The Bottom Line

February 11, 2014

Last week's report by the Congressional Budget Office showed that our debt remains on an unsustainable path, (see our ongoing blog series) and is projected to be $1.7 trillion higher by 2024 than we previously thought.

Despite the dismal fiscal picture, Congress may be considering measures to worsen the deficit, and covering their tracks with so-called "budget gimmicks."

Today, we released a chartbook, "Avoiding Budget Gimmicks," which explains and illustrates several of the tricks and slights of hand that policymakers may use to avoid identifying genuine offsets and payfors.

We encourage our readers to share these charts and graphs and to hold policymakers accountable for efforts to worsen the long-term fiscal situation.

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


 

Chart 1: The National Debt is High and Growing

Debt is currently at its highest level since World War II, and is expected to continue to grow later this decade. Assuming the wars in Iraq and Afghanistan continue to unwind and policymakers abide by current law, debt is projected to rise from 72 percent of GDP in 2013 to 77 percent by 2024.  

 

Chart 2: Deficit-Financed Extensions Would Make the Debt Much Worse

While abiding by current law will allow debt to grow to 77 percent of GDP, continuing expiring (or expired) provisions without legitimate offsets could make the situation far worse. Extending the current doc fix, the recently expired tax extenders, and certain refundable tax credits would increase debt levels to 80 percent of GDP by 2024. Adding a repeal of future sequestration cuts would increase it to 84 percent. Additionally reinstating and extending unemployment benefits and "bonus depreciation" could drive the debt to 86 percent of GDP.

Chart 3: The War Gimmick May Allow Policymakers to Avoid Tough Choices

Under current budget conventions, uncapped discretionary spending, like war spending, is assumed to grow with inflation in the CBO baseline regardless of future plans. Some have suggested taking advantage of this quirk to cap war spending below the CBO baseline but well above the levels consistent with the drawdown currently underway. Yet capping spending above what current policy dictates and what Congress intends to spend will not result in lower future spending, and will generate only phantom savings.

 

The Congressional Budget Office, as well as budget experts on the left and right, all warn that war savings are illusory:

 

Chart 4: Using the War Gimmick Can Create a Slush Fund to Further Worsen the Debt

If war spending is capped at levels in excess of expected costs, these caps will create a slush fund for future spending. Specifically, lawmakers could further lower the caps to offset new priorities, or could sneak normal defense costs under the war spending caps if they are still elevated above drawdown levels. For example, if lawmakers set war spending caps $50 billion (over ten years) below the CBO baseline, it would create a $600 billion slush fund to avoid paying for future initiatives.

 

Chart 5: Policies Which Save Now and Cost Later Don't Really Save At All

Some policies take advantage of the ten-year budget window by taking credit for alleged savings that only represent a timing shift. For instance, a provision called pension smoothing would increase tax revenues in the first six years, but lose revenue beyond that and have no significant budgetary impact over the long-run.


Similarly, budget experts from across the political spectrum warn that this sort of timing shift is a gimmick:


Chart 6: Moving Savings from Year 11 to Year 10 Doesn't Reduce the Deficit

Another timing gimmick takes savings which would have occurred in the 11th year – just outside the ten year budget window – and moves them into the 10th. This shift may appear to reduce ten-year deficits, but in fact results in no net savings. Policymakers used this gimmick when approving a 3-month "doc fix" in December 2013.

Chart 7: Offsetting Permanent Costs with Temporary Savings Results in Permanent Costs

Some policy changes have largely temporary deficit impacts, while others have largely permanent impacts. Using a temporary policy to pay for a permanent one may appear to add up over ten years, but would worsen the fiscal outlook over the long-run. For example, adopting LIFO accounting in the tax code would generate mostly temporary revenue; using that revenue to pay for a permanent rate reduction would increase long-term deficits and debt.

Chart 8: Waiting Ten Years to Start Paying May Be Unwise

Although it may not be considered a gimmick, waiting until the end of the decade to pay for new spending can be both risky and costly. First, an offset far in the future may not be viewed as credible. Even if it were, however, substantial interest costs would accrue over the decade. In the example below, waiting ten years to pay a $25 billion bill results in interest costs equal to one-third of the primary budget impact.

 


 

The long-term debt problem is daunting enough, and it will be worse if lawmakers continue to suggest using budget gimmicks to hide or obscure the costs of new policies. We encourage readers to use these tools to hold lawmakers accountable for their efforts to worsen the long-term fiscal situation. Our whole chartbook is available here, or as a printer-friendly PDF. You can read more detail about these and other gimmicks in our paper Beware of Budget Gimmicks.

Related Blogs:


Note: The last chart was updated on February 12 to include estimates from CBO's newest interest projections.

 

February 11, 2014

With the debt ceiling having been reinstated last Friday, lawmakers are scrambling to come up with legislation to lift or suspend it again before extraordinary measures likely run out by the end of the month. Originally, House Republicans had planned on attaching a repeal of the military retirement cost-of-living adjustment reduction for people who joined the service prior to 2014 to a debt ceiling suspension through March 15 of next year. Now it appears they will pursue the "beware the ides of March 2015" strategy separately from the military COLA change, opting to vote on a clean debt limit suspension instead.

Avoiding default on the national debt is, of course, a good thing. The military COLA bill is more of a mixed bag.

As we have said before, the reduction in COLAs for working age military retirees in the Ryan-Murray deal is a modest change in the military retirement system that is need of reform.  Funding the obligations for health and pension benefits for miiltary retirees is placing an increasing burden on the defense budget. Repealing or limiting application of the COLA provision in Ryan-Murray without offsetting it with other changes reducing obligations for pension or health benefits for military retirees will require further cuts in other defense programs to accomodate higher accrual payments to fund these obligations.

The bill the House is considering would exempt current service members and retirees from the COLA reduction and apply the reduction to service members who enlisted after January 1, 2014. As a result, the policy would not achieve any savings for at least twenty years, which is the vesting period for military pensions. Grandfathering current enlistees and retirees would cost $7 billion over the next ten years. These costs would be offset by extending the mandatory spending sequester through 2024 (it had previously been extended to 2022 and 2023 in the Ryan-Murray deal).

The good news is that unlike the legislation currently being considered by the Senate, which would completely repeal the military COLA reduction without offsetting the costs, the bill the House will consider would be fully offset within the ten-year window, and it would at least maintain the COLA policy for new service members. The less good news is that it partially rolls back one of the few entitlement reforms in Ryan-Murray, and it offsets the cost with savings in the tenth year, meaning that interest costs will accrue on higher debt in the years prior. Also, it will be replacing a targeted cut with the across-the-board cuts from the mandatory sequester. Moreover, it accelerates the timing of the sequester cuts in 2024 to move some of the savings that would have otherwise occurred in FY 2025 (outside the ten year budget window) into FY 2024. 

As a side note, the legislation also contains $2.3 billion for a "Transitional Fund for Sustainable Growth Rate Reform," which would provide funds for the Secretary of Health and Human Services to supplement Medicare physician payments in 2017. Most likely, though, the fund will be rescinded and used as an offset in SGR reform legislation.

The military COLA bill at least complies with PAYGO on paper but just barely clears the bar. While it is encouraging that the legislation the House will be considering offsets the costs, replacing savings from a specific reform of an entitlement program with one-time savings from an across-the-board spending cut is a step back from responsible budgeting.

February 11, 2014

In order to avoid bumping up against the statutory debt ceiling, the Department of the Treasury has begun undertaking a number of so-called "extraordinary measures." The current debt limit is $17.211 trillion.

