The Bottom Line
In the past, the Bureau of Labor Statistics has made adjustments to the Consumer Price Index without much controversy. But due to the method of calculating the chained CPI, switching to this more accurate measure of inflation requires the creation of a new index, and thus action from Congress. While receiving the support of many economists, the chained CPI has been attack by interest groups on the left and right.
Last week, Robert Romasco, the President of the AARP, argued that chained CPI was both "unfair and inaccurate," focusing on how the provisions would affect retirement benefits. On the other end of the spectrum is the American for Tax Reform, who opposed the chained CPI as a tax increase. But Committee for a Responsible Budget's Marc Goldwein and Ed Lorenzen argue in The Hill there is nothing unfair or inaccurate about the chained CPI. It is a more accurate measure of inflation, with the secondary benefit of helping to reduce our budget deficit. They write:
Economists from the left, right, and center are in broad agreement that chained CPI more accurately reflects cost-of-living increases by accounting for the small-sample and substitution biases in the current inflation measure. This view is shared by experts at the non-partisan Congressional Budget Office as well as the experts at Bureau of Labor Statistics who are responsible for measuring inflation. Adopting the chained CPI doesn’t represent a policy change, but rather would best reflect the current intent of the law to index various provisions to inflation.
And while some argue that seniors face faster cost-growth than other populations, there is little evidence of a significant difference when one accounts for the fact that seniors are more likely to own their own homes mortgage free, have different shopping habits than younger populations, are able to take advantage of senior discounts, and receive constantly improving health treatments. Indeed, according to the Congressional Budget Office, “it is unclear, however, whether the cost of living actually grows at a faster rate for the elderly than for younger people.”
Moreover, offering seniors a preferential inflation measure raises more fairness concerns than it answers. If seniors receive a higher inflation measure, should non-seniors on the Social Security program receive a lower measure? Geographic inflation disparities are far larger than alleged age disparities (inflation has averaged 2.7 percent in New York and 1.8 percent in Detroit over the last decade); why protect seniors and not New Yorkers? What about other government programs and tax provisions? Should each be indexed to costs within its population? Or only those backed by powerful interest groups?
More unfair would be ignoring our fiscal and retirement challenges and leaving the job to a future politicians. According to the left-leaning Center on Budget and Policy Priorities, the President’s chained CPI proposal would result in benefit levels 1 to 2 percentage points lower than under current law – and it accompanies the switch with benefit enhancements for the old that actually reduce poverty among that group. By comparison, there is a 25 percent cut scheduled to occur under current law when the trust funds dry up in 2033. The greatest unfairness would be allowing this across-the-board benefit cut to hit every beneficiary regardless of age or income – when this cut could be easily avoided through a balanced package of revenue and benefit adjustments.
In the original Fiscal Commission plan, the chained CPI was included as part of a comprehensive Social Security reform. There is no doubt including chained CPI along with other policies to make Social Security solvent would be the preferred approach, and recently released "Bipartisan Path Forward" included an additional step to strengthen Social Security. But the failure of the political system to address this program is no reason to continue using an inaccurate measure of inflation. Argue Goldwein and Lorenzen:
Mr. Romasco is right, we need a national conversation on improving retirement security, including how to make Social Security sustainably solvent in order to avoid abrupt benefit cuts and ensure the system is better protecting those who rely on it. Ideally, we’d have this conversation now. However, the overheated reaction to a technical correction in cost of living adjustments suggests that the political system may not be ready to tackle comprehensive Social Security reform. Continuing to index benefits improperly while we wait for this reform to materialize would be a costly mistake that will only make future Social Security changes more painful.
Click here to read the full op-ed.
"My Views" are works published by members of the Committee for a Responsible Federal Budget, but they do not necessarily reflect the views of all members of the committee.
Although most discussion of Erskine Bowles' and Al Simpson's Bipartisan Path Forward has focussed on its health and tax reforms, the plan also includes changes in discretionary spending as well as $265 billion of other mandatory savings. Of that, a small but significant $35 billion comes from reforming higher education spending.
Importantly, that $35 billion isn't just cuts; rather, it is the net effect of a number of policies meant to improve higher education financing while fulfilling many of the Bipartisan Path Forward principles includling "cut spending we cannot afford," "replace dumb cuts with smart reforms," "protect the disadvantaged," and "make America better off tomorrow than it is today."
The centerpiece of the education reforms is fixing two issues in higher education programs: (1) the imminent doubling of Stafford loan interest rates in July of this year and (2) the implicit $50 billion shortfall facing the Pell Grant program. The plan addresses both of these issues in a permanent fashion by reallocating and retargeting spending within the higher education budget.
To address the interest rate spike, the plan proposes a solution we've talked about before, one that was part of the President's budget: linking the interest rate to a market-based rate like Treasuries. That would enable the interest rate to stay low in the short term and rise more gradually in the longer term than the quick jump that would happen in July. The budgetary result: larger deficits in the short term -- though not as large as continuing current interest rates indefinitely -- and smaller deficits over the longer term once interest rates return to normal levels. The proposal in the President's budget is estimated to save about $15 billion over ten years, though the proposal from Simpson and Bowles would be modestly more generous and save a little bit less.
To address the shortfall in the Pell Grants program which offers college aid to low-income students, the plan would reform the student loan program enjoyed by many middle-class students. Most significantly, it would repeal the in-school interest subsidy for undergraduate student loans (it has already been eliminated for graduate students), which defers accrual of interest on loans until after a student graduates. According to Bowles and Simpson, "this subsidy is neither well-targeted to those who need it nor effective in encouraging higher education." Additional savings could come from a number of smaller reforms described in detail in the report.
A portion of these savings would go to deficit reduction, but the majority would go to closing roughly 80 percent of the Pell Grants shortfall (the report calls for the remaining shortfall to be closed through savings and efficiencies within the Pell program).
The New America Foundation's Education Policy Program has an excellent write-up of the plan worth reading. In their own proposal Rebalancing Resources and Incentives in Federal Student Aid, they propose many of the same savings but reallocate all of those savings to higher education spending rather than setting aside a portion for deficit reduction. As they explain:
Our proposal included a broad array of reform proposals, covering loans, grants, tax expenditures, transparency, and other federal aid issues, and it is meant to be seen as an entire package, not a menu of options, because each component of aid affects the others. We stand by that belief, but we are pleased to see other groups arrive at the same conclusions that we did in reforming the federal student aid system: Policymakers can better spend the significant resources they have already committed to federal student aid programs to benefit students, taxpayers, and other education stakeholders.
Today is the last day of April, and Peter G. Peterson Foundation has released the latest result of its Fiscal Confidence Index. The Fiscal Confidence Index attempts to measure public opinion on fiscal sustainability based on polling data in three areas -- concern, priority, and expectations -- to produce a fiscal confidence index value between 0 and 200, with a "100" being neutral.
April's mark was a "44," showing that Americans feel very concerned about the state of our nation's finances. The index has remained in the low to mid 40s since January, where the index plummeted from December's 50 to 40, likely due to the failure of both parties to reach a significant fiscal cliff deal.
Source: Peter G. Peterson Foundation
Besides the index, polling revealed some concern with important programs like Social Security and with the resources that would be available for education and high-value added research. From the report:
- With the future of Social Security at the center of public discussion, only 42% of Americans believe Social Security will have the money to provide benefits for their retirement. 47% believe Social Security will not be able to provide benefits.
- Views of Social Security’s ability to fund benefits vary significantly by age. Americans 65 and over are most confident (72%) that Social Security will provide for them. Americans 18-44 are least confident—just 25% believe Social Security will be able to provide for their retirement.
- 86% of Americans are concerned that, without reforms, Social Security and Medicare benefits will put too much of a financial burden on future generations.
- Voters place particularly high value on having resources to invest in education (75% important, 36% extremely important).
- Americans want to see the country build a strong foundation for future economic growth (77% important, 32% extremely important).
- Improving national security also rates highly (70% important, 32% extremely important).
We've seen time and time again that those outside of Washington would like our budget problems to be resolved, but in the nation's capital, progress has proceeded much more slowly. Hopefully, lawmakers will be able to put aside their differences and find a compromise that can put the nation's budget on a sustainable path.
Click here for the full results and more on the methodology.
With the chained CPI becoming a frequent topic among commentators, CRFB has put together a great deal of new analysis, which may be helpful in clarifying a number of facts about the measure of inflation.
Recently, the Moment of Truth Project’s Ed Lorenzen testified at the House Ways and Means Subcommittee on Social Security, where he presented the merits of switching to the more accurate measure of inflation. We blogged on the hearing here and his full testimony is also available in writing, but now you can either watch the full hearing or highlights of Lorenzen’s testimony.
