The Bottom Line

March 10, 2014
(By Restoring Abandoned Policies to the President's Budget)

We talked last week about several policies making their first appearance in the President's budget. What we didn't mention is that in addition to introducing new policies, the President has dropped a few old ones. Among the policies the President had previously proposed but did not include in this year's budget are:

  • Adoption of the chained CPI government-wide.
  • Increases in federal employee retirement contributions for workers hired before 2013.
  • Two Medicaid reforms to keep states from gaming the system and simplify matching rates.
  • Greater expansion in Medicare means-tested premiums.
  • Elimination of the "check the box" rule for foreign entities.
  • A more aggressive tax on financial institutions.

This list excludes policies that were overridden by legislative agreements, such as increasing tax rates for people making between $250,000 and $450,000 and taxing dividends as ordinary income.

Interestingly, if the President were to embrace these policies and add them back into his budget, they would generate by our estimate about $575 billion of additional deficit reduction through 2024 -- or slightly above 2 percent of GDP. That might not seem like a lot, but under OMB projections it would result in debt levels falling by 1.1 percentage point between 2023 and 2024 (adjusting for timing shifts) to 67 percent of GDP, rather than by 0.7 points to 69 percent. 

And under our rough simulation of a CBO re-estimate, these policies would be the difference between a stable and upward debt path. Our simulation showed debt levels rising from 71.5 percent of GDP in 2018 to 73 percent in 2024 under the President's budget. With these additional policies, debt would remain stable at about 71 percent through the entire budget window. In fact, after accounting for the economic impact of immigration reform, debt would be on a modest downward path and fall to 69 percent of GDP by 2024.

In other words, were the President to re-embrace the deficit-reduction measures he previously proposed (the largest being chained CPI), it could make a big difference for the debt.

So what exactly are these policies? Below, we describe them.

Chained CPI: In last year's budget, the President called for using the chained CPI to adjust most inflation-indexed programs and tax provisions. The budget exempted means-tested programs from the change and included benefit enhancements for very elderly people on Social Security. According to CBO, last year's proposal would raise $100 billion of revenue, save $89 billion from Social Security and reduce $44 billion of other spending through 2023. Through 2024, the proposal as a whole would likely save about $285 billion. Although this has been removed from the President's budget, the White House does say that the President remains open to the policy as part of a bipartisan debt deal.

Federal employee retirement contributions: The President originally proposed to increase retirement contributions in his offer to the Super Committee, and would save $21 billion over ten years. Currently, civilian pension benefits cost the equivalent of 12.7 percent of wages, and the policy would increase the portion paid by current federal employees from 0.8 percent to 2.0 percent. This policy was included again in the FY 2013 budget and FY 2014 budget proposals. Shortly after the 2013 budget, Congress increased contributions by 2.3 percent for new workers to help finance a payroll tax cut, SGR, and unemployment extension. The Bipartisan Budget Act increased contributions by an additional 1.3 percent. However, both of these adjustments applied only to new workers, and after the first (which was the larger of the two), the President continued to support the increase for current workers. That policy is no longer part of the FY 2015 budget.

Medicaid reforms: In his offer to the Super Committee, the President called for several Medicaid reforms -- with substantial savings coming from two policies. First, the President proposed reducing what is called the "provider tax threshold" to make it harder for states to inflate their federal Medicaid match by simultaneously taxing and increasing payments to providers. Second, the President proposed replacing the multiple matching rates for CHIP, base Medicaid, and the Medicaid expansion with a single "blended rate" for all costs. Although these policies were included in the President's FY 2013 budget, they were not included in his FY 2014 budget -- in part due to concerns over their interacting with the Supreme Court decision to effectively make the ACA Medicaid expansion voluntary. Together, these policies would save about $55 billion over ten years according to OMB, and $85 billion according to CBO.

Means-testing of Medicare premiums: Currently, most Medicare beneficiaries are responsible for about one quarter of Part B and Part D costs; however, some higher-income seniors pay a larger percentage of 35, 50, 65, or 80 percent. These higher premiums begin at $85,000/$170,000 of income, and all the thresholds are frozen through 2019 (otherwise, they grow with inflation). Since the Super Committee offer, the President has proposed freezing the thresholds until 25 percent of beneficiaries are paying the higher premiums, up from about 5 percent currently, and increasing the premium percentages. In the FY 2013 budget, he increased the four brackets by about 15 percent each. In the FY 2014 budget, he increased the number of brackets to nine, still with a top bracket of 90 percent but higher brackets for most other beneficiaries. This year, the President's budget proposes five brackets, with most beneficiaries paying less than they would have under last year's budget and some paying less than under the prior year's budget as well. In other words, while the President's budget still calls for expanded means-testing, this year's proposal is not as aggressive as last year's. By our rough estimates, the difference results in roughly $15 billion less in savings.

Means-Tested Premium Policies in the President's Budgets
Income Current Law FY 2013 Budget FY 2014 Budget FY 2015 Budget
Less than $170,000 25% 25% 25% 25%
$170,000-$184,666 35% 40.25% 40% 40%
$184,666-$199,334 46.5%
$199,334-$214,000 53%
$214,000-$249,334 50% 57.5% 59.5% 52.5%
$249,334-$284,666 66% 52.5/65%*
$284,666-$320,000 72.5% 65%
$320,000-$356,000 65% 74.5% 79% 77.5%
$356,000-$392,000 85.5%
$392,000-$428,000 90% 90%
$428,000+ 80% 90%

 Source: Kaiser Family Foundation, Department of Health and Human Services
Note: Income brackets are for a married couple. They are half that for a single person.
*Premium increases from 52.5% to 65% at the midpoint of this income range

Check-the-box rule: In 1997, the IRS adopted a regulation, known as check the box, intended to simplify the way that domestic businesses could classify themselves. Rather than using a six-factor test, businesses could check a box to determine whether they wanted to be taxed as a corporation or a pass-through business. Unintentionally, this rule encouraged multinational corporations to avoid taxes by shifting profits to low-income countries. A corporate subsidiary could elect to be treated as a "disregarded entity" and its income would not be taxed by the United States. Thus, if a subsidiary was in a low-tax or no-tax jurisdiction, it would avoid most tax. The President's first budget for FY 2010 proposed undoing check the box for foreign entities by requiring that the parent company and subsidiary be organized in the same country to be treated as a disregarded entity. OMB estimated that this change would raise $87 billion over ten years, although JCT only anticipated $31 billion. This change did not show up in any subsequent budgets.

Bank tax: Starting with the FY 2011 budget, the Administration has proposed a "financial crisis responsibility fee" both to cover the costs of actions to assist the financial sector in recent years and to discourage excessive risk taking. The original fee applied a .015 percent tax to the covered liabilities of banks with $50 billion or more in assets and raised $90 billion over ten years, but the fee has been modified to raise less in subsequent budgets. In the FY 2015 budget, it is a .017 percent tax on certain liabilities and only a .0085 percent tax on liabilities which are "more stable sources of funding." The current version of the tax only raises about $55 billion.

*****

There is no rule that says once a President proposes something he must continue to propose it into the future. However, the above analysis shows that if the President were to restore many of the policies he previously supported, it could make a real difference in improving our fiscal situation. This is especially true over the long run, where policies such as the chained CPI and Medicare and Medicaid reforms could produce growing savings over time.

March 10, 2014

The Earned Income Tax Credit (EITC), which provides low-income taxpayers with a refundable tax credit that increases up to a certain point along with wages, has garnered bipartisan attention over recent weeks for its ability to encourage work. The credit has been around since the 1970s, and throughout its history has generally been supported by members on both sides of the aisle.

In a report released last week that was generally skeptical of many overlapping anti-poverty programs, House Budget Chairman Paul Ryan concluded that the EITC was effective at increasing labor force participation, rewarding work, and raising millions out of poverty. Greg Mankiw, the former Chairman of the Council of Economic Advisers under President George W. Bush, wrote an op-ed arguing that raising the EITC is a better way to help low-income individuals than raising the minimum wage.

Many Democrats have also recently promoted the EITC as an effective way to encourage work and address poverty. Treasury Secretary Jacob Lew said in a statement earlier this year that "the EITC is a valuable program that lifts millions of families above the poverty line each year," and that "making the EITC available to more low-wage workers without children by raising the maximum credit they can receive is an important part of our effort to restore the middle class." Lew also penned an editorial in Politico this week reaffirming his support for the EITC, stating that the EITC is "one of the most effective anti-poverty programs we have seen," and that it "helps about half of all parents at some point."

This broad-based support has translated into multiple specific proposals in the last months. Senator Marco Rubio, Ways and Means Chairman Dave Camp, and President Obama have each put forward proposals to reform the EITC. 

Background

Enacted in 1975, the EITC provides low-wage workers with a refundable tax credit (meaning they receive the value of the credit even if they owe no taxes) that grows with income up to a certain point. In the years since, it has been expanded numerous times under presidents of both parties, most recently as part of the 2009 stimulus package.

At very low incomes, the credit increases along with wages, effectively increasing take-home pay for these workers and encouraging them to work. The credit provides different levels of benefits and phases out at different income thresholds based on the number of children a worker has. Currently, eligible taxpayers with no children can receive a maximum credit of $487, and taxpayers with three of more children can receive the maximum credit of $6,044. The credit starts phasing out at $7,970 ($13,310 for married filers) for childless taxpayers, and $17,530 ($22,870) for taxpayers with children. In 2009, the American Recovery and Reinvestment Act expanded the EITC for married couples and for families with three or more children. These expansions expire after 2017.

EITC Credit Amounts by Income


Source: IRS

President Obama

In the State of the Union, the President spoke about reducing inequality and helping families through the EITC, and called for strengthening the credit. His FY 2015 budget reflected these statements; he proposed making permanent the current expansion for families with three or more children, as well as expanding the credit for childless workers. For childless workers, the President proposes doubling the maximum credit and raising the beginning of the phaseout range to $11,500 ($17,000 for joint filers). He also proposes to expand eligibility for the credit by expanding the ages of eligibility from 25-65 to 21-67.

