The Bottom Line
They Did It!
Kudos to the Esquire Budget Commission for releasing a budget plan this morning! Former Senators Gary Hart, Bill Bradley, Bob Packwood and John Danforth came up with a plan to balance the budget by 2020. And their discussion was civil! Here's a table for how they would stabilize the debt.
|Policy||Savings in 2020 (billions)|
|Gradually raise retirement age to 70||$49|
|Use chained CPI-U to calculate Social Security COLAs||$23|
|Increase years used to calculate benefits||$14|
|Subtotal, Social Security||$86|
|Enact the Administration's proposed weapons system cuts||$4|
|Reverse the "Grow the Army" Initiative||$10|
|Restructure the military along strategic lines||$169|
|Assume cost of engagement in Afghanistan and Iraq will decline||$126|
|Institute medical malpractice reform by creating medical courts||$10|
|Savings, Health Care||$10|
|Enact the Administration's proposed spending program terminations||$10|
|Cut the federal workforce by five percent||$26|
|Delay NASA missions to the Moon and Mars||$4|
|Reform farm subsidies||$13|
|Eliminate all earmarks||$18|
|Use chained CPI-U for COLAS in federal civilian and military pensions||$6|
|Subtotal, Other Spending||$71|
|Subtotal, Spending Savings||$476|
|Subtotal, Interest Savings||$142|
|Total Spending Savings (Including Interest Savings)||$618|
|Repeal employer health care exclusion and replace it with a tax credit||$63|
|Increase the gas tax by $1 per gallon||$130|
|Limit itemized deductions for higher earners||$57|
|Keep tax rates near current policy levels||-$273|
|Reduce state and local sales tax deduction by 80%||$12|
|Eliminate subsidies for biofuels||$16|
|Include new state and local government workers in Social Security||$21|
|Total Revenue Increases||$26|
|Total Projected Spending in 2020||$4,681|
|Total Projected Revenue in 2020||$4,693|
|Total Projected Surplus in 2020||$12|
|Projected Debt-to-GDP Ratio in 2020||52%|
We have Paul Ryan’s Road map, the Galston-MacGuineas plan, and now a really good plan from four former members of Congress. We are thrilled to see more and more specific ideas entering the discussion.
We haven’t run through the numbers yet, but you can at http://crfb.org/stabilizethedebt/.
All of us here at CRFB would like to congratulate Peter Diamond, an MIT economist, on winning the Nobel Prize for Economics this year. Diamond, along with fellow American Dale Mortensen and British economist Christopher Pissarides, was awarded the prize for his work on search markets, tracking why unemployed workers fail to find work when there are jobs in the market.
In addition to the work that made him a Nobel laureate, Diamond has also contributed specific ideas to strengthen Social Security. In conjunction with former OMB Director Peter Orszag, he wrote a book a few years ago detailing a plan for reforming Social Security, entitled Saving Social Security: A Balanced Approach. Diamond and Orszag propose many of the reforms that should be on the table today, in a combination of revenue increases and benefit reductions. Their plan addressed what they saw as the three main sources of Social Security's long-term insolvency: increased life expectancy, increased income inequality, and the program's legacy debt. To address these issues, they propose proportionally decreasing benefits in accordance with increased life expectancies (and thus longer amounts of time receiving benefits), increasing the maximum taxable earnings base and imposing a legacy tax on earnings over the maximum, while offsetting this with making Social Security coverage universal (read a summary of the plan here). Diamond showed the vision and gumption to advance specific fiscal reforms that we need now for a sustainable budget path in the future.
Thanks, Peter, for getting specific!
"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.
We spend much of our time discussing and pointing out the precarious state of our federal budget. But the federal budget isn't the only area of public finances facing serious challenges. States, counties, and cities are, as the media has been reporting, also in crisis. In a paper released today, Robert Novy-Marx of the Unviersity of Rochester and Joshua Rauh of Northwestern University warn that state, city and county pension systems are in horrible shape.
Novy-Marx and Rauh write that the current process our localities (i.e. any country, city, town, municipality) use to calculate pensions is flawed and overstates their assets by understating the investment risks. By re-engineering the accounting data, they examined two-thirds of all pension users (only 3 percent of all the plans, but they used the most populous cities) and found that 50 cities' (77 plans) pension plans are underfunded by $383 billion. They make a rough extrapolation that the total could be $574 billion of unfunded liabilities if there is a linear relationship.
Furthermore, Novy-Marx and Rauh identify 6 areas where, they estimate, public coffers will not be able to meet pension promises through 2020 (Philadelphia, Boston, Chicago, Cincinnati, Jacksonville, St. Paul). An additional 20 will not be able to meet their promises through 2025 (New York City, Baltimore, Dekalb County, Fulton County, Kern County, Baltimore County, Detroit, Forth Worth, Phoenix, Sonoma County, Nashville and Davidson County, San Joaquin County, San Mateo County, Seattle, Constra Costa County, Cook County, Montgomery County and Orange County).
The research highlights the precarious state of local government finances. It also brings into question the notion that our localities must and always do balance their budgets when many have millions, if not billions of dollars in unfunded liabilities that must be paid. It is clear that like the federal government, our localities, which are even more prone to bond rate changes, must get their fiscal houses in order.