We have also updated our one-stop resource page for the chained CPI, which now contains a one-page summary of MOT's "Measuring Up" report, answers to some frequently asked questions about the chained CPI, and a correction of some common myths about the index. As before, it contains some of the most useful CRFB blogs on the chained CPI as well as outside analysis and resources.
CRFB's chained CPI resource page can be found here.
Over the past few years, lawmakers have made the most progress in discretionary spending in the deficit reduction effort. Additional opportunities for finding efficiencies in the discretionary budget exist for defense and nondefense, but right now cuts are being done through sequestration, which imposes blunt, across-the-board reductions instead of targeting areas where resources could be allocated better. Simpson and Bowles seek to improve upon this approach in their new plan as evidenced by their principle, Replace Dumb Cuts with Smart Reforms. In their words:
The mindless, across-the-board cuts from sequestration would reduce the deficit, but represent the wrong approach to budgeting. These cuts should be replaced with targeted reforms that focus on the drivers of the debt while eliminating redundant, wasteful, ineffective, or unwarranted federal spending while preserving high-value investments.
In particular, Simpson and Bowles propose four changes to discretionary budgeting:
- Replace sequestration with tight discretionary caps through 2025 to require real but gradual spending controls.
- Establish a 67-vote point of order to enforce caps so future lawmakers cannot easily reverse the spending controls.
- Cap spending on overseas contingency operations to end the “war gimmick” and prevent policymakers from classifying normal defense spending as war spending
- Stop the abuse of emergency spending by adopting a formal definition of emergency and justifying disaster spending against that definition.
Of most significance, from a fiscal respective, is the replacement of sequestration with more gradual discretionary caps. Specifically, Simpson and Bowles would repeal 70 percent of the sequester cuts for FY2013 and then cap defense and non-defense spending levels through 2025 to grow at the rate of inflation (as measured by chained CPI). Because this change would build off of the levels under sequestration, this change would result in about $220 billion of defense savings and $165 billion of non-defense savings -- $385 billion total. This compares to the $690 billion of direct discretionary savings ($870 billion if levels are extrapolated) from the sequestration.
Source: Bipartisan Path Forward
These caps will not be easy to abide by. Capping spending growth to the rate of inflation will require continuing to identify efficiencies and make tough decisions about what government should and shouldn’t be doing. However, using hard spending constraints to require these changes over time is far superior than allowing an abrupt across-the-board meat axe to cut spending indiscriminately in 2013 and require no efficiencies after 2021.
As we have written before, key elements of the Bipartisan Path Forward focus on reducing the debt as a percentage of GDP over the long term. Bowles and Simpson’s proposal notes that getting to a sustainable and stable level of debt will require lawmakers to make tough decisions, a sentiment that has been echoed by many leading economists including former Fed Chairman Alan Greenspan. But recent debate on Capitol Hill about replacing the sequester – such as Senate Majority Leader Harry Reid’s proposal to use a budget gimmick to eliminate or delay many of the most painful cuts – begs the question: how can a plan make sure that its deficit reduction isn't simply washed away? Bowles and Simpson’s new plan would enforce debt stabilization in several important ways, some of which have been put forward in other budget reform proposals.
Putting Debt on a Downward Path
Beyond 2015, A Bipartisan Path Forward would ensure that Presidential budget requests and congressional budget resolutions put the debt on a stable or declining path as a share of GDP. Likewise, if debt is projected to be growing as a percentage of GDP, Congress and the President would be required to consider legislation to reverse the trend. Legislation to put the debt back on a stable or declining path would be fast-tracked to enable easier enactment. Congress would also be restricted from considering any legislation increasing the deficit if the debt is on an unsustainable path.
Source: CBO, CRFB, MOT
Note: Graph of BPF's debt path shows only "Step 3," Scenario 1. For a fuller discussion of the plan's long-term debt, see here.
Having a 67-Vote "Escape Valve"
The plan would establish a 67-vote point of order for any legislation that would exceed the enacted proposal’s discretionary spending caps, circumvent statutory PAYGO requirements, or delay the tax reform enforcement mechanism. This provision would ensure that there be a very good reason to turn off any of these backstops, accounting for unforeseen economic circumstances while also encouraging Members to stay the course on keeping the debt on a sustainable trajectory.
Indexing Debt Ceiling to GDP
In an effort to avoid the need to regularly vote to raise the debt ceiling, which caused great economic uncertainty in 2011, Bowles and Simpson have proposed indexing the debt limit to GDP growth. That means if the debt does not remain on a stable path as a percentage of GDP -- whether because of an emergency, war, or other reason -- Congress will once again have to raise the debt ceiling.
It is important to note that Simpson and Bowles recommend suspending these enforcement provisions under turbulent or uncertain economic conditions. Congress could exempt certain situations as part of a comprehensive plan, including but not limited to stagnant GDP growth or an unforeseen major economic downturn.
The Bipartisan Path Forward's recommendations are another contribution to a number of other budget process reform proposals. The Peterson-Pew Commission proposed having lawmakers set a longer-term debt target with a glide path to hit it, enforced by across-the-board spending cuts and revenue increases which could not exceed one percent of GDP in any given year. Previous budget proposals from President Obama included a debt failsafe to hit a longer-term debt target enforced by automatic spending and tax expenditure cuts. Both of these proposals have escape valves in case of a recession or other emergency.
Similar to the intent of other budget reform proposals, the Bipartisan Path Forward's reforms will help ensure that a deficit reduction plan sticks, when there will be a lot of pressure for lawmakers to renege.
Erskine Bowles and former Senator Alan Simpson (R-WY), the two former co-chairs of the Fiscal Commission, have spent the last two and a half year talking to American citizens about the need to put our budget on a sustainable path and the recommendations put forward by the Fiscal Commission. But while the political landscape has changed over the last couple years, our debt problem remains far from solved.
In today's Washington Post, Bowles and Simpson offer their take on our fiscal outlook, what progress has been made, and what lawmakers need to do going forward:
Unfortunately, in Washington, the past two years have been defined by fiscal brinksmanship. Policymakers have lurched from crisis to crisis, waiting until the last moment to do the bare minimum to avoid catastrophe without addressing the fundamental drivers of our long-term debt.
To be sure, some progress has been made the past two years. Policymakers have enacted about $2.7 trillion in deficit reduction, primarily through cuts in discretionary spending and higher taxes on wealthy individuals. Yet what we have achieved so far is insufficient. Nothing has been done to make our entitlement programs sustainable for future generations, make our tax code more globally competitive and pro-growth, or put our debt on a downward path. Instead, we have allowed a “sequestration” to mindlessly cut spending across the board — except in those areas that contribute the most to spending growth.
But there are seeds of hope that a bipartisan agreement might be achievable.
Our fiscal problem will not be solved unless Congressional leaders and the President can guide their parties to a principled compromise. Political reality dictates that Democrats and Republicans cannot stick to their preferred positions wholeheartedly. Bowles and Simpson recently released a new plan, "A Bipartisan Path Forward to Securing America's Future," showing where a possible "grand bargain" might lie. Bowles and Simpson break down the details of their plan.
The plan we propose would achieve $2.5 trillion in deficit reduction through 2023, replacing the immediate, mindless cuts of the sequester with smarter, more gradual deficit reduction that would avoid disrupting a fragile economic recovery while putting the debt on a clear downward path relative to the economy over the next 10 years and beyond. Importantly, the plan would achieve this deficit reduction while respecting the principles and priorities of both parties.
Our proposal contains concrete steps to reduce the growth of entitlement programs and make structural changes to federal health programs, such as reforming the health-care delivery system to move away from the fee-for-service model and gradually increasing the eligibility age for Medicare. At the same time, it would provide important protections and benefit enhancements for low-income and vulnerable Americans, such as an income-related Medicare buy-in for seniors affected by the increase in Medicare’s eligibility age and greater protections against catastrophic health-care costs for low-income seniors.
Our proposal recognizes that additional revenue must be part of a comprehensive deficit-reduction plan for both substantive and political reasons. Our plan raises revenue through comprehensive tax reform that lowers rates, improves fairness and promotes more vibrant economic growth.
These structural reforms are accompanied by spending cuts in all parts of the budgets put forward by both parties, including cuts to defense and non-defense programs. The plan also includes a shift to the chained consumer price index to provide more accurate indexation of provisions throughout the budget, with a portion of the savings devoted to benefit enhancements for low-income populations. Together, these policies would put the debt on a downward trajectory as a share of gross domestic product — and would keep it declining for the long term.