Keep checking back as we update this table (and click here for last year's Debt Ceiling Watch 2013, here for the 2012 watch, and here for the 2011 watch).

Date Extraordinary Measure

Headroom Given

Debt (Gross / Subject to Limit)
2/10/2014

Debt Issuance Suspension Period for CSRDF and Suspension of Investment in G-Fund

The Treasury Department will enter into a "debt issuance suspension period" from 2/10/2014 through 2/27/2014 and will suspend additional investments to the Civil Service Retirement and Disability Fund (CSRDF). Additionally, The Treasury Department has suspended investments of the Government Securities Investment Fund (G-Fund) of the Federal Employee's Retirement System in interest-bearing securities.

Measures like this have been used in 1996, 2002, 2003, 2004, 2006, 2011, 2012, and 2013. Read more here.

CSRDF: $50-$75 billion

G-Fund: $175 billion

 
2/7/2014

Debt Limit Reinstated

The debt limit was temporarily suspended through February 7th under the Continuing Appropriations Act. With its reinstatement, Treasury will begin undertaking "extraordinary measures" to continue paying the nation's bills. However, Treasury was not confident that extraordinary measures would last past February 27th. Read more here.

 

$17,258,482/
$17,211,181

2/4/2014

Treasury Suspends Sales of State and Local Government Series Securities

The Treasury Department announced that it will suspend the sales of State and Local Goverment Series (SLGS) securities on February 7th when the debt ceiling is reinstated. The move does not create any headroom, but it does preserve existing headroom by preventing additional sales that would have counting toward the debt limit. Read more here and here.

  $17,263,040/
$17,215,738
1/22/2014

Treasury Department Warns Extraordinary Measures Will Not Last as Long as Previous Uses

Secretary Lew warned that extraordinary measures will not be able to extend the nation's borrowing authority as long as in 2011 and 2013, as February is a month with high net outflows due to tax refunds. In addition, there will be less headroom created than in 2013 as some extraordinary measures can only be used at certain times. About $200 billion in headroom can be freed up in February, compared to the $330 billion that was created in 2013. Read more here.

   $17,276,127/
$17,227,861

 

February 10, 2014
Weekly Update on Budget and Fiscal Policy Developments and a Look Ahead

Having Our Phil – Punxsutawney Phil saw his shadow last Sunday, traditionally meaning six more weeks of winter. That is no surprise to most of the country that has seen record low temperatures and extraordinary amounts of snow. Most of us have accepted the reality of more wintry weather ahead just as we recognize that little in the way of substantive action will come out of a polarized Washington. But that doesn’t mean we are happy about it. Congress and most government institutions continue to suffer from record-low approval ratings as our leaders are unable to effectively confront the issues that most concern Americans. Voters have seen this movie before have had enough of partisanship and brinksmanship. Will policymakers continue to see shadows and run back in their holes at every turn, or will the frozen apparatus in Washington finally begin to thaw?

No Shadow of a Doubt, Debt Still a Problem – The Congressional Budget Office (CBO) on Tuesday released its Budget and Economic Outlook 2014-2024 with the latest projections for the next decade. The numbers illustrate that the federal budget deficit will decline this year and next (though those numbers aren’t as impressive as they seem at first blush), but then begin rising again. While there is some improvement in the short-term picture, the longer term outlook has worsened with CBO projecting $1.7 trillion more in deficits this decade than previously forecast. Public debt will rise to 79 percent of GDP by 2024 (more than twice the average since World War II) and continue on an upward path. In addition, the new study underscores the budget challenges presented by an aging society and the financial problems facing Social Security in the not-too-distant future with the Disability Insurance Trust Fund due to be exhausted in less than three years. CBO also cautions that the large and growing national debt could impair economic growth and standard of living. We analyzed and distilled what the lengthy study says about our fiscal situation in a brief paper and also continue to focus on its findings in an ongoing blog series. The Campaign to Fix the Debt also produced highlights of the outlook.      

Debt Ceiling Coming Out of the Shadows Again – Congress is set to replay a familiar comedy of errors as the statutory debt limit was reinstated on Friday after the suspension imposed by the budget agreement late last year expired. The Treasury Department began “extraordinary measures” to maintain the ability to borrow to meet national obligations by ceasing to issue State and Local Government Series bonds. However, Treasury Secretary Jack Lew warned Congress via letter that those accounting techniques might not last beyond February 27. President Obama is demanding an immediate and clean increase in the debt limit while House leaders want something in return for an increase, but there is no agreement on what should be paired with raising the debt ceiling. A wide array of ideas has been offered, such as reforms to the budget process and ideas that have nothing to do with improving the fiscal situation, like approving the Keystone XL pipeline. There are now reports that the House may vote this week on a one-year debt limit suspension combined with extending the “doc fix” for nine months and reversing recent reforms to military retirement pay included in the budget agreement. However, one of the proposals for offsetting the costs of the plan is the “pension smoothing” gimmick that will actually add to the deficit in the long term. Another offset would include an extra year of cuts to mandatory spending. Meanwhile, the Bipartisan Policy Center and Concord Coalition offer ideas to improve the process so that fiscal responsibility can be promoted with threatening the economy. Have more questions about what the debt ceiling is and what it means? Check out our updated Debt Ceiling Q&A with everything you should know about it.       

Still Looking for Common Ground on Unemployment Insurance – The Senate last week came up short in extending emergency Unemployment Insurance benefits. Two votes on a three-month extension, one not offset and one “paid for” with pension smoothing failed to garner enough support. Just after the vote, CBO scored the extension. The CBO assessment confirms what we have been saying all along, that pension smoothing is a gimmick. While the provision reduces the deficit in the first six years, it then begins to increase deficits thereafter.  

White House Budget Won’t See the Light of Day Until MarchReports are (subscription required) that the White House Fiscal Year 2015 budget request will be released in two parts in March. By law, the budget was supposed to be unveiled February 3. The word is now that topline budget numbers will come on March 4 and more detailed numbers will come one week later on March 11. Despite the recent budget and appropriations agreements, there is still little question that the federal budget process still needs to be improved. The House Budget Committee marks-up two budget reform bills on Tuesday, one to adopt fair-value accounting for federal credit programs and one to institute biennial budgeting. In addition, the Brookings Institution has an ongoing blog series highlighting budget process reform ideas. For more budget reform proposals visit budgetreform.org.

Farm Bill Finally Comes Out of Its Hole – Last week the Senate passed major farm bill legislation and it was signed by President Obama Friday. The bill reduces deficits by about $17 trillion over ten years by streamlining direct payments to farmers and nutritional assistance programs. Combined with sequester savings, about $23 trillion in deficit reduction is achieved. 

Tax Reform Grounded? – The Senate confirmed Max Baucus to be U.S. Ambassador to China, meaning that Congress loses a leader of efforts to overhaul the tax code. While the future of fundamental tax reform this year is up in the air, Baucus’ replacement as chair of the Senate Finance Committee, Sen. Ron Wyden (D-OR), says he will take on the 55 tax breaks that expired at the beginning of the year – known as the “tax extenders” – as a gateway to fundamental tax reform.

Will Doc Fix Hog the Spotlight? – The relevant House and Senate committees last week jointly announced legislation to permanently replace the Sustainable Growth Rate (SGR), known as the “doc fix.” However, no agreement has yet been reached on how to offset the cost of a permanent doc fix. How lawmakers decide to pay for the fix could be the subject of much debate. 