Ways & Means Chairman Dave Camp

As part of his comprehensive tax reform proposal, Chairman Camp proposed both enhancements and reductions in the EITC. He would make the credit refundable against payroll taxes, as opposed to income taxes. This provision would not alter the witholding amounts of payroll taxes, and would be administered as a credit when an individual files income taxes. Camp would also increase the phaseout levels to $20,000 for single filers with children and $27,000 for joint filers but reduce the amount of the credit for all beneficiaries and index those amounts to the more accurate chained CPI rather than the typically faster-growing CPI-U.

Senator Marco Rubio

Senator Marco Rubio recently proposed replacing the EITC with a low-income wage subsidy. He describes it as an enhancement for low-wage jobs that provides an "enticing alternative to collecting unemployment insurance." While there aren’t many details available about Senator Rubio’s proposal, like the EITC, low-income wage subsidies generally aim to increase the monetary return to low-wage work, although they would likely be delivered as an enhancement to each paycheck rather than all at once at the end of the year.

* * *

The EITC is the fifth largest tax expenditure (costing $67 billion in 2014 and nearly $680 billion over the next ten years) and one of the government's largest anti-poverty programs. For comparison, the child tax credit will cost about $590 billion over ten years, Temporary Assistance for Needy Families will cost about $170 billion, and Supplemental Security Income will cost $635 billion.

As tax reform discussions continue, Congress will have to seriously consider how best to deliver the EITC's benefits.

This post was updated March 11 to better reflect Chairman Camp's EITC proposal.

March 10, 2014
A Camp-ground for Tax Reformers

Gene Steuerle, Richard B. Fisher chair and Institute Fellow at the Urban Institute, wrote a post on the Tax Policy Center's blog, TaxVox. It is reposted here.

By proposing a far-reaching and detailed rewrite of the Revenue Code, House Ways and Means Committee Chair Dave Camp (R-MI) did something very few elected officials have done in recent years: He stuck out his neck and proposed radical reform. The initial press response has focused on politics and concluded that neither Republicans nor Democrats will be able to take on the special interests, that there is too much partisan gridlock, and that the plan is going nowhere.

But such responses largely ignore the history of successful reforms and forget that some policymakers do care about policy. If the goal is to conquer a mountain, someone has to start by building a common basecamp.

Almost any major systemic reform that does more than give away money creates losers. Someone always has to pay for whatever new use of resources the reform seeks—in this case, tax rate reduction and a leaner code with fewer complications. But politicians hate identifying losers. We voters punish them for their candor, which is why they nearly always increase deficits to achieve their goals and leave it to a future Congress to identify the losers who pay the bill.

With his full-blown tax reform proposal, Chairman Camp decided to lead and proposed repealing many popular tax breaks. There’s a lot I like and some things I don’t like in his proposal, but the simple fact is that a well-designed comprehensive alternative to current law can change the burden of proof. Change a few items, and each interest group argues that it was unfairly picked on. Put forward an alternative that takes on almost all preferences, and each interest then needs to justify why it deserves special treatment not accorded others.

The prospect for any reform is nil if no leaders do what Camp did and step up to the plate. The process is not one of instant epiphany. Rather it slowly builds support. Those who first propose change may increase the odds of success from 5 percent to 10 percent. Others who follow further improve those odds.  If we reject out of hand all ideas that start with less than a 50 percent chance of success, we’d probably never reform anything.

It often takes modest support by others to move the process forward.  In 1985, President Reagan and House Ways & Means Committee chair Dan Rostenkowski started the legislative process that yielded the Tax Reform Act of 1986 by simply agreeing not to criticize each other while the measure went through committee. Like Speaker Boehner today, Speaker O’Neill wasn’t enthusiastic about reform then, but Rostenkowski was able to proceed anyway.

In 1985, Rostenkowski knew he could pass a Democratic bill. But he knew it would go next to the GOP-controlled Senate Finance Committee. Each party would have a turn and a final agreement would come from a bipartisan conference committee. If House GOP leaders let Camp mark-up his bill now, Democrats would have their turn, at least this year, in the Senate. At least so far, both President Obama and senior Ways & Means Democrat Sandy Levin (D-MI)  have avoided any major criticism of Camp’s plan, but one wonders if Democrats aren’t going to forego an opportunity, once again joining Republicans in deciding in advance that nothing substantial can be done, so it won’t.

Leadership is seldom about achieving results that can be predicted with certainly. More often it requires using your clout to change the process or reframe the debate in ways more likely to serve the public. It’s certainly about more than protecting your party’s incumbents in the next election regardless of the policy consequences.

When I served as economic coordinator and original organizer of the 1984 Treasury study that led to the ’86 Act, it was a time when books declared major tax reform the “impossible dream.”  Sound familiar? In the face of that dispiriting commentary, I tried to encourage the Treasury staff with what I call the “hopper theory” of democracy: the more good things you put in the hopper, the more good things are likely to come out. By this reckoning, Chairman Camp has already won.

"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.

March 7, 2014

On Tuesday, the President released his budget, detailing his priorities for the upcoming year and beyond. Facing declining federal investment, the President's new budget places an emphasis on restoring some of the sequester cuts to discretionary and mandatory spending passed in the Budget Control Act of 2011. In December, the budget agreement between Budget Committee Chairmen Paul Ryan and Patty Murray set discretionary spending levels for the next two years (FY2014 and FY2015) somewhat above sequestration levels, but left the lower sequester levels in place from 2016-2021 and actually extended the sequester of mandatory spending through 2023 (which has subsequently been extended through 2024).

For 2015, the President details how to live within the discretionary spending caps in last year's budget agreement, but also proposes raising them by $55 billion, equally divided between defense and non-defense. This increase would bring total discretionary spending to $1.069 trillion, $17 billion less than it would have been without the sequester and $74 billion higher than if the full sequester had gone into effect.

Even though the President's $55 billion increase is equally split between defense and non-defense, it affects the sides of the budget differently. The increase is enough to boost non-defense spending up to pre-sequestration levels of $520 billion. Yet the defense side gets cut more by the sequester, since some of the non-defense cuts go to the mandatory portion of the budget. Thus, an equal sized boost to the defense budget still falls $17 billion short of pre-sequestration levels.

 

And although the President's budget initially approaches pre-sequester levels, discretionary spending would increase at rates slower than inflation, bringing it close to sequester levels by the end of the decade. In total, the President's budget proposes spending over $400 billion more than sequestration levels on discretionary programs over the coming 10 years, or around $475 billion less than without the sequester.  The budget would also completely repeal the sequester's cuts to mandatory spending, largely focused on Medicare providers and plans, and offset these restorations with spending cuts and revenue increases elsewhere in the budget.

Again, as for 2015, the effects on defense and non-defense discretionary funding would be different.

As a result of new laws and proposals, the President has revised his budget's discretionary spending downward over the last several years. The $1.069 trillion requested for 2015 is $12 billion less than the President had requested for the same year two years ago. By 2022, this year's budget request is $87 billion lower than his 2013 request.

March 7, 2014

On Tuesday, the President released his annual budget proposal, which details his priorities for FY 2015 as well as the coming decade. We published a paper analyzing the budget, and will continue to delve into specific parts of the budget in the upcoming week.

In addition, we released a chartbook which walks through different portions of the budget and highlights several of the budget's long-term projections.

A PDF version of this chartbook is available here. The individual charts, with descriptions, are also posted below.

 


 

Chart 1: The President's Budget and our Long-Term Debt

Under OMB's projections of the President's FY 2015 budget, debt would rise to 75 percent of GDP by 2015 and then fall to 69 percent by 2024. While these debt levels are too high -- the highest seen since World War II -- putting debt on a downward path would be an important accomplishment to help put the country on a sustainable fiscal path.

 

Chart 2: Ten-Year Projections of the President's Budget

The President's FY 2015 budget would decrease debt and deficits over time. Adjusted for timing shifts, deficits under this budget will fall from 4.1 percent of GDP in 2013 to 2.2 percent by 2017, and will remain around 2 percent through 2024. However, the budget increases both revenues and spending as a percentage of GDP relative to the PAYGO baseline (a current law baseline which removes the effects of the war drawdown).

 

Chart 3: The Composition of the Budget Changes over Time

Over the next decade, the composition of spending in the President's budget proposal changes dramatically. Social Security and health care spending both increase modestly as a percentage of outlays, and both mandatory and discretionary spending decrease. Net interest spending on debt service more than doubles as a percentage of outlays over this time period, reflecting both higher interest rates and a larger national debt.

 

Chart 4: Deficit Reduction in the President's Budget

Relative to OMB's "adjusted baseline," the President's FY 2015 budget would reduce the deficit by nearly $2.2 trillion over ten years. However, compared to the PAYGO baseline, the budget would only reduce the deficit by about $730 billion over ten years.

 

Chart 5: The President Proposes New Initiatives But Pays for Them

It is encouraging that the President abides by PAYGO in his FY 2015 budget and offsets the cost of new policies or costly changes to policies with legitimate offsets. For example, the President's proposal to fund universal pre-school is offset by his proposed increase in the cigarette tax. He also proposes paying for increased discretionary spending by combining a number of smaller policies, including reducing farm subsidies and limiting retirement accounts.

 

Chart 6: Discretionary Spending in the President's Budget

The President's budget would increase discretionary spending by $55 billion in FY2015 -- lifting non-defense discretionary $28 billion to pre-sequester levels and lifting defense discretionary by that same $28 billion. Beyond 2015, the budget would continue to grow discretionary spending, but more slowly than inflation. The result would be spending levels roughly half way between the pre- and post-sequester caps agreed to under the Budget Control Act of 2011 -- closer to the post-sequester levels in the later years.