The "Bipartisan Path Forward" is not intended to be a replacement for the original Fiscal Commission plan but rather a guide showing where a possible compromise may be if both parties are willing to put aside their sacred cows. Write Bowles and Simpson:
Our proposal is not our ideal plan, and it is certainly not the only plan. It is an effort to show that a deal is possible in which neither side compromises its principles but instead relies on principled compromise. Such a deal would invigorate our economy, demonstrate to the public that Washington can solve problems and leave a better future for our grandchildren.
Click here to read the full op-ed.
"My Views" are works published by members of the Committee for a Responsible Federal Budget, but they do not necessarily reflect the views of all members of the committee.
This week, Senator Tom Harkin (D-IA) introduced a concurring resolution that would establish a sense of Congress that chained CPI should not be used to index cost-of-living adjustments or provisions in the tax code. The Campaign to Fix the Debt responded, saying:
Reaching agreement on a comprehensive debt deal will require consideration of all options and compromises by both sides, and taking proposals off the table makes a deal harder. Chained CPI is a technical change that would help improve the budget situation and strengthen Social Security, and it has the support of President Obama as well as experts across the country. It is irresponsible and counterproductive to take a common sense and bipartisan option off the table.
As we've talked about many times on the blog, there are many merits to switching to the chained CPI, a more accurate measure of inflation. We have also written a paper discussing in full the technical and budgetary merits of the measure. Below, we walk through the entire legislative language and fact check some myths and misperceptions:
"Whereas the Social Security program was established more than 77 years before the date of agreement to this resolution and has provided economic security to generations of Americans through benefits earned based on contributions made over the lifetime of the worker;"
This is true.
"Whereas the Social Security program continues to provide modest benefits, averaging approximately $1,156 per month, to more than 57,000,000 individuals, including 37,000,000 retired workers in March 2013;"
True, although the initial benefit for someone retiring at age 65 this year is $1,493 per month. That will increase to $1,581 by 2020 and $1,804 by 2035 in real terms (2012 dollars). In nominal terms, monthly benefits would be $1,905 and $3,292, respectively.
"Whereas the Social Security program has no borrowing authority, has accumulated assets of $2,700,000,000,000, and, therefore, does not contribute to the Federal budget deficit;"
This is only one way of looking at the program, where the program has dedicated funding and its own trust fund. But this approach also assumes that lawmakers would allow benefits to be cut if funds were exhausted. Another view is that Social Security is part of the federal budget, and outlays in excess of revenue would contribute to the deficit.
"Whereas the Board of Trustees of the Federal Old-Age and Survivors Insurance Trust Fund projects that the Trust Fund can pay full benefits through 2032;"
True, but the Trust Fund will run out in 2033 and beneficiaries will face a 25 percent benefit cut.
"Whereas the Social Security program is designed to ensure that benefits keep pace with inflation through cost-of-living adjustments (referred to in this preamble as ‘‘COLAs’’) that are based upon the measured changes in prices of goods and services purchased by consumers that is currently published by the Bureau of Labor Statistics as the Consumer Price Index for Urban Wage Earners and Clerical Workers (CPI–W);
Whereas the Bureau of Labor Statistics publishes a supplemental measure of inflation, the Chained Consumer Price Index for all Urban Consumers (C–CPI–U), or ‘‘Chained CPI’’, which adjusts for projected changes in consumer behavior resulting from price fluctuations known as the ‘‘substitution effect’’;
Whereas the substitution effect occurs when consumers buy more goods and services with prices that are rising slower than average and fewer goods and services with prices that are rising faster than average;"
True, the incorporation of substitution effect is the primary reason why the chained CPI would be a more accurate measure of inflation.
Whereas studies indicate that typical Social Security beneficiaries spend a significantly higher percentage of their budget than other consumers on health care, health care prices have increased at higher than average rates, and consumers, including seniors, may not be able to substitute health care easily;
While it is true that seniors spend more on health care, there is no evidence they have different substitution habits overall, and there is little evidence they experience higher inflation. As the CBO explains "It is unclear, however, whether the cost of living actually grows at a faster rate for the elderly than for younger people, despite the fact that changes in health care prices play a disproportionate role in their cost of living."
Whereas the current COLAs, based on the CPI-W, fail to reflect that Social Security beneficiaries spend more of their income proportionally on expenses such as health care as compared to a regular wage earner, and therefore underestimate increases in the cost of living of Social Security beneficiaries;
This is uncertain. In a recent CBO analysis of the CPI-E, CBO pointed out that many analysts believed that the Bureau of Labor Statistics (BLS) may underestimate the improvement in quality of care and therefore overstated the price increase of health care. Even putting that point aside, setting the precedent of having population-specific price indices for programs is problematic, especially since many Social Security beneficiaries are not elderly and variations by criteria such as geography are much larger than those by age.
Whereas reductions in Social Security benefits from using the Chained CPI to calculate Social Security COLAs would continue to compound over time, and the AARP Public Policy Institute estimates that the reductions would grow to 3 percent after 10 years and 8.5 percent after 30 years;
Whereas Social Security Works estimates that using the Chained CPI to calculate Social Security COLAs would reduce annual Social Security benefits of the average earner by $658 at age 75, $1,147 at age 85, and $1,622 at age 95;
Actually, according to an analysis by the Center on Budget and Policy Priorities, the President’s chained CPI proposal would only change current law benefits by an average of 1 to 2 percent. And as we show, benefits for an 85 year old 20 years from now will actually be 25 percent higher than current law allows and 8 percent higher in real terms than today’s 85 year olds. We write more about this here.
Whereas reductions in Social Security benefits would harm some of the most vulnerable populations in the United States;
Using the wrong measure of inflation represents an expensive and poorly-targeted way to offer relief to the most vulnerable. Both the President’s budget and "A Bipartisan Path Forward" instead propose targeted benefit enhancements. The White House proposal was found to reduce projected poverty for elderly seniors.
Whereas adopting the Chained CPI would cause tax brackets and the standard deduction to rise more slowly, disproportionately raising the tax burden on low- and middle-income taxpayers;
"Disproportionately" is a stretch. Analysis from the Tax Policy Center has shown that the chained CPI would be a roughly distributionally neutral tax change, including a very small change for the very poorest. Even so, any undesired revenue increase for low- or middle-income taxpayers could be dealt with in the context of comprehensive reform. For example, the Simpson-Bowles illustrative tax plan included both the chained CPI and a gas tax increase and still cut taxes slightly for the bottom quintile.
Whereas the Department of Veterans Affairs provides more than 3,200,000 veterans with disability compensation benefits as a result of injuries or illnesses sustained during, or as a result of, military service;
Whereas Social Security Works estimates that using the Chained CPI to calculate veterans disability COLAs would reduce benefits for 100 percent-disabled veterans who started receiving benefits at age 30 by $1,425 at age 45, $2,341 at age 55, and $3,231 at age 65; and
Whereas adopting the Chained CPI would also cut the benefits of more than 350,000 surviving spouses and children who have lost a loved one in battle by cutting Dependency Indemnity Compensation benefits that average less than $17,000 per year:
Benefits would grow more slowly than scheduled, but at the more accurately measured rate of inflation, which reflects the intent of cost-of-living adjustments in these programs. If benefits are considered to be too low for certain populations after switching to the new index, adjustments could be made to compensate, rather than continuing to use an inaccurate measure of inflation for indexing purposes.
Click here to read some common myths about the chained CPI.
Among the principles outlined by former Fiscal Commission co-chairs Senator Al Simpson and Erskine Bowles in their new plan A Bipartisan Path Forward is that a reasonable debt reduction plan must protect the disadvantaged. They argue that while additional spending cuts and reforms of entitlement programs will be necessary as part of a plan to put the budget on a fiscally sustainable course, low income programs should not harmed and entitlement reforms should include protections for vulnerable populations who rely on those programs most.
We must ensure that our nation has a robust, affordable, fair, and sustainable safety net. Benefits should be focused on those who need them the most, and low-income programs should not be cut simply for the sake of deficit reduction. Broad-based entitlement reforms should either include protections for vulnerable populations or be coupled with changes designed to strengthen the safety net for those who rely on it the most.
Importantly, the specific policies in their plan demonstrate that it is possible to meet the principle of protecting low-income and vulnerable populations in developing a comprehensive deficit reduction plan. The plan protects low-income programs by including a number of targeted benefit enhancements and low-income protections to accompany the entitlement reforms in the plan while still improving the solvency of Medicare and Social Security and achieving significant deficit reduction.
- Sequester repeal: The plan repeals most of the sequester, which calls for across-the-board cuts in discretionary spending, which disproportionately affects programs in housing, education, child care, nutrition, and energy assistance. Instead, it has discretionary spending caps which allow appropriators to target cuts where they deem most appropriate.