Our friend across the pond, the United Kingdom, is dealing with its own fiscal challenges. Currently, their debt-GDP ratio stands at over 71 percent. In order to begin to amend this problem, the current government is significantly cutting government spending, such as the recent reduction of the child benefit for high-income Britons. Other cuts, such as the elimination of their child trust fund, £600 million in cuts to entities similar to our GSE's (i.e. Fannie Mae, Freddie Mac, etc.), a recruitment freeze in their civil service and £836 millions in cuts to their business department. This has all been done in order to reduce their spencing last fiscal year by £6 billion. (Click here to read about how much savings we would realize by applying the U.K budget to the U.S. budget.)
Last week, UK Prime Minister David Cameron gave a speech, that among other things, justified why fixing the UK's fiscal problems are better for the country. The following is an excerpt from that speech:
Everyone knows that this government is undertaking a programme of spending cuts. I know how anxious people are. “Yes”, they say: “of course we need to cut spending. But do we have to cut now, and by this much? Isn’t there another way?” I wish there was another way. I wish there was an easier way. But I tell you: there is no other responsible way. Back in May we inherited public finances that can only be described as catastrophic. This year, we will borrow more money than we spend on the NHS.
Just think about that. Every doctor’s salary. Every operation. Every heating bill in every hospital. Every appointment. Every MRI scan. Every drug. Every new stethoscope, scalpel, hospital gown. Everything in our hospitals and surgeries – paid for with borrowed money, much of it from abroad.
And then think about the interest. This year, we’re going to spend £43 billion on debt interest payments alone. £43 billion not to pay off the debt – just to stand still. Do you know what we could do with that sort of money? We could take eleven million people out of paying income tax this year. We could take every business in the country out of corporation tax.
That’s why we have acted decisively – to stop pouring so much of your hard-earned money down the drain. And it’s stopped us slipping into the nightmare they’ve seen in Greece, confidence falling, interest rates rising, jobs lost and in the end, not less but more drastic spending cuts than if you’d acted decisively in the first place. Our emergency budget to show the world that Britain is back on the path of fiscal responsibility.
The United States should follow the United Kingdom’s approach and enact a credible plan to reduce the risk of fiscal crisis down the road. As Prime Minister Cameron said when referring to delaying action, “as a result, the cuts would be bigger, not smaller because the interest payments on that debt would be higher.”
Day of “Discovery” – Today we celebrate the man who quasi-discovered the Americas with a quasi-holiday that not everyone gets off (including the Line). In that fine tradition, we “discover” some fiscal facts.
The Deficit is High – The Congressional Budget Office on Thursday in its Monthly Budget Review estimated that the fiscal year 2010 federal budget deficit will be just under $1.3 trillion. At 8.9 percent of GDP, that is the second highest (behind last year) as a share of the economy since 1945. The Treasury Department will release the official deficit figure later this month.
Washington is Too Dysfunctional – A bipartisan group of former members of Congress recently sent a letter to congressional candidates saying that there is currently too much focus on partisan politics and not enough attention to problem solving. Saying that the “political system has not shown itself to be up to the task” in confronting the major challenges facing the country, the group calls for more cooperation, compromise and civil debate. Rediscovering pragmatism and bipartisanship could help solve our fiscal problems.
In a politically diverse but ultimately centrist nation, it is axiomatic that the country's major problems are going to have to be solved through compromises worked out between the parties. That's especially the case for the problems that require tough solutions - like convincing taxpayers to endure some short-term pain for the promise of long-term fiscal stability. That will require partisans on both sides to give ground on some of their cherished beliefs, to lose some traction on a 'wedge issue' that can be used in campaigns against the other side, in order to find the broad coalition necessary to make a policy work.
Earmarks Need Reform – A group of lobbyists and government reform organizations have come together to promote earmark reform. The group has offered five principles for earmark reform that would make the process more transparent and reduce the link between earmarks and campaign contributions. Members of the coalition met with congressional offices last week to discuss their ideas.
Unemployment Still High – The official unemployment rate remained at 9.6 percent in September. Unemployment remains high as policymakers continue to debate how to spur the sluggish economy in the short run while not exacerbating the longer run fiscal problems marked by high public debt. CRFB President Maya MacGuineas offered some ideas for fiscally responsible stimulus last week.
Government Could Be More Efficient – A group of high-tech executives said in a report last week that the federal government could save over $1 trillion by 2020 by following the lead of corporations and streamlining operations through innovative technologies and processes.
U.S. Needs Better Fiscal Policy – Federal Reserve Chairman Ben Bernanke gave a hard-hitting speech last week on the need for fiscal sustainability and fiscal rules. The Fed usually concentrates on monetary policy, so the speech was a clear sign of the importance of fiscal issues to the economy. CRFB applauded the remarks on the need for fiscal rules that are strong and transparent.
The Center for American Progress recently released "A Thousand Cuts," which detailed what spending cuts could be adopted to achieve primary budget balance (eliminate the deficit excluding interest) by 2015 (see our discussion of the report here). The Center looked at scenarios in which 33, 50, 67, and 100 percent of deficit reduction would be achieved through spending cuts.
We've decided to take a look at the tax alternatives to this situation. In other words, what must/could we do to eliminate 33, 50, 67, and even 100 percent of the primary deficit using just tax increases?
Starting from the President's Budget as a baseline, as CAP did, we aim for $255 billion in deficit reduction in 2015. Basically, you could call this "Seven Tax Increases" since we will be using seven levers in total to hit each target. We have decided to use the levers on income, consumption (excise taxes and a Value-Added Tax), and changing the tax formula to a more realistic measure of inflation.