 

Chart 7: Health Care Reform Proposals are Maintained

In this year's budget, nearly all of the health care reform proposals from his last budget are maintained, which is commendable. Three policies, in particular, achieve over 65 percent of the budget's health care savings: requiring drug companies in Medicare Part D to offer higher rebates to Part D plans; slowing payment updates for post-acute care providers, such as nursing homes and home health facilities; and further reducing subsidies to high-income Medicare beneficiaries.

Importantly, he also responsibly fixes the Sustainable Growth Rate by paying for it with savings elsewhere in the budget (the budget includes $400 billion of gross health care savings). The President suggests that the SGR be fixed in a manner along the lines of what the three relevant Congressional committees are proposing.

 

Chart 8: The President Raises Significant Revenue

The President's budget includes a number of proposals to increase total revenue. The largest of them would limit the value of most deductions and tax exclusions to 28 percent, effectively capping the value for those making above $250,000 a year. The budget would also institute a "Buffett Rule" to set a minimum 30% tax for those making over $2 million, impose a new tax on large financial institutions, raise estate taxes to their 2009 levels, and make numerous other changes. On the corporate side, President Obama calls for comprehensive rate-lowering, base-broadening reform which is revenue neutral over the long-term but raises about $150 billion in the short-term to fund transportation infrastructure.

 

Chart 9: Does the President's Budget Really put Debt on a Downward Path?

Although OMB projects the budget would put debt on a downward path, this is in part due to the specific economic and technical assumptions OMB has adopted. When the Congressional Budget Office re-estimates the President's budget, it may produce more pessimistic findings. In our rough attempt to simulate a CBO re-estimate, we predict that they will find debt levels to be modestly growing, rather than shrinking, by the end of the decade; and reach 73 percent of GDP rather than 69 percent. After accounting for immigration reform, we project debt levels would be stable at 71 percent of GDP.

 

Our main takeaways from the President's FY 2015 budget are mixed: he abides by many responsible budgetary practices, but it may not be enough to address our structural fiscal issues. We appreciate that the President's budget:

  • Abides by PAYGO with specific offsets;
  • Includes responsible tax and health reforms;
  • Sets sustainable and affordable discretionary levels; and
  • Puts debt on a downward path.

At the same time, we are concerned that the budget:

  • Moves in the wrong direction on entitlements, removing rather than adding needed reforms;
  • Leaves debt levels too high;
  • Claims phony "war savings" that may also be unrealistically high; and
  • May rely on overly optimistic projections to put debt on a downward path.

For more analysis of the President's Fy 2015 budget, be sure to read our full paper.

Download a full PDF version of the chartbook here.

March 7, 2014

With the release of the FY 2015 President's budget, the Obama Administration has now presented six annual budget plans (and an additional proposal to the Super Committee). As you can imagine, there are a lot of policies in this year's budget that are holdovers from previous ones, but there are also new ones. This blog will highlight major new policies in this year's proposal. In the coming days, we will also talk about the flip side of the coin – policies not in this year's budget that showed up in previous submissions.

Expanding the Earned Income Tax Credit

Arguably the centerpiece new policy of the budget is the expansion of the Earned Income Tax Credit for workers with no children. As we mentioned in talking about the State of the Union, the credit for workers without children is about an order of magnitude less than the one for workers with children and phases out at a very low level of income, making its value as a work subsidy much diminished for childless workers. The budget proposes to double the phase-in rate of the credit – and consequently double the maximum credit from $500 to $1,000 – and increase the income threshold at which the credit phases out. It would also change the age restrictions on who receives the credit from ages 25-65 to ages 21-67 (as long as the person was not claimed as a dependent on another tax return). The expansion costs $60 billion over ten years and is paid for by closing tax loopholes for high earners.

Reasonable Compensation Loophole

Coincidentally, the largest offset for the expansion of the EITC, raising $38 billion, is also a new policy. Currently, participants in partnerships and S corporation owners can largely set their own salary. They set their own wage income (on which they pay payroll tax) and also get the rest of the income from the business (on which they pay no payroll tax). Certain individuals set their wage income intentionally low to reduce their payroll taxes. This loophole is known as "reasonable compensation" since they are required to pay themselves a reasonable amount for their services, or known as the John Edwards or Newt Gingrich loophole, both notorious users of this loophole. The budget would instead require that limited partners who materially participate in their business and S corporation owners include their share of the business's income for self-employment tax purposes. The Camp discussion draft also included this provision, although it would only tax 70 percent of the taxpayer's combined compensation and business income so it would raise less revenue.

Immigration Reform

With the Senate having produced an immigration reform bill, this year's budget includes the budgetary effect of immigration reform. The Senate bill produces savings of about $160 billion over ten years, with revenue increases of about $455 billion and spending increases of about $300 billion. It produces savings in the Social Security part of the budget of $210 billion and increases on-budget deficits by $50 billion.

International Tax Changes

The President's budgets have long had changes to the international tax system to prevent multinational companies from shifting income to get tax savings. This year, the budget includes a few new policies designed to further that goal.

When it comes to taxation of foreign-earned income, "active" income earned abroad by U.S. multinationals is taxed upon repatriation, while passive income – financial and other highly mobile and fungible income – is taxed in the year it is earned by Subpart F and other regimes. The additional changes proposed in this year's budget would expand Subpart F to include income from digital sales, further limit U.S. interest deductions, prevent companies from using manufacturing service arrangements to avoid taxes on income from acquired property, and limit the use of inversions of headquarters to avoid U.S. taxation, among other changes.

In total, these new provisions raise $55 billion over ten years. Since the revenue is applied to the account for revenue-neutral business tax reform, it does not raise additional revenue for the budget, but it does provide a greater pool of revenue to offset tax rate reductions or expansions of tax benefits.

Business Tax Reform Raising Revenue for Highway Trust fund 

President Obama has proposed business tax reform that would be revenue-neutral over the long term. As we have discussed before, since some corporate base-broadening provisions would produce more revenue upfront, reform would likely need to raise revenue in the short term. This year's budget makes explicit the short-term revenue increase and dedicates $150 billion of this revenue to the Highway Trust Fund (HTF) to keep it fully funded through 2018. It is somewhat more fiscally responsible than the Camp discussion draft because it would deposit net new revenues into the HTF instead of double-counting the revenues deposited in the HTF to also achieve revenue-neutrality. However, using revenues to shore up the HTF still means corporte tax reform would not contribute to deficit reduction. Because the increased revenues from business tax reform are short-term, using these revenues to close the HTF shortfall is only a temporary fix. Eventually, changes must be made to HTF spending programs or the gas tax.

Health Care Workforce Investments

While the budget includes about $400 billion in gross health care savings, it also includes a number of spending increases as well. Things like the extension of the doc fix and Medicaid extenders have been in past budgets. However, this year's budget includes three policies totaling $15 billion that are new to the budget, referred to as health care workforce investments.

The largest policy, costing $5.4 billion, would extend for one year the increase in Medicaid primary care physician payments established in the Affordable Care Act that expires at the end of this year (we talked about the policy here). Another policy would establish a competitive bidding program to award grants for graduate medical education (GME) in needed areas. These grants would cost $5.2 billion and would give back about one-third of the savings the budget otherwise gets from reductions in GME payments. Finally, the budget includes $4 billion for the National Health Services Corps for physician shortages in high-need communities.

March 7, 2014

In a Washington Post article last weekend, Zachary Karabell takes issue with the importance placed on CBO scoring of legislation, arguing that the focus on cost estimates prevents the country from spending on projects that could strengthen long-term economic growth. Karabell's real issue appears to be an objection to the budgetary constraints that require lawmakers to take costs of legislation into account and consider trade-offs before enacting legislation. He also complains about the uncertainty of projections, but that is no reason to sweep budget scores under the rug and ignore the fiscal impacts of legislation.

Interestingly enough, Karabell recognizes the risks of lawmakers' proposals not being subject to nonpartisan analysis, which lends support to a focus on objective budget scores and the long-term trajectory we face. He states that without independent analysis, partisans would rely on their own assumptions to produce results that suit their interests, playing up the benefits and downplaying the costs. CBO estimates are often subject to complaints from advocates of various policies precisely because they offer a nonpartisan analysis of legislation that gives an objective assessment of potential costs of legislation.

Although Karabell recognizes the value of nonpartisan analysis, he criticizes what he sees as the outsized role of CBO scores in the consideration of legislation. However, the article also seems to conflate spending restraint and deficit restraint:

As all Washington insiders know all too well, before any spending bill passes, it must be “scored” by the CBO for its effects on long-term budgets and future deficits. To assess that, the CBO relies entirely on a set of government statistics. The primary ones are gross domestic product growth, inflation and tax receipts (which is largely a product of the first two). Those numbers constrain what the government can spend, to the point where passing anything remotely resembling a long-term investment bill such as the interstate highway (absent a crisis such as 2008-09) is impossible.

This is a call for removing a straitjacket that we have only recently donned. Government and societies around the world are actively investing public funds in much-needed public goods — China, of course, but also dozens of others. Infrastructure is the most obvious, and one that is sorely lacking in the United States. So, too, are public-private partnerships that split the costs of job training, skills education and public works, from an efficient energy grid to better transportation networks to high-speed Internet and cell phone coverage.

There is no reason why lawmakers could not consider new spending initiatives if they decided they were worthwhile simply because CBO attributed a significant cost to that initiative. Just because a proposal has a cost does not mean Congress cannot or should not enact it. It simply means that if Congress considers the proposal to be worthwhile, they should be willing to find a way to pay for it by cutting spending in other parts of the budget or increasing revenues. In fact, the example Karabell cites of a policy that would not have been enacted if it had been subject to CBO scoring -- the creation of the interstate highway system -- was subject to analysis of projected costs and debate about how to pay for them, resulting in an increase in the gas tax and other dedicated revenues to finance the projected spending. This demonstrates that when Congress decides a certain policy should be a priority, it can acknowledge the cost of the policy and pay for it.