Casting Sunlight on Budget Gimmicks – Budget gimmicks abound and we are exposing them. We issued a press release warning about the “pension smoothing” and “war savings” savings gimmicks. The Senate unsuccessfully tried to use pension smoothing to offset the three-month Unemployment Insurance extension and the House is considering it to pay for rolling back military retirement reform along with raising the debt ceiling. Meanwhile, legislation was introduced in the Senate to pay for the military reform reversal with so-called war savings, which is a gimmick because the “savings” result from the expected drawdown of forces from Afghanistan, not any new policy.  

Déjà Vu on Military Retirement – This week the Senate is set to take up the issue of repealing reforms to military retirement included in the budget agreement. This could be a recurring theme as many lawmakers are not pleased with the cuts. As with virtually everything nowadays, a main sticking point is whether to pay for the change and how to do so. Senators will consider repeal without any offsets, but amendments paying for the change may be offered. The Bipartisan Budget Act reduced cost-of-living adjustments for working-age military retirees. Though the reforms are minor and there is widespread recognition that more will be required to reform military compensation, many lawmakers are facing pressure to reverse the changes. This episode illustrates why the optimal approach is a comprehensive "grand bargain" that achieves savings from all parts of the budget, so that one group cannot claim to be singled out.

 

Key Upcoming Dates (all times are ET)

 

February 11

  • House Budget Committee mark-up of budget process reform legislation at 10 am.
  • Senate Budget Committee hearing on the CBO Budget and Economic Outlook at 10:30 am.

 

February 12

  • Treasury Department releases monthly federal budget data.

 

February 20

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


February 28

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

 

March 4

  • White House releases Fiscal Year 2015 budget request.

 

March 7

  • Bureau of Labor Statistics releases February 2014 employment data.

 

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.

 

February 10, 2014
Agreement on “pay-fors” still needed

Last week, on the day Senate Finance Chairman Max Baucus was confirmed to his new post as Ambassador to China, the Senate Finance, House Ways and Means, and House Energy and Commerce Committees announced a bipartisan agreement to reform the Sustainable Growth Rate (SGR) formula for Medicare physicians, reportedly with a ten-year cost of $126 billion. If the so-called health extenders from the previous Senate Finance proposal were included as well, that would add roughly another $45 billion in costs through 2024, bringing the total cost to around $170 billion.

With the SGR set to cut physicians payments by nearly 25 percent on April 1, the three relevant committees have been working feverishly to reach agreement on a compromise set of reforms to encourage quality, rather than volume, of care. The compromise hems close to the previous committee proposals, particularly those from Senate Finance and House Ways and Means, but includes a few key changes and fills in much detail:

  • Medicare professionals will get 0.5 percent annual payment updates through 2018, rather than the payment freeze offered by Senate Finance, and in line with the House Ways and Means proposal. These updates will add roughly $10 billion to the ten-year cost of the SGR fix compared to the Senate Finance proposal.
  • However, possibly in exchange, the compromise bill would cut annual Medicare physician payment updates in half after 2023 from previous proposals – 1 percent for professionals paid through an Alternative Payment Model (APM) and 0.5 percent for everyone else, compared to 2 percent and 1 percent in previous iterations, respectively. This change will save the government close to $50 billion over the 2nd decade and in the range of $300 billion over the 2nd and 3rd decades combined, making it more likely that a fully offset final bill can greatly improve Medicare’s sustainability. This modification might also be an indication that CBO is planning to provide a rough estimate of the SGR’s bill budget impact in the 2nd decade, similar to what they have done for the Affordable Care Act and Senate immigration bill.
  • Far more detail was added to precisely how the Merit-Based Incentive Payment System (MIPS) would work to determine some of Medicare’s payments to medical professionals. The system:
    • Reduces the initial amount of spending on MIPS-eligible professionals tied to the system’s metrics for quality, resource use, and meaningful electronic health record (EHR) use in 2017 from 8 percent in the original Senate Finance draft to 4 percent. Similarly, once fully phased-in by 2021, 9 percent of spending would be subject to such metrics rather than 10 percent.
    • Adds “Clinical Practice Improvement Activities” into the calculation to determine relative Medicare payments to professionals under the bill’s new Merit-Based Incentive Payment System (MIPS).
    • Specifies more precisely how the positive and negative payment adjustments would be determined.
  • Provides $40 million between 2014 and 2018 to help small physician practices move toward an Alternative Payment Model (APM) or improve their MIPS performance, up from $10 million in the original Senate Finance draft.
  • Sets up a process to develop qualified clinical decision support (CDS) mechanisms.
  • Limits prior authorization requirements for advanced imaging for physicians with low adherence to “applicable use criteria,” now only allowed to apply to 5 percent of ordering physicians at most.

Even with all of this, though, they’re still only half-way home. Despite an agreement on how to reform the SGR, the question of how to pay for the roughly $130 billion in new spending remains unsolved.

February 7, 2014

In its February 2014 Budget and Economic Outlook, CBO continued its previous warnings from last year's February outlook and September's long-term outlook: elevated and rising debt level pose serious risks for economic growth and budget flexibility.

In its latest outlook, CBO highlights on page one the consequences of high levels of debt:

Such large and growing federal debt could have serious negative consequences, including restraining economic growth in the long term, giving policymakers less flexibility to respond to unexpected challenges, and eventually increasing the risk of a fiscal crisis (in which investors would demand high interest rates to buy the government’s debt).

Later in the report, CBO touches on how rising debt levels have contributed to the downward revisions in projected growth rates, as a result of population aging, lower labor supply, and lower productivity growth.

A downward revision to the projected growth of the capital stock (reflecting new data and lower projected investment resulting primarily from higher federal debt); the capital stock is now projected to grow by an average of 3.1 percent per year, compared with the 3.4 percent projected previously.

Again, in his testimony on Wednesday morning to the House Budget Committee, CBO Director Douglas Elmendorf reaffirmed the dangers of rising debt. In response to a question from Congressman Tom Price (R-GA) about whether Congress has adequately addressed the risk of a fiscal crisis, Elmendorf stated that the risks of such a crisis are still present and such a scenario, in a variety of potential forms, could put enormous pressures on the federal budget:

"Well, as you know, the Congress has taken a number of steps and I don’t want to diminish those, but it is clear from our report that the fundamental fiscal challenge remains which is significant increases in spending for certain programs. And even though all the rest of the government is on a track to become smaller relative to the size of the economy, we nonetheless show high and rising debt. And that means that the country will need to make choices it has not yet made about cutting back those large programs or raising tax revenue to pay for them."

The takeaway from CBO's latest projections is clear: the long-term economy faces serious challenges to strong growth, include large and rising federal debt. Lawmakers should heed these warnings and recognize that addressing the debt is a central component of an economic growth strategy.

February 6, 2014

In CBO's 2014 Budget and Economic Outlook released this week, they addressed the future of the federal government's largest program, Social Security. Social Security has two separate trust funds: one for Old Age and Survivors Insurance and one for Disability Insurance. It is clear from CBO's analysis that both face mounting fiscal challenges in the coming years.

