The Bottom Line
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.
Opponents of the chained CPI often propose an alternative index for cost-of-living adjustments, the experimental CPI for Americans 62 years of age and older (CPI-E), which BLS has developed as a possible measure of inflation for the elderly subgroup. On Friday, CBO examined the CPI-E in a blog post, showing the goals of developing the CPI-E as well as some of the flaws of the measure.
The growth of health care costs has historically outpaced the rate of inflation, though there has been some slowdown in recent years. Seniors spend a much greater proportion of their income on health care, and the CPI-E weights it more heavily, accounting for about half of the 0.2 percent by which the CPI-E has outpaced the CPI-U since its development.
Much of the other half of the difference between CPI-E and CPI-U is due to the larger weighting of housing in the CPI-E. The CPI incorporates an "imputed rent" based on the value of housing. However, given as many seniors have paid off their mortgages, the price of housing may play a smaller role in seniors' cost of living than the measure indicates.
CBO further describes some of the issues with the CPI-E:
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. Determining the impact of rising health care prices on the cost of someone’s standard of living is problematic because it is difficult to measure the prices that individuals actually pay and to accurately account for changes in the quality of health care...Many analysts think that BLS underestimates the rate of improvement in the quality of health care, and some research suggests that such improvement may make the true increase in the price of health care more than 1 percentage point a year smaller, on average, than the increase in that price measured in the CPI. If that is the case, then all versions of the CPI overstate growth in the cost of living, with the overstatement being especially large for the CPI-E because of the large weight on health care in that index.
Switching to the CPI-E by itself would not address two of the problems of the traditional CPI: subsititution bias and small-sample bias. We've covered substitution bias before on The Bottom Line. If the relative prices of two substitutable goods -- say, apples and oranges -- change, consumers are expected to change their buying habits accordingly. The traditional CPI is only able to adjust when the market basket of goods in the CPI is revised, but the chained CPI takes this substitution bias into account and therefore more accurately measures inflation.
The other major flaw of the traditional CPI, small-sample bias, is often ignored but is also relevant. CBO's recent post examining differences between the traditional index and chained index offers a detailed explanation of how the small sample of items used in the calculation of indexes in specific metropolitan areas can upwardly bias the CPI.
BLS creates the item-area indexes using, on average, prices of only about 10 examples of an item. Such a small sample creates a measurable upward bias in those indexes. Because the traditional CPI is calculated as an arithmetic average of those indexes (and the arithmetic average is unbiased), any bias contained in the item-area indexes carries through to the overall CPI.
...The chained CPI-U is also largely free of small-sample bias because of the way in which it is computed. Both the traditional CPI and the chained CPI-U are based on the same item-area indexes, which are calculated using a geometric average. To combine those indexes into an overall estimate of price growth in the United States, however, BLS uses a geometric-average formula for the chained CPI-U, as opposed to an arithmetic average formula for the traditional CPI. The use of a geometric-average formula to combine the item-area indexes effectively makes the number of elements in the geometric average much larger, which essentially eliminates small-sample bias.
Measuring inflation is a difficult task, but the chained CPI is currently the best index available. The CPI-E was designed to measure inflation specifically for seniors, but it still suffers from some technical flaws, and there is still an open question of whether it makes sense to use this index for Social Security, which contain subgroups other than seniors. A better way to deal with any change in benefits is by providing additional protections along with the change, as was done in the President's budget and the recently released "Bipartisan Path Forward." Benefits can be adjusted and protections can be added, and both are better than continuing to use an inaccurate measure of inflation.
Earlier today, Fiscal Commission co-chairs Erskine Bowles and Alan Simpson released a new comprehensive debt reduction plan with $2.5 trillion of savings, entitled "A Bipartisan Path Forward to Securing America's Future." The plan is intended to show lawmakers a possible way to achieve a compromise that can put debt on a sustainable, downward path. From the report:
The plan we have put forward here is not our ideal plan, it is not the perfect plan, and it is certainly not the only plan. It is an effort to show both sides that a deal is possible; a deal where neither side compromises their principles but instead relies on principled compromise.
The plan builds off of the White House and House Republican offers in the fiscal cliff negotiations, but pushes both sides to compromise further to achieve the needed additional deficit reduction. With that in mind, we can compare the Bipartisan Path with other major budget proposals to see how this plan matches up in the budget debate. The following table shows deficit reduction in the new Bipartisan Path plan relative to the CRFB Realistic baseline, compared to the Senate, House, and White House budget proposals (as well as the President's deficit reduction offer alone).
While the President's budget (and President's deficit offer) projections rely on OMB’s economic and technical assumptions, CRFB staff have roughly estimated how the President’s deficit reduction offer and full budget could stack up when incorporating CBO's economic and technical assumptions. That way, we can produce something closer to an apples-to-apples comparison of how the different proposals would impact revenues, spending, and debt as a percentage of GDP.
By finding savings across the budget, the "Bipartisan Path Forward" is able to put debt on a clear downward path, reaching 69.3 percent of GDP by 2023. Other budget would also put debt on a downward path, with the House budget taking a more aggressive approach on deficit reduction than the "Bipartisan Path Forward" and the Senate and White House proposing slightly more modest deficit reduction plans.
On revenues, the Bipartisan Path Forward would raise $740 billion more over 10 years than under current policy, resulting in revenues in 2023 rising to 19.7 percent of GDP rather than 19.1 percent under CRFB's realistic baseline. This is similar the President's budget, the President's offer, or the Senate budget that project revenues at 19.7 percent, 19.5 percent, and 19.8 percent of GDP in 2023, respectively. But the Bipartisan Path Forward does raise more revenue than the House budget, which raises a projected 19.1 percent of GDP in 2023.
Today, the former co-chairs of the Fiscal Commission, former Senator Alan Simpson (R-WY) and Erksine Bowles, released "A Bipartisan Path Forward to Securing America's Future," their detailed fiscal plan that would replace the abrupt and mindless cuts under sequestration and put debt on a downward path as a share of the economy with an additonal $2.5 trillion in deficit reduction.
Since the Commission's 2010 report, lawmakers have made some progress in getting our fiscal house in order with an estimated $2.7 trillion in enacted savings through continuing resolutions, the Budget Control Act, and the American Taxpayer Relief Act. However, most of the easiest savings have already been enacted, and debt is still far from being on a sustainable path. The new plan is intended to be "Step 3" of the needed deficit reduction effort ("Step 1" involved reducing discretionary spending and limiting the growth of that spending, while "Step 2" enacted modest increases in revenue and minor cuts to spending).
Simpson and Bowles previously laid out a framework for this "Step 3" in late Feburary, but the report released today presents the specific policy options that would achieve the needed deficit reduction. The report also presents a path forward to achieve "Step 4," which would include reforms to ensure the 75-year solvency of Social Security, restore the Transportation Trust Fund, and limit the growth of federal health care spending per capita to the growth of GDP.
Below are the policy changes included in "Step 3," measured from a current policy baseline identical to CRFB realistic.
Source: Bipartisan Path Forward
Under the proposal, debt would fall from 76.4 percent of GDP in 2013 to 69.3 percent of GDP in 2023, compared to 79.0 percent of GDP under our CRFB realistic baseline. Revenues would be 19.7 percent of GDP in 2023 compared to 19.1 percent under the CRFB realistic baseline. Spending under the plan is projected at 21.6 percent of GDP compared to 23 percent under our baseline. If lawmakers took "Step 4" of the plan, debt levels would be even lower.
It's very encouraging to see a bipartisan approach that exceeds CRFB's recommendation for $2.4 trillion in additional deficit reduction. Along with the already released budget proposals, lawmakers could use the "Bipartisan Path Forward" as a guide for replacing sequestration with smart deficit reduction. We will be following up with more analysis of the plan soon.
Click here to read the full report.
Taxing Time – This week was initially about the federal tax filing deadline, but the tragedies in Boston and Texas have shifted attention away from taxes and Washington. Our thoughts are with all those affected. The events have pushed back the Hill agenda, as well as your trusty Line Items. Lawmakers face a full plate dealing with the aftermath of these incidents as well as immigration reform. Of course, fiscal issues continue to be on the agenda as well as policymakers have been unable to come to agreement on solutions.