Inherent Uncertainty in Projections

Karabell spends several paragraphs arguing that the inherent uncertainty in projections of any kind should lead us to take CBO's analysis with a grain of salt, if not ignore them altogether when the situation demands it. He cites how CBO's estimates of Medicare Part D did not pan out exactly as expected -- CBO estimated a ten-year cost of $550 billion while the actual cost was $375 billion -- just as estimates of the 2010 health care law have changed.

Budget projections are by their nature subject to uncertainty. CBO itself acknowledges this uncertainty, explaining that its estimates reflect the midpoint of a range of possible outcomes and providing information about the sources of uncertainty in its estimates, particularly for major legislation. CBO works assiduously to improve accuracy of estimates by frequently incorporating new data and academic studies into its methodologies. CBO consults with a wide variety of experts and academics and talks to government agencies responsible for implementing legislation. They are quite open about their process

Although there is always uncertainty in projections, we can often be confident in the overall direction and magnitude of future trends. It's important to realize that Karabell's examples (including the creation of Medicare Part D prescriptions drug benefit and coverage provisions of the Affordable Care Act) were new programs with a greater degree of uncertainty than, say, construction of a new infrastructure program, and that in both instances the direction of the change remained constant (i.e. deficit increasing or deficit reducing) and the swing in estimates was relatively limited.

Karabell complains that CBO estimates fail to reflect potential benefits that certain policies would have for the economy or society, and the potential savings that would accrue as a result. These are important considerations that policymakers should take into account when deciding whether the costs of a policy are worth incurring, not a reason to ignore the costs. If Congress believes new or increased spending from legislation will produce significant economic or societal benefits, it should be willing to make room for it in the budget by cutting spending that would not have similar benefits or increasing revenues to cover the costs. The potential budgetary savings that may be realized as a result of economic benefits of legislation should be treated as a bonus to help address our debt and an additional selling point for legislation, not as an offset for the more certain direct effects of legislation.

CBO often provides supplemental information about the potential economic benefits of major legislation, a practice in which there is a strong case for expanding as appropriate. But CBO does not incorporate such macrodynamic economic effects into official cost estimates because they are subject to much greater uncertainty than estimates of direct impact and microdynamic economic effects of legislation. While budget estimators are able to make reasonable assumptions about microeconomic behavioral responses using past evidence, the same cannot be said about overall economic effects. Macroeconomic variables such as GDP and inflation are the result of numerous and often competing changes in fiscal policy, monetary policy, and unrelated domestic and international factors.

Uncertainty in future projections should prompt lawmakers to be prudent about the future: preparing for downside risks and reaping the benefits when things turn out better than expected, not outright dismissing long-term projections. Budget projections provide useful information about the potential impacts of a certain policy given the best and latest information available.

The Interstate Highway System

Karabell cites the creation of the modern-day highway system during Eisenhower's administration as an example of the types of investments that he thinks would be dead on arrival today due to long-term budget concerns. However, Karabell neglects to mention that the highway system was enacted into law only after lawmakers found ways to generate additional revenues to help cover the costs.

The original proposal put forward in 1954 relied on bonds to finance much of the new spending. But objections to that approach led lawmakers to raise the gasoline tax by 50 percent (from 2 cents to 3 cents a gallon), dedicate the full revenues from the gas tax to a new highway trust fund, and raise additional new transportation taxes sufficient to cover the full projected cost of building the interstate highway system over the 16-year period envisioned in the legislation. Moreover, the legislation included a provision known as the Byrd amendment that would reduce spending if the highway trust fund was projected to face a cash deficit, effectively requiring Congress to raise additional revenues to maintain funding if costs were greater or revenues were lower than projected.

In other words, Congress not only identified an investment that they deemed necessary to meet a national priority, but they recognized its costs, found ways to make it fiscally responsible, and decided it was important enough to raise taxes to pay for the costs of the policy. This is exactly the type of responsible budget debate that should occur when considering new proposals, regardless of how big or small or whether the costs were generated from spending increases or tax cuts. 

In addition, lawmakers were debating the highway system in a very different context than the one we face today. Medicare had not been created, Medicaid had not been created, Social Security was still a relatively small program, and the country did not face the coming retirement of millions and millions of workers. The need to acknowledge and budget for the costs of new initiatives is much greater now given the magnitude of existing obligations for entitlement programs and projected debt levels we face today.

Fiscal Reform Can Open the Door to Higher Levels of Investment

Karabell laments what he believes is an inability to consider new investment projects today. He states:

Today, with the CBO as a gatekeeper and rigid numbers as its tools, we have reached a point where we can maintain spending on entitlements and defense but have no creative or dynamic means to invest in the long-term future of the country at a national level at precisely a time when we need it dearly and when societies around the world are doing so heavily and actively.

If Karabell believes that new investments are what the country needs, then wouldn't addressing the size of the defense budget and rising entitlement spending help free up federal resources? The growing share of the budget consumed by entitlements and the declining portion devoted to investments is not a result of CBO scoring. Rather, it is a function of political decisions made to prioritize spending on entitlement programs and a failure to take actions to control the growth of these programs. This is exactly what CRFB, CBO, and others mean when we refer to future budget flexibility and the risks of being locked into prior commitments with little ability to invest in new ideas or respond to crises. Ironically, comprehensive fiscal reform, which is grounded in long-term projections and adherence to budget scores, could help free up resources for new investments -- exactly what Karabell says the country needs. 

* * * * *

Our deficit problems will not go away on there own, and abandoning a reliance on budget estimates and long-term projections will not change the reality that our commitments are rising faster than our ability to pay for them. Even before the time of CBO, Congresses and administrations often considered how to pay for new, big initiatives -- a practice that is more important than ever given the fiscal challenges facing our nation.

While projections of the costs and benefits of legislation are inherently uncertain, CBO estimates provide lawmakers with important information about potential impacts of legislation based on the best information, techniques, and analysis available. Given debt levels that are projected to grow faster than our economy based on existing commitments, lawmakers should be prudent about new proposals: preparing for downside risks and reaping the benefits when things turn out better than expected, not outright dismissing projections about costs.

March 6, 2014
Weekly Update on Budget and Fiscal Policy Developments and a Look Ahead

Stumbling Back Home – Budget Day and Fat Tuesday collided this week as the White House unveiled its $3.9 trillion Fiscal Year 2015 budget request on Tuesday, a month later than the law dictates. The budget landed as people around the world partied ahead of Lent. It is fitting that the two events collided given that the budget this year, maybe even more than usual, primarily centers on parties, namely the political parties. Last year’s Bipartisan Budget Act established the topline spending numbers for this year and the next, meaning Congress has no real incentive to pass a budget resolution in an election year that includes tough tradeoffs. Therefore, the two parties can use their respective budget plans as messaging documents that hit home with their respective bases. The forthcoming budget proposal from the House will center on Republicans’ vision for addressing poverty while the president’s budget is aimed squarely at Democratic priorities. The Senate has already declared that it won’t put forth a budget plan. Meanwhile, a comprehensive tax reform plan stirred some discussion last week, but there’s little chance that it will be acted on this year. In fact, not much of anything is expected to be accomplished in Washington this year as policymakers have their eyes firmly on the elections in November. In Washington, it is hard to stop the parties.   

No Budging on the Budget – There will be no budget resolution from Congress this year. Lawmakers are not eager to make budgetary tradeoffs in an election year. President Obama’s budget will spur some discussion about national priorities, but it is not intended to mobilize promote congressional action. However, there are several aspects of the budget plan worth noting. First, it aims to put public debt on a downward path as a share of the economy, though we point out that the Congressional Budget Office (CBO) may not see it that way. It also contains some new deficit reduction policies, including additional health care savings and pays for new initiatives with specific offsets. Furthermore, it features a restructuring of the military to achieve savings from the defense budget as well as corporate tax reform. However, it does not go nearly far enough in addressing the long-term debt or in reforming entitlements and the tax code. Read our analysis of the budget and follow our ongoing series examining various aspects of the proposal.   

Not Taxing Themselves Over Tax Reform – House Ways and Means Committee Chair Dave Camp (R-MI) released a comprehensive tax reform proposal last week that was years in the making. Though fundamental tax reform isn’t at all likely to be accomplished this year, the plan can serve as a solid starting point for bipartisan collaboration to revamp the tax code. The proposal lowers individual and corporate tax rates while eliminating or reforming many of the myriad tax breaks that litter the tax code and primarily benefit the wealthy. The plan is revenue neutral over ten years, but we are concerned that it would increase long-term deficits. Read our analysis of the plan, as well as our reviews of how it impacts revenue and the economy. We also compared it to other tax reform plans. Rep. Camp is continuing his push to build support for tax reform, despite the long odds, holding listening sessions for lawmakers. Learn all you need to know about the topic with our Tax Reform Resource Page.  

Not An Inappropriate Time for Appropriations – Because last year’s budget deal included topline spending figures for FY 2015, appropriators don’t need to wait for guidance from the budget committees. Yet it is not clear if lawmakers will be able to reach agreement on how to spend the funds when compromise on anything is difficult.

Doc Fix Premium Calculated – CBO scored bipartisan, Bicameral legislation to permanently repeal the Sustainable Growth Rate (SGR) as costing $138.4 billion over ten years. Lawmakers are still trying to figure out how to cover the cost of the “doc fix”, while the Wall Street Journal suggests not paying for it. We responded that “Paying for the ‘doc fix’ isn't only the fiscally responsible approach, but it offers an additional opportunity to enact structural health-care reforms.” 

 

Key Upcoming Dates (all times are ET)

 

March 7

  • Bureau of Labor Statistics releases February 2014 employment data.