Disability Insurance (DI)

The Social Security DI program pays benefits to some workers who suffer debilitating health conditions before they reach Social Security's full retirement age. Payments are also made to their eligible spouses and children. As CBO explains, the trust fund is paying out more than it is taking in, so its annual cash flows of the DI program, excluding interest, will add to federal deficits every year for the next ten years, by amounts ranging from $35 billion to $52 billion. Even with interest receipts included, the DI trust fund is expected to run a yearly deficit throughout that period. CBO estimates that, in the absence of legislative action, the balance of the DI fund will be exhausted in Fiscal Year 2017, though it appears that the trust fund would run out near the end of calendar year 2016. The chart below shows the outlook for the DI fund over the next decade (excluding interest payments and expenses):

By law, CBO is required to assume the Social Security Administration (SSA) will pay DI benefits in full after the trust fund is exhausted even though SSA is not allowed to pay benefits in excess of the available balances, borrow money from a trust fund, or transfer money from one trust fund to another. In Congressional testimony yesterday, CBO Director Doulas Elmendorf addressed this issue stating that in 2017 the DI program “would require then a substantial reduction in benefits to fall down to the level of the ongoing incoming receipts” unless Congress acted to shift money to the DI fund. If Congress wants to avoid a sizeable reduction in disability benefits, they will need to take action to shore up the program's finances.

Old Age and Survivors Insurance (OASI)

Unlike the DI program, OASI is currently running surpluses and will continue to do so through 2019, however, these amounts will decline over that period. By 2020, even with interest income, CBO projects the trust fund will start recording annual deficits. While about 46 million people received OASI benefits in 2013, more baby boomers are becoming eligible for the program and the number of people collecting those benefits will increase by an average of 3 percent per year. By 2024, CBO estimates 63 million people will receive benefits, 38 percent more than the number of recipients in 2013. Additionally, CBO estimates that the average benefit will increase by 3 percent each over the next decade. CBO shows the projection of decreasing surpluses and eventually deficits in their graph:

Annual Surpluses or Deficits Projected in CBO's Baseline for the OASI Trust Fund

Source: CBO cbo.gov/sites/default/files/cbofiles/attachments/45010-Outlook2014.pdf

Over the coming decade, Social Security spending will climb steadily (6 percent on average per year) due to the nation’s growing elderly population and rising benefits. Under current law assumptions, Social Security outlays will encompass 5.6 percent of GDP by 2024. CBO's analysis shows that in the near future, both Disability Insurance and Old Age and Survivors Insurance will face major funding challenges and will need to be addressed. 

The Disability Insurance Fund will run out in 2016 or 2017, and Social Security as a whole will become insolvent by the early 2030s. As we discuss in our paper Social Security Reform and the Cost of Delay, acting sooner will mean that the necessary changes can be smaller and gradually phased in. If policymakers wait until Social Security is on the brink of insolvency, the problem becomes much more difficult to fix.

February 6, 2014

Yesterday, we updated our Q&A: Everything You Needed To Know About the Debt Ceiling to reflect the newest date for the debt ceiling, which will be reinstated after February 7. The debt ceiling was suspended in mid-October, following a partial government shutdown, and will be reinstated on Friday. This suspension will result in a de facto $600 billion increase, putting the new debt ceiling at approximately $17.3 trillion. After this date, the Treasury will start to use extraordinary measures, in order to allow the United States to continue borrowing and fulfill its obligations. Treasury Secretary Jacob Lew recently estimated that these extraordinary measures will be exhausted by late February, and urged Congress to take measures to raise the debt ceiling before that time.

Our Debt Ceiling Q&A explains the history and mechanics of the debt ceiling, as well as suggesting ways to responsibly address it. Below we summarize several of the questions that the primer answers. Click here to read the full Q&A.

What is the debt ceiling?

The debt ceiling is the legal limit on the total level of federal debt the government can accrue. The limit applies to almost all federal debt (certain types of debt are exempt, but are quite small in value), including the debt held by the public and what the government owes to itself through various accounts such as the Social Security and Medicare trust funds. The debt ceiling applies to both debt held by the public as a result of borrowing necessary to finance deficits, and debt owed to trust funds. As a result,  the debt subject to limit increases both as a result of annual budget deficits financed by borrowing from the public and increases in government trust fund balances invested in Treasury bills. The current debt subject to limit of more than $16.7 trillion is composed of nearly $12 trillion in debt held by the public and slightly more than $4.7 trillion in debt held by government accounts.

What happens if the debt ceiling is breached?

Once the government hits the debt ceiling and exhausts all available extraordinary measures, it is no longer allowed to issue additional debt. At that point, the government must rely on its remaining cash on hand and incoming receipts to pay all obligations. However, when the federal government is in a period of running annual deficits – as is the case today – incoming revenues to the federal government are insufficient to cover all of the government’s obligations, be it salaries for federal civilian employees and the military, utility bills, veterans’ benefits, or Social Security payments, to name a few. Between October 18th and November 15th, for example, the Bipartisan Policy Center estimates that approximately 32 percent of the government’s obligations would have to go unpaid, if relying only on incoming receipts to pay bills. Instead of or in addition to failing to meet these obligations, the government could also potentially default on regular interest payments on the debt.  A default, or even the perceived threat of a default, could have serious negative economic implications.

Can this be avoided without congressional action?

The Department of Treasury can use a variety of accounting gimmicks to postpone hitting the threshold. For example, it can prematurely redeem treasury bonds held in federal employee retirement savings plans, halt contributions to government pension funds, or accumulate certain special types of debt which are not subject to the limit. While these actions are within the Treasury's authority, they do not make for very good policy, and can have negative economic, financial, and political consequences.

What should policymakers do?

Failing to raise the debt ceiling would be disastrous, and would surely, and rapidly, result in severely negative consequences that experts are not capable of fully knowing in advance. Even threatening a default or taking the country to the brink of default could have serious negative repercussions. Given these facts, Congress and the President must raise the debt ceiling – and they should do so as soon as possible. Yet they should also pursue a deficit reduction plan which would ideally replace the sequester, reform the tax code to make it simpler and raise more revenue, slow the growth of entitlement programs, and put the debt on a clear downward path relative to the economy.

We hope that this Q&A will be a useful primer on the debt ceiling. Although the need to raise the debt ceiling can serve as a useful moment for taking stock of our fiscal state, lawmakers should enact a comprehensive deficit reduction plan without jeopardizing the full faith and credit of the U.S. government.

February 6, 2014

Yesterday, the Congressional Budget Office released its annual report on the federal budget, which outlines their projections of all federal spending and revenues over the next 10 years and serves as a baseline against which to measure all of this year's legislation. The report showed that the deficit is expected to fall by $166 billion since last year, from $680 billion in 2013 to $514 billion in 2014. However, this one-year improvement in the deficit is not a cause for celebration: it was largely the expected result of a recovering economy, and partially the result of one-time revenues. Not only does a close look at the report not indicate good news, but the long-term picture is significantly worse, with a ten-year deficit $1.7 trillion worse than previously projected.

This post is part of a series on CBO's February report. Click here to read other posts in the series.

Almost three-quarters of the deficit reduction should be no surprise at all: CBO's report last year expected deficits to drop to $560 billion because of increased revenue and decreased safety net payments due to the recovering economy. We will post a follow-up blog next week describing the sources of these "expected" changes, which include higher revenues from economic growth, new taxes passed as part of last year's fiscal cliff deal, and increased outlays for health care programs as a result of the Affordable Care Act. Without these expected changes, the deficit only dropped by $46 billion from last year's projection.