- Means-tested programs and UI benefits untouched: The plan does not make any direct changes to means-tested programs like Supplemental Security Income, food stamps (SNAP), and cash welfare (TANF). In addition, unemployment insurance is left untouched. The only changes are anti-fraud measures and the chained CPI switch, both of which reflect the intentions of current law rather than a new policy.
- Medicaid benefits untouched: A Bipartisan Path Forward leaves Medicaid alone for the most part. One exception is a change that phases out the gimmick of states taxing medical providers to pay for Medicaid expansions, which then leads to higher federal government spending.
- Benefit enhancements for the chained CPI: To protect vulnerable populations who would be affected by the chained CPI switch, the plan would provide a flat dollar benefit bump-up to those receiving Social Security, Supplemental Security Income (SSI), and veterans benefits and have been in these programs for 20 years. Within the SSI program, they propose indexing the $20 income disregard and asset limits to inflation measured by the chained CPI.
- Income-related catastrophic protections: The Medicare cost-sharing proposal provides for the first time an income-related out-of-pocket maximum, thus concretely limiting beneficiaries' potential exposure to health care cost-sharing. In addition, the cost-sharing reforms include an income-related deductible, lowering the deductible for lower-income seniors. While the exact level of out-of-pocket caps and reduced deductibles of the proposal would need to be fleshed out to hit the savings target, the plan would seek to hold average out-of-pocket costs constant from year to year and would likely reduce out-of-pocket costs for the poorest and sickest seniors and offer much greater protection from financial risk.
- Medicare buy-in with income-related premiums: The plan's gradual raising of the Medicare eligibility age is combined with a Medicare buy-in to ensure that low and moderate income seniors affected by the increase in Medicare eligibility age have access to affordable health insurance through Medicare. As we discussed on Tuesday, Simpson and Bowles would offer seniors affected by the age increase the option to buy into Medicare with an income-related premium. The biggest assistance would be for those below 100 percent of poverty who would receive a full subsidy for their Medicare premium. Seniors between 100 and 400 percent of poverty would pay an income-related premium similar to the way the subsidies work in the Affordable Care Act’s health insurance exchanges.
- Strengthening Pell Grants: A Bipartisan Path Forward eliminates the Pell Grant funding shortfall through savings from reforms of provisions that do not target education resources nearly as well. Without new funding to fix the shortfall, Congress would be forced to either reduce the Pell grant award amount and eligibility for assistance or cut other discretionary programs more deeply to cover the shortfall in future appropriations bills.
- Progressive tax reform: The proposal calls for tax reform that makes the code at least as, if not more, progressive. The original Simpson-Bowles Illustrative plan, which is one of the models the proposal cites, included a small tax cut for the bottom quintile.
- Social Security protections: The original Simpson-Bowles plan would have increased benefits for low-income workers and reduced poverty among seniors by making the benefit formula more progressive, including a hardship exemption from their proposal to index the retirement age to longevity, establishing a new minimum benefit of 125 percent of poverty for those with 25 years of work, and establishing a flat dollar bump up for beneficiaries who have received benefits for twenty years and are at greater risk of poverty. Simpson and Bowles now recommend further strengthening the Commission’s low-income protections to eliminate any benefit reduction in the bottom quintile by increasing the bottom replacement factor from 90 percent to 95 percent and phasing up the minimum benefit faster for those with less work history.
- Fixing the fiscal situation: The Bipartisan Path Forward puts the debt on a sustainable path over the medium and long term, thus precluding the possibility of a debt crisis. Such a debt crisis would likely involve severe and immediate cuts, and low-income programs would likely have to be a part of those cuts. Making targeted changes that protect the most vulnerable while putting the debt on a downward path avoids this possibility.
As the reforms in their plan show, Simpson and Bowles follow the principle of protecting the disadvantaged by including numerous protections for low-income individuals who depend the most on certain entitlement programs. Any responsible plan for deficit reduction must include significant spending cuts and reforms to control the growth of entitlement programs. Simpson and Bowles have made a valuable contribution to the debate by demonstrating that it is possible to slow the growth of entitlement programs through smart, targeted reforms that preserve the safety net and protect low-income individuals and other vulnerable beneficiaries.
Putting debt on a sustainable path has been a key issue in Washington ever since the Fiscal Commission showed that a bold compromise would be needed to secure the nation's future prosperity. And while the previous 112th Congress made some progress by enacting $2.7 trillion in savings, much of it was low hanging fruit in the budget and did not get us all the way towards a sustainable fiscal future. The truly tough choices will need to be made by this Congress.
Today, CRFB President Maya MacGuineas writes in The Hill that the legacy of President Obama's second term might be defined on how he handles the budget debate. In the first year of his second term, the President has already made some progress in showing that Washington is serious about the issue, but it is only a start. Argues MacGuineas:
So how is he doing in the first 100 days on this front? He is off to a good start, and it is certainly a lot better than he did in his last four years.
The budget President Obama offered was more serious than many of his other recent proposals. By including the chained CPI — a technical improvement to how we measure inflation that would help to extend the life of Social Security and increase revenue for the federal government — he sent a real signal that he is willing to discuss the kinds of more serious entitlement reforms that will have to be part of any deal.
And his so-called “charm offensive” seems to be going well. It is nothing short of absurd how little the president has interacted with members of Congress — including those from his own party — on these issues in the past. And the dinner series he initiated seems to be helping to start a real discussion. It’s hard to solve problems when no one is even talking.
But the real question is where this goes in the next 100 days. There isn’t much time; we need to get a deal hammered out before the country hits the debt ceiling late this summer or early fall.
But history will remember actions, not just intent. We are going to need to enact additional savings, likely close to the $2.4 trillion that would be required to put debt on a downward path, in order to get our fiscal house in order. That will be much more difficult. Writes MacGuineas:
Next up: the tough stuff.
All told, we have achieved about half of the savings we need to reach a minimum target. Now in the next tranche, we have to tackle the much harder parts: entitlement and tax reform. The good news is that the tax committees are making impressive progress on moving forward with tax reform, which would broaden the base; lower rates; simplify the system; make it far more equitable and competitive; and raise revenue for the federal government in a much better way.
Where the president is going to have to really use his leadership is to help make the case for entitlement reform and why we have to make the needed changes to control healthcare costs and adjust the nation’s retirement system for growing life expectancies. He should make the case to Democrats on why they should prefer Social Security and Medicare reform under his presidency, and he needs to make the case to the nation as a whole about why putting a fiscal deal in place is so important and how the economic recovery will not take off without one.
President Obama made a small down payment on his legacy in his first 100 days. Now he must invest a lot more political capital to make sure it pays off.
Click here to read the full op-ed.
"My Views" are works published by members of the Committee for a Responsible Federal Budget, but they do not necessarily reflect the views of all members of the committee.
Making the Call – The NFL Draft kicks off Thursday. Unlike previous drafts, there is much uncertainty as to who will go where. Washington is in a similar situation where it is unclear what direction policymakers will take. There’s no clear # 1 pick – immigration, terrorism, economy, budget, tax reform are all vying for the top spot on the agenda. Who will get the call next?
Sequestration Rises Up the List – It didn’t make a good impression at the combine when it officially took effect on March 1 without much noticeable effect and most businesses reported that it had minimal impact so far, but the across-the-board spending cuts of sequestration have been getting a second look this week as furloughs of some federal employees have begun. Namely, furloughs of air traffic controllers have been blamed for airline delays around the country, prompting policymakers to revive efforts to improve or eliminate it. Of course, there is still not much agreement on how to do so as senators blocked competing bills this week. Republicans were unable to move a bill that would grant President Obama more flexibility in how the cuts are made while Senate Majority Leader Harry Reid (D-NV) failed to advance his bill to replace sequestration and pay for it with savings from the drawdown of U.S. military operations in Afghanistan. The war savings offset is a gimmick since the drawdown is already scheduled to occur. CRFB spoke out against using this gimmick in a statement, “We should certainly replace the mindless, across-the-board cuts in the sequester -- but with an intelligent deficit reduction plan, not phantom savings from a drawdown that is already taking place.” President Obama said he supports the Reid approach as a temporary measure to buy time to find agreement on a more balanced package to replace sequestration. The sequester should be replaced by a comprehensive approach that deals with all parts of the budget and is phased in over time as to not disrupt the economic recovery. Learn more on our Sequestration Resource Page.