The varying deficit reduction scenarios would have different impact on taxes encountered by most Americans. As seen below, the 33 percent reduction scenario would be achieved by allowing the 25 and 28 percent brackets to expire, returning to their Clinton-era levels of 28 and 31 percent, respectively; a tax increase to 25 cents per ounce on alcoholic beverages, instituting an excise tax on sweetened beverages and raising the gas tax by 15 cents (up from the current 18.4 cents per gallon). Since about 100 million filers (both individuals and families) have taxable income, the average tax increase per taxpayer would be about $850 per year in this case, to lower the deficit by $85 billion in 2015.
The 50 percent reduction scenario builds on the 33 percent version and includes indexing the tax code to a "chained" CPI and also raise the gas tax by 40 cents per gallon to 58.4 cents per gallon. This scenario would cost taxpayers roughly an additional $1,300 per year.
The 67 percent reduction scenario builds on the 50 percent version (except it removes the gas tax) by instituting a carbon tax with some rebates for lower-income households. On average, this scenario would cost taxpayers an additional $1,700 each per year.
And finally, the 100 percent reduction scenario--or complete elimination of the primary deficit by 2015 through tax increases alone--would build on 67 percent scenario by instituting a new tax, a Value-Added Tax (VAT) of 5 percent with half of the proceeds returned to lower and some middle-income consumers. This option would cost taxpayers an additional $2,550 per year.
(Obviously, the amount each taxpayer would see is an average with some paying much less and others paying more).
Letting Middle Income Tax Cuts Expire:
- All Scenarios: Allow 25 and 28 percent brackets to expire, returning to their Clinton-era levels of 28 and 31 percent, respectively. This would effectively allow the tax cuts for the upper four marginal tax brackets to expire (since the President's budget would already allow the top two income tax rate cuts to expire). However, the 25 and 28 percent brackets could be renewed temporarily, say to 2012, so as not to undermine the recovery, and then allowed to expire.
Increase Excise Tax on Alcoholic Beverages:
- All Scenarios: Increase to 25 cents per ounce.
Institute Excise Tax on Sweetened Beverages:
- All Scenarios: Institute a one cent tax per ounce for all sweetened beverages.
Increase Gas Tax:
- 33% Scenario: Increase of 12 cents per gallon to 30.4 cents.
- 50% Scenario: Increase of 40 cents per gallon to 58.4 cents.
Index Tax Code to "chained" CPI:
- 50%, 67% and 100% Scenarios: Moves to the chained CPI-U from the CPI-W, which experts believe actually overstates inflation and which would make tax brackets move upward more slowly.
Institute a Carbon Tax:
- 67% and 100% Scenarios: Impose a tax on carbon emissions, with roughly 85 percent going toward deficit reduction and the remaining proceeds returned to consumers via energy rebates.
Value-Added Tax (VAT):
- 33%, 50%, 67% Scenarios: Do not implement.
- 100% Scenario: Five percent VAT would be instituted. Half of the proceeds would go toward deficit reduction while the other half would go toward rebates for consumers.
The deficit reduction numbers for each policy in each scenario are in the table below. (Note: these numbers are rough estimates and should not be taken as exact figures).
|Savings from Different Policies Under Each Scenario (2015, billions)|
|Let Middle Income Tax Cuts Expire||$50||$50||$50||$50|
|Increase Excise Tax on Alcoholic Beverages||$5||$5||$5||$5|
|Institute Excise Tax on Sweetened Beverages||$15||$15||$15||$15|
|Raise Gas Tax||$15||$50||$0||$0|
|Index Tax Code to "Chained" CPI||$0||$10||$10||$10|
|5% VAT With Rebate||$0||$0||$0||$85|
|Unspecified Spending Cuts||$170||$125||$85||$0|
Note, however, that the options profiled here by no means form an exhaustive list. For simplicity's sake, we included only a few key levers in our analysis--but in reality, there are many options for deficit reduction, and all of them should be on the table. For example, we did not use tax expenditures because CAP included many of them in their spending cuts, and most of them are far more similar to spending than tax policy. All of these could also potentially be used as levers. Also, the VAT used here would have a relatively narrow base, as do many other countries, and for simplicity we assume roughly half of all consumption activity would be taxable under the VAT.
Overall, this is meant to be an exercise, similar to what CAP did. CRFB does not necessarily support these changes, but we wanted to see what a solution focused on revenues could look like. Clearly, these tax increases also are quite significant, just as the spending decreases CAP found would be. Revenue increases of this magnitude, even using the 33 percent scenario, show just how much of a hole we have dug for ourselves and how large of a ladder we will soon require.
Again, hats off to CAP for putting together such a great demonstration.
Want to try to fix the budget yourself? Try our budget simulator.
CBO, in its most recent Monthly Budget Review, estimated that the FY 2010 budget deficit (the fiscal year that ended at the end of September) was just short of $1.3 trillion, $125 billion less than last year's deficit of $1.4 trillion. At 8.9 percent of GDP, this is the second highest deficit-GDP rate since World War II, with the highest being last year's 10 percent. This number also represents a slight drop from the 2010 deficit CBO reported in its most recent Budget and Economic Outlook this past August.
While the deficit is slightly lower than last year, we are by no means on the path to triumph over our fiscal challenges. In our recent realistic baseline, CRFB projected that while deficts will decline in the next few years, the debt will continue to rise as a share of the economy to unsustainable levels without action.
Although an improving economy (hopefully) will reduce deficits in the short-term, we must devise a plan of action now to address the structural issues that will cause the debt to skyrocket. Click here to try doing so yourself.