 

March 11

  • House Appropriations subcommittee hearing on the FY2015 Homeland Security budget at 4 pm.

 

March 12

  • House Ways and Means Committee hearing on the FY2015 Health and Human Services budget at 10 am.
  • Senate Budget Committee hearing on the FY2015 budget with Treasury Secretary Jack Lew at 10:30 am.
  • House Appropriations subcommittee hearing on the FY2015 State Department budget at 10:30 am.
  • House Budget Committee hearing on the FY2015 budget with Treasury Secretary Jack Lew at 2 pm.
  • House Appropriations subcommittee hearing on the FY2015 Transportation Department budget at 2 pm.
  • Senate Foreign Relations Committee hearing on the FY2015 international affairs budget with Secretary of State John Kerry at 2:30 pm.

 

March 13

  • Senate Homeland Security and Governmental Affairs Committee hearing on the FY2015 homeland security budget at 10 am.
  • House Appropriations subcommittee hearing on the FY2015 Defense budget at 10 am.
  • House Committee on Veterans' Affairs hearing on the FY2015 Veterans Affiars budget at 10 am.
  • House Appropriations subcommittee hearing on the FY2015 Housing and Urban Development budget at 2 pm.

 

March 14

  • House Appropriations subcommittee hearing on the Department of Agriculture budget at 10 am.

 

March 18

  • Bureau of Labor Statistics releases February 2014 Consumer Price Index data.

 

March 27

  • Bureau of Economic Analysis releases third estimate of 4th quarter GDP growth.

 

March 31

  • "Doc fix" expires.

 

 

March 6, 2014

On Tuesday, the Tax Policy Center (TPC) released an estimate of Senator Mike Lee's Family Fairness and Opportunity Tax Reform Act. We first described the proposal last year, but did not know the plan's impact on the budget, aside from Senator Lee's expectation that it would represent a slight reduction in revenues. TPC's new estimate illuminates the true costs of his proposal: the proposal would cost $2.4 trillion over the next ten years (2014-2023).

Senator Lee's plan calls for substantially increasing the child tax credit, consolidating the tax schedule to just two rates of 15% and 35%, and repealing Affordable Care Act surtaxes. As the table below shows, there are considerable costs associated with these provisions. The Act partially offsets these costs with the elimination of many credits and deductions not related to children (with the exception of a reduced mortgage interest deduction and expanded charitable giving deduction). The savings would provide large tax credits for families. TPC estimates the reform would raise taxes for 12% of households, while lowering taxes for a majority of Americans. High income households with married couples and children would benefit most from the plan.

Revenue Effects of Lee Proposal (billions of dollars)

Source: Urban-Brookings Tax Policy Center

Acknowledging the high costs of the plan in its current form, TPC offers a suggestion for reforming the Act to achieve revenue neutrality:

The Lee proposal could maintain its general framework and become revenue neutral if its statutory tax rates were raised, the tax credits were scaled back, or the tax base were broadened more aggressively. For example, the Tax Policy Center estimates that the proposal would be approximately revenue neutral if the 35 percent tax bracket started at a taxable income of $50,000 for singles and $100,000 for married filers–substantially lower than the proposed $87,850 for singles and $175,500 for married filers.

While these changes could make the proposal revenue-neutral, many more taxpayers would face tax increases relative to current law. We applaud efforts to reform the nation's tax code, however as it currently stands, the Family Fairness and Opportunity Act would add substantially to our national debt.

March 5, 2014

OMB's projections for the President's FY2015 budget show the debt falling from a post-WWII record next year of nearly 75 percent of GDP down to 69 percent by 2024. In our same-day analysis of the President's budget yesterday, we expressed encouragement that the President continues to propose various revenue and spending reforms to bring down the debt according to his projections. However, we warned that "at the same time, debt levels under the President's budget remain too high, and could be far higher under more pessimistic economic or policy assumptions." This concern is particularly relevant since CBO's projections are more pessimistic, especially with their economic forecast.

In past years, we have provided a preliminary glance of how CBO may score the President's budget, and we've been generally pretty close to the actual results. In fact, in 2011 our estimate of how CBO would score the budget was within 0.2 percentage points of GDP of CBO's published results, which showed debt more than 10 percentage points higher than OMB projected. This year, we will again see how close we can get to CBO. 

Based on our rough estimates, CBO may not agree with OMB's finding that the President's budget will produce a declining debt-to-GDP ratio. Instead of debt falling from 74.6 percent of GDP next year to 69 percent by 2024, as OMB sees, CBO could estimate debt reaching closer to 73 percent in 2024, and on a growing rather than falling path.

Starting with CBO's estimates of current law deficits, debt, and GDP this decade, we added in the net savings from OMB's estimates of the President's new investments, reform proposals, and war drawdown path. We also incorporate CBO's estimates for several policies in the President's budget -- including the costs of annual doc fixes, extending the refundable tax credit expansions after 2017, and repealing the mandatory portion of the sequester. We did not, however, rely on previous CBO estimates of some of the President's policies, since some of those estimates produce higher savings than what OMB projects while other estimates show lower savings.

Under our simulation of possible CBO projections, debt would peak in 2014 instead of 2015 and fall much more quickly than OMB projects over the next few years. After reaching a low of roughly 71.5 percent of GDP in 2018, however, debt would start to rise – climbing to 73 percent of GDP in 2024 rather than falling to 69 percent. (The appearance of a relatively stable debt ratio between 2021 and 2023 is largely due to timing shifts that flatten that curve).

Importantly, some of the differences between CBO and OMB relate to how they treat the interaction between policy changes and economic activity. OMB, by convention, projects GDP and other economic variables after assuming the President’s policy is in effect. CBO, meanwhile, makes its economic projections from current law. In this year’s budget, this difference could have a large impact on the estimates, particularly because of the positive growth effects from immigration reform. To account for this, we re-ran our numbers assuming faster real GDP growth over the decade based on CBO's analysis of immigration reform (with some adjustments to reflect the Senate-passed plan). After this adjustment, we find that debt levels would stabilize at about 71 percent of GDP between 2018 and 2024. This is better than our simulated projections that debt levels would increase to 73 percent of GDP, but still not as good as OMB’s projection that they will fall to 69 percent.

CBO's actual estimates of the President's budget could clearly diverge from what we've roughly estimated here and likely will. CBO typically releases an updated set of budget projections in the spring, which incorporates additional information from the President's budget -- which could add even more uncertainty to our simulation. And again, the actual estimates of the individual policies could yield different results. 

Budget projections are extremely sensitive to the policy and economic assumptions used. This underscores the importance of building in some wiggle room in case economic or policy forecasts change. While we hope that CBO will agree with OMB that the President's budget would again call for a falling debt path, our initial projections indicate otherwise. In our analysis of the President's budget, we stated that we hope the President will work with Congress over the coming year to construct additional reforms to ensure the long-term debt remains under control. As it turns out, we'll likely need additional reforms this decade as well as over the long term.

 

Note: Some text has been updated since original posting to include additional details about our re-estimates. 

March 4, 2014

The President's budget is here, and so is CRFB's analysis. Our paper breaks down the key budget metrics, the policies the President uses to get there, and the economic assumptions that underlie the document. You can read the full analysis here.

The budget has debt on a downward path, falling from a peak of 75 percent of GDP in 2015 to 69 percent by 2024. Deficits fall from 4 percent in 2013 to 2 percent by 2017 and remain around that level for the rest of the ten-year window. Deficits decline as revenue rises significantly as a percent of GDP, faster than does spending (which is increasing basically throughout the ten-year window).

While the budget does not include the chained CPI like it did last year, it does keep a number of health reforms and revenue increases which represent the bulk of the budget's deficit reduction. Another major savings component is the passage of immigration reform, a new inclusion in the President's budget. The budget also includes a number of initiatives, such as effectively doubling the Earned Income Tax Credit for childless workers and funding universal pre-school, and has dedicated offsets to pay for them.

Fiscal Impact of Proposals in the President's Budget

One major difference between OMB and CBO is in their economic assumptions. OMB's economic assumptions have real GDP growth on average 0.2 percent higher annually than CBO, resulting in real GDP more than 2 percent higher in 2024. In addition, OMB projects the unemployment rate to fall faster and to a lower level than CBO. Because of these differences, we are concerned that the budget projections might not hold up when CBO evaluates the budget.

Overall, the President's budget has some merits but also some pitfalls. It proposes new initiatives along with offsetting savings and includes further savings to reduce the deficit. On paper, it puts the debt on a downward path. However, we are concerned that the deficit projections may be buoyed by OMB's rosy economic assumptions; using CBO's economic projections may show a higher deficits. Furthermore, the removal of the chained CPI – when the budget could have used more entitlement reforms, not fewer – is concerning given the dire state of the long-term fiscal situation. Still, the budget would represent progress on deficit reduction, even if it does not go far enough.

Click here to read the full paper.

March 4, 2014

This morning, President Obama released his FY2015 budget, outlining the priorities for FY2015 and the coming decade. In this blog, we provide an overview of the projections contained in the President's budget and outline some of his major proposals. Be sure to stay tuned to CRFB and The Bottom Line throughout the day and throughout the week as we take closer looks at all aspects of the President’s budget.

Budget Metrics

The President's budget would reduce medium-term deficit and debt levels relative to current projections, putting the debt on a modest downward path relative to the economy. Under the budget, deficits would fall from 3.7 percent of GDP in 2014 to 2.3 percent by 2019 before stabilizing at about 2 percent for the rest of the ten-year window. Debt would rise to a post-World War II record of nearly 75 percent of GDP in 2015 before declining to 69 percent by 2024.

Both spending and revenues would grow over time under the budget, with revenues growing more quickly and therefore pushing down deficit levels. Specifically, spending would grow from 20.8 percent of GDP in 2013 to 21.7 percent in 2024, after accounting for timing shifts. Revenues, meanwhile, would rise from 16.7 percent in 2013 to 19.9 percent in 2024 -- due to the combination of the continued economic recovery, current law tax increases already in place, and new revenue proposals in the President's budget. 