Simpson and Bowles Redraft – Fiscal Commission co-chairs Alan Simpson and Erskine Bowles last week offered up an example of the type of approach that is needed to replace sequestration. They released a detailed version of the framework they offered earlier this year, “A Bipartisan Path Forward to Securing America’s Future,” that would save $2.5 trillion over the next decade by tapping all areas of the budget including entitlements and tax reform. In the preamble, Simpson and Bowles say of sequestration, “We believe there is a better way, and we believe it is politically possible to get there.” The plan draws on areas that can achieve bipartisan support and is designed to protect the most vulnerable and to promote long-term growth while not derailing the short-term recovery. See our analysis of the plan, a summary of the plan and the full report.
Budget on the Clock – The House and Senate passed vastly different budgets for the next fiscal year that will be difficult to reconcile, but the process has not formally begun yet as lawmakers bicker. Sen. Reid tried to force the issue this week by naming members to the conference committee to reconcile the two bills, but Republicans in the Senate blocked his effort. They want to set some ground rules in advance before the conference committee starts its work. The budget conference process could be the vehicle for negotiations on a larger deficit reduction plan and if the House and Senate can agree on a budget/deficit reduction plan House Republicans are said to be considering using the budget reconciliation rules to pass a debt ceiling increase that can’t be filibustered. Moving forward with the budget process could pave the way to a deal that reins in the national debt.
Building a Deficit Deal Team – In addition the budget process, efforts to advance a bipartisan deficit deal are proceeding on multiple fronts. President Obama continued his outreach to lawmakers with a dinner with the 20 women in the Senate where he encouraged them to be active in the deficit discussion. Meanwhile, the White House is trying to recruit Republican senators who could work on a “grand bargain” addressing the debt. As a part of the effort, top Obama Administration officials met with some GOP senators on Thursday.
Tax Reform Stock Rises – Senate Finance Committee chair Max Baucus (D-MT) announcing his retirement this week could mean a boost for efforts to fundamentally reform the tax code as the key player will be unfettered by reelection concerns and will be seeking a legacy. Meanwhile, Republicans in the House are beginning their tax reform efforts in earnest with meetings to get members of the caucus on board. Reform that deals with tax expenditures is critical to a comprehensive deficit approach and could help facilitate a grand bargain.
Moving the Chained CPI – Some Democrats in Congress continue to push back against switching to a more accurate measure of inflation known as chained CPI as proposed in President Obama’s budget. This week Sens. Bernie Sanders (I-VT) and Tom Harkin (D-IA) introduced a resolution opposing the switch for Social Security and some Democrats in the House voiced opposition in a letter to the White House. CRFB’s Maya MacGuineas argued that “It is irresponsible and counterproductive to take a common sense and bipartisan option off the table” in a statement. Meanwhile, the Center on Budget and Policy Priorities analyzed the President’s chained CPI proposal and the Congressional Budget Office found that another inflation index supported by some needs more work. The pressure to take a modest, technical fix off the table without considering its merits illustrates why it is so difficult to address the mounting national debt. To learn more about the topic, check out our Chained CPI Resource Page and watch this video.
OMB Drafts New Director – Sylvia Mathews Burwell was confirmed by the Senate this week to be the new director of the Office of Management and Budget (OMB). She takes over at a critical time and will be a key part of negotiations over the federal budget and reducing the deficit.
Debt Limit Declares – Not to be left out, the debt ceiling is jumping back on the agenda. The House Ways and Means Committee approved of a bill supported by Republican leaders that would direct the Department of the Treasury to prioritize making payments to service the debt and Social Security benefits in the case the statutory debt limit is reached. The legislation is intended to prevent a U.S. default in case the debt ceiling is not raised when it is reached, which is expected this summer. The bill is a part of the Republican positioning ahead of an expected fight over raising the limit. Republicans plan to seek spending cuts at least equal to any debt limit increase. The best scenario is for policymakers to agree on a comprehensive debt plan well ahead of reaching the debt ceiling to avoid the costly brinksmanship of the last debt showdown.
Key Upcoming Dates (all times are ET)
- Bureau of Economic Analysis releases advance estimate of 2013 1st quarter GDP.
- Dept. of Labor's Bureau of Labor Statistics releases April 2013 employment data.
- Dept. of Labor's Bureau of Labor Statistics releases April 2013 Consumer Price Index data.
- The debt limit is re-instated at an increased amount to account for debt issued between the signing of the suspension bill and this date. After re-instatement, the Treasury Department will be able to use "extraordinary measures" to put off the date the government hits the debt limit potentially for a few months.
- Bureau of Economic Analysis releases second estimate of 2013 1st quarter GDP.
With news yesterday that the Senate might consider a bill to replace the sequester for 2013 with a drawdown of war spending, CRFB reacted in a press release, decrying the gimmick for what it is. The bill would specifically put caps on war spending for FY 2014 through 2016 at the levels called for the President's budget -- drawing down war funding from $97 billion this year to $37 billion in FY 2016. Since these caps would only codify existing plans to draw down the wars, they would not represent new deficit reduction. Claiming that they would generate new savings would be incorrect.
Compared to current law, it would "save" about $145 billion in budget authority in those three years. Compared to the CBO drawdown scenario, it would be budget-neutral over those three years, with a slower drawdown in the first year but a more rapid drawdown in the next two years.
This bill is not only concerning because it's a gimmick, but it would replace a policy meant to prompt real savings (i.e. the sequester) with phantom savings. The sequester was meant to be an action-forcing mechanism for policymakers to enact real deficit reduction. If policymakers are only willing to replace the sequester with fake savings, they should simply leave it in place. As CRFB president Maya MacGuineas said yesterday:
The purpose of the sequester was for lawmakers to force themselves to agree on deficit reduction, and replacing it with these phony savings would undermine their credibility...Instead of expending energy trying to game the system, Members of Congress and the White House should continue the productive discussions that have started recently about how to come together on a larger package to put the debt on a downward path.
Recent reports from Capitol Hill show momentum for tax reform is building. Both the House Ways and Means and Senate Finance Committees have been compiling options and draft reports on different aspects of tax reform, demonstrating a commitment from both tax-writing committees to examine the tax code. With the possibility of a conference committee for the budget resolutions that passed each chamber earlier this session, tax reform may be critical to a budget agreement.
With that in mind, we continue our series on A Bipartisan Path Forward by turning to the tax side of the budget to discuss the reforms proposed in Simpson and Bowles's new plan. Overall, they propose $740 billion in revenue over ten years, with $585 billion from tax reform. So how do they do it?
The plan would advance comprehensive tax reform that lower rates and broadens the tax base to raise revenue. It specifically mentions five parameters for reform:
- Lower rates, broaden the base, and reduce deficits.
- Start from zero, a tax system with no tax expenditures, and raise rates accordingly when tax expenditures are added back in.
- Maintain or increase progressivity of the tax code.
- Move to a territorial tax system.
- Promote economic growth and competitiveness.
Many of these points are familiar ones from the original Simpson-Bowles plan. In order to hit its revenue target, the plan started with a clean slate of zero tax expenditures, three tax rates of 8, 14, and 23 percent, a repeal of the Alternative Minimum Tax, and a corporate rate of 26 percent (see what it would take to get to a 26 percent corporate rate with our tax calculator). The Illustrative Plan in the original Simpson-Bowles then added back preferences like the Earned Income Tax Credit and child tax credit, while retaining the employer health insurance exclusion, mortgage interest deduction, charitable deduction, and retirement savings preferences in more limited forms. It raised the individual rates to 12, 22, and 28 percent and the corporate rate to 28 percent to compensate. Due to changes in the tax code, economic forecasts, and revenue targets since the original Simpson-Bowles plan came out, a plan modeled on the Illustrative Plan would differ somewhat from the one described above.
To enforce the revenue targets in case tax reform does not come to fruition and to incent lawmakers to take up reform, the plan calls for an enforcement mechanism to raise the $585 billion of revenue. One approach the report cites is to have a broad limitation on tax expenditures. It estimates that a rate limit (similar to one in the President's budget) of 27 percent applied to all itemized deductions, certain above-the-line deductions, the standard deduction, the health insurance exclusion, the foreign income exclusion, and the municipal bond exclusion would roughly raise the revenue targeted. An alternate failsafe which would more closely mimic actual tax reform would have a different limit on tax expenditures, such as the Feldstein-Feenberg-MacGuineas cap, that raised more revenue, with half the revenue used to hit the revenue target and the other half applied to rate reduction. This is very similar to a tax reform failsafe proposed by Washington Post columnist Charles Krauthammer, using the logic of a "50 percent solution" that splits the difference between revenue-neutral 1986-style reform and the President's reforms that would go solely to deficit reduction. Certainly, lawmakers could make individual changes in the tax code in addition to the mechanisms mentioned in the report.
Tax reform may be the key to getting bipartisan agreement on a budget deal, and "A Bipartisan Path Forward," like the original Simpson-Bowles plan, presents a bold, pro-growth approach to accomplishing it.