There were forces that shifted deficits both upward and downward since last year's projections.  Unexpectedly good returns from Fannie Mae and Freddie Mac, which return excess profits to the Treasury, resulted in an $88 billion gain. New estimates for coverage under the Affordable Care Act reduced deficits by $8 billion: $6 billion from reduced exchange subsidies and $2 billion from reduced outlays for Medicaid and CHIP. Other economic and technical changes to CBO's projection methodology lowered budget outlays by another $8 billion.  On the deficit-increasing side, Congress passed additional legislation increasing spending by almost $45 billion, most notably the Murray-Ryan budget agreement, which partially lifted the sequestration budget caps. Revenue also dropped by $13 billion, the net effect of improved economic projections and CBO's downward technical adjustments.

From the chart above, one can see that the annual deficit dropped by $166 billion since last year, but almost three-quarters of that figure was projected last year, as a natural response to the end of the recession.  Excluding this expected drop, deficits only improved by $46 billion. Yet most of those changes were outside of Congress' control – such as increased revenues from Fannie Mae and Freddie Mac and CBO's technical corrections.  If the deficit only measured by the actions of Congress, the deficit actually increased by about $45 billion.

February 6, 2014

This afternoon, the Senate is expected to vote on an extension of unemployment insurance, offset with so-called "pension smoothing" - a timing shift which doesn't actually reduce the debt. The criticism against using pension smoothing as an offset is growing louder, as both the right-leaning Heritage Foundation and the left-leaning Center on Budget and Policy Priorities have declared it a gimmick.

CBPP warns that the savings from a pension smoothing offset are merely illusory, and that it fails to serve as an offset outside the 10-year budget window.

This proposed change in pension funding rules can’t “pay for” anything.  While it would raise money at first, it would lose money in later years.  Although it would offset some or all of the cost of ending the medical device tax for several years, it would swell deficits and debt for some years after that.

The proposal could produce a net revenue gain within the ten-year budget window, but produce subsequent revenue losses.  As a result, it would cease to function as an offset, and the package would then increase deficits and debt in all future decades.

The Heritage Foundation warns that changing the pension interest rate calculation could put taxpayers on the hook for bailouts, and increase the deficits that the Pension Benefit Guaranty Corporation runs.

The proposal to “smooth” pension contributions would merely shift tax revenue from the future into the present while destabilizing pensions even further and increasing the risks of a taxpayer pension bailout.

Senator Reed’s claims that the proposal would reduce the deficit by $1.2 billion are bogus, as they are based on a budget window accounting gimmick. The proposal would increase revenue in the short term but reduce revenue in future years. And by worsening some firms’ pension underfunding problems, it could actually increase the deficit in the long run.

We also have recently warned against using this gimmick as well, in a press release issued yesterday, where CRFB President Maya MacGuineas criticized pension smoothing.

"The bleak recent budget projections highlight the tremendous need to at least pay for new spending or tax cuts so we don't make the situation worse. Relying on phantom savings and timing shifts undermines the credibility of pay-as-you-go budgeting and, more broadly, fiscal responsibility."

"These are gimmicks, plain and simple...collecting more taxes now and less in taxes later doesn't help our bottom line."

On February 7, CBO estimated that the provision would raise $17 billion over the first six years, but lost money afterward. The losses in the next five years reduce the net savings to $4 billion.  However, the provision continues to lose money outside the 10-year projection window. If lawmakers extend the pension smoothing gimmick to "raise" $4 billion, it will save $4 billion over the next ten years only, but lose money over the long term.

Legislators must understand the long-term implications of using the pension smoothing payfor, and that it is unequivocally a gimmick. There are plenty of real offsets that Congress should turn to instead.

Confused about what pension smoothing is? Read a more detailed description here.

Update 2/7/14: This post has been updated to reflect the Congressional Budget Office score for the actual pension smoothing provision used in the unemployment insurance legislation, released on February 7.

February 5, 2014

Soon, the Senate may consider the Comprehensive Veterans Health and Benefits and Military Retirement Pay Restoration Act legislation (the CBO scoring is available here) introduced by Senator Bernie Sanders (I-VT) to reverse the military retirement reforms from the Bipartisan Budget Act and create, expand, or extend a number of veterans benefits.

Encouragingly, the mandatory veterans provisions in the bill would not, on net, add the deficit – since the legislation extends several money-savings provisions (See the full CBO score here). However, when combined with the repeal of the military retirement reform, the legislation adds more $4 billion to the deficits – and tries to pay for that with phony war savings.

Specifically, the legislation would create a cap adjustments for overseas contingency operations (OCO) in 2018 through 2021, and would set that adjustment about $5 billion lower than the CBO baseline each year – or $20 billion over four years.

Yet to generate new savings, a cap on discretionary spending must lead Congress to actually spend less than they otherwise would. This cap would not.

By convention, the CBO baseline extrapolates current war spending with inflation – but in reality a drawdown in war spending is already long underway. By 2018, CBO's estimate of a war drawdown path – which would drawdown troop levels from 85,000 to 30,000 -- will be only two-fifths as high as the cap adjustment in this legislation. The President's Budget assumes a similar amount of spending as the CBO drawdown path.

In other words, the caps would be far higher than what Congress is likely to spend – and so they would not be binding and would not save any money. In addition, the legislation does not prevent Congress from declaring additional war spending as emergency spending if, due to some new large-scale international conflict, more spending was needed. As the non-partisan Congressional Budget Office explains (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.

Indeed, using $20 billion of phony Overseas Contingency Operations (OCO) savings could be worse than no offset at all, because it could effectively establish a huge new slush fund.


Were Congress to further lower the 2018-2021 caps to accommodate a drawdown to 30,000 troops (as per CBO), they could generate an additional $250 billion of phony savings beyond the $20 billion in the Sanders bill. Were they to begin the caps in 2015, they could generate $400 billion. And if they also extended them through 2024, they could generate about $500 billion.

In other words, the legislation would add $4 billion to the deficit. But it would also give Congress a permission slip to add hundreds of billions more to the debt; and either to offset costs in other parts of the budget, to further backfill regular defense spending, or both.

Senator Sanders deserves credit for offsetting the portion of his bill focused on veteran's reforms. But as we’ve explained before, Congress should think carefully before reversing reforms to costly military retirement benefits. And certainly, Congress must not rely on a phony offset which would not only undermine PAYGO principles but create a huge slush fund for future deficit spending.

February 5, 2014

Yesterday, the Congressional Budget Office (CBO) reported a significantly bleaker fiscal picture than they had projected just last year, with debt now rising to 79.2 percent of the economy by 2024. Most reports are stating that deficits have been revised upward by $1 trillion, but on an apples-to-apples basis, the revision was even greater.

Due to a quirk in CBO scoring conventions, last year CBO had to assume that one-time disaster relief funding in the wake of Hurricane Sandy was extended annually forever, which artificially inflated their deficit projections by around $425 billion from 2014-2023. This year, however, CBO no longer has to assume continued funding for Hurricane Sandy.

Therefore, to compare the actual changes between CBO’s deficit projections, the applicable 10-year deficit total projected last May was $5.9 trillion, not $6.3 trillion. Similarly, debt was projected to reach 72.3 percent of GDP in 2023 after accounting for Sandy, rather than 74 percent.

The adjusted numbers imply that total forecasted deficits from 2014-2023 actually rose from $5.9 trillion to $7.3 trillion, a jump of $1.4 trillion. Similarly, projected debt in 2023 rose by nearly 6 percent of the economy that year, from 72.3 percent to 78 percent.

Given that the new 10-year budget window stretches from 2015 to 2024, one could also compare the change in estimated deficits over this period. On an apples-to-apples basis, adjusting for the Hurricane Sandy plug in CBO’s May 2013 projections, cumulative deficits increased by almost $1.7 trillion over this window, and projected debt in 2024 increased by nearly 6.5 percent of the economy.