Obama Budget, Better Late than Never – President Obama last week unveiled his fiscal year 2014 federal budget request more than two months late. But the document is quite relevant despite its tardiness. It signaled that the White House is still interested in pursuing a comprehensive debt deal by including the offer it made to House Speaker Boehner during the last round of negotiations. The plan pairs $1.8 billion in deficit reduction from all parts of the budget with some proposals to spur the economy. Like the budget resolutions passed by the Senate and House, it brings debt down as a share of the economy by the end of the decade, but does not do enough to rein in the debt over the long term. It does represent a step in the right direction and now it’s time for policymakers to work together to bridge differences and agree on a comprehensive approach. Read our analysis of the President’s budget, our reaction, a summary, a comparison of the three budgets, and our ongoing analysis of the budget on this blog.
Tax Day, the Tax Way to a Deal – Monday was Tax Day, the due date for filing federal income tax returns. This time of year usually prompts thinking about the role of taxes in funding our government and that sentiment is heightened this year as lawmakers contemplate fundamental reform of the tax code and as revenues are a central element in the debate over addressing the national debt. The President’s budget offers up a corporate tax reform proposal that would get rid of tax breaks in exchange for lowering tax rates. Try your hand at corporate tax reform with our interactive tool. The budget also contains some other revenue provisions. CRFB’s Maya MacGuineas points out in an op-ed that tax reform could be the key to a debt deal by reforming tax expenditures.
The Latest on Chained CPI – One of the proposals in the President’s budget is a switch to a more accurate measure of inflation, known as Chained CPI, which would achieve savings on both the spending and revenue sides of the budget. The President’s proposal has protections for the most vulnerable to prevent them from being impacted by the change. In addition to achieving significant deficit savings over the long term, it would also help shore up the finances of Social Security, which faces trust fund exhaustion in 2033 resulting in a reduction in benefits without action. The matter was a subject of a hearing in the House of Representatives on Thursday, which included testimony from CRFB’s Ed Lorenzen. Find more information on our Chained CPI Resource Page, including a FAQ and common myths. Also, check out a video from the Fix the Debt Campaign.
Another Missed Deadline – April 15 was not only a deadline for taxpayers, it was also the date by which the House and Senate were supposed to agree on a budget resolution. Although both chambers passed budget resolutions this year, the two blueprints are far apart. Congressional leaders have yet to form a conference committee to reconcile the two budgets. The conference process could be an opportunity to negotiate a comprehensive deficit reduction package. Lawmakers must begin the process.
Appropriations Process Held Back – Because there is no concurrent budget resolution, the appropriations process where spending decisions are made has yet to get off the ground. It could be a long process as House and Senate appropriators will start with different topline spending numbers. Senate appropriators will not factor in sequestration, assuming a topline figure of $1.058 trillion for FY 2014. The House assumes the sequester and will use a topline number of $967 billion.
Simpson-Bowles Will Release Detailed Plan – Fiscal Commission co-chairs Alan Simpson and Erskine Bowles on Friday will release a detailed plan to reduce the deficit by $2.5 trillion over the next decade. The plan will be a comprehensive version of the blueprint they announced earlier this year.
Key Upcoming Dates (all times are ET)
- Senate Armed Services Committee hearing on Dept. of the Army budget for FY 2014 at 9:30 am.
- Senate Appropriations subcommittee hearing on FY 2014 budget for the United States Agency for International Development at 10 am.
- Senate Budget Committee hearing on FY 2014 budget for veteran's programs at 10:30 am.
- Senate Appropriations subcommittee hearing on FY 2014 budget for homeland security at 2:30 pm.
- 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.
A new report by the Bipartisan Policy Center’s (BPC) Health Care Cost Containment Initiative was released today containing roughly $560 billion in savings to federal health spending over the next decade. The report, "A Bipartisan Rx for Patient-Centered Care and System-wide Cost Containment," offers a detailed and integrated plan for reforming federal health programs and bending the health care cost curve.
The majority of the savings – nearly $300 billion – is derived from changes to the Medicare program. Some of the most significant Medicare reforms include:
New "Medicare Networks." BPC’s plan recommends an approach to reforming Medicare that moves away from Medicare fee-for-service (FFS) with greater beneficiary and provider incentives for higher value service. Under their proposal, Medicare providers and beneficiaries would have three options. Traditional Medicare fee-for-service (FFS) would still exist and a new, reformed version of Accountable Care Organizations (ACOs) called “Medicare Networks” would be created. Medicare Advantage would be the third option and would be reformed to improve competition.
The new Medicare Networks would be comprised of a group of providers working together to deliver care and sharing in any savings or losses. A network would contract with CMS and have a unique spending target. Providers in this model would be paid through a mix of a fixed per beneficiary payment and a fee schedule. Providers would share in savings from improved efficiency and could benefit from other incentives such as payment for services not previously reimbursed by Medicare.
On the beneficiary side, those who enroll in a Medicare Network would receive a $60 annual discount on their Medicare premium for the first three years along with lower cost-sharing for in-network providers. If a network meets quality and savings targets, then beneficiaries in that network would receive 25 percent of the savings in the form of reduced monthly premiums.
Replace the SGR. BPC recommends repealing the antiquated sustainable growth rate (SGR) formula and replacing it with a new method that provides higher payments for those providers in a Medicare Network and a freeze in payments for those in FFS.
Reform Medicare Advantage. As part of their approach, the plan calls for establishing a new standardized minimum Medicare Advantage (MA) benefit, including an out-of-pocket cap and lower cost-sharing for beneficiaries who choose high-value providers from tiered networks. It would also implement a competitive bidding system for certain MA plans. Some of the savings could be re-directed to reduce premiums and cost sharing for enrollees.
Other MA reforms include changes to the star rating system to lower bonus payments to plans until regional markets convert to the competitive bidding system, at which point the bonus payments would be eliminated.
Bundled Payments. BPC’s plan recommends extending bundled payments into the standard Medicare payment method for post-acute care providers, similar to the President’s proposal, which saves $8 billion over ten years.
Cost-Sharing Reforms. Similar to some of the cost-sharing reforms proposed in other deficit reduction plans, BPC proposes to replace the deductibles for Part A and B with a combined $500 deductible, a cost-sharing limit of $5,315, and new copayments recommended by MedPAC. Additionally, they would reform supplemental coverage (both Medigap plans and employer-provided plans, including Tricare-for-Life and the Federal Employees Health Benefits Program) by requiring that they include a $250 deductible, have an out-of-pocket maximum no lower than $2,500, and cover no more than half of an enrollee’s coinsurance/copayments. While most of these cost-sharing reforms would yield savings, BPC does recommend increasing spending by $75 billion to expand cost-sharing assistance for beneficiaries below 150 percent of poverty.
Raise income-related premiums for wealthier beneficiaries. BPC recommends expanding income-related premiums for Medicare beneficiaries with higher incomes by lowering income thresholds until 17 percent of beneficiaries pay income-related premiums, up from about 5 percent now. This proposal would alone save over $66 billion through 2023.
Graduate Medical Education (GME). BPC’s overall GME proposal is budget neutral. It proposes a reduction in Indirect Medical Education (IME) add-on payments from 5.5 percent to 3.5 percent to better align with actual costs. However, it uses the savings to pay for incentive payments to high-performing institutions and additional residency slots.
Per-beneficiary spending cap. In order to ensure savings in the long term, the authors recommend that no earlier than 2020 policymakers implement a fallback spending limit on annual per-beneficiary spending growth to a target of nominal GDP per-capita growth + 0.5 percentage points (using a five-year rolling average). This would apply differently to fee-for-service, Medicare Networks, and Medicare Advantage, as elaborated on below.