Continuing our analysis of the President's FY 2014 budget proposal, we turn to how the President's budget would affect long-term revenues and spending. As we said last Monday after looking at the GAO's long-term projections of debt and deficits, our debt problem looks much more daunting when projecting beyond the standard ten-year window. With that in mind, it is useful to look at OMB's 75-year projections of the President's Budget.
OMB publishes these long-term projections for the President's budget in the "Supplemental Materials" section, showing the outlook for spending, revenue, deficits, and debt under many different assumptions, including future policy actions, health care cost growth, and economic and demographic trends.
OMB produces two main long-term outlooks, an optimistic "base case" and a pessimistic "alternative scenario," to illustrate a possible range of what debt, deficits, revenue and spending could be under the President's budget. A big difference between the two scenarios is how they treat the growth of revenues over the long term. Under the base case scenario, revenues would rise gradually from 20 percent of GDP by 2023 to 23 percent of GDP by 2075. Under the alternative projection, revenues would actually fall briefly to 19.8 percent for a number of years before gradually rising to a 20.6 percent by 2075. Revenues rise much more slowly under this scenario because OMB assumes that policymakers will continually adjust tax brackets to ensure that real income growth doesn't push taxpayers into higher tax brackets (so-called "bracket creep").
Another primary difference between the two projections is how they treat the growth of discretionary spending. Under the baseline projection, discretionary spending grows at inflation plus population growth over the long term, resulting in its constant decline as a share of GDP, while the alternative projection grows this category at the rate of GDP growth. The base case assumption has a significant effect, as total outlays under the baseline projection fall from 21.7 percent of GDP in 2023 to 18.1 percent by 2075. While the U.S. in the past has had times with such low levels of spending, health care and Social Security spending is projected to keep increasing under the President's budget. The dramatic fall off is in other mandatory and discretionary spending, from 11.6 percent of GDP in 2012 to 8 percent of GDP in 2023, and continuing downward to 4.6 percent in 2075. Under the alternative projection, outlays rise after 2023 from 21.7 percent of GDP to 25.5 percent by 2075, with discretionary spending holding steady as a percent of GDP after 2023.
While the actual debt path under the President's budget would likely lie in between these two projections, the alternative projection appears to be the more realistic of the two. Under the base case projection of the President's budget, debt would remain above 70 percent of GDP until 2049, when it would begin to fall rapidly. The debt would be completely paid off by 2075. Under the alternative projection, debt would fall from a high of 78.2 percent of GDP in 2015 to 72.5 percent in 2025 before resuming an upward path to greater than 120 percent by 2075.
Of course, there is another major debate related to budget projections that we have touched on before: how fast health care spending will grow over the long term. Recent health care cost growth rates have been low, but many authorities including CBO assume growth rates will return to historical trends (in CBO's case, the trend of the previous 20 years). Furthermore, a recent study indicates that more than three-quarters of the slowdown is due to cyclical economic factors which we would expect to go away at some point. In short, there are reasons to think that health care spending growth will pick up at least somewhat from its lower rate in the past few years.
OMB produces projections from Medicare and Medicaid under different health care cost growth assumptions than CBO, using a health care cost growth rate of GDP plus one percent before curtailing it to be GDP growth after 2030 or so. However, projections using the CRFB Realistic baseline's growth rate for health care are greater than even OMB's pessimistic case. If CRFB Realistic projections turn out to be more accurate, the result would be much higher health care spending and, consequently, higher debt levels.
Source: OMB, CRFB Calculations
Long-term projections are subject to a large degree of uncertainty, but given the size and importance of the long-term problem, it is useful to look at these estimates as a rough benchmark of where we are heading. Under many assumptions, the President's budget will likely have to do more to put debt on a downward path as a share of the economy over the long term. Even with the uncertainty in these forecasts, it is better to err on the side of caution. It is politically much easier to adjust if deficit reduction proves to be "too much" compared with deficit reduction not going far enough.
Some commentators have criticized deficit reduction plans like "A Bipartisan Path Forward" for, in their opinion, promoting austerity at a time when we should be promoting economic recovery. Missing from their analysis is that many deficit reduction plans -- the recent one by Erskine Bowles and Al Simpson included -- would actually reduce short-term austerity when the economy is weak and implement the vast majority of its deficit reduction in later years when the economy is stronger.
Indeed, just behind putting the debt on a downward path, the second principle put forward by Erskine Bowles and Al Simpson is to "Promote, Don't Disrupt, Economic Growth." They write:
The United States must pursue a growth agenda. As the economy recovers, one of the best ways to promote economic growth is to bring our debt under control to encourage private investment and mitigate the risk of a fiscal crisis. However, sharp austerity could have the opposite effect by tempering the still fragile economic recovery. In order to protect the recovery and promote long-term growth, deficit reduction should be phased in gradually and reforms should be designed to strengthen current economic conditions, promote work, encourage innovation, improve productivity, and bolster investment in our future. Encouraging investment also means finding additional savings from wasteful or low-priority spending throughout the budget to make resources available for critical investments in education, high-value research and development, and infrastructure to meet the demands of the future.
And while most of the policies in the plan begin in 2014, they are phased in quite gradually. Of the $2.5 trillion of total deficit reduction, only about 5 percent of it takes place before 2016 when the economy is still expected to be relatively weak. By comparison, a full 20 percent of the sequestration savings occur before 2016. As a result of these differences, the Bipartisan Path Forward actually represents less of a hit on the economy in 2013, 2014, and 2015 -- even as it reduces the deficit by more than twice as much over ten years.
Relative to the Congressional Budget Office current law baseline, the fact that the Simpson-Bowles plan repeals much of the sequester should lead to a larger economy in 2013 and 2014, likely in the range of 0.2 or 0.3 percent. The larger deficit reduction over the decade would lead to additional growth as the economy recovers (with a small possible hit to the economy in the middle of the decade), as would pursuing comprehensive tax reform.
In Appendix E of the report is an attempt to analyze the potential growth effects of the Simpson-Bowles plan and the resulting "fiscal dividend" -- essentially the additional revenue generated by faster economic growth. Whereas the plan would reduce debt levels to 69 percent of GDP under traditional scoring, the report finds that assuming a faster war drawdown and applying some conservative dynamic scoring would result in debt levels falling to 65 percent of GDP.
Source: A Bipartisan Path Forward
How do they reach this result? First, they assume $380 billion less in spending on the wars in Iraq and Afghanistan over the next decade, consistent with the Senate budget resolution, to reduce the debt from 69 percent of GDP to 68 percent of GDP.
Next, they attempt to measure the economic effect of less deficit reduction now and more in the future using CBO's report, Macroeconomic Effects of Alternative Budgetary Paths (we blogged on it earlier this year) which finds a generic $2.3 trillion deficit reduction plan would increase GDP by 0.5 percent and GNP by 0.9 percent by 2023.
Finally, they attempt to estimate the effects of comprehensive tax reform on economic growth. The Joint Committee on Taxation has estimated that the combined effect of generic base-broadening reforms to both the corporate and individual code could increase output by anywhere from 1.2 percent to 2.0 percent in the second five years after enactment. The analysis conservatively assumes a one percent increase in the latter half of the ten-year macrodynamic projection.
These economic adjustments, taken together, would likely increase revenue by about $375 billion and generate another $120 billion of interest savings. Combined with the higher GDP level in the denominator, this would be enough to bring debt levels down to 65 percent of GDP by 2023.
The Bipartisan Path Forward does not endorse this type of dynamic scoring as a normal budget convention -- we've written before about the pros and cons of such an approach -- but that doesn't mean growth effects should be ignored. By replacing the abrupt mindless sequester with more intelligent, gradual, and ultimately larger deficit reduction measures it is possible to improve the short- and long-term economy and in the process further control our mounting debt. While dynamic economic effects are difficult to estimate, these estimates show that the Simpson-Bowles proposal could both promote economic growth and reduce debt even further than advertised.
Last month, we looked at reasons why some projections showing a slowdown health care costs most likely will not pan out. Although the recent slowdown of health care cost growth is a very welcome sign, and one we hope will continue, there are factors that will put upward pressure on costs. Specifically, these include temporary shifts due to changes in the economy, permanent one-time level cuts under the Affordable Care Act, structural growth-rate changes in health care, and an aging population. As we explained, efforts to draw a nominal trend line from currently lower cost growth are misleading by ignoring these factors. A new report by the Kaiser Family Foundation and the Altarum Institute takes a deeper dive into this issue and offers greater insight on what has been causing the slowdown in health spending and whether it will last.