 

February 5, 2014

CBO Director Douglas Elmendorf testified before the House Budget Committee this morning following CBO's release of the 2014 Budget and Economic Outlook on Tuesday. In his opening statement, Director Elmendorf addressed CBO’s projection of a return to rising deficits beginning in Fiscal Year 2016. While the budget deficit is projected to be on pace with historical levels at 3 percent of GDP in 2014, it will begin to rise once again in 2016 and will exceed $1 trillion by 2022. Elmendorf attributed this to spending increases driven by an aging population, expansion of federal subsidies for health insurance, rising healthcare costs per beneficiary, and mounting interest payments on the federal debt, among other factors. Additionally, the federal debt is and will be at historically high levels, and Elmendorf laid out the consequences:

The large budget deficits recorded in recent years have substantially increased federal debt, and the amount of debt relative to the size of the economy is now very high by historical standards. We estimate that federal debt held by the public will equal 74% of GDP at the end of this year and 79% in 2024 under current law. Such large and growing federal debt could have serious negative consequences, including restraining economic growth in the long term, giving policymakers less flexibility to respond to unexpected challenges, and eventually increasing the risk of a fiscal crisis.

Addressing the composition of spending, Elmendorf stated that Social Security, major healthcare programs, and net interest payments on the debt are the largest drivers of the debt, as we noted yesterday. While these categories increase, the rest of federal government spending is projected to fall from 9.5 percent of GDP in 2014 to 7.5 percent in 2024, its lowest level since at least 1940. As a result, Elmendorf highlights, an increasing share of the budget is going toward benefits from a few large and growing programs.

The hearing centered around CBO’s projection of falling labor force participation in coming years, which was a factor in the deterioration of the budget outlook and the topic of much discussion. In his opening statement, Elmendorf said:

The increase in participation stemming from improvements in the economy will be more than offset by downward pressure from demographic trends, especially the aging of the baby boom generation. After 2017, when the demographic trends will still be unfolding, but the effects of cyclical conditions will, we expect, have largely waned, the participation rate is projected to decline more rapidly. That is the main reason why beyond 2017 we project that economic growth will diminish to only a bit more than 2% per year, a pace that is well below the average seen over the past several decades.

Although he did not specifically mention the Affordable Care Act’s impact on labor force participation in his opening statement, committee member questions made it the focus of the hearing. The outlook identifies the ACA as a source of falling labor force participation. In response to a question from Budget Committee Chairman Paul Ryan, Elmendorf stated CBO projects a 1.5-2 percent decrease in the number of hours worked over the 2017-2024 window. In terms of Full Term Equivalency (FTE), this corresponds to between 2-2.5 million fewer FTE workers. Elmendorf clearly stated this is an issue of some workers choosing not to participate in the labor force, not one of employers slowing hiring or laying workers off. We will delve into CBO's labor force projections in great detail later this week.

Overall, despite a reduced deficit estimate for 2014, the longer-term outlook demonstrates that the drivers of our debt have not been dealt with and our fiscal issues remain far from solved.

Elmendorf's full testimony can be seen below.

February 5, 2014

Yesterday, the Congressional Budget Office released its 2014 Budget and Economic Outlook, serving as a budget baseline for the new year. To help make sense of the 182-page dense but informative report, CRFB has released a concise 7-page analysis that puts the new numbers in perspective.

As we said yesterday, much of the deterioration in CBO's new projections reflects weaker expectations for economic growth. CBO still expects the economy to recover to its full potential around 2018, but expects slower economic growth when it reaches that point due to slower productivity growth, less investment, and a smaller labor force than in previous projections. Economic growth was expected to average 2.9 percent over ten years last February, but new projections expect economic growth to average only 2.5 percent.

When combined with other technical and legislative changes, debt projections are significantly worse than in the last update. Debt as percentage of GDP will fall from 73.6 percent of GDP in 2014 to 72.3 percent in 2017 before then returning to an upward trajectory, reaching 78.0 percent of GDP in 2023 and 79.2 percent in 2024. For comparison, debt was projected to be 71.1 percent of GDP in 2023 in last May's projections. Average revenues over ten years are expected to be lower at 18.1 percent of GDP, compared to the previous ten-year average of 18.3 percent. Furthermore, average spending over ten years is expected to be significantly higher at 21.7 percent of GDP, compared to the previous ten-year average of 21.1 percent.

Last May, there was some excitement over the improvement in budget projections from February, and even suggestions that getting our fiscal house in order was no longer a pressing issue. However, as the graph below shows, the changes in this baseline from May were twice the size of those between February and May, only in the wrong direction. This report should be taken as a reminder that putting debt on on a sustainable path needs to be a priority.

Yesterday's summary could not cover everything in the report, which is why we will be continuing with a new blog series on the CBO report for the remainder of the week. In the coming days, we will explain why the deficit fell in 2014, what consequences high debt could have on the economy, what changed in CBO's economic projections this year, and many more topics. Check our first two posts, our reaction to the report and an examination of spending growth, and keep reading The Bottom Line as we continue to analyze the CBO report.

CBO's new outlook is a reminder that budget projections are always subject to uncertainty. It's important to make sure we put our debt on a sustainable downward path over the long term if projections are better than expected, it is always easier to undo some changes than to enact additional savings. At the same time, we can enact phased-in, structural reforms that will not interfere with our recovering economy, and even stimulate economic growth further. As we conclude in our paper:

Building on recent bipartisan success in agreeing to reform certain spending programs and enact all twelve appropriation bills, we encourage Congress and the President to work toward comprehensive tax reform and structural entitlement reforms designed to put the debt on a clear downward path relative to the economy. At a minimum, policymakers should adhere to strict pay-as-you-go (PAYGO) rules to prevent the record-high debt projections from worsening further.

Follow our 2014 CBO Budget Outlook blog series here and read our full analysis of the CBO outlook here.

February 4, 2014

The CBO's baseline released today shows how spending is expected to grow over time and where that growth occurs in the federal budget. In general, spending grows from 20.8 percent of GDP in 2013 to 22.4 percent by 2024. However, different categories of spending have much different fates within the overall total.

Spending on interest expands the most, growing by 2 percentage points of GDP as interest rates rise and debt continues to grow. Spending on the major federal health care programs grows by 1.5 percentage points of GDP, largely from the Affordable Care Act's expansion of Medicaid and new subsidies for purchasing insurance in the health exchanges. Social Security spending grows by three-quarters of a percentage point as Baby Boomers continue to retire.

Meanwhile, spending on everything else declines significantly: discretionary and other mandatory programs combined fall by 2.6 percentage points of GDP in this period. The graph below shows the significant decline of these programs, which include safety net programs, defense, infrastructure, education, and energy spending.

Source: CBO

February 4, 2014

The Super Bowl was held last Sunday, and the Olympics are coming up in a few days, but the biggest event this week happened today as CBO released its latest budget and economic projections for the next ten years. The odd scheduling of budget projection releases last year meant that there was no August update of the baseline, as there usually is, so these are the first projections in almost nine months. CBO's projections show a significantly worse outlook than their previous one did, with debt as a percent of GDP only reaching a low of 72 percent of GDP in 2017 and rising as a percent of GDP from 2018 onward to more than 79 percent by 2024 much higher than their previous projection of 71 percent of GDP in 2023. These updated projections should serve as a warning that budget projections can change signifcantly in light of new data especially new data on the economy.