In addition to these reforms, the report includes numerous more recommendations such as expanding competitive bidding to more durable medical equipment (DME) and equalizing payment differences across delivery sites to the rate of the lowest cost setting. Another sizable policy proposed is eliminating copayments for low-income beneficiaries using generic and low-cost drugs, saving $44 billion over the next decade due to the lower cost of generic drugs.
The remaining savings in BPC's proposal come from new revenues from reforms to health-related tax provisions. BPC proposes replacing the tax on high cost health plans (the “Cadillac tax”) from the Affordable Care Act with a limit on the tax exclusion for employer-provided health insurance at the dollar amount equal to the 80th percentile of premiums of such insurance, and indexed to GDP per-capita growth through 2023, and to GDP per-capita growth + 0.5 percent thereafter. This is estimated to raise $262 billion, mostly from the tax on contributions to plans with high premiums, but also from the shift in employee compensation from untaxed health benefits to taxable wages.
The plan also calls for replacing the current health insurance plan tax from the Affordable Care Act with a paid-claims tax on a revenue-neutral basis. The paid-claims tax would apply a tax on health insurance claims, both to commercially insured plans and self-insured. The authors argue this could also help to drive plans toward alternatives to Medicare FFS that are based on a capitated payment model (since those payments would not be based on claims).
As the graph above shows, BPC's plan would help to lower the trajectory of Medicare spending over the course of the next decade. By 2023, these reforms would lead Medicare spending to be slightly less than one-half of a percentage point of GDP less than they would be under current policy. BPC also estimates that over the next 20 years, their proposal would save Medicare $1.25 trillion. Overall, the recommendations in BPC's report are a great addition to the growing number of options lawmakers can consider as part of a comprehensive effort to address the budget's largest driver of future deficits: rising health care spending.
Today, the House Ways and Means Subcommittee on Social Security held a hearing on using the chained CPI to determine Social Security cost-of-living adjustments (COLAs). Testifying before the subcommittee was CRFB Senior Advisor and Executive Director of the Moment of Truth Project Ed Lorenzen. In his testimony, Lorenzen highlighted the merits of switching to the chained CPI as a more accurate measure of inflation.
Lorenzen began by explaining the reason behind the development of the chained CPI, which can be traced back to a blue ribbon commission dubbed the “Boskin Commission” for its chair economist Michael Boskin. The Boskin Commission found several issues with substitution bias in the current CPI. As a result, the Bureau of Labor Statistics implemented a number of changes that have resulted in a lower CPI, but has been unable to address the issue of upper level substitution (consumer substitution between categories) without a legislative fix.
Implementation of the geometric mean has reduced the annual growth rate of the CPI by approximately 0.3 percentage points, with other changes reducing CPI further. The cumulative impact of these changes on the reported CPI is approximately 0.35 percentage points, which is slightly greater than the impact of switching to the chained CPI. Yet these changes implemented by the BLS were automatically applied to the indexation of government programs and the tax code with little notice or controversy.
Lorenzen, who also served as staff on the Fiscal Commission, discussed the background behind the chained CPI’s inclusion in the Fiscal Commission’s 2010 report. He noted that the idea to use the chained CPI emerged early on as an area of bipartisan agreement:
Switching to the chained CPI was an early area of general consensus as Commission members began to discuss specific policy options. It was suggested as an option to reduce the Social Security shortfall by one of the Democratic Members of the mandatory spending working groups, and had previously been included in bipartisan tax reform legislation introduced by Republican Commission member Senator Judd Gregg. Commission members emphasized the importance of making this change as a technical improvement to more accurately index programs for inflation and believed that, in order to be credible, the change must be applied to all provisions in the budget (both the spending and revenue sides) that are indexed to inflation.
In addition to discussing the background of the chained CPI, Lorenzen addressed some of the concerns critics of the policy have had. Specifically, he explained the chained CPI is actually distributionally neutral and, as we explained earlier this week, Social Security benefits under the chained CPI would be 25 percent higher than under the payable benefit scenario in 2033. However, he did identify various targeted policies that could be implemented to protect certain vulnerable populations.
Looking specifically at proposals to switch to the chained CPI in isolation, any undesirable effects of the chained CPI on certain vulnerable populations can be addressed through small policy changes targeted to those populations rather than continuing to provide higher than justified inflation adjustments for all individuals regardless of income at a cost $340 billion over ten years. For example, the Fiscal Commission recommended instituting a flat dollar benefit bump-up equal to five percent of the average benefit.
The hearing included additional testimonies by Erica L. Groshen, Commissioner of the Bureau of Labor Statistics; Dr. Jeffrey Kling, Associate Director for Economic Analysis, Congressional Budget Office; Nancy Altman, Co-Chair of the Strengthen Social Security Coalition; and Charles Blahous, Social Security and Medicare Trustee.
Some commentators have claimed that the CPI-E is more accurate than the chained CPI in calculating seniors’ cost of living. Commissioner Goshen warned Members that the CPI-E is still an experimental index, and could not be immediately implemented. Her statements echoed BLS’s earlier warnings that if lawmakers consider the CPI-E, “any conclusions drawn from the data should be interpreted with caution.” In Dr. Kling’s testimony, he noted:
All versions of the CPI overstate growth in the cost of living, with the overstatement being especially large for the CPI-E because of the large weight on health care in that index.
Blahous’s testimony highlighted the potential benefits that adopting the chained CPI would have for the Social Security program. He described the upcoming funding shortfall in some detail, arguing that the chained CPI would have a positive impact on the program’s finances and generational program equity. However, he strongly cautioned that adjusting the index will not come close to ensuring Social Security’s long-term solvency, and he encouraged lawmakers to consider the change as part of a comprehensive reform of our nation’s entitlement programs.
This is the first in a series of hearings the Ways and Means committee will hold on bipartisan entitlement reforms. As lawmakers look to reach bipartisan agreement on these important reforms, today’s hearing demonstrated the chained CPI offers an opportunity for lawmakers to not only enact sound policy to more accurately measure inflation, but provide much needed deficit reduction as well.
Our next blog post in our series analyzing the President's budget will look at where the budget leaves revenue and spending by the end of the decade and the composition of that spending and revenue.
As highlighted in our initial analysis, the budget would put the debt on a downward path to 73 percent of GDP by 2023 through a mix of tax increases and spending cuts. In terms of revenues in the proposal, OMB estimates that they would rise from 16.7 percent of GDP in 2013, to 17.8 percent in 2014, 18.9 percent by 2018 and finally reaching a peak of 20.0 percent by 2023. You can see the policy changes that the President makes on the revenue side here. Meanwhile, spending would fall from 22.7 percent of GDP in 2013 to 21.7 percent in 2023. We've discussed some of the President's spending proposals already, specifically the switch to the chained CPI and the health care changes.
Readers of the blog are likely familiar by now with what revenue, spending, deficits, and debt look like under the President's budget and what policies are used to achieve those numbers. But another important question is how the composition of spending and revenue change over time.
Going forward, increases in revenue are largely driven by increases in individual income taxes. In fact, it entirely accounts for the increase as a percent of GDP from 2014 to 2023, with other factors offsetting each other. This build-up in income tax revenue from 8.1 percent of GDP in 2014 to 10.3 percent in 2023 is due to the economic recovery, some new tax increases, and the tendency for income to grow faster than inflation, thus pushing some taxpayers into higher tax brackets and producing higher revenue. Other categories of revenue are a much smaller factor. Payroll taxes, estate taxes, and other sources of revenue rise slightly as a percent of GDP while corporate income taxes and excise taxes remain constant and revenue from the Federal Reserve falls as quantitative easing winds down. As a percent of total revenue, individual income taxes and estate taxes rise between 2014 and 2023 while every other category of revenue decreases.
