's overall deficit impact is likely between $50 and $60 billion.
As we have argued in previous blogs and a recent policy paper, we hope that lawmakers work to reduce the deficit impact of the bill -- without dropping or shortening measures that will just be deficit financed later and will just waste more lawmakers' time when these provisions come up again for debate.
|Version of Tax Extenders/Safety Net Bill (H.R.4213)|
|Provisions||Originally||5/27/2010||5/28/2010||Week of 6/1/2010||6/8/2010||6/16/2010
|Doc Fix||Patched through 2013||Patched through 2011||Patched through 2011||Congress on Recess||Patched through 2011||Patched through November 2010|
|Unemployment Benefits||Extended through 2010||Extended through November||Extended through November||Extended through November||
Extended through November (but eliminates extra $25/week enacted through the 2009 stimulus)
|COBRA Benefits||Extended through 2010||Extended through November||Dropped||Dropped||Dropped|
|Medicaid Matches to States||6 month extension||6 month extension||Dropped||6 month extension||6 month extension|
Over the past few days, Senator Max Baucus (D-MT) has softened provisions regarding taxation of carried interest and S corporations, has increased the Oil Spill Liability Trust Fund tax from 41 to 49 cents per barrel (up from the current 8 cents) to offset some of the costs, and has also included a measure to extend the closing date for the homebuyer tax credit from July 1 to October 1. Senator Jim Thune (R-SD) has offered a Republican substitute to the bill that would slash the deficit by $68 billion over the coming decade. The substitute includes many of the same extensions, but achieves these savings through cutting $118 billion in unecessary spending and rescinding $38 billion from the 2009 stimulus.
Senator Judd Gregg (R-NH) raised a budget point of order yesterday that was upheld, stating that the bill exceeds the spending levels set forth in the latest budget resolution. Fifty-two senators voted to uphold the point of order, a small but important victory for fiscal responsibility.
CRFB continues to encourage members of Congress, like Senator Mark Pryor (D-AR), who have expressed concerns over the overall deficit impact of the bill and who would like to see more offsets. Let's address these issues now instead of continuing to kick them down the road.
Senator John McCain has introduced the Debt Buy-Down Act of 2010. A variation of this bill has been introduced in several previous Congresses (102nd, 103rd, 104th, 105th, and 106th), but the current mood of the country seems especially conducive to this kind of idea.
According to a bill summary released by McCain’s office:
The Debt Buy-Down Act would require the IRS to include a check-off on tax forms providing taxpayers the flexibility to voluntarily designate that up to 10% of their tax liability be put toward debt reduction. In order to ensure that reductions in the debt are protected, the bill also requires an equal amount of permanent reductions in federal spending.
Kind of Gimmicky? Sure. Clever? Very. The more we think about it, the more we like it.
The McCain Debt Buy-Down is in fact an ideal type of mechanism to capture the public’s willingness to make changes to the budget if they would really make improvements to the fiscal picture.
The bill would establish a new Public Debt Reduction Trust Fund to hold taxpayer directed-tax payments (up to 10% of their total income tax liability) which would be netted out of their total taxes. Congress would have to cut spending by an equal amount or an automatic trigger would force across-the-board spending cuts—though it would exempt items including Social Security benefits, benefits for uniformed services, and interest payments. (Our view: Past experiences have shown us that exempting favored programs from these kinds of mechanisms, weakens them. In Red Ink Risking, we proposed that new triggers have no exemptions—other than of course interest—to strengthen the incentive for Congress to thoughtfully choose the cuts rather than be subject to a trigger).
We have talked about this kind of a voluntary debt repayment idea before, and have argued in support of a solidarity fund (and even having the option on tax forms!) in which excess funds and savings from deficit-reducing bills could be walled off – ensuring that when Members of Congress don’t spend their entire budget or enact deficit-reducing bills, the savings are actually used for deficit reduction.
While the public is squarely behind the idea of taking actions to reduce the deficit, many taxpayers are understandably concerned that any money headed towards Washington—either from new taxes or spending cuts—would be spent instead of used to reduce the deficit. Health care savings on the PAYGO scorecard? Increasing the Oil Spill Liability Tax? Yup, we share those concerns. Measures to ensure the savings would actually be saved have to be part of any deficit reduction effort. Think of it as the search for the new ‘lockbox”.
So what would this look like in practice? In FY2010, taxpayers will pay about $950 billion in individual income taxes. Just doing some quick calculations, if every taxpayer contributed 10% of their income tax liability next year (the maximum possible), that would require Congress to enact roughly $95 billion in spending cuts in order to provide that amount of deficit reduction. The Treasury Department would be required to use the money in the trust fund to retire U.S. debt obligations.
Would a cool $95 billion in savings per year fix the budget situation? Nope. On the other hand, would it derail the economic recovery? Nope as well. Would it be a good start to getting the deficit under control? Absolutely.
Reducing spending is essential in bringing the country back onto a sustainable path. So far, Congress has been unwilling to address the country’s mounting debt, and proposals like the McCain debt-buy-down can push Congress to start making some tough decisions, help us get back to a sustainable path, and can also make it easier for taxpayers to get involved in addressing our fiscal future. This is the kind of idea that help focuses the mind and national attention, on the need to reduce government spending and use the savings to reduce the deficit. We hope it catches on.
The debate that won’t end drags on in the Senate as legislation to extend tax breaks, expanded unemployment insurance and the Medicare “doc fix” didn’t come close to getting 60 votes in a key procedural vote. The 45-52 vote failing to waive a budget point of order means the bill will undergo more changes to trim its cost.
A likely change will be to shorten the length of the so- called “doc fix.” The Senate version originally postponed cuts to physician Medicare payments through 2011. The issue has been kicked around more than any soccer ball in South Africa. Postponing the cuts for a shorter period of time is like putting off that yearly physical exam – it may delay hearing the usual exhortations from the doctor to change your diet and exercise habits, but does nothing to better one’s health. A shortened “fix” only means that it will be extended again sooner and does nothing to improve the nation’s fiscal condition.
The constant extensions only prove that the “doc fix” is no fix at all. It merely puts off dealing with an unsustainable situation. Maybe we should just extend it by the hour; that would provide a smaller price tag per extension while underscoring the absurdity of the exercise.
The Wall Street Journal points out that deficit aversion is coming to Washington at a bad time. Just as lawmakers are looking to provide an extra kick to the economic recovery, a growing number of them have become concerned about adding to the deficit. As the article states, President Obama has been forced into "arguing...that spending be increased and cut at the same time," and Congress has been reluctant to move on the extenders bill.
Stimulus or a jobs package should not add to the long-term debt, but that doesn't mean that we should shy away from any sort of package at all. The unfortunate fact is that lawmakers seem more willing to do nothing than to simply pay for the measures they are proposing. We have argued that a short-term stimulus combined with longer-term offsets would be the most effective one-two punch for the economy, since the fiscal credibility of the plan would keep interest rates down as the stimulative effects went to work.
If lawmakers are going to pass a stimulus package, then they should pay for it over the medium term. More importantly, they should develop a fiscal consolidation plan to take effect when the economy recovers. They should not start slashing the budget deficit immediately, and they also should not keep deficit spending under the catch-all banner of "stimulus."
Bottom Line: Fiscal concerns are not a reason to ignore the economic recovery, but stimulus concerns are certainly not a reason to delay in committing to a fiscal plan.