The Key Numbers in the President's Budget

  2015 2016 2017 2018 2019 2020 2021 2022 2023 2024 Ten-Yearr
Revenues
$ (trillions) $3.34 $3.57 $3.81 $4.03 $4.23 $4.45 $4.71 $4.95 $5.21 $5.48 $43.78
% of GDP 18.3% 18.6% 18.9% 19.0% 19.0% 19.2% 19.4% 19.6% 19.8% 19.9%  19.2%
Outlays
$ (trillions) $3.90 $4.10 $4.27 $4.44 $4.73 $4.96 $5.21 $5.49 $5.69 $5.91 $48.71
% of GDP 21.4% 21.4% 21.1% 20.9% 21.3% 21.4% 21.5% 21.7% 21.6% 21.5% 21.4%
Deficits
$ (billions) $564 $531 $458 $413 $503 $512 $504 $530 $482 $434 $4,930
% of GDP 3.1% 2.8% 2.3% 1.9% 2.3% 2.2% 2.1% 2.1% 1.8% 1.6% 2.2%
Deficits (corrected for timing shifts)
$ (billions) $564 $498 $454 $450 $503 $512 $504 $481 $478 $488 $4,930
% of GDP 3.1% 2.6% 2.3% 2.1% 2.3% 2.2% 2.1% 1.9% 1.8% 1.8% 2.2%
Public debt
$ (trillions) $13.59 $14.26 $14.84 $15.37 $15.98 $16.6 $17.21 $17.85 $18.44 $18.99 N/A
% of GDP 74.6% 74.3% 73.5% 72.4% 72.0% 71.6% 71.1% 70.6% 69.9% 69.0% N/A

 

New Initiatives and Savings Proposals

The President calls for several new initiatives on both the tax and spending side of the budget. Among the more notable elements, the President calls for:

  • Comprehensive immigration reform (saves nearly $160 billion)
  • Additional funding for defense and non-defense discretionary programs in FY2015, split evenly (costs about $55 billion)
  • Partial sequester relief from 2016 through 2021 (costs $140 - $350 billion depending on the baseline)
  • Funding for universal pre-K education (costs about $75 billion)
  • Expanded EITC for childless adults (costs about $60 billion)
  • New funding for surface transportation projects (costs about $70 billion and funds additional existing spending)
  • Comprehensive business tax reform (revenue neutral over the long term)
  • Other initiatives for infrastructure projects, education, worker training, and targeted tax cuts

We have already expressed our disappointment that the President's budget no longer incorporates the adoption of the more accurate chained CPI. However, we are encouraged that the President fully pays for the costs of his new initiatives and maintains most of the deficit reduction proposals put forward in his budget last year. Here are some of the larger savings measures:  

  • Reduces health care spending by reducing drug costs and provider payments while increasing means-testing of premiums and modestly increasing Medicare cost-sharing (saves about $400 billion)
  • Limits the value of various itemized deductions and exclusions to the 28 percent tax bracket (saves about $600 billion)
  • Establishes a minimum tax for millionaires (saves about $50 billion)
  • Reduces Social Security fraud (saves about $30 billion)
  • Increases cigarette tax (saves about $80 billion)
  • Reduces other spending by reducing farm subsidies, increasing user fees, and making other changes
  • Raises additional revenues by taxing large financial institutions, increasing the estate tax, limiting various tax breaks, and other changes

Stay tuned for CRFB’s full overview of the budget later today.

March 3, 2014
Presidents Budget to Be Released Tomorrow

The President is scheduled to release his budget tomorrow, which will detail his policy priorities for the coming decade. The budget typically details an array of new policy proposals and last year included a deficit reduction offer that reflected the end point of negotiations with House Speaker John Boehner (R-OH) during the fiscal cliff showdown. Although the President is expected to abandon the deficit reduction offer framework, he should still put forward a budget that responsibly deals with our fiscal situation and puts debt on a downward path as a share of the economy. Our partners at Fix the Debt recently released What We Hope to See in the President's FY2015 Budget, which asks for the President to release a gimmick-free budget that puts debt on a downward path. Past budgets have used a variety of budget gimmicks to make future deficits look rosier than they actually were.

Here are several gimmicks the President should avoid:

1. Overly rosy economic assumptions

All legislation is measured by the Congressional Budget Office (CBO), which uses a standard set of economic assumptions about the next ten years to measure all legislation. Based on a consensus of economic forecasts, these assumptions show a very slow return to post-recession normalcy: real GDP growth averages just 2.5 percent per year, unemployment stays above 6 percent until 2017, and the economy does not reach full potential anytime within the next decade. In part due to these dour economic projections, CBO latest estimates show 10-year deficits $1.7 trillion larger than in last year's baseline assumptions. 

The President's Budget is not required to follow the same economic assumptions that guide every other piece of legislation, but uses its own. By making assumptions about economic growth that are slightly rosier than CBO, the deficit can look much smaller than CBO projects. For instance, if annual real growth averaged just 0.2 percentage points higher than in the baseline, projected debt in 2024 would be more than $600 billion dollars smaller. OMB can disagree with CBO on its forecast of the economy, but it should not use unrealistically optimistic assumptions to make budget numbers look better.

2. Unintended expiration assumptions

The President supports a number of provisions that are currently either expired or soon to expire. For instance, the tax credit for business research expenses, which he mentioned in last month's State of the Union address, expired at the end of 2013. He'd also avoid the nearly 25 percent cut to Medicare physician payments under the Sustainable Growth Rate (SGR) formula, currently scheduled to take effect at the end of March. However, both of these initiatives would be expensive – $66 billion for the tax credit and $115 billion for SGR through 2024. If the President supports these programs, the budget should include their costs. It would be a gimmick for the budget to neglect to mention them or only pay for one year of costs when the programs will continue beyond one year.

3. Magic asterisks

The budget should avoid any "magic asterisks" that assume savings will materialize without specifying their source. This has happened in past budgets -- for example, assuming "bipartisan financing" of an infrastructure proposal without specifying a financing mechanism -- although last year's budget did not do this. Every savings line in the budget should have specific policies attached to it.

4. Phantom savings 

The budget also should not assume "phantom savings," counting savings that are scheduled to or have already materialized. The most popular version of this gimmick is the war savings gimmick. Under current budget convention, uncapped discretionary spending, like war spending, is assumed to grow with inflation in the CBO baseline. However, actual costs will almost certainly decline as the drawdown in Afghanistan continues, resulting in almost $600 billion in savings compared to the baseline. These savings are already scheduled to occur as our engagement draws down, and the budget should not rely on them to offset new spending or tax cuts. 

The President's budget last year, as shown below, envisioned war spending levels being reduced dramatically, eventually zeroing out by 2022. 

5. Manipulating the baseline

Another place that costs can often be hidden is inside the baseline. For instance, last year's baseline included the permanent extension of refundable tax credit expansions enacted in the 2009 stimulus and permanent avoidance of Medicare physician payment cuts. By assuming a policy as part of the baseline, the budget effectively hides the cost of a policy, although last year's budget had enough savings to offset those policies. Although this is less of a concern now that there are fewer expiring provisions with less of a budgetary effect, there is still a danger of deficit-financing extensions of current policies.

Hopefully, the President's budget will be free of these gimmicks and put debt on a downward path as a share of the economy.

March 3, 2014

Tomorrow, President Obama will release his FY2015 budget, which will detail his visions and priorities for the upcoming years. In previous years, the President has included proposals to reform spending and the tax code in a way that would contribute to deficit reduction.

The Fix the Debt campaign today released a publication outlining what they would like to see from the President's FY2015 budget. Specifically, they would appreciate seeing the following:

1. Put the debt on a clear downward path relative to the economy.

2. Pay for any new initiatives, policy extensions, or sequester relief.

3. Propose reforms to slow the growth of health spending.

4. Offer support for comprehensive Social Security reform.

5. Include pro-growth, deficit-reducing tax reform.

6. Avoid budget gimmicks, phantom offsets, and rosy assumptions.

7. Focus on the long term.

Implicit in many of these requests is the importance that the President not backtrack on deficit reduction that he proposed last year. In his FY2014 budget, President Obama built upon the deficit reduction package he offered during the fiscal cliff negotaitions in 2012, and we estimated that cumulatively, the net savings from all his proposals would be between $1.7 and $1.8 trillion.

Last year, the budget included a number of spending cuts and revenue enhancements which would begin to reduce the debt as a share of GDP. This reduction resulted from a number of important policy improvements ranging from the adoption of the chained CPI to expanded means-testing of Medicare premiums to limits on various tax preferences for higher earners. Below are a few of the larger policies proposed by the President last year to lower long-term deficits and debt. 

Deficit Reducing Policies in the President's FY2014 Budget
Policy Savings (2014-2023)
Limit tax preferences to 28% $490 billion
Chained CPI with low-income protections $235 billion
Expand various drug rebates $160 billion
Increase cigarette tax by 94 cents (to $1.95) $85 billion
Reduce and reform post-acute care payments $55 billion
Increase means testing of Medicare premiums $55 billion
Increase Medicare cost-sharing $40 billion
Reductions in hospital payments $35 billion
Increase civilian retirement contributions $20 billion

 Source: CBO

Even though the White House has already stated that chained CPI will not be in this year's budget, we would like to see the President renew his commitment to deficit reduction, through both spending and tax reforms.

We'll be covering the President's budget throughout the week here.

March 3, 2014
Some Light at the End of the Tunnel

Judd Gregg, former chairman of the Senate Budget Committee, wrote an op-ed in The Hill today. It is reposted here.

After much ado and little done in Washington, is that a glimmer of light we see coming down the tracks? It could be, maybe.

There have been three items of good news during this last week or so. Three. Count them.
 