The spending side largely reflects the story of the federal budget over the next decade and beyond. Interest spending will rise from 1.3 percent of GDP in 2014 to 2.9 percent, largely due to expected increases in interest rates. Social Security spending would rise from 5.1 percent to 5.4 percent (counting the chained CPI savings), while Medicare and Medicaid would increase from 4.9 percent to 5.3 percent. Other spending would decline as a share of GDP. Discretionary spending would fall from 7.3 percent to 4.9 percent, reflecting both the war drawdown and the discretionary spending caps, while other mandatory spending will fall from 3.6 percent to 3.2 percent, in part reflecting the economic recovery. As a share of spending between 2014 and 2023, interest would jump from 5.9 percent of spending to 13.5 percent, while Social Security would rise from 22.7 percent to 24.8 percent. Medicare and Medicaid will take up 24.6 percent of spending in 2023 as opposed to 21.9 percent in 2014. Discretionary spending will fall from one-third of spending to 22.8 percent, the decline being split roughly equally between defense and non-defense (NDD), and other mandatory spending will fall from 16.4 percent to 14.5 percent.
Note: OMB separates out the chained CPI in its tables. We have attributed it to Social Security for these charts. We have also attributed a placeholder for disaster spending to non-defense discretionary spending, although some portion of it may be mandatory spending.
In short, the President's budget, at least on spending, largely reflects the trends of the budget that we are seeing: increased spending on health care, Social Security, and interest with relatively less on everything else. That spending will be financed increasingly with revenue from the individual income tax.
Tune in now as the House Committee on Ways and Means Subcommittee on Social Security holds a hearing focusing on the use of the chained CPI to determine the Social Security cost-of-living adjustment. CRFB's Senior Advisor and the Moment of Truth Project Executive Director, Ed Lorenzen, will be testifying on the merits of switching to the chained CPI. His prepared testimony can be read here.
The hearing, which is the first in a series on the President's and other bipartisan entitlement reform proposals, will begin at 9:30am. You can watch the live stream of the video here.
Included in the President’s FY 2014 budget proposal is a $400 billion package of health care savings. As we described in our analysis of his budget, these health savings are part of the President’s deficit reduction offer that was also on the table during the fiscal cliff negotiations and offered as replacement to sequestration. Much of the savings comes from reforms that have been introduced in the President’s prior budget proposals and the bulk of them are from reductions in Medicare spending. But this year's budget includes some new additions and changes to previous policies.
- Prescription drug rebates and related reforms ($162 billion): As he did in last year's budget plan, the President proposes requiring rebates for drugs purchased for beneficiaries in the Medicare Part D Low-Income Subsidy (LIS) program. Currently, Medicaid requires drug companies to pay "rebates" equal to at least 23.1 percent of the average manufacturer price (AMP), and more for drugs with rapid cost growth. The President’s budget would make manufacturers of these drugs responsible for the same rebate for drugs provided to Part D LIS beneficiaries, saving the federal government $123.2 billion. The Administration also proposes closing the Part D coverage gap ("donut hole") through rebates for brand name drugs by 2015 instead of 2020 under current law, saving $11.2 billion. Other reforms would prohibit pay-for-delay agreements between brand name and generic pharmaceutical companies that delay entry of generic drugs and biologics into the market and facilitate faster development of generic biologics.
- Post-acute care provider reductions ($94 billion): The President’s budget includes various reforms to post-acute care provider payments. These include reducing market basket updates to Inpatient Rehabilitation Facilities (IRFs), Long Term Care Hospitals, Skilled Nursing Facilities, and home health agencies. It would also implement bundled payments for at least half of the payments to these providers beginning in 2018. To further improve efficiency and savings, the President proposes equalizing payments for certain conditions treated at IRFs and SNFs, reducing payments to SNFs with high rates of preventable readmissions, and reinstating stricter classification rules for IRFs.
- Other provider reductions ($55 billion): The President includes a handful of other reductions to provider payments such as reducing Medicare payments to cover bad debts (unpaid patient cost-sharing), reducing certain rural health provider payments, and better aligning Graduate Medical Education (GME) payments with actual costs. Many of these are based upon recommendations proposed by MedPAC. The budget also includes a few reductions to Medicaid spending, such as limiting Medicaid reimbursement of durable medical equipment based on Medicare rates. However, it does not include some of the larger cost-saving policies from the President’s FY 2013 budget which would have lowered the Medicaid provider tax threshold to reduce state gaming and applied a single blended matching rate to Medicaid and the Children's Health Insurance Program. They have backed off those changes since the Supreme Court's decision on the Affordable Care Act, which allowed states to opt out of the Medicaid expansion without any additional loss of funding.
- Income related premiums ($50 billion): Perhaps one of the most significant changes to a previously proposed policy was to the President’s proposal to increase income-related premiums for certain Medicare beneficiaries. Currently, most Medicare beneficiaries pay 25 percent of Part B (physician’s offices) premiums, while those with incomes over $85,000 ($170,000 for couples) pay between 35 to 80 percent, depending on their income. Last year, the President proposed increasing these income-related premiums by 15 percent, saving roughly $28 billion over ten years. However, this year’s proposal would add more income-related brackets and increase premiums until capping the highest tier at 90 percent for those earning over $196,000. This is slightly more regressive than last year's proposal, increasing premiums more for those between $85,000 and $107,000 than for those above $186,000 -- over a 50 percent increase compared to a 12 percent increase at the top -- but increasing savings to $50 billion as a result.
- Cost sharing reforms ($14 billion): We recently highlighted the potential cost sharing reforms have for bipartisan compromise. While the President’s budget does not go as far as some of the other cost sharing proposals out there, it does provide $14 billion in savings by applying a $25 increase to the Part B deductible in 2017, 2019, and 2021; introducing a $100 home health copayment for certain episodes; introducing a surcharge on Part B premiums for new beneficiaries who purchase Medigap policies with low cost-sharing requirements; and lowering copayments for generic drugs for lower-income beneficiaries.
- Other changes ($27 billion): The remaining health savings come from adjustments to Medicare Advantage payments and reforms to the Federal Employees Health Benefit Program (FEHBP). The largest of these reforms would be a gradual increase to the minimum coding intensity adjustments to Medicare Advantage plans, which reflects differences in coding practices between Medicare and Medicare advantage ($15.3 billion). A new policy that has gained some attention is a change that would allow FEHBP to offer a Self+One option to domestic partners, which OMB estimates would save over $5 billion.
All in all, the President deserves credit for making a concerted effort to reduce health spending. However, his proposal falls short of addressing one of the major long-term drivers of health care spending over the next few decades: population aging. More can be done to bend the health care cost curve with reforms that target our aging population and lower excess health care cost growth. It appears some consensus is emerging on such health care reforms. Meanwhile, the President’s proposal adds to the options on the table that should be considered in a comprehensive plan to put health spending on a more sustainable path.
Since the President's budget was released last week, there has been an ongoing debate over how much it saves. We’ve tried to shed light on this question by showing the President’s offer and budget from five different baselines, but in some ways that has raised as many questions as answers.
While there are many differences between the various baselines, among the most controversial questions is whether to count the repeal of the sequester as a cost, or to assume it will occur and measure savings relative to that. This was the topic of a heated discussion between acting OMB Director Jeff Zients and Budget Committee Ranking Member Jeff Sessions last week. While Zients argued the offer saved over $1.8 trillion, Senate Republicans have argued that when you subtract the sequester that number falls to $600 billion, and when you make further adjustments the budget achieves virtually no deficit reduction.
This debate illustrates the fact that constructing a current policy baseline is more art than science. The point of such a baseline is to incorporate policies that lawmakers are likely or have shown to be likely to enact, even if they are not what is currently scheduled in law. Most of the policies are expiring ones that have frequently been extended, like the "doc fix," while sometimes there are other policies which are about to take place that we expect not to, like the sequester. The use of intent to determine what is in the baseline can lead to many different interpretations.
Many people have asked where CRFB stands on this issue and whether we believe the sequestration should be included within the current policy baseline or not. Indeed, our organization and our baseline were both invoked in the Zients-Sessions back and forth. In defense of the Administration's position on the sequester, Zients invoked CRFB president Maya MacGuineas, arguing that she "does not have the sequestration in her baseline."