As you may recall, earlier this year the actuaries at CMS released health care cost growth estimates for 2011 – which was 3.9 percent and the third year in a row that health care cost growth has not increased above this level. While CMS will not have estimates for 2012 until next year, the Kaiser-Altarum study finds that the slowdown largely continued into 2012, with health spending growing by 4.3 percent – still far below the average 7.8 percent increase in previous decades. The authors also developed a model to determine how the growth in national health spending varies due to macroeconomic indicators. They found that based on patterns of real GDP changes and inflation, about 77 percent of the recent decline in health spending growth can be explained by changes in the broader economy. Additionally, according to their model, health spending not only responds to changes in the economy, but does so gradually and cumulatively:
For example, a 1% change in real GDP ultimately a produces a 1.49% change in health spending. The effect is greater than 1.0 because health spending over time grows faster than the economy as a whole, leading to a greater share of GDP devoted to health.
As a result, the Kaiser-Altarum study concludes what we warned of previously, that much of the decline in health spending has been due to the downturn in the economy and therefore is unlikely to last as the economy recovers.
Another contributing factor is excess cost growth, or how much faster health spending grows relative to the economy. For the most part, excess cost growth has been low over the last two decades since the emergence of managed care, but did spike in the early 2000s due to a backlash against managed care and hospital consolidation. While excess cost growth has since gone back down, the study shows that even if future excess growth is 1.6 percentage points annually – the average for the last 20 years – then health spending growth would still rise to over 7 percent around 2020.
The study is helpful to underscore that although there’s a lot of uncertainty over future health spending growth, certain pieces of the puzzle are clear. Even with no change to excess cost growth, the economy’s growth will gradually add 3.5 percentage points to the annual growth rate by 2019. As the study explains:
History suggests that previous efforts to control health care costs have had only a temporary effect, and there are initial signs that the recent slowdown (independent of the effects of the economy) is beginning to wane.
So, what does this mean for efforts to reduce federal health spending? As health care cost growth is likely to rise again over the next decade, lawmakers should continue to work towards enacting reforms that will apply downward pressure on cost growth and help to reduce federal health spending. The study finds that lowering the growth rate of national health spending by one percentage point on average over the next decade means that total health spending would be almost half a trillion dollars lower than expected 10 years from now -- resulting in sizable savings to the federal share of total health spending.
Still, more must be done beyond controlling for cost growth, as CBO and others have pointed to population aging as a major driver of health spending in the next few decades. There is no shortage of options available for lawmakers to choose from to reform health care spending, as we highlighted in our Health Care and Revenue Options report. Last week, the Simpson-Bowles Bipartisan Path Forward offered one example of a comprehensive approach to tackling health spending, doing so with delivery system reforms and cost-sharing reforms backed up by a cap on the federal budgetary commitment to health care to help slow future cost growth, but also recommending structural reforms in federal health programs to address the aging population.
Only by addressing both the issues of aging and cost growth will lawmakers be able to put health care spending on a sustainable path in the long term. And currently low cost growth estimates should not lead to complacency with the status quo and be a distraction for the important work at hand.
Previously on The Bottom Line, we have shown how the chained CPI could be a 6 percent benefit cut or a 25 percent benefit increase, depending on how you measure it, and we have looked at the low-income and old-age protections in the President's budget.
The Center on Budget and Policy Priorities today analyzed the effects of the President's chained CPI proposal on Social Security benefits in particular, finding that the average benefit cut relative to current law would be one percent. For old-age beneficiaries , the President's budget would have a bump-up in benefits for people reaching age 76 equal to 5 percent of the average benefit, phased in over ten years, with a second bump-up at age 95.
CBPP summarizes their findings as follows:
- Future beneficiaries receiving an average benefit would experience a benefit reduction averaging 1 percent to 2 percent over the course of their retirement. The benefit reduction would average 1.1 percent if they draw benefits through age 71, 1.8 percent if they draw benefits through age 81 (which is more common), and 1.6 percent if they draw benefits through age 91.
- For future beneficiaries receiving smaller-than-average benefits, the reduction would be smaller, likely in the 0.5 percent to 1.5 percent range — except for beneficiaries poor enough to qualify also for Supplemental Security Income (SSI), who would be held harmless.
- For future beneficiaries receiving higher-than-average benefits, the reduction would be larger, averaging 2 percent or slightly more.
One clear takeaway is that having an old-age benefit bump-up combined with the chained CPI makes the change progressive overall, blunting the impact much more for lower-income beneficiaries (or at least those that receive smaller benefits). CBPP explains why:
The special benefit increase (or "bump") would provide more help to seniors and people with disabilities who receive smaller-than-average Social Security benefits. All eligible retirees and disability beneficiaries would receive the same basic dollar increase, so those with smaller benefits would receive a larger percentage increase.
In addition, since the proposal calls for the chained CPI to take effect in 2015 and the 5-percent benefit adjustment to begin to take effect in 2020 (and to be phased in through 2029), people who are 69 or older today would begin to receive the 5-percent benefit increase after being subject to the chained CPI for only five years.
The graph below from CBPP's analysis makes this point clear. For an illustrative low-wage retiree, benefits are equal to or higher than current law from about age 80 on. An average retiree would have their benefits return close to current law levels after the first bump-up fully phases in. The bump-up, though, would make less of a difference for the high-wage retiree.
Note that this analysis assumes that the low-wage retiree is not on Supplemental Security Income (SSI), which the President exempts from the chained CPI. As a result, those on SSI would face no benefit change since their benefit change in Social Security would be fully offset by SSI.
CBPP's analysis shows that adjustments like the old-age benefit bump-up are a much more targeted way to protect vulnerable beneficiaries than to continue overstating inflation for all beneficiaries.
In an effort to bridge differences in long-term structural reforms to federal health spending, former Fiscal Commission co-chairs Senator Al Simpson and Erskine Bowles have proposed a new spin to a familiar policy. In their plan, "A Bipartisan Path Forward", Simpson and Bowles recommend raising the Medicare eligibility age, but doing so with a buy-in option with income-related premiums for those seniors affected by the change -- an idea that is generating a lot of interest recently.
Specifically, Simpson and Bowles recommend raising the Medicare age by one month per year beginning in 2017 until it reaches age 66, and then by two months per year until it reaches the Social Security normal retirement age where it would then be pegged to the Social Security age. They aim to address the main concerns of raising the eligibility age -- higher overall national health expenditures, higher costs for some seniors, increased uninsurance rates -- with a buy-in. As a result, the savings from this option are less than other proposals to simply raise the age, but would still be roughly $35 billion from 2017 to 2023 and much greater in subsequent decades.
Under their plan, Medicare would be available to everyone between age 65 and the new eligibility age, who could buy it at its full value for the relevant population plus a small administrative fee. For those seniors below 100 percent of poverty, the government would cover 100 percent of their costs. Seniors between 100 and 400 percent of poverty would pay income-related premiums similar to what they would be paying in the health insurance exchanges under the Affordable Care Act. And for those above 400 percent of poverty, the effective federal subsidy would taper off. As a result, their plan to raise the Medicare age would be highly progressive and would likely reduce the out-of-pocket costs for the majority of those making below 300 percent of poverty. By keeping Medicare in place for 65- and 66-year olds, it would also avoid most of the potential increase in national health expenditures from having those seniors go on private insurance.
The chart below gives you an idea of how many 65- and 66-year olds would fall into each income category.
This approach holds great potential for building consensus between lawmakers who want to address the issue of population aging in the Medicare program and those who are concerned about the impact such a change would have on low- and middle-income seniors. However, there is more than one way this policy can be implemented. We shared a few of these options in our Health Care and Revenue Savings Options report. We also discussed the Urban Institute’s proposal for a Medicare buy-in before, which is very similar to the Simpson-Bowles recommendation. In addition to their recommendation, Simpson and Bowles explain an alternative approach lawmakers could take:
Rather than requiring beneficiaries to pay 100 percent of their Medicare costs (pre-subsidy) before the new Medicare age, an alternative approach would be to allow individuals to begin benefiting from Medicare as early as age 65 with an actuarially-increased premium for their 65th and future years, which would be similar in approach to actuarial reductions for those who collect Social Security prior to the full retirement age. In this case, low-income subsidies could be offered on a sliding scale to avoid unaffordable premium increases.
With population aging projected to be a major factor in driving future federal health spending and increasing deficits, these options to raise the Medicare age put Medicare spending on a more sustainable path, ensure its future solvency, and include support for low and middle income seniors. Simpson and Bowles offer a unique approach towards achieving this goal and, together with some of their delivery system and payment reforms that seek to bend the health care cost curve, provide the type of comprehensive health care plan lawmakers should be considering.