There’s a chill in the air – and not just from the weather. Today’s weak job market news for September (the tough employment situation appears to be stuck, with possible deterioration ahead) has flamed market expectations that the Fed would provide additional support for the economy through more quantitative easing, even though top Fed officials appear to have disagreements over whether and how to proceed, which they are airing publically.
The Hill reports that Senator Ron Wyden (D-OR) urged fellow lawmakers this week at a tax policy conference to focus on fundamental tax reform instead of the narrow debate over the expiring 2001/2003 tax cuts. Sen. Wyden is calling for lawmakers on both sides of the aisle to work together to overhaul the tax code. He has co-sponsored a tax reform proposal with Senator Judd Gregg (R-NH), “The Bipartisan Tax Fairness and Simplification Act of 2010.”
Wyden spoke about the bill and the need for reform at CRFB’s “Getting Specific” event last week. Wyden wants tax reform to be debated during the post-election lame duck session of Congress; arguing that the debate over extending the tax cuts should serve as a “bridge” to overall tax reform.
Senator Wyden is right about the need to fix our complex and inefficient tax system in a way that simplifies the tax code and broadens the tax base. We hope his fellow lawmakers will agree as well.
A summary and video of CRFB’s “Getting Specific” event are available here.
The Economist has something pretty interesting up on its website: a global debt clock. The clock measures global debt held by the public (different from the U.S. debt clock), showing that in total global public debt is near $40 trillion (it's unclear whether this counts municipal/local debt as well as national debt). This number is incomplete, since many countries do not have data available on public debt, but it seems to be about as good a measure as one can find. The page also comes with a map that allows viewers to compare different countrys' levels of indebtedness.
As you can see, the U.S. is about in the middle--if slightly above average--in terms of indebtedness (though obviously this says nothing about the future debt trajectory). We look better in this measure than, say, Greece, Japan, or Italy, but worse than countries like Sweden, China, and Australia.
It's starting to look like if we and other countries continue along our current fiscal paths, we may have to look beyond our earthly confines to finance our debt...
CRFB has just launched a new policy paper series entitled "Let's Get Specific." The Let's Get Specific series is intended to help focus national attention on finding specific solutions to our mounting fiscal challenges and on understanding the types of changes we will have to make. Not all the policies in this series are necessarily endorsed by all members of CRFB.
In the first round of papers for the series, CRFB details a reform plan for Social Security and a plan for putting further downward pressure on health care costs over the near- and long-term. Let's take a brief look at what's in our health care plan...
Health care costs represent the single largest threat to the federal budget. In just a few years, federal health spending will reach 6 percent of GDP and will grow to almost 10 percent of GDP by 2030 under the Alternative Fiscal Scenario (and to almost 9 percent under the Extended Baseline Scenario). Under either scenario, the path is clearly unsustainable and more will have to be done despite the cost-saving measures enacted in health reform.
To help further control these costs, CRFB shows how focusing on a few reform areas could help greatly. Here's a summary table of our recommendations:
|Enact Medical Malpractice Reform||$60|
|Limit the Tax Exclusion on Employer-Provided Health Care Plans||$250|
|Increase Medicare Eligibility Age to 67
|Strengthen the Independent Payment Advisory Board (IPAB)||$30|
|Create a Health Care Budget OR Introduce a Premium Support System||N/A|
In the long-term, putting Medicare and Medicaid on a budget would be a direct way to control costs, and many other countries have set budget limits to control health spending. As an alternative, policymakers could also transform federal health programs into a premium support system whereby the government would give beneficiaries a fixed amount each year to purchase health care services through either a fee-for-service system or through private insurers.
These reforms are not an exhaustive list of reform options, and simply represent one approach to controlling costs. Other approaches could incorporate a public health care option and/or increases in Medicare premiums.
But the bottom line remains--the less that is done to control rising health care costs, the more savings we will need to find from other areas of the budget if we are to get back on a sustainable fiscal path. Read the full plan here.
Social Security is getting a lot of attention these days. However, much of the discussion is centered on what not to do: don’t cut benefits; don’t raise taxes.
The conversation needs to turn towards solutions to strengthen Social Security for future generations. The recent Social Security Trustees report makes it clear that the program is on an unsustainable course. Without changes, Social Security’s trust funds will be depleted by 2037. Reforms should be initiated now so that they can be phased in over time, mitigating their impact and providing future retirees time to plan accordingly.
In order to foster dialogue on the types of policy changes that will be required, CRFB has issued a new paper, Let’s Get Specific: Social Security. The paper is a part of CRFB’s new Let’s Get Specific series, which will offer specific ideas to help reduce the debt. The proposal is designed to start a real conversation on how to shore up Social Security’s long-term finances. Those who disagree with any of the recommendations are free to come up with their own plan that ensures the program’s long-term solvency.
The plan encourages more private savings and longer working lives while redirecting scarce resources to those most in need. Recommendations include slowly raising the retirement age to 68 and then indexing it to life expectancy; switching to an alternative measure of inflation to calculate cost-of-living adjustments; slowing benefit growth through progressive price indexing; increasing benefits for vulnerable populations; establishing add-on retirement accounts; and reforming the payroll tax to make it more progressive.