Our current CRFB Realistic baseline does include the sequester repeal as one of the current policy adjustments. This largely reflects the situation as it stood in February, when the CBO baseline came out and when we constructed our baseline. The sequester had not yet taken effect, and just a month ago, the American Taxpayer Relief Act had been enacted, which delayed sequester implementation for two months. Although there had not yet been an effort to have a longer-term delay or outright repeal, both parties had expressed their intent to replace the sequester at least for 2013, if not longer, and had done so in past budget plans. Given all these facts, we determined that sequester repeal was appropriate to put in the Realistic baseline.
Since then, the situation has changed to make this decision less clear. The sequester has now been in effect for a month and a half, and there has not yet been a concerted bipartisan effort to replace it. That could very well come in negotiations over the budget resolution or the debt ceiling, but as of yet there has been little action. These are solid arguments for no longer having the repeal of the sequester be part of current policy.
But there is also a case for still having it as current policy. While the sequester has "happened," it was never actually supposed to go off; rather it was meant to be an incentive to enact a comprehensive deficit reduction plan – and it still can be one. In addition, the majority of the brunt has not been felt yet even for 2013 alone. When the effects become much more tangible, political pressure could increase for some sort of replacement package. Furthermore, neither political party actually supports the full sequester as it’s currently designed, potentially increasing the chances the sequester could be repealed or replaced. In fact, neither budget passed by the House or Senate would maintain the sequester in its current form – with the House moving the defense savings over to non-defense programs and the Senate also repealing it outright. The fact that there has not been a major "fiscal speed bump" since the sequester hit has meant that there may not be a strong impetus to do so until the next speed bump comes up.
How we treat the sequester the next time we update our current policy baseline will depend on what happens in the interim. Our next update to the baseline will likely coincide with the CBO's next update of their baseline, possibly in August or sometime sooner if they release a new baseline along with their analysis of the President's budget. The events that take place between then and now -- whether there is a substantive negotiation process involving the sequester -- and whether policymakers view the sequester as credible deficit reduction policy or not. For now, that question is uncertain.
Regardless of the budgetary treatment of the sequester, it is clear that even an equal-sized deficit reduction plan over ten years would be preferable to the sequester for a number of reasons. For one, as we have mentioned many times before, the sequester is quite front-loaded which means it could cause substantial damage to the short-term economy while doing very little to reduce the deficit in later years. The sequester also fails to deal with the structural drivers of the deficit -- entitlement costs -- and it ends in 2021 and so achieves virtually no savings over the long run.
Furthermore, the more important measure of a budget is not its savings but where the budget ends up. Debt and deficits as a percent of GDP tell us much more than savings since baselines can be manipulated or interpreted to include different policies; by contrast, there is little room for manipulation in the budget metrics just mentioned. The good measure of a budget is not whether it saves $700 billion or $1.8 trillion. It is whether it makes debt and deficits sustainable over the longer term.
For the first time in a few days, Tax Day did actually fall on April 15, so hopefully the tax procrastinators out there were able to get their filing done. Filing your taxes provides a good reminder of how complicated the current code is. With the President's budget coming out, we'll take a look at how it would change the tax code.
Under the budget released last week, revenues are projected to rise from 16.7 percent of GDP in 2013 and 17.8 percent in 2014 to 18.9 percent in 2018 and 20 percent by 2023. Much of this increase is already assumed under the Administration’s baseline, due to a recovering economy, tax increases included in the Affordable Care Act and the revenue increases that were part of the American Taxpayer Relief Act, which together account for the rise of revenues to 19.4 percent of GDP by 2023. An additional 0.6 percentage points in 2023 comes from the net revenue increases proposed in the President’s budget.
Source: OMB, CBO
As we mentioned before, the budget is split out into two separate sections. The first section reflects the latest White House offer made during the fiscal cliff negotiations, and the budget lays out two revenue provisions, both pretty familiar ones, to hit the desired target. The first is a proposal to limit the amount of deductions and exclusions that earners in the top three tax brackets can reduce their tax liability, limiting to 28 percent of the value of those preferences. The Administration would also institute the so-called “Buffett Rule” requiring that millionaires pay no less than 30 percent of their income (after charitable contributions) in taxes. The Administration estimates that these two measures would combine to raise $583 billion over the next ten years. Adding in the revenue portion of the chained CPI, which is part of the offer, raises the total to $683 billion.
Outside of the offer, the budget includes a number of provisions that have appeared in past budgets. In terms of tax cuts, the budget extends the 2009 refundable credit expansions ($161 billion), expands the child and dependent care credit ($9 billion), and enacts a temporary tax credit for employers who add to their payroll ($25 billion), among a few other things. Tax increases include setting the estate tax back to 2009 parameters ($72 billion), enacting a fee on large banks ($59 billion), and taxing carried interest as ordinary income ($16 billion).
|Revenue Provisions in the President's Budget (billions)|
|Provision||2014-2023 Revenue Impact|
|28 Percent Limit on Certain Tax Preferences||$529|
|Buffett Rule (Fair Share Tax)*||$53|
|Chained CPI Revenue||$100|
|Subtotal, December Offer||$683|
|2009 Refundable Credit Expansions||-$161|
|Business/Infrastructure Tax Cuts||-$50|
|Individual Tax Cuts||-$29|
|Estate and Gift Tax Provisions||$79|
|Financial Crisis Responsibility Fee||$59|
|Other Revenue Increases||$90|
|Subtotal, Other Revenue||$149|
|Small Business/Regional Provisions||-$99|
|International Tax Reforms||$157|
|Financial Product Reforms||$31|
|Fossil Fuel Preference Repeal||$41|
|Unspecified Rate Reductions/Other Tax Cuts||-$146|
|Subtotal, Business Tax Reform||$0|
Note: Some revenue estimates may include effects on outlays. Conversely, some policies with revenue effects that OMB lists as spending provisions are not included.
*By itself, the Buffett Rule would raise $99 billion. Due to interaction with the 28 percent limit, it only raises $53 billion.
One departure from last year's budget is that many business-related provisions, both tax cuts and tax increases, are thrown into a deficit-neutral reserve fund for business tax reform. Some of the tax cuts include extensions of the R&E credit, renewable energy credits, and a number of small business preferences. The tax increases include changes to the international tax system, the elimination of fossil fuel preferences, financial product reforms, and repeal of the last-in first-out (LIFO) inventory accounting method. Overall, these changes raise net revenue of $145 billion over ten years, which would be used to offset the cost of rate reductions or other revenue-decreasing policies.
Tax reform, and tax expenditure reductions in particular, may be the key to a debt deal. The President's budget has laid out many ideas that will contribute to the debate.
Click here to see the other blogs we have done on the President's budget.
With the President proposing switching to the chained CPI to measure inflation, the attack dogs are out. We've written on the merits of moving to the chained CPI many times before, showing both that it is a more accurate measure of inflation and that it would reduce the deficit by almost $400 billion.
One claim, though, merits discussion and consideration -- that even though chained CPI has only a tiny effect in the first year it would represent a large benefit cut in the future. Social Security Works, for example, has argued that "After 20 years, your benefits would be cut by about $1,000 a year," and Center for Economic and Policy Research co-director Dean Baker said "For an average worker retiring at the age of 65, this would amount to a cut of $650 a year by age 75. At age 85, this would be a cut of $1,130 a year."
So would chained CPI cut benefits? As it turns out, it depends on what you are measuring against. Here are a few ways to think about it:
- Nominal Benefits Grow. Importantly, under chained CPI, nominal benefits will continue to grow year after year. No one will see the dollar value of their benefits go down -- instead they will continue to go up at a modestly slower pace. By our estimates, an individual's benefits will rise by 60.5 percent over 20 years under chained CPI, compared to 67.9 percent under the current CPI-W measure.
- Real Benefits Stay Constant. Switching to chained CPI would mean constant real benefits for seniors. Currently, the inaccurate measure of inflation we are using means a modest increase in real benefits over time. But the purpose of cost-of-living adjustments (COLAs) is to maintain the value of benefits over time, and the chained CPI would accomplish that.