In their new deficit reduction proposal, A Bipartisan Path Forward, former Fiscal Commission co-chairs former Senator Al Simpson (R-WY) and Erskine Bowles include $585 billion in savings to federal health spending. They also put forward as one of their central principles that policymakers should "bend the health care cost-curve," looking beyond one-time savings and cost-shift to reforms which would fundamentally realign incentives to slow health care cost growth.
To this end, $170 billion of savings in the plan are described as "structural reforms to bend the health care cost curve." Simpson and Bowles assert that by realigning incentives to encourage behavior change, lawmakers can help to bend the health care cost curve and put federal health spending on a more sustainable path. They recommend four categories of reforms to achieve this goal:
1. Delivery system and payment reforms ($60 billion through 2023): Simpson and Bowles propose a number of changes on the provider payment side meant to encourage more efficient delivery of health care. Among those changes include:
– Replacing the Sustainable Growth Rate (SGR) formula with reforms to drive providers away from Medicare fee-for-service (FFS) and towards a payment model that encourages quality and coordinated care while prioritizing primary care and reducing Medicare costs.
– Expanding and increasing current penalties for avoidable hospital readmissions and complications ("never events") -- a proposal similar to one proposed by Community Catalyst.
– Expanding the current competitive bidding program for durable medical equipment (DME) and applying it to lower the cost of more medical devices, laboratory tests, radiologic diagnostic services, and various other commodities -- a proposal similar to one offered by MedPAC, the National Coalition on Health Care, and others.
– Increasing payment bundling where many providers are paid with a fixed amount for a bundle of services as has begun to occur in the Medicare Acute Care Episode (ACE) demonstration -- a proposal similar to those proposed by experts at the Center for American Progress (CAP) and the American Enterprise Institute, as well as more modest bundling policy in the President's FY2014 budget proposal.
– Increasing price and quality transparency such as those proposed by CAP
– Giving CMS and the Independent Payment Advisory Board (IPAB) greater authority to experiment and improve delivery and payment for care.
– Simpson and Bowles also call on lawmakers to consider creating an alternative benefit package that would drive beneficiaries and providers toward higher value, coordinated care. For example, this could be similar to the Commonwealth Fund’s Medicare Essential plan, Michael Chernew and Dana Goldman’s global payment model, or even BPC’s proposed Medicare Networks.
2. Reform Medicare cost-sharing rules ($90 billion through 2023): Another way in which the Simpson-Bowles plan would slow health care cost growth in Medicare is by altering cost-sharing rules for beneficiaries. We’ve talked about the growing consensus around such reforms recently, and their proposal adds yet another approach.
– They recommend building on the original Fiscal Commission proposal that combines cost-sharing provisions of Medicare Part A and B into a simple income-based system of deductibles, co-insurances, and out-of-pocket limits by implementing income-adjusted out-of-pocket maximums and a lower deductible for low-income beneficiaries.
– Their plan would also restrict and discourage the use of supplemental coverage (including Medigap, retiree health plans, FEHBP and TRICARE for Life) from distorting Medicare incentives through first-dollar coverage.
Together, these reforms seek to give beneficiaries more “skin in the game” by using cost-sharing levels to encourage high value services and discourage excessive or low value care. The plan's cost-sharing reforms help to slow cost growth by instituting higher copayments, coinsurance, and first-dollar deductibles. However, it would include some out-of-pocket limits for low-income seniors. The Bipartisan Path Forward highlights a few other variations of these cost-sharing policies that policymakers could use to achieve the same goal, and by doing so, demonstrates the dial-ability of many options that are on the table.
3. Medical Malpractice Reform ($20 billion through 2023): Simpson and Bowles offer $20 billion in savings through several proposals on medical malpractice reform to reduce the cost of defensive medicine. These include instituting a statute of limitations for malpractice claims, sliding-scale limits on lawyer contingency fee, rules to ensure defendants are only responsible for their share of the responsibility for injury, and evidence-based clinical practice guidelines among others.
4. Increase State Flexibility for Reforms: Give states greater flexibility through a new Medicaid waiver program that encourages states to coordinate care, improve quality, and lower costs. For instance, this could target high-cost populations such as dual eligible beneficiaries and advance better coordination between states and the federal government.
Simpson and Bowles project the above policies to save the federal government $170 billion through 2023, but argue that they could save substantially more if they were truly able to "bend the cost curve." To ensure further savings materialize, they propose a cap on the growth of the per beneficiary net federal commitment to health care to growth to GDP after 2018. The cap would be enforced through a combination of an across-the-board increase in Medicare premiums, a reduction in the value of the employer-provided health insurance exclusion, and something called a value-based withhold, under which a percentage of provider payments would be withheld and rewarded to providers only if they meet certain savings and quality targets. This is just one approach towards applying a budget constraint on the federal commitment to health care; however, other deficit reduction plans have included similar caps at varying levels.
As health care spending continues to rise, these reforms make an aggressive effort to bend the health care cost curve downwards. While the savings of some of these reforms may be uncertain, they hold potential to provide structural changes necessary to reign in federal health spending and are backed-up by real enforcement mechanisms. Still, bending the health care cost curve is only one part of putting federal health spending on a more sustainable path. Other reforms will be necessary, particularly to address the aging population which is the primary factor behind rising spending over the next few decades. That's why Simpson and Bowles also include other savings from means testing, a gradual increase in the eligibility age, elimination of overpayments to providers and states, and other Medicare provider reductions. Overall, A Bipartisan Path Forward provides lawmakers with more options that should be considered in this budget debate.
Erskine Bowles and Alan Simpson's new plan, "A Bipartisan Path Forward to Securing America's Future," saves $2.5 trillion to $2.85 trillion over the next decade, exceeding the $2.4 trillion we identified as the minimum savings needed to put the debt on a clear downward path relative to the economy. Importantly, though, policymakers must be looking to put the debt on a clear downward path over the long term, not just temporarily. Fortunately, Simpson and Bowles's new plan succeeds at that goal.
In Appendix G of the report, the Moment of Truth Project staff analyze the effects of the proposal through 2040. They do so both by looking at "Step 3" -- the $2.5 trillion of specific deficit reduction for this decade -- and the additional long-term Social Security, health, and transportation savings in "Step 4." They also evaluate the steps under two different scenarios. In Scenario 1, other mandatory and discretionary spending are assumed to grow with GDP after 2023 (2025 for discretionary), consistent with how CBO extrapolates the long-term. In Scenario 2, other mandatory and discretionary spending are assumed to grow with inflation plus population growth -- a somewhat slower growth rate -- consistent with how OMB extrapolates the impact of the President's budget over the long-term.
As you can see below, the plan puts debt on a downward path over the long term under all sets of assumptions put forward, though at different rates depending on what is assumed about the growth of discretionary and mandatory spending and depending on what policies are incorporated. Importantly, these estimates are quite rough and should be treated as such.
Sources: CBO, CRFB, MOT
In either scenario, the plan succeeds in continuing to put debt on a downward path as a share of the economy. By just taking "Step 3," the debt would fall to 64 percent of GDP by 2030, 61 percent by 2035, and 58 percent by 2040 in Scenario 1. Under this scenario, deficits remain at about two percent or below. Under Scenario 2, whereby discretionary and other mandatory spending grow more slowly, debt would fall to 63 percent in 2030, 55 percent in 2035, and 46 percent in 2040. Under this scenario, the budget would balance by about 2040.
Enacting the "Step 4" from the proposal, which includes measures to make the Highway and Social Security trust funds solvent plus a cap on the growth of the federal government's budgetary commitment to health care, would put additional downward pressure on deficits and debt over the long-term. In Scenario 1, debt would fall to 61 percent of GDP in 2030, 55 percent in 2035, and 50 percent in 2040, while reducing the deficit to one percent by 2040. Under Scenario 2 of estimating the effects of "Step 4," debt would fall to 59 percent of GDP in 2030, 49 percent in 2035, and 38 percent in 2040, while balancing the budget by 2035.
There is some question about whether some long-term assumptions may be reasonable, particularly on revenue. Over the long term, the plan assumes that revenue increases as a share of GDP until it reaches 21 percent, where it is frozen. This treatment is more generous than CBO's Alternative Fiscal Scenario, which freezes revenue after 2022, but it is less generous than either CBO current law or the CRFB Realistic baseline, which assume that revenue continues to grow. One could see arguments either way for why this assumption may be less reasonable than an alternative.
While Bowles and Simpson's new proposal is just one way to go about fixing the budget, it is clear looking at the projections that the plan would put debt on a sustainable path over the next ten years and beyond. Any budget plan that policymakers ultimately support should accomplish that goal.