Let’s take a moment to say a small — but not excessive — hallelujah.
 
First and not necessarily foremost, but still truly significant: Sen. Ron Wyden (D-Ore.), the incoming chairman of the all-powerful Finance Committee of the Senate, implied that the Congressional Budget Office and Joint Tax Staff may be turning rational.
For years, the CBO and Joint Tax Staff have subscribed to a counter-intuitive method of scoring tax law changes.
 
Each has essentially taken the position that when you change the tax law to incentivize people to invest for real returns rather than for tax benefits there is no resulting economic benefit or increase in federal revenues.
 
It is a position that is indefensible as matter of logic but is defensible if you are the CBO and the Joint Tax Staff, and need to have historical consistency so that too much common sense does not interfere with spending and tax policy.
 
Now we learn from the new chairman of the Finance committee that there is a chance this incredibly destructive approach to scoring tax policy changes may be adjusted, at least slightly.
 
The implications of this are immense. For the first time, people on both sides of the aisle who want to restructure the tax laws by reducing rates, special interest deductions and exemptions may have the chance to get a score that reflects the massive economic expansion that such an approach could generate.
 
In plain terms, this means that tax reform along the lines of the 1986 Reagan-Rostenkowski template — an overhaul that reduces rates while maintaining progressivity — may be possible.
 
Such an outcome would be a tremendous improvement in the way we tax our nation’s job creators. It would also give us an edge in the world markets where we must now compete.
 
Second and as a corollary to the first item of good news, House Ways and Means Committee Chairman Dave Camp (R-Mich.) is putting forth a comprehensive tax reform bill that will reduce rates, eliminate or cut deductions and exemptions, and begin the debate in earnest as to how we grow our economy.
 
Tax policy is at the center of what a government can do to incentivize American entrepreneurs to take the risks necessary to create jobs and generate prosperity.
 
Our present tax laws are a disaster in this arena. The Camp proposal is a ray of light that should energize the debate on how we restructure our tax code. Up to now, that debate has been convoluted and dysfunctional. It is dragging down the nation’s potential for prosperity.
 
Third, Defense Secretary Chuck Hagel has proposed a defense budget that addresses the core issue of how we defend ourselves in this post 9/11 world.
 
It is the most out of the box proposal since the end of the Cold War.
 
It may not be perfect, but it challenges in a thoughtful and creative way a defense structure that has become both incoherent and calcified.
 
It begins with defining the purpose of our national defense. It states that the essential goal of national defense today is to find and destroy terrorists who threaten America and our allies.
 
To accomplish this we do not need a “boots on the ground” strategy, or the ability to fight two land wars , which are ideas that are remnants from Cold War times.
 
Rather we need to be able to find an enemy who is not readily detectible in the historic context of a nation state. We need massive intelligence capability . The Hagel budget acknowledges and funds that need.
 
We also need the capability to deliver lethal force quickly and effectively when those who wish to do us harm are discovered and identified. The Hagel budget also recognizes this, although it is not clear that a commitment to the importance of naval resources to deliver this type of force is fully funded.
 
Over 50 years ago, our last truly great military and domestic leader, President Eisenhower, advised the nation in his farewell address that a military-industrial complex that did not adjust to the changing needs of changing threats could hamper rather than enforce our national defense needs.
 
Hagel must have read his speech. His plan is a call to arms to defend this nation, not to defend the forces of the status quo. It is refreshingly creative.
 
In a time when there is a certain justifiable cynicism across the land about the effectiveness of our federal government, these three candles at the end of the tunnel present some genuine hope. It is a nice change.
 
"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.

 

February 28, 2014

Along with its analysis of the conventional revenue impacts (summarized here by CRFB), the Joint Committee on Taxation (JCT) analyzed the potential economic impacts of Chairman Camp's proposal, also known as a macro-dynamic estimate. Overall, JCT expects that this bill would increase the size of the economy over the next decade by anywhere from 0.1 percent to 1.6 percent, largely caused by two things: reduced marginal tax rates on labor and the boost to consumption from increases in after-tax income. Those increases in real GDP translate to increases of roughly $200 billion to $3.4 trillion of additional economic activity through 2023.

Before we review the details of JCT's analysis, it's important to understand dynamic scoring and its role in the current budget process. Scoring agencies like JCT and CBO incorporate micro-dynamic changes from proposals in their conventional estimates -- covering changes in behavior, supply and demand, and the timing of certain decisions, to name a few. What the conventional scoring process does not do is incorporate the the effects of any changes in macroeconomic variables -- things like GDP, inflation, and employment -- and how those might alter the cost estimate. As CRFB discussed in 2012, dynamic scoring can offer valuable information that conventional estimates do not provide. However, dynamic scoring is extremely sensitive to the assumptions used, and there is no consensus on what some of those assumptions should be. Therefore, supplementing conventional estimates with some additional dynamic estimates on major pieces of legislation, such as Camp's tax reform draft, can help give lawmakers and the public more information, but the default score should be used for budgetary purposes. 

In its estimates of the discussion draft, JCT shows that lower effective marginal tax rates improve work incentives and overall labor supply, and in some years would stimulate higher levels of business investment. The proposal would also increase the after-tax income of many individuals, which would in turn increase private demand, especially when the economy has not yet fully recovered. However, JCT also notes that the cumulative effect of other parts of the proposal would hold back the economy. Specifically, reductions or eliminations of some tax preferences -- like accelerated depreciation -- would increase effective marginal tax rates on business investment. On net, JCT expects that the after-tax return to investment would fall and multinational companies would likely see their tax liability increase. Yet JCT expects the overall economic impact to be positive because of the individual income tax provisions.

2014-2023 Economic Effect of the Tax Reform Act

  Low Estimate
High Estimate Average of All Estimates
% Change in Real GDP +0.1% +1.6% +0.65%
$ Change in Real GDP +$0.2 trillion +$3.4 trillion +$1.4 trillion
% Change in Labor Supply +0.3% +1.5% +0.6%
% Change in Private Employment
+0.4% +1.5% +0.8%
Change in Employment +0.5 million +1.8 million +1 million
% Change in Business Capital Stock 0% -0.6% -0.25%
Change in Revenues (Dynamic Score) +$50 billion +$700 billion +$300 billion

Note: Estimates for changes in economic output and labor force participation are rounded to the nearest $100 billion and 100,000 people, respectively.

If enacted, JCT estimates that Camp's discussion draft would increase labor force participation by an average of between 0.3 and 1.5 percent each year this decade, and increase private sector employment by between 0.4 and 1.5 percent. In addition to the improved incentives for workers to find jobs and higher after-tax incomes, businesses would also seek to employ more workers as the return on capital fell slightly, incentivizing some substitution of capital for more labor. JCT expects that business investment would likely fall later in the decade, as the repeal of accelerated depreciation in 2016 and the longer amortization of intellectual property expenses begin to outweigh the positive effects of lower tax rates on business income.  

For a complete overview of Chairman Camp's draft, see CRFB's analysis here

February 28, 2014

The Tax Reform Act of 2014, House Ways and Means Chairman Dave Camp's (R-MI) discussion draft, is a sizeable document touching almost all parts of the tax code. However, one fiscally concerning piece of the legislation that we brought up in our analysis of the draft has to do with transportation spending: the transfer of general revenue to the Highway Trust Fund (HTF). In short, the bill double counts temporary revenue from taxation of foreign earnings held overseas to both extend the life of the HTF—a variation of which has been proposed in Congress and by President Obama—and to meet the goal of revenue neutrality over ten years.

To understand this proposal, one must first understand the international tax system and how the draft reforms it. Currently, foreign earnings of U.S. multinational companies are not taxed by the federal government until their profits are repatriated into the U.S., although certain financial income is taxed in the year it is earned. This "deferral" encourages companies to retain trillions of dollars of earnings overseas that are not subject to U.S. taxation. The draft proposes to move to a territorial system, which would essentially exempt foreign earnings from taxation that would under current law be taxed upon repatriation. To prevent companies from reaping a significant tax windfall on previous earnings, the draft enacts a 8.75 percent tax on foreign earnings held since 1986, payable over eight years. Because much of these earnings would have likely never been taxed by the U.S., JCT scores this transition tax as increasing revenue by $170 billion through 2023 and devotes $126.5 billion of it to the HTF.

Because the tax is payable over eight years, this revenue stream would disappear beyond the ten-year window. The draft decides to dedicate this temporary revenue to the Highway Trust Fund, with 80 percent going to the Highway Account and 20 percent going to the Mass Transit Account. According to the summary released by the Ways and Means Committee, these revenues would allow the Highway Trust Fund to cover projected spending through 2021.

Source: CBO, JCT

CBO projects that the HTF will be exhausted in 2015 and the Department of Transportation may be required to begin slowing reimbursements to limit spending from the HTF as early as the latter half of 2014. The highway account of the HTF faces a cumulative shortfall of $129 billion in projected spending above revenues through 2024, and the mass transit account faces a cumulative shortfall of $43 billion. The looming "funding cliff" facing highway programs has placed pressure on Congress to act this year to avoid reductions in highway spending by closing the HTF funding shortfall. But increasing the gas tax faces intense opposition, and proposals for alternative funding sources for the HTF are similarly controversial, so exploiting trust fund accounting and scoring conventions to bail out the HTF without increasing revenues or reducing spending becomes a tempting option for lawmakers. 

The budgetary impact of trust funds can be complicated. We've discussed this issue previously in general and as it related to the Affordable Care Act and Medicare Part A. CBO treats different trust funds in different ways, in some cases not counting savings that improve trust fund solvency, in some cases counting savings but not trust fund solvency improvement, and in some cases counting both. Like Part A, the Highway Trust Fund falls in the latter category. CBO assumes in its baseline that lawmakers will always act to fund the HTF, so transferring general revenue has no budgetary effect. Lawmakers can also claim to extend the life of the HTF without being charged a cost for doing so or identifying new revenues or spending cuts to cover the shortfall. Legally, the HTF is not allowed to run a negative balance and does not have authority to borrow money to cover obligations in excess of revenues after the trust fund has been exhausted, so transferring money to the HTF to extend trust fund solvency allows spending to be greater than it otherwise would have been.