- Real Benefits for an 85 Year Old Grow. Another comparison of real benefits would be between an 85-year old in 2013 and one in 2033 (assuming both retire at age 65). In this case, despite the switch to the chained CPI, real benefits for the latter beneficiary would be higher because the growth in initial benefits, which essentially grow with wage inflation, outweighs the slower growth of the chained CPI. Specifically, benefits for the latter 85-year old would be 8.2 percent higher than the present-day 85-year old.
- Scheduled Benefits Decline. The measure that chained CPI opponents generally focus on is a comparison to scheduled benefits, which ignores trust fund solvency issues and assumes that funds are shifted around to ensure that Social Security pays full benefits. Under this measure, the chained CPI reduces benefits 20 years out by 5.4 percent.
- Payable Benefits Increase. By contrast, "payable benefits" takes into account trust fund insolvency and the automatic benefit reduction that accompanies it. Considering that the trust fund is projected to be exhausted in 2033, at which point beneficiaries would receive a nearly one-quarter benefit cut, benefits under the chained CPI would be 24.8 percent higher than under the payable-benefit scenario.
The graph below compares nominal benefits with scheduled benefits, payable benefits, the chained CPI without adjustments, and the chained CPI with an old-age benefit bump-up.
Source: Social Security Administration
In short, whether the chained CPI would reduce, increase, or keep constant benefits depends on which measure one thinks is accurate to use as a baseline. But in any case, switching to chained CPI would represent a move to more accurate measure of inflation and in the process would close 20 percent of Social Security’s funding gap. See our other blogs on chained CPI here, our paper here, and a “one-pager” on the policy here.
Given the chained CPI is primary a technical adjustment to more accurately measure inflation, support for the change can be found among experts across the political spectrum. Last week and over the weekend, Charles Blahous of the Mercatus Center, Len Burman of the Tax Policy Center and Syracuse University, and David Brown of Third Way all took a look at the case for moving to the chained CPI.
Much of the attention on the chained CPI since President Obama proposed it in his FY 2014 budget has been focused on how it would affect benefits and taxes. But the main reason for the switch among many economists is its superiority as a measure of price inflation compared to other available indices. Social Security and Medicare Trustee and Mercatus Center senior research fellow Charles Blahous writes in a commentary and a brief summary that the chained CPI should not be thought of as Social Security reform, but rather as a methodological change. Blahous argues that the switch is nothing more than an attempt to keep with current law and measure inflation as accurately as possible:
C-CPI-U is the most accurate available estimate of economy-wide inflation. Some federal policies (like the fixed income thresholds for the recently-enacted 0.9% Medicare surtax) aren’t indexed at all. Others (like Social Security’s benefit formula) are indexed to wage growth. But currently expressed policy in many other areas of the federal budget is to index for general price inflation, no more and no less. To use the best available measure of such inflation is therefore not a "benefit cut" or a "tax increase" as much as it is the most faithful available method of complying with the policy basis of various statutes.
CPI-U and CPI-W weren’t originally inserted into existing laws because their sponsors thought that they overstated inflation; they were inserted because the sponsors were attempting to capture inflation, and those metrics were the best available at the time. To now use the more recently-developed C-CPI-U is in effect to better conform these various aspects of federal law to Congressional policy intent.
The purpose of CPI-indexation is not to attain targeted benefit or tax levels. Many on the left oppose using C-CPI-U because the continued use of CPI-W would lead to higher Social Security benefits, especially among the oldest seniors. Many on the right are similarly concerned about chained C-CPI-U because continuing to use current CPI-U would constrain the growth of federal revenue collections, relatively speaking. I share the policy goals of keeping tax burdens manageable and of ensuring adequate benefits for the most vulnerable seniors. But continuing to overstate inflation is not the appropriate means of achieving these goals -- even with respect to these respective policy advocates’ interests.
Others have proposed alternative indices for Social Security beneficiaries, like the CPI-E, to account for the spending habits of the elderly. But as Blahous argues, Social Security beneficiaries are not just the old, and it does not make sense to estimate inflation for every single demographic.
Even if the CPI-E didn’t suffer from significant methodological shortcomings, however, it could not sensibly be applied to Social Security benefits. Social Security beneficiaries come in various forms, from retirees to the disabled to child survivors. It would make no methodological sense to use a purchasing index for the elderly to adjust benefits for child survivors; nor would it make sense for the young disabled. It would also create a nightmare of complexity to have different beneficiary populations using different measures of CPI, shifting between them as they move from one category to the other (e.g., from disabled to old-age benefits). The purpose of inflation indexation is not to model the purchasing patterns of every individual or subgroup, but to model general price inflation, which C-CPI-U does better (even for Social Security’s beneficiary population, on average) than CPI-E.
Along the same line, David Brown of Third Way has produced a useful report, "The Context and the Case for Chained CPI," explaining the proposed change and the history behind CPI adjustments. Third Way presents a few examples to show that adjustments to the CPIs are not new: the Bureau of Labor Statistics (BLS) redesigned the CPI housing's survey in 1987 and switched to a new formula to incorporate simple substitutions for the traditional CPIs as recently as 1999. The chained CPI is a product of the recommendations made by the Boskin Commission in the mid-1990s. Most methodological changes can be made at BLS's discretion, but what makes chained CPI more accurate also requires the creation of a new index and an act of Congress. Brown explains:
The reason legislation is needed stems from the fact that “chaining”—the method unique to Chained CPI — depends on data that comes with a timelag. A chained index must first compute a month’s inflation estimate with provisional data. That estimate is then subject to revision for up to two years. Some uses of the CPI depend on immediate and final month-to-month data. Simply “chaining” the CPI-U or CPI-W would pose a problem for those uses. So BLS decided that chain-weighting must exist in a completely separate index, published alongside CPI-U and CPI-W. The new index accounts for upper-level substitution bias and offers the benefit of greater accuracy, for those uses which do not depend on immediate, month-to-month data. The fact that Chained CPI is a new index, rather than a new formula for an existing index, is why legislation is needed.
The chained CPI may be more visible than other adjustments to more accurately measure inflation, but it doesn't differ in its goal. Some have argued that Social Security should be completely off the table in the deficit reduction debate, even for relatively modest changes like the chained CPI. But as Len Burman explained in an op-ed in Forbes last week, that approach is short-sighted. Taking different parts of the budget off the table will only force more drastic changes elsewhere. The problem is just too large to reasonably expect to be solved by focusing on small parts of the budget. In order to reduce the deficit in a smart way, lawmakers need to be open to all possible solutions.
A common affliction of the federal government in recent years has been the many temporary extensions of certain spending or tax benefits. Because treating these provisions as if they will not be permanent artifically lowers their cost, they have become increasingly popular lately. This kick-the-can mantra is not a responsible way to govern, creating a great deal of uncertainty for those who benefit from these programs or tax cuts and, in most cases, requiring even bigger offsets to these costs in future years. Especially over the last few years as lawmakers have been unable to forge a long-term budget agreement, they’ve continued to enact temporary patches and extensions to various policies that they know they will have to revisit again, most recently in the fiscal cliff deal. While the deal did, for better or worse, make permanent or let expire some provisions -- the 2001/2003/2010 tax cuts and Alternative Minimum Tax patch being examples of the former and the payroll tax cut an example of the latter -- it also left many provisions as temporary.
Encouragingly, the President’s FY 2014 budget makes some big strides towards ending this problem of temporary budgeting by either reflecting the permanent costs of these policies, ending them, or reforming them in a way that makes them permanent. To begin with, the President’s budget starts from a baseline that includes a permanent extension of the American Opportunity Tax Credit and the 2009 expansions of the Earned Income Tax Credit (EITC) and Child Tax Credit, which are set to expire after 2017 and cost roughly $160 billion to extend through 2023. These extensions are paid for with certain revenue provisions outside of the "offer" portion of the budget.
His adjusted baseline also includes a permanent freeze of current Medicare physician payment rates to replace the scheduled 25 percent cut under the Sustainable Growth Rate (SGR) formula in 2014. OMB assumes a $250 billion cost to repeal the SGR, which is significantly more than CBO’s recently updated estimate of $140 billion. The savings he gains from various new revenue and spending cuts in his deficit reduction proposal partially offset these costs.