75-Year (% Payroll)
75th Year (% Payroll)
|Raise the early and normal retirement ages to 63 and 68, and index to longevity||n/a*||0.5%||1.2%|
|Use more accurate measure of inflation to calculate cost-of-living adjustments||$140||0.5%||0.7%|
|Slow the growth of benefits for middle- and high-income earners||$25*||1.2%||2.9%|
|Institute additional protections including 1) a strong minimum benefit, 2) a "super-COLA" for disabled workers, and 3) an old-age benefit "bump up"||-$15||-0.2%||-0.4%|
|Institute revenue neutral reform of the payroll tax to make it more progressive||n/a||n/a||n/a|
|Establish mandatory add-on retirement accounts||n/a||n/a||n/a|
|Note: Savings estimated and rounded, totals exclude interaction effects.|
*Savings for these options would accrue largely outside the 10-year budget window.
The plan achieves sustainable solvency and more than eliminates the program’s 75-year actuarial shortfall. It will ensure that Social Security remains an essential source of retirement security and a key part of our safety net.
This plan is not the only way to reform Social Security. Other reform options include taking into account more years worked in the benefit calculation; eliminating the payroll tax cap; and increasing the payroll tax rate. The point is to illustrate what it will take and initiate discussion on the best way to strengthen the program. The plan, as well as the other papers in the series, is not necessarily endorsed by all members of CRFB's board.
It was released at a September 30 policy forum, “Getting Specific: How to Fix the Budget,” that brought together policymakers and experts to discuss specific ideas to confront our fiscal challenges. A paper on health care was also released and more papers will be forthcoming.
CRFB President Maya MacGuineas has a new commentary today on CNN.com. The piece offers some stimulus suggestions that balance aiding the economy in the short term with reducing the debt in the longer term. Read it here.
"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.
Fed Chairman Ben Bernanke made a hard-hitting speech this evening about fiscal sustainability and fiscal rules. That Bernanke made the speech at all is noteworthy: the Fed is cautious about stepping too far into the world of fiscal policy. But it is beyond obvious that our fiscal policies have a profound effect on jobs and growth—the very things the Fed is trying to manage through both typical and extraordinary policy channels. Trying to act disinterested about the direction of fiscal policy is like the front driver in a fire truck ignoring what direction the back driver is turning.
The Chairman emphasized, as we have in our growing Announcement Effect Club (Bernanke was one of the first members) that putting a policy reforms in place that would not be phased in for a number of years, would “not only help secure longer-term economic and financial stability, they could also improve the near-term economic outlook.”
On the sustainability front the bottom line is—no surprise here—that current policy is unsustainable. Either changes will have to be made voluntarily, or they will be forced upon us.
- Targets based on factors Congress controls (tax and spending) rather than those it does not (economic performance) are more effective.
- Spending caps and pay-as-you-go were helpful in the past. (Bernanke points out however, as we have here and here, that the current form of PAYGO is pathetically weak (our words not his) because of the many exemptions.) But even at its best, PAYGO only requires that you tread water, not actually make any fiscal improvements.
- Fiscal rules have helped in other nations including Switzerland, Sweden, Finland, the Netherlands and Canada. (Many of which are profiled in our Fiscal Turnaround paper.)
- Roughly 80 countries currently use Fiscal Rules.
- The best rules are transparent and make tradeoffs clearer to both policymakers and the public.
- Rules must be strong enough to make a difference. For example, PAYGO rules in their current form are not strong enough to make improvements to the situation. (CRFB thought – maybe we need a “SuperPAYGO?”)
- Bernanke says “In the current U.S. context, we should consider adopting a rule, or at least a clearly articulated plan, consistent with achieving long-term fiscal sustainability. Admittedly, an important difficulty with developing rules for long-term fiscal sustainability in the United States is that, given the importance of health-care spending in the federal budget, the CBO would need to forecast health-care costs and the potential effects of alternative policy measures on those costs well into the future. Such forecasting is very difficult. However, any plan to address long-term U.S. fiscal issues, whether or not in the context of a fiscal rule, would have to contend with forecast uncertainties.”
- Rules need to be tied to variables policymakers control such as spending and tax levels.
- Bottom line, no matter the rule, it boils down to political will. The public’s role in holding policymakers accountable for sticking to the rules is critical. (Got if folks? – we have an election coming and asking candidates to give you tax cuts, spending increases, and a balanced budget isn’t going to do the trick.)
Should Old Performance be Forgot, and Never Brought to Mind? – The new fiscal year (2011) began on Friday. Instead of imbibing in champagne, CRFB presented some sobering statistics on fiscal year 2010 (see here). There is a lot that needs to be resolved; here’s hoping that solutions can be achieved for a better FY 2011.
Lew Still Waiting for the Ball to Drop – Jacob Lew’s nomination to be the next director of OMB hit a snag when Senator May Landrieu (D-LA) put a “hold” on his nomination in order to protest the administrations’ temporary ban on deepwater drilling. The FY 2012 budget process is gearing up within the administration, and they could use a leader to shepherd the process along.
CBO Warns on Tax Cuts – Last week Congressional Budget Office Director Douglas Elmendorf testified before the Senate Budget Committee that extending the 2001/2003 tax cuts either fully or partially will reduce economic growth in the longer run because it will add to the debt.
New Fiscal Year, No Budget – The new fiscal year began without Congress approving of any of the appropriations bills to finance federal operations. A government shutdown was avoided with legislators approving of a stopgap continuing resolution to fund federal agencies through December 3. Congress opted for a relatively clean CR without much of the additional spending that the White House asked for. An amendment from Senator John Thune (R-SD) to reduce non-security spending in the CR by 5% was defeated in a 48-51 vote. Congress must either enact another CR or approve of the appropriations bills when it returns from recess.