In total, deficits are $7.9 trillion (3.5 percent of GDP) over the 2015-2024 period, compared to $6.3 trillion (2.9 percent of GDP) over the 2014-2023 period from last May's baseline. Debt falls from 73.6 percent of GDP in 2014 to a low of 72.3 percent by 2017 before rising to 79 percent by 2024. Throughout the ten-year period, debt would remain at elevated levels not seen since the aftermath of World War II. But even more worrisome is the clear upward path of debt this decade, compared to a more stable outlook in the previous projections. 

Debt as a percent of GDP surpasses the 2014 level by 2020, whereas it did not surpass the 2014 level until after 2023 in the May 2013 baseline. 


Source: CBO

CBO warns about the high economic price of growing debt:

The large budget deficits recorded in recent years have substantially increased federal debt, and the amount of debt relative to the size of the economy is now very high by historical standards….. Such large and growing federal debt could have serious negative consequences, including restraining economic growth in the long term, giving policymakers less flexibility to respond to unexpected challenges, and eventually increasing the risk of a fiscal crisis (in which investors would demand high interest rates to buy the government’s debt).

Spending is gradually rising throughout the next ten years from 20.5 percent of GDP in 2014 to 21.4 percent in 2019 and 22.4 percent by 2024. This is due to several factors, including the gradual easing of downward pressure on spending from several near-term spending contraints, growing health care costs, the continued retirement of the Baby Boomers, and rising interest payments on a growing stock of debt. Meanwhile, revenue remains at around 18 percent of GDP, shrinking slightly in the near term as revenue from the Federal Reserve wanes and rising later on as income tax revenue grows and revenue measures from the health care law and fiscal cliff deal remain in place.


Source: CBO

In short, the budget outlook has deteriorated from previous projections, mostly on the basis of CBO revising projections for economic growth, inflation, and the labor force.

Stay tuned to The Bottom Line throughout today and the rest of this week. We will have much more analysis of the report and how it differs from the May 2013 baseline.

Note: The graphs have been changed to show May 2013 current law numbers, rather than those numbers with an adjustment to remove extrapolated Sandy relief funding.

February 3, 2014

This morning, Secretary Lew spoke at the Bipartisan Policy Center about the imparative need to raising the debt ceiling, which has been suspended and is reinstated on February 7. At that point, the limit will be $17.3 trillion, according to estimates from the Bipartisan Policy Center.

At that time, the Treasury Department would have to begin use of a limited amount of accounting tools at their disposal, called extraordinary measures, to avoid defaulting on their obligations. However, even with such measures, the Treasury Department estimates that they will only be able to continue paying the nation’s bills until late February, by which point the debt ceiling would need to be raised.

 

Watch the event here:

 Secretary Lew estimated that the extraordinary measures will only last through late February, stating:

Unlike other recent periods when we have had to use extraordinary measures to continue financing the government, this time these measures will give us only a brief span of time before we run out of borrowing authority. In February, the same large trust fund investments that were deferred last year are not available and at the beginning of tax filing season, tax refunds result in net cash flows that deplete borrowing capacity very quickly. We now forecast that we are likely to exhaust these measures by the end of the month.

If policymakers do not raise the debt ceiling by that point, the government must rely on its remaining cash on hand and incoming receipts to pay all obligations. Since the government is running annual deficits, incoming revenues to the federal government are insufficient to cover all of the government’s obligations, and some of the government's bills would not be paid on time, threatening the full faith and credit of the United States.

On the importance of raising the debt limit, Secretary Lew stated "It's imperative that Congress move right away to increase our borrowing authority. It would be a mistake to wait until the eleventh hour to get this done...The bottom line is time is short. Congress needs to act to extend the borrowing authority and it needs to act now." He went on to add "The longer we wait, the greater the risks become. Whether it's the economic recovery, the financial markets, or the dependability of social security payments and military salaries, these are not things to put at risk."

Want more information? See our short Q&A: Everything You Should Know About the Debt Ceiling.

February 3, 2014

Note: This blog has been updated to talk about the first blog post in the series.

For those in the budget world, today is not just the day after the Super Bowl, it's also Budget Day...sort of. The 1974 Budget Act technically requires the President's budget to be submitted on the first Monday in February, but with the delay in resolving appropriations, the budget will be delayed this year until next month.

While we won't get a budget today, the Brookings Institution's FixGov blog is launching a new series called "Reforming the Budget," which will look at ways to reform the budget process to make it function more smoothly. In the introductory post, Brookings fellow Elaine Kamarck notes that although there is criticism of the President's budget being late from Members of Congress, the frequent and increasing tardiness of legislators in passing appropriations bills has also plagued the budget process. As you can see below, lawmakers haven't passed an appropriations bill at the start of the fiscal year since 2007.

With lawmakers rushing to prevent government shutdowns, they have less time to examine programs and set priorities. The Brookings series started with Brookings fellow Phillip Wallach talking about why identifying waste, fraud, and abuse is not as easy as it seems. He takes Sen. Tom Coburn's Wastebook report and notes that a significant chunk of the $30 billion in savings is not actually "wasteful" in the sense that it is spending on an obscure or ridiculous-sounding priority. In one example, about the destruction of weapons used in Afghanistan, Wallach points out that the alternatives to preserve weapons are probably less cost-efficient. He also notes that the largest example, improper payments with the Earned Income Tax Credit, is well-known, is being worked on, and probably isn't what we traditionally think of as waste.

He also notes that simply looking to cut spending may not be the best way to reduce waste; sometimes, the federal government has to spend money to make money. For example, increasing the IRS's budget is scored as reducing the deficit, since the extra resources bring in previously uncollected revenue. This concept can be applied to some other programs that would signficantly benefit from program integrity spending (he mentions disability insurance as an example).

Wallach's post is the first in the series, and it will be interesting to see what will come out of this series going forward.

Click here to see the full series.

January 31, 2014

Senators Richard Burr (R-NC), Orrin Hatch (R-UT), and Tom Coburn (R-OK) recently released a legislative proposal that would repeal and replace the majority of the Affordable Care Act (ACA), although leaving in place the ACA's Medicare reforms. The Patient Choice, Affordability, Responsibility, and Empowerment Act (CARE Act) would repeal the ACA and replace it with a number of provisions to reform the individual insurance market, Medicaid, and the tax treatment of employer-based coverage. There is no formal cost estimate from the Congressional Budget Office (CBO) as it is not yet an official piece of legislation, so it is not possible to examine fully their claim of "not adding one cent to the deficit." There is a private estimate from an outside group that estimates it would achieve $1.5 trillion of net deficit reduction over ten years, but some important details of the legislation that could have significant budgetary impacts are still unclear, particularly the details of the cap on the tax exclusion for employer-sponsored health insurance (ESI) and the specifics of the Medicaid grants.