In addition to incorporating some of these expected costs into his baseline, the President’s budget also addresses various business tax extenders under his call for revenue-neutral corporate tax reform. We’ve discussed some of these tax extenders before, many of which have been consistently extended over the last few years. The President now proposes for some of these tax credits to be permanently extended, while allowing others to expire at year’s end, meaning fewer one-year extensions that hide the true cost of policies. Specifically, the President would permanently extend the Research and Experimentation (R&E) tax credit ($99 billion), increased expensing allowances for small businesses ($69 billion), and the renewable electricity production tax credit ($17 billion), among others. His corporate tax reform policies finance these permanent extensions with offsets such as modifying the international tax system, changing the tax treatment of the insurance industry, reducing oil and gas preferences, and repealing last-in first-out (LIFO) accounting rules. Meanwhile, the President would allow other tax extenders such as the 50 percent bonus depreciation to expire at the end of the year.
On the sequester, the President’s budget includes a full repeal, which costs almost $900 billion in direct costs and more than $1 trillion if counting extrapolated discretionary spending costs in 2022 and 2023. This would be paid for with part of his deficit reduction package.
Another temporary policy addressed is the issue of student loan interest rates, which are scheduled to double on certain loans in July from 3.4 percent to 6.8 percent. Last year, the President proposed a one-year extension of the rate, which ultimately was signed into law. This year, the President proposes to move toward a market-based approach that would permanently tie rates to 10-year Treasury notes, thereby keeping rates low in the short term and paying for them over the longer term by allowing them to rise as Treasury rates are projected to do. This reform helps to avoid two risks: the risk of student loan interest rates suddenly doubling this July and the risk that Congress will continue to extend the 3.4 percent rate year after year at a substantial cost.
|How the President's Budget Dealt With Temporary Provisions|
|FY 2014 Budget||FY 2013 Budget|
|Refundable Credits||Extended permanently; budget dedicates certain revenue provisions to pay for the extension||Extended permanently|
|"Doc Fix"||Extended permanently; budget calls for replacement to reform physician payments||Extended permanently|
|R&E and Renewable Energy Tax Extenders||Extended permanently and paid for in context of corporate tax reform||Extended permanently|
|Other Business Tax Extenders||Not extended||Extended for one year|
|Sequester||Permanently repealed||Permanently repealed|
|Stafford Loan Interest Rates||Reformed to be tied to Treasury rates||Extended for one year|
|Individual Tax Extenders||Not extended/addressed||Extended for one year|
|Unemployment Insurance||Not extended/addressed||Extended for one year|
While all of these policies move the President’s budget toward greater fiscal responsibility, it is not gimmick-free. For example, the President for the most part does not address the individual income tax extenders one way or another in his budget. Several of these, such as the deduction for state and local taxes are very popular and likely to be extended. The President’s budget also does not address the issue of expiring extended Unemployment Insurance (UI) benefits. At the end of this year, the maximum number of weeks individuals can collect UI benefits will fall from 73 weeks to 26. With unemployment levels projected to remain high, it is unlikely lawmakers would allow these extended UI benefits to expire entirely. Most grievously, the President uses “savings” from the drawdown of war spending to offset baseline transportation spending to make the Highway Trust Fund solvent. We’ve explained before that this war savings gimmick takes credit for a drawdown already scheduled to occur.
Overall, any budget deal that may be made in the weeks and months ahead should make permanent and pay for those policies which are likely to be extended or repealed anyways. This would not only helps to more accurately and responsibly plan for spending, but also would bring the current law and current policy baselines closer together, thus making budget projections more transparent. However, the uncertainty and lack of ability to plan for temporary extensions is preferable to simply making things permanent on a deficit-financed basis. That will make deficit projections much worse and take away pressure points to reform the related programs or tax provisions.
The President deserves credit for identifying permanent solutions to many of the temporary policies that plague Washington year after year and, for the most part, offsetting their costs. But more can be done in a final budget to put a stop to this practice.
Fiscal Commission co-chair Erskine Bowles will be addressing the Associated Press at their annual meeting in Orlando today. The event is co-hosted by the Newspaper Association of America. The meeting will be livestreamed starting at 10:30 AM Eastern time, and Bowles is scheduled to speak at 12:30 PM Eastern time.
You can watch the live stream of the video below.
It's Tax Day, meaning that those who procrastinated spent their weekends trying to work through our overly-complex tax code. The federal code contains nearly four million words and the IRS's Taxpayer Advocate estimates that businesses and individuals spend nearly 6.1 billion hours a year completing their filings. The tax code's complexity is in part due to the many tax expenditures in the code that also lose a significant amount of revenue, estimated by the JCT at nearly $1.3 trillion for 2013.
Therefore, it isn't surprising that tax reform could be a key factor in a comprehensive debt deal. CRFB President Maya MacGuineas writes in The Hill that the strong bipartisan support for reforming our tax code could offer significant deficit savings while making the code more efficient and more progressive. MacGuineas writes:
While many assume that getting an agreement on additional revenue is impossible, reform that cleans up the tax code, makes it more efficient and enhances competitiveness — along with significant structural entitlement reforms — could provide the breakthrough we need for a plan that addresses long-term national debt while promoting economic growth. That is a lot of pressure for an undertaking that is both desperately needed and treacherously complicated.
There is support in both parties for reforming the more than $1 trillion a year in tax deductions, exemptions and other loopholes known as “tax expenditures,” which are essentially spending through the tax code.
Many of these tax expenditures are only enjoyed by select taxpayers and distort the economy by disproportionately benefiting some activities, companies or industries over others. We can both reduce tax rates and the deficit by eliminating, limiting or reforming these loopholes that adversely affect the budget and the economy.
Usually, getting Washington to agree on the problem is not the more difficult part, it's agreeing on the solutions. But on tax reform, there are many bold approaches that could gain the support of both parties. MacGuineas highlights two possible policy changes:
The Simpson-Bowles debt commission illustrated one way to deal with tax expenditures: Its plan outright eliminated most expenditures and reduced tax rates to much lower than they are today.
If lawmakers want to reinstate a tax break, they would have to pay for it by buying the rates back up. I love this approach and would hope lawmakers would have the fortitude to start with a clean slate and limit the number of tax breaks they layered back in. But the political pressure to protect and preserve every single tax break would be mind-boggling.
Another approach designed by myself, Marty Feldstein and Daniel Feenberg of the National Bureau of Economic Research, which would cap tax expenditure benefits at a set level of household income, might be more politically plausible. The advantage of this approach is that it eliminates the haggling over which tax expenditures to keep, which should make this reform easier to enact, given the political realities we face.
Whether lawmakers choose to go the route of the Fiscal Commission by eliminating all tax expenditures and adding provisions back in, institute a cap on tax expenditure benefits like the MacGuineas-Feldstein-Feedberg proposal, or pursue an alternative policy, something should be done to improve our tax code and help reduce the deficit. With both tax writing chairmen committed to taking a serious look at the code in 2013, tax reform could be one of the answers to our fiscal problems.
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.
Last week, the Government Accountability Office (GAO) released its long-term fiscal outlook, presenting both long-term projections and estimates of the fiscal gap. Since the last longer-term projections from CBO came out in June, the report provides a good measure of what the budget looks like after the American Taxpayer Relief Act and the challenge we face going forward.
GAO presents two simulations: a baseline extended scenario similar to CBO's current law and an alternative simulation similar to CBO's AFS with a few differences, particularly on health. The baseline extended projection incorporates all of assumptions of CBO's current law on revenue and spending, except that it uses the Medicare Trustee's projections that assumes the Affordable Care Act will reduce health care excess cost growth (growth in excess of GDP growth) to an annual rate of 0.2 percent. The alternative simulation assumes that expiring tax provisions are extended and revenues return to their historical average of 17.9 after 2023, the sequestration is waived, discretionary spending gradually returns to its historical average of 7.5 percent, and health care spending follows CMS's alternative scenario that prevents the reductions in payments to doctors due to the SGR and assumes cost-restraint provisions in the ACA have limited effect.