No Lame Excuses – Congress adjourned right after approving of the continuing resolution. Lawmakers must return after the election in a “lame duck” session to complete unfinished business. Topics that will be addressed in the session beginning November 15 include FY 2011 appropriations (most likely through an “omnibus” package); the 2001/2003 tax cuts; patching the Alternative Minimum Tax (AMT) so that it does not affect the middle class; the estate tax (which under current law will return at its 2001 level after expiring in 2010); extending items like the “doc fix” and the research and development tax credit; and any recommendations from the White House fiscal commission, which are due by December 1.
Fiscal Commission Looks at Government Performance – The President’s National Commission on Fiscal Responsibility and Reform held its fifth public meeting on Wednesday. It heard testimony on performance budgeting and eliminating government waste. CRFB live-tweeted the proceedings.
Resolution for Policymakers: Be Specific – CRFB convened a policy forum on Thursday in Washington, DC to highlight specific ideas that have been offered to confront our fiscal challenges and called upon lawmakers to move from sound bites to solutions. Participants included Senator Ron Wyden (D-OR), Congressman Paul Ryan (R-WI), Congressman Jim Himes (D-CT), Harvard University economist Martin Feldstein, former Congressmen Bill Frenzel and Jim Kolbe, and former Comptroller General of the U.S. General Accounting Office Chuck Bowsher. CRFB heeded its own advice and released specific proposals on health care and Social Security, and CRFB President Maya MacGuineas, along with Brookings Institution Senior Fellow Bill Galston, unveiled a detailed fiscal plan.
New Report Says “No Silver Bullet” – A report released by the Fiscal Analysis Initiative of The Pew Charitable Trusts illustrates how difficult it will be to put the U.S. on a sustainable fiscal course by relying exclusively on any single approach. The report uses the Peterson-Pew Commission on Budget Reform goal of stabilizing the debt at 60 percent of GDP and assumes that action towards the goal will begin in 2015, when the economy should be stronger. The report’s findings suggest that everything should be on the table and concludes that “the challenge becomes more surmountable if more policies are included in the long-term solution.”
Boehner Calls for Reforms – In a speech last week, House GOP Leader John Boehner (R-OH) called for structural reforms in Congress, specifically the budget process. He suggested that Congress consider spending bills for agencies and departments separately, as opposed to the 12 appropriations bills Congress currently is responsible for. He also proposed a new “Cutgo” regime in which any new spending proposal would have to specify what in the budget would be cut to pay for it. The budget process definitely needs reforms that attract bipartisan support and deal with all parts of the budget. The Peterson-Pew Commission on Budget Reform will soon issue recommendations for reforming the process.
Right on the two-year anniversary of its enactment, the Troubled Asset Relief Program's (TARP) authority to disburse new money ended on Sunday. The program still has stake in a variety of institutions, so it will continue to be operational, but it will make no new loans or capital infusions.
TARP, passed on October 3, 2008, came about in the wake of the financial meltdown of September 2008, with the initial purpose of purchasing banks' toxic assets and with an initial endowment of up to $700 billion. The original purpose was modified slightly to instead infuse capital into banks, resulting in the Capital Purchase Program (CPP). CPP had an overall size of about $200 billion but is expected to turn a profit, with a few large banks and many small banks still left to pay back the Treasury.
Under the Obama Administration, TARP's scope was significantly expanded to include the Home Affordable Modification Program (HAMP), auto industry support, and other miscellaneous programs. These programs contribute most to the cost of TARP, because some of these programs (especially HAMP) do not involve repayments like CPP does.
While the $700 billion figure was the one that stuck in the public's mind, the actual cost of TARP is much lower than that figure or even than it was originally projected. In CBO's January 2009 baseline, CBO put the ten-year deficit impact at close to $200 billion. However, in the latest estimate, CBO projected that TARP would only cost about $66 billion. The improvement is due to a much better than expected repayment rate under the CPP.
Overall, TARP will go down as a controversial program, but one that likely saved the financial system from deeper trouble at a relatively low cost. Obviously, concerns still exist about how TARP effected and will effect moral hazard and the possible implicit guarantee of large financial institutions.
For now, though, we'll just say farewell to the program.
In testimony before the Senate Budget Committee last week, CBO Director Douglas Elmendorf quantified the impacts that extending some or all of the 2001 and 2003 tax cuts would have on the economy. CBO looked at both the near-term and in the long-term. The conclusion? CBO estimates that in 2011 and and 2012, any extension (full or partial, permanent or temporary) of the tax cuts would increase real growth (by varying degrees) in the short-term, but by 2020 and 2040, any extension would decrease national income (although by varying degress). The reason? Additional debt-- financing the tax cuts through borrowing will crowd out private investment.
To be exact, extending the tax cuts permanently could reduce GNP in 2020 by as much as 2% and anywhere from 2.5% to 11% by 2040.
CBO looked at four likely scenarios by which the tax cuts could potentially be extended (although others certainly exist). CBO looked at a permanent extension (permanently extend all the tax cuts for all households--keeping marginal tax rates where they are, indexing the AMT to inflation, and reinstating the estate tax in 2011 at 2009 levels), a permanent extension for all except those earning over $250,000 and for individuals earning more than $200,000, a full extension for only two years, and a partial extension for only two years.