In reality, though, money can only be used once. By transferring the revenue raised from the repatriation tax to the HTF, lawmakers allow the HTF to spend $126.5 billion more through 2023 than it otherwise would. But the proposal does not generate net new revenues to cover the HTF shortfall; it essentially reallocates a portion of corporate tax revenues to the HTF.

Critically, the increased revenues from the repatriation provision are also used to offset other provisions that reduce revenues to maintain the proposal's revenue-neutrality. In essence, the revenue from taxation of accumulated overseas earnings and profits can be used to make the Tax Reform Act revenue-neutral over ten years, or it can be used to close the HTF shortfall. It cannot do both.

There is merit in dedicating temporary revenues from repatriation to cover a portion of the HTF shortfall instead of using them to offset permanent revenue losses. However, this bill has no room to spare to be diverting revenue for specific purposes. If Congress were to enact the repatriation provision as part of a highway bill reauthorization in order to close the HTF funding shortfall, the tax reform proposal would no longer be revenue neutral. President Obama has made a similar proposal to cover HTF shortfalls with revenues generated by repatriation of overseas earnings as part of corporate tax reform, but with the key difference that the money dedicated to the HTF would come from the net increase in revenues over the ten year window from his corporate tax reform proposal, and the tax reform proposal would still be revenue-neutral without those revenues.

While increasing transportation spending by closing the HTF shortfall is a worthy goal, it should be done within the program by increasing the gas tax or other dedicated revenues and/or reducing projected spending levels. If lawmakers want to dedicate revenues from outside of the program to shore up the trust fund, they should do so with new revenues and not simply reallocate existing revenues.

February 28, 2014

On Wednesday, House Ways & Means Chairman Dave Camp released a detailed tax reform discussion draft, which we summarize and analyze here. On its own, the draft is an impressive piece of legislation: it is nearly 1000 pages of legislative text and addresses tax rates and preferences in both the individual and corporate tax code. But how does it stand up to other major tax reform proposals?

The comparison chart below - also found in our longer analysis paper - stacks up Chairman Camp's proposal against the Simpson-Bowles proposal, the Dominici-Rivlin proposal, and the Wyden-Coats proposal. In terms of revenue impact, both Simpson-Bowles and Domenici-Rivlin intended to raise revenue while Wyden-Coats intended to be revenue-neutral.

Comparison of Tax Reform Plans

This tax reform draft is a good jumping off point as we enter into budget season. In releasing their budgets, we hope that President Obama and the Senate and House budgets will address tax reform - in addition to entitlement reform - as a way of addressing the long-term drivers of our debt.

February 27, 2014

To understand Rep. Dave Camp's (R-MI) tax reform discussion draft, you could read the 194-page section-by-section summary of the bill. Or you could read the 5-page summary that we have just published, detailing the provisions, budgetary impact, and potential economic effects. As a whole, Chairman Camp deserves a lot of credit for producing a reform which makes many hard choices, but we are concerned that the bill could increase deficits over the longer term when reform should be contributing to deficit reduction.

Click here to read our analysis of the Tax Reform Act of 2014.

The paper details the numerous reforms contained in the draft. Individual tax rates are consolidated from seven to three brackets with rates of 10, 25, and 35 percent. The 10 percent bracket is phased out for high earners and the 35 percent bracket is applied to a wider swath of income, effectively limiting the value of tax expenditures like the health and municipal bond exclusions and the mortgage interest deduction to 25 percent. The standard deduction and child tax credits are significantly increased and also phased out for high earners while personal exemptions are eliminated. Capital gains and dividends are taxed as ordinary income but with a 40 percent exclusion, which makes an effective top rate of 21 percent. The state and local tax deduction is eliminated while the mortgage interest deduction and charitable deduction are limited, and a number of other provisions are reformed or eliminated. The Alternative Minimum Tax is also eliminated.

On the corporate side, the top rate is lowered from 35 to 25 percent, and the corporate AMT is eliminated. Preferences like accelerated depreciation, LIFO accounting, and R&E expensing are eliminated. Half of the advertising deduction is required to be written off over ten years. The R&E credit is reformed and permanently extended. The international tax system is transitioned to a territorial system where income is only taxed in the country where it is earned with certain "base erosion" protections to prevent income shifting. The one-time revenue from this transition is dedicated to the Highway Trust Fund.

In addition, the bill repeals the medical device tax and enacts a .035 percent quarterly tax on assets over $500 billion for large financial institutions.

Overall, the legislation increases revenue by $3 billion over ten years, with an almost $25 billion gain in the first five years and a $20 billion loss in the last five years. Judging by the later years of the score, it is possible that the bill would increase deficits over the longer term since there are a number of provisions that provide front-loaded or temporary revenue used to pay for permanent rate cuts. However, there are also a few provisions, such as the Chained CPI, where the revenue would grow over time.

The JCT also evaluated the potential economic benefits of tax reform, finding that it could increase real GDP by between 0.1 to 1.6 percent over ten years, translating to additional revenue gains of between $50 billion and $700 billion. If these gains materialized, the 2023 debt-to-GDP ratio could be lowered by between 0.3 and 4.0 percentage points.

Net Revenue in the Tax Reform Act (Percent of GDP)

 Notes: hypothetical revenue with dynamic scoring assumes $375 billion of additional revenue (the mid-point of JCT’s estimates) distributed from 2015 through 2023. Revenue levels compared to pre-reform GDP. Current law with expiring provisions assumes the extension of the normal tax extenders and expiring refundable tax credits. Net revenue refers to revenue minus refundable credits.

Chairman Camp's draft is an impressive piece of legislation, making many hard choices and demonstrating the tradeoffs inherent in tax reform. It can be a good starting point for a bipartisan reform effort. However, the fiscal impact remains a concern; hopefully, a longer-term analysis of the bill can be produced to see if its revenue-neutrality would hold up beyond 10 years. Still, the draft is an important contribution to the tax reform debate and hopefully will help push the conversation forward.

Click here to read our analysis of the bill.

February 27, 2014

A few weeks ago, we talked about the Senate veterans bill proposed by Senator Bernie Sanders, which would increase spending on veterans and pay for it by extending some expiring savings provisions and by using the war gimmick. That bill is now set to move forward in the Senate this week.

Only one thing has changed since we first wrote about it: the military cost-of-living adjustment reduction repeal has already taken place for current service members as enacted in the debt ceiling bill. This repeal eliminates the savings from the COLA reduction for at least 20 years, so repealing it entirely no longer has a cost in the ten-year CBO score (although it would have longer-term costs). As a result the bill now reduces mandatory spending -- the spending that would occur without further action by Congress -- by slightly more than $1 billion rather than increasing mandatory spending by approximately $5 billion. 

The bill does authorize an additional $21.7 billion for discretionary programs, but spending on those programs are subject to appropriations. Under budget rules, the costs of discretionary programs are scored to appropriations bills that actually provide spending authority and are subject to the discretionary caps in law. The discretionary authorizations in the bill do not by themselves affect actual spending or the deficit; only the provisions affecting mandatory spending would do so. Thus, enactment of the bill would reduce the deficit by more than $1 billion.

The problematic part of the bill is that it still maintains the war gimmick by putting in caps in 2018-2021 that are $5 billion lower per year than in CBO's baseline for Overseas Contingency Operations (OCO). While the gimmick no longer necessary to offset the military COLA reduction, it still leaves open the possibility -- and makes more likely -- the future use of war savings as an offset. Since the war spending caps the bill would put in place are barely a drawdown from CBO's baseline, it would not restrain war spending but would formalize OCO as a slush fund.

Congress could provide funding for base defense spending that could not fit within the existing defense caps through the OCO category and justify it by saying the spending was still below the OCO caps. Moreover, establishing caps well above anticipated future war spending would create a mechanism that would allow Congress to claim hundreds of billions of future "savings" to offset mandatory spending increases by continually lowering the caps to more realistic levels that Congress would likely abide by anyways. Essentially, this would legitimize the use of war spending caps as a slush fund to circumvent budget rules without placing any meaningful restraint on war spending.

We've pointed out many times that using war spending as an offset is a gimmick since the caps are simply meant to reflect plans already in place. To quote CBO (emphasis added):

The proposed limits on appropriations are $20 billion below the $409 billion projected for such operations over the 2018-2021 period in CBO's baseline. That $409 billion figure, however, is just a projection; such funding has not yet been provided, and there are no funds in the Treasury set aside for that purpose. As a result, reductions relative to the baseline might simply reflect policy decisions that have already been made and that would be realized even without such funding constraints. Moreover, if future policymakers believed that national security required appropriations above the capped amounts, they would almost certainly provide emergency appropriations that would not, under current law, be counted against the caps.

Creating this slush fund is unnecessary for the underlying bill itself and opens the door for fiscally irresponsible legislation that use the war gimmick as offsets. To be sure, repealing the reduction in military retirement COLAs for future enrollees will have a long term cost that will place pressure on the defense budget and should be replaced by other long term savings, ideally from other reforms of defense entitlements. Likewise, increasing discretionary authorizations places increased pressure on appropriations, and identifying savings in other discretionary authorizations can reduce that pressure. But setting a cap on OCO spending does not serve either of these purposes, particularly one set at a such a high level that will have no practical effect.

If lawmakers are to put caps on war spending, they should set them at levels to reflect the drawdown underway to lock should in those savings already expected to occur and prevent the OCO category from being used to circumvent restraints on other parts of the budget without taking credit for achieving new savings. Otherwise, they are simply playing games with it.

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