Debt would rise to over 120 percent of GDP by 2030 under GAO's alternative projection and rise to 90 percent of GDP under the extended baseline. While debt shortly stabilizes at the end of this decade, the rapid aging of the population in the 2020's will put debt on a steep upward path.
Long-term debt projections convey the severity of the problem but do not neccesarily give an indication of the size of the necessary solution. In this light, GAO also estimates the federal government's "fiscal gap" or the present value difference between primary revenues and spending over a certain time period. GAO estimates a fiscal gap of 3.9 percent of GDP under its baseline scenario and 8.0 percent under its alternative projection. The table below shows by what percentage revenues would have to increase or spending would have to decrease in order to close the fiscal gap. As can be clear seen in the table, the needed changes become much larger the longer policymakers wait.
|Federal Fiscal Gap Under Our Simulations|
|Average Percentage Change Required to Close Gap|
|If Action is Taken Today||If Action is Delayed Until 2023|
|Scenario||Fiscal gap 2013–2087||Solely Through Revenues||Solely Through Spending||Solely Through Revenues||Solely Through Spending|
|Baseline Extended||3.9% of GDP||20.4%||17.4%||24.3%||20.4%|
|Alternative||8.0% of GDP||44.4%||31.5%||53.2%||36.3%|
Often, the discussion is wrapped in ten-year projections because that is the window CBO uses for its budget outlook and its scores of legislation. But the debt is a much greater issue in the long term, and policies that address entitlement and tax reform that could have a greater effect beyond this next decade should be the focus.
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Much of the early debate surrounding President Obama’s FY 2014 budget concerns his inclusion of the chained Consumer Price Index (C-CPI), a more accurate measure of inflation that could produce some $390 billion in savings, according to the CBO. By OMB's estimate, President Obama's version of the chained CPI switch would save $230 billion over ten years, $130 billion from spending and $100 billion from revenue (note that the bulk of the difference is due to a one-year delay in implementation). We've covered this provision frequently on The Bottom Line and have also produced a helpful one-pager and resource page on the topic.
One common criticism of this proposed change is that adopting the chained CPI would have a disproportionately large impact on low-income and vulnerable populations. As we have shown before, switching to the chained CPI is not regressive, but roughly distributionally neutral, both on the tax side and within Social Security. However, distributional neutrality does not mean that there is not a legitimate concern about the effect of the chained CPI on low-income individuals and the very old. Fortunately, the Administration has an answer to these concerns.
Along with its chained CPI proposal, the President has proposed a package of protections for the disadvantaged and the very elderly. Specially, the President would exempt all means-tested programs from the chained CPI switch and offer a Social Security benefit enhancement for the very old.
The enhancement would equal 5 percent of the average retiree benefit phased in over 10 years starting at age 76 (or 15 years after disability insurance eligibility), with a second bump up at age 95. According to the White House, these changes together would actually reduce poverty among the very old. This policy is quite promising, and similar to a bump up proposed by the Fiscal Commission. As we've argued before, "there is little reason to provide higher than warranted increases in benefits for all Social Security beneficiaries just to protect lower-income beneficiaries when those concerns could be addressed by much more targeted policies and at lower overall costs." We evaluated a slightly different bump-up previously, one that phases in later, and found that it makes the chained CPI switch progressive overall.
Source: Social Security Administration, CRFB calculations
The Administration’s proposal to exempt certain programs from the switch to the chained CPI is less promising. The chained CPI is a more accurate measure of inflation, period. Applying it to only some areas of the budget is not only wrong policy but could undermine the rationale for switching to the chained CPI. Instead, lawmakers could use a portion of the savings that the switch produces to provide new benefit enhancements for low-income individuals. For example, the Center on Budget and Policy Priorities has suggested expanding the old-age bump up to other programs like Supplemental Security Income and indexing various provisions like the SSI income disregard and asset limits to inflation. Policymakers could further look at enhancements to food stamps or other low-income programs.
But the most important low-income protection is to get our fiscal house in order and make Social Security sustainably solvent. Absent reform, all beneficiaries regardless of income and age face a one-quarter benefit cut immediately in 2033. Switching to the chained CPI won't make Social Security solvent on its own, but it is a move in the right direction.
The President should be commended for including the chained CPI in his budget. Clearly, one key aspect of its part in a budget agreement is how the chained CPI protects the most vulnerable and the very elderly. The President's budget, the Simpson-Bowles framework, and the CBPP provide a few ways to do it.
As we mentioned on Wednesday, budget season can often be as confusing as it is clarifying. While it would seem that both chambers and the President presenting their budgets would be easily compared, the headline savings numbers that often show up in articles can be misleading. The numbers are not necessarily comparable because budgets often use different baselines against which they measure their savings.
In our analysis of the President's budget, we measured the effect of the budget relative to five different baselines in order to show the different possible ways to think about the budget. In this blog, we compare the President's Budget on a semi-like basis to the Senate Budget Resolution and the House Budget Resolution. We looked both at the entirety of the President's Budget, and in isolation at his "deficit reduction offer."
The table below compares savings from all four plans relative to the CRFB realistic baseline generated in February and relative to a current law baseline as CBO would construct it (read about the differences here). Note that even this comparison is not strict apples-to-apples, because different economic and technical assumptions between CBO and OMB lead to different savings levels.
The President's budget would save $1.8 trillion relative to CRFB realistic and $1.3 trillion relative to current law. His offer alone would save $1.7 trillion relative to CRFB realistic and when combined with the sequester repeal about $200 billion relative to current law. By comparison, the budget proposal from Congressman Paul Ryan (R-WI) puts forward the most deficit reduction of the three, with savings of $6.2 trillion (including interest) relative to CRFB Realistic and $5.7 trillion relative to current law. The budget from Senator Patty Murray (D-WA) proposes $2.3 trillion in deficit reduction compared to CRFB Realistic and $1.8 trillion from current law.
For reference, we recommended earlier this year that lawmakers put forward a plan that contains $2.4 trillion in deficit reduction against the CRBF realistic baseline.
|Savings in House, Senate, and President's Budgets (2014-2023, billions)|
|Current Law (CBO Convention)
|President's Budget||President's Offer||House||Senate||President's Budget||President's Offer||House||Senate
|War and Sandy Drawdowns||$1,036||$0||$931||$1,268||$98||N/A||$47||$384|
Source: CRFB calculations
But beyond the total savings, it is helpful to see how revenues, spending, and debt compare, since those numbers cannot be obscured by baseline differences. The President's budget continues the trend of putting debt at least on a gradual downward path. Debt under the President's budget would rise to a peak of 78.2 percent of GDP in 2014 and 2015 before falling gradually to 73 percent of GDP by 2023. Under the Murray budget, debt would fall to 70 percent by 2023, while the Ryan budget is the most aggressive, lowering it to 55 percent. Note again that because economic and technical assumptions differ, these are not strictly comparable.
Note: President's Budget based on OMB assumptions. HBC and SBC based on CBO assumptions.
Source: HBC, SBC, OMB
Note: President's Budget based on OMB assumptions. HBC and SBC based on CBO assumptions.
Revenues increase under all three budgets in the early years as the economy recovers from the downturn and tax revenues rebound. The House budget instructs the Ways and Means Committee to undertake revenue neutral tax reform, and thus the Ryan budget mimics current law, with revenue rising from 17 percent in 2013 to 19 percent by 2023. The Senate budget includes additional revenue and increases it to 19.8 percent of GDP by the end of the decade, while the President's budget has revenue slightly higher at 20 percent.
Source: HBC, SBC, OMB
Note: President's Budget based on OMB assumptions. HBC and SBC based on CBO assumptions.
We will have to wait until CBO scores the President's budget in order to do a true apples-to-apples comparison, but in the meantime, it's revealing to see how the three budgets roughly stack up. A final compromise will likely differ from all three of these proposals. However, they do show the variety of different approaches that can be taken to reduce the deficit. Ideally, lawmakers will look for a bipartisan compromise that puts the debt on a downward path.