As CBO puts it, the ultimate effect of these policies on growth will be the combination of lower tax revenues pushing deficits upward (thereby crowding out investment) on the negative end and the effect of lower tax rates increasing people's savings and work effort on the positive end. Unfortunately, the negative effects from higher deficits and debt are larger than the benefits, making these tax cuts--unless they are offset--a poor public policy choice.
Below is a table summarizing CBO findings on the economic impacts of these four scenarios. For each scenario in each year, CBO provides a "low estimate" and a "high estimate" to reflect a range of the resulting economic impact based on the responsiveness of labor supply to the different tax policies.
|Effects on Real GNP (percent)^|
|Permanent Extension for all but High-Earners
|Full 2-year Extension||0.3||0.9||0.3||1.1||-0.3||-0.3||-0.6||-0.6|
|2-year Extension for all but High-Earners
^ CBO estimates the economic impacts of these scenarios based on changes in Gross National Product (GNP) and not Gross Domestic Product, because GNP is equal to national income, and therefore the most relevant measure of the total economy. As CBO notes: GNP differs from GDP primarily by including the capital income that residents earn from investments abroad and excluding the capital income that nonresidents earn from domestic investment.
* CBO provided separate estimates in 2020 and in the long-term for situations where government spending and tax adjustments are enacted after 2020 to put fiscal policy on a sustainable path. For demonstrative purposes, we chose the spending cut path.
The takeaway: any unpaid-for tax cut extensions are bad not only for the long-term fiscal outlook, but also the long-term economic outlook. The billions (and in some cases, trillions) of dollars of additional debt even in just the next decade will outweigh the supply-side benefits of lower marginal tax rates from these extensions. CBO argues that these tax cut scenarios would lead to a smaller domestically-owned stock of capital as a result of higher budget deficits and required interest payments.
Based on CBO's findings, plans to permanently extend the tax cuts for families earning under $250,000 (the partial extension) would have the biggest negative effect on the economy in the long-term, followed by the plan to permanently extend all the cuts. It should be noted, though, that this measure assumes that fiscal policy would be put back on a sustainable path through other measures (the table and graph above assumes spending cuts). But winning the growth battle between the two options isn't something to boast about: both scenarios seriously harm the economy.
So now, arguments for extending the tax cuts based on economic reasons no longer have basis. And with high budgetary costs and a weaker economy by the end of the decade, tax cuts would certainly not improve our fiscal outlook.
Another finding in the CBO report (not included in the table above) is that in the long-term, getting back to a sustainable fiscal path via spending cuts is less damaging to economic growth than large tax increases. While the spending cut path with permanent extensions is projected to reduce 2040 GNP by anywhere from 2 to 4 percent, the tax increase path with permanent extensions is projected to reduce 2040 GNP by 8 to 11 percent. These projections support the claims of Alberto Alesina, an economist at Harvard University, who said that fiscal consolidations based on spending cuts are more conducive to economic growth than those based more on tax increases (although he was talking more about the short- and medium-term). This is not to say, however, that we should solely rely on spending cuts--everything should be on the table.
So the message of the report is that the tax cuts are bad for both our fiscal and economic health by the end of this decade and beyond, and that a temporary extension, in one form or another, would be much less harmful than permanent extensions. As CRFB President Maya MacGuineas has stated before, a two-year temporary extension could be used as a hammer to force fiscal reform. CBO takes it further, showing that temporary options are far less bad for the economy in the long-term.
But another central element is that if tax cut extensions are being called for on stimulus grounds, CBO shows that these arguments are weak. Other various policies for temporarily reducing taxes or increasing spending would provide bigger boosts to growth and employment in the short-term at lower bugetary cost--a truly win-win scenario. For example, compare a two-year full extension of the tax cuts to a hypothetical temporary payroll tax holiday split between employers and employees. Extending the tax cuts temporarily would cost about $500 billion and we'll consider a payroll tax holiday that would cost $250 billion. Using the mean of CBO's multipliers, we see that the two-year tax cut option would increase output in 2011 by $125 billion, while the payroll tax holiday would increase output by $175 billion. Furthermore, since we can assume that the negative effects of these options in 2020 is solely due to crowding-out effects (since neither policy would be in effect in 2020), the payroll tax holiday would only have half the negative effect of the temporary extension. Thus, a payroll tax holiday would be better in both the short-term and the long-term than a temporary tax cut extension, if policymakers were to enact any sort of stimulative tax relief.
Even though the benefits of the tax cuts are more tangible right now than the negative effects of higher national debt later in the decade, policymakers and voters must still realize that the tax cuts will ultimately hurt the economy if not paid for. Let's hope they'll heed CBO's warning.
The growth play from September has spilled over into October, although cross-currents are apparent and volatility should be expected. Economic news, while not great, has been better than expected (including news coming from China), so risk worries have receded for the time being. Cutting both ways in financial markets, signs (including today’s comments by NY Fed President Bill Dudley) may have raised expectations further that the Fed is on the verge of increasing support to the economy because of concerns over the economy’s weakness.
Hovering in the background are possible spillover effects from the Irish financial and fiscal situation (so far managed and contained, reminiscent of the Swedish crisis of earlier years – but we shall see).
Also, emerging from the wings is the rising perception of political risk due to fiscal policy uncertainty, with a possible impact on the economy and financial markets. Real effects may be starting to surface. Employer hiring and consumer spending may already have started to be dampened by uncertainty over their 2011 tax bill – taxes will go up starting in around 90 days unless Congress says otherwise after the election. There may also be some income/earnings shifting from 2011 to the present to minimize tax exposure. Moreover, with economic weakness already a concern, the withdrawal of additional demand if the 2001 tax cuts are allowed to expire could well be food for thought as the Fed considers whether to supply more liquidity to support the economy – and when.