Medicaid Reform & Refundable Tax Credits

The Act alters healthcare options for low income individuals. Those making below 300 percent of the federal poverty level (FPL) would be eligible for an advanceable, refundable tax credit to assist in covering health insurance costs. This is a reduction from the 400 percent limit in effect under the ACA and is a significant source of budgetary savings. The proposal envisions creating an Office of Health Financing within the Treasury Department to oversee secure and efficient tax credit distribution. It also repeals the ACA's Medicaid expansion to cover individuals making up to 138 percent of the FPL. Instead, it proposes several Medicaid reforms including:

  • Changing Medicaid payment to a system of targeted grants to states, similar to per-capita caps, for vulnerable populations such as pregnant women, low-income children and families, low-income elderly and disabled individuals. The grants would be based on the number of people in a state with income under 100 percent of the FPL, and would be adjusted annually for inflation plus one percentage point (CPI+1%) and for population and demographic factors. Because the grants would account for the growth in a state's low-income population, they would be more countercylical than standard block grants.
  • Giving states a defined budget for long-term care services and support for low-income elderly or disabled individuals.
  • Giving the option to those eligible for Medicaid to instead receive the tax credit and purchase private insurance.
  • Reinstating Health Opportunity Accounts (HOAs), which were initiated as a five-year, ten state pilot in 2005. This program allows those eligible for Medicaid to obtain high-deductible insurance and federally- or state-funded savings accounts up to $2,500 per eligible adult and $1,000 per child to pay for medical expenses. Deductibles can be up to 10 percent greater than the HOA amount, in which case the recipient incurs out of pocket expenses for medical care within the coverage gap. CBO estimated the cost of the 2005 pilot program at $261 million over ten years. If expanded to all 50 states and made permanent, clearly the cost would increase.

Individual Mandate Repeal and Individual Market Structure

One of the key features of the Affordable Care Act is preventing insurance companies from charging higher premiums or denying coverage for people with pre-existing conditions. To prevent healthy people from waiting until they get sick to sign up for coverage, the ACA requires individuals to get insurance coverage each year or pay a penalty.

The CARE Act has a different approach to help prevent insurance companies from discriminating against people with pre-existing conditions. Instead of an individual mandate or an outright prohibition on companies denying coverage for pre-existing conditions, the CARE Act proposes a “continuous coverage” protection. Insurance companies must offer coverage at standard rates regardless of a pre-existing condition as long as the person has not had a lapse in insurance coverage, regardless of whether that coverage came from an employer, the individual market, or a public program. However, if they have had a lapse in coverage, insurers can take into account their health status and charge whatever premiums they like for a new insurance plan, or deny coverage altogether. There would also be a one-time open enrollment period after the Act’s rollout in which anyone could enroll in plans for standard rates regardless of health status. As a backstop for those without continuous coverage and in poor health, the Act would also provide some federal funding to help states administer high-risk pools for such individuals.

According to the bill's authors, this will sufficiently encourage insurance coverage without a mandate. While those who are uninsured would no longer face the tax penalty for lack of coverage, they would face the prospect of much higher insurance premiums in the future if they develop an expensive medical condition. To a perfectly rational consumer with foresight, this may actually be a stronger incentive to maintain health insurance for many Americans, but particularly combined with the partial rollback the ACA's Medicaid expansion, it appears likely that the CARE Act would leave more people uninsured than the ACA. The only private estimate to date projects that 5 percent fewer people would be insured in 2023 under the CARE Act than CBO's projection of coverage with the ACA.

Notably, the CARE Act would not establish federally-regulated marketplaces like the ACA, and no minimum benefits would be required of health insurance plans. Many more types of health plans, therefore, could be offered, including less comprehensive ones. Lifetime limits on benefits, however, would still be banned.

CBO’s most recent estimate of the revenue from the individual mandate penalty was $45 billion over 10 years.

Tax Provisions

The proposal removes the mandate penalty for large employers to provide health insurance and repeals several taxes, including the medical device tax, the tax on branded pharmaceutical drugs, and an excise tax on high-cost, “Cadillac" health insurance plans provided by employers. Instead, it places a cap on the tax exclusion for employer-provided health coverage, although the level of the cap is unclear, and indexes it to grow at CPI plus 1 percentage point annually. The primary summary states that the cap would be set at 65 percent of an average plan’s costs, but a Q&A released later states that it would be at "65 percent of the average market price for an expensive high-option plan." The difference between these two policies, and the specific levels they imply, will have a very large effect on the budget impact of the CARE Act. 

While the tax repeals would account for substantial lost revenue (CBO estimated that just the ACA's additional Medicare payroll taxes are scheduled to bring in $318 billion through 2022), the new cap on the tax exclusion could provide a significant new revenue base, depending on its specifications.  For reference, CBO recently estimated that replacing the Cadillac tax with a cap on the employer-sponsored health insurance exclusion at the 50 percentile of health premiums, indexed to economy-wide inflation, would raise more than half a trillion dollars over ten years.

Other Changes

On medical liability reform, the CARE Act is not specific, but it either enacts or provides incentives for states to adopt a range of solutions. The cost savings would vary based on the specific policies chosen, but most of the savings for the federal budget come from caps on lawsuit awards. CBO's Budget Options report has a relatively aggressive option which would save $64 billion over ten years.

The proposal also expands Health Savings Accounts (HSA) and Flexible Spending Accounts (FSA), which let employees pay for health care expenses with pre-tax dollars. Certain eligibility restrictions would be eliminated, and the package of services covered would be expanded to include coverage for long-term care insurance and COBRA premiums.

Like the ACA, the CARE Act requires health plans to offer dependent coverage until age 26, although it gives states the ability to opt out of this provision.

*****

The Republican Senators have put forth a serious proposal to replace the Affordable Care Act, which includes multiple measures with the potential to help bend the health care cost curve. It keeps all of the Medicare savings embodied in the ACA, but offers alternative methods to reform Medicaid and cover preexisting conditions without an individual mandate. Since the CARE Act is not yet legislation, the Senators have stated their next step is to work with their Congressional colleagues and experts in the health community to further develop and refine the proposal. It will be interesting to see how it progresses.

January 31, 2014

In an op-ed in the Washington Post, columnist Ruth Marcus laments the lack of discussion of fiscal issues in President Obama's State of the Union address. She points out that the point about the deficit falling by half is somewhat misleading (with an assist from us) and notes that the debt has run up significantly in recent years.

First, the vaunted halving stems from the remarkable (and justifiable) ramp-up in deficit spending at the start of the financial crisis. The deficit in 2009 was $1.4 trillion (and 9.8 percent of gross domestic product). The comparable 2013 figures are $680 billion and 4.1 percent, according to the Committee for a Responsible Federal Budget. Vastly improved, but higher in percentage terms than in all but seven years between 1948 and 2008.

Second, and more important, is the stunning rise in the amount of debt as a share of the economy. When George W. Bush took office, debt stood at 33 percent of GDP. Obama inherited a debt of 43 percent of GDP. That figure is now about 74 percent, the highest since 1950.

Of course, the biggest issue with debt is with the long-term picture. Marcus notes that debt projections show it rising as a percent of GDP starting in 2018 into the foreseeable future.

According to the Congressional Budget Office (CBO), the debt begins to slowly rise again, driven by increasing interest costs and growing spending for Social Security and government health-care programs. By 2038, the CBO projects, debt would reach 100 percent of GDP, more than in any year except 1945 and 1946.

This is scary, or should be. The CBO ticked off the reasons: Large deficits over the long term drag down economic growth, crowding out investment and driving up interest rates. For the federal budget, higher interest costs consume a growing share of spending, preventing revenue from being used in more productive ways. Sky-high debt constrains policymakers’ flexibility to respond to emergencies such as war or recession. It raises the risk of a fiscal crisis in which investors become unwilling to finance U.S. borrowing.

Marcus concludes that "Once this president promised to stop kicking the can down the road. Now he acts as if there is no can." While there has been progress on the deficit in recent years, that progress has mostly been confined to the short- and medium-term. The long-term debt problem remains. It should not be ignored.

Click here to read the full op-ed.

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