Looking at our current situation from a longer perspective, Congressional Budget Office Director Elmendorf’s recent testimony and CBO’s accompanying work illustrate the delicate fiscal balancing act we all face to make sure the economy has sufficient support now but to limit the cost to the economy later this decade when presumably it returns to full employment. Our challenges: deflation is very costly, as the lost decade in Japan shows so vividly; high and persistent unemployment can become a structural issue, with large costs for the economy as well. Yet, taking on higher debt to address our immediate problems will have long-run costs. Debt always must be paid for, one way or another. One way to balance and manage our short and long-run challenges is through a credibly back-loaded fiscal recovery plan, agreed and announced sooner rather than later and applied gradually over multiple years.
With the fiscal debt clock ticking, the Committee for a Responsible Federal Budget yesterday brought together members of Congress and other fiscal experts to talk about "Let's Get Specific: Ways to Fix the Federal Budget". Facing a soaring federal debt, it's difficult to discuss how to close the fiscal gap without getting specific, CRFB Co-Chairman Bill Frenzel told those attending the half-day session. (CRFB also provided a live twitter feed to the event, which you can review on our Twitter page!)
CRFB challenged top present and former lawmakers and policy wonks to come up with specific solutions to our nation’s fiscal challenges. Conference participants included:
- Senator Ron Wyden (D-OR)
- Congressman Paul Ryan (R-WI)
- Congressman Jim Himes (D-CT)
- Bill Frenzel, Co-Chair, CRFB and Former Ranking Member, House Budget Committee
- Martin Feldstein, Harvard University, Former Chair of the President's Council of Economic Advisers
- Chuck Bowsher, Former Comptroller General of the U.S. General Accounting Office
- Jim Kolbe, Fellow, German Marshall Fund, former U.S. Congressman
- Maya MacGuineas, President, CRFB
- Bill Galston, Senior Fellow, Brookings Institution
- Buck Chapoton, Strategic Adviser, Brown Advisory
- Bill Gale, Senior Fellow, Brookings Institution
- Larry Korb, Senior Fellow, Center for American Progress
- Robert Carroll, Ernst & Young LLP
Panelists offered specific plans in key areas: including, on the tax side, base broadening featuring tax expenditure reform (which can be done in several ways), Senator Wyden on the Wyden-Gregg proposal, Congressman Ryan on his the Roadmap for America; Congressman Himes on the importance of education and fiscal negotiation based on principles in a framework of shared sacrifice; the reduction of defense spending; the tackling of our entitlement challenges; and changes in health care policies.
Outlining his proposals for cutting the defense budget, Lawrence J. Korb, a senior fellow at the Center for American Progress, said the wars in Iraq and Afghanistan mark the first conflict the U.S. has engaged in without a tax increase. He said significant savings may be found through such ideas as a decrease in overall troops, particularly in Europe. Korb and Laura Conley recently outlined proposals that would save just over $109 billion from the Pentagon's budget in 2015.
At the conference, CRFB released the first two papers in a new series called "Let's Get Specific." For its health care plan, CRFB outlined a proposal to save $550 billion in health care costs during the next decade by limiting the tax exclusion on employer-paid health insurance, increased cost sharing, and other areas. CRFB also released a Social Security plan that would save $150 billion over 10 years through program changes, including a more accurate measure of inflation for cost-of-living adjustments. CRFB President Maya MacGuineas and Bill Galston of the Brookings Institution presented their own fiscal plan, identifying $1.1 trillion in savings in the year 2020 to stabilize the debt-to-GDP ratio at 60 percent.
During the tax panel, almost all speakers mentioned the need for fundamental tax reform, with base broadening being the crucial element. The tax code is permeated by roughly two hundred special tax credits, deductions, and exemptions--the collection of which are called tax expenditures. Speakers noted that if you want fairness in fiscal reform and a sense of burden sharing, start with tax base broadening by beginning to limit some of these special credits and deductions. Martin Feldstein noted that limiting tax expenditures to 5 or 3 percent of a person's adjusted gross income (AGI) could save $85 and $160 billion per year, respectively. Bill Gale also argued that tax reform could be structured in such a way that both increased revenues and improved economic growth, taking aim at tax expenditures, energy taxes, and a consumption tax.
Another major theme was that both sides of the aisle must work together in solving these problems sooner rather than later. "The long run is now," said Maya MacGuineas. But no solutions would be possible without bipartisan support. But to do this, policymakers, think tanks, and the public alike must support a spirit of cooperation--putting the best interests of the country forward. Congressman Jim Himes (D-CT) offered kind words on Congressman Paul Ryan's (R-WI) "Roadmap for America's Future," a comprehensive debt reduction plan. Highlights of Ryan's plan can be found here. While he noted that he may not agree with all the elements, he greatly respected the courage it took to present such a plan. Several speakers noted how there must be a "cease-fire" in partisan attacks for those who are working hard to find solutions.
Finally, it was noted that good ideas, compromises, and solutions should not be rejected on grounds that they are not perfect. Everyone will have to come to compromises, accepting changes to one program in exchange for changes in other areas. And there must be a dedication to hold policymakers accountable to the facts to forge progress on these vitally important issues.
Videos from the event will be posted soon.