The Bottom Line
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.
A Balanced Plan to Stabilize Public Debt and Promote Economic Growth
Yesterday, we released a new budget blueprint to stabilize the debt by the end of the decade. The plan, which would start to phase in in 2012, is fashioned to help promote economic growth by phasing in only once the economy is strong enough, but at the same time, signaling to markets and business that the U.S. would get back on a sustainable fiscal track.
It is guided by 5 principles:
- Shared sacrifice
- Economic growth
- Protecting the most vulnerable
- Increasing transparency and the need for fundamental tax reform
- Facing up to demographic and health care realities
The plan achieves the medium-term goal through a 50-50 split between spending reductions and tax increases (though most revenue changes come from tax expenditures cuts, which are really closer to spending reforms.) Under the plan, outlays in 2020 would amount to 22.0% of GDP, down from CBO’s estimate of 25.2% for President Obama’s budget. Revenues would total 21.4% of GDP, up from 19.6%. The deficit would fall from 5.6% of GDP to 0.7%.
The plan includes a war surtax starting in 2015 to cover any ongoing war-related costs; a suite of changes which would return Social Security to solvency; a long-term healthcare budget; a new framework for reducing tax expenditures; and a number of reforms to improve the tax code including replacing part of the payroll tax with an energy tax.
|Policy||Description||Savings in 2020 ($ Bil)|
Note: President Obama’s FY2011 budget serves as the baseline.
* Savings would be higher compared to more realistic growth trends, but the President’s baseline already assumes relatively low levels of discretionary spending.
The plan was released at the CRFB “Let’s Get Specific” forum, featuring many specific budget ideas by experts and politicians and we remain hopeful that the coming year will be the year of getting specific on crafting a national fiscal fix.
For more details, read the full paper here.
Maya MacGuineas is director of the Fiscal Policy Program at the New America Foundation and president of the Committee for a Responsible Federal Budget. Bill Galston is a senior fellow at the Brookings Institution.
"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.
Our nation faces budget deficits for as far as the eye can see. When it comes to specific solutions to this problem, many politicians are more likely to embrace changes that would make the deficit situation worse, not better. The forum (click here for more details) will focus on a number of specific solutions to put the debt back on a sustainable path.
CRFB live tweeted the fifth public meeting of the President's fiscal commission on our Twitter page (www.twitter.com/budgethawks) this morning! For more background on the President's fiscal commission, see here.
The meeting featured expert testimony from Dr. Paul Posner (a consultant to the Peterson-Pew Commission!) from George Mason University, Janet St. Laurent from GAO, and Patricia Dalton also from GAO on performance budgeting and eliminating wasteful spending.
Update 09-30-10: The Senate passed the CR last night on a 69-30 vote. The House soon followed with a successful 228-194 vote. An amendment from Senator John Thune (R-SD) to cut non-security spending by 5% failed on a 48-51 vote. An amendment from Senator Jim DeMint (R-SC) to extend the CR until February 4 also failed, 39-60.
The Senate today invoked cloture on a stopgap measure to fund government operations when the new fiscal year begins October 1. The continuing resolution (CR) is needed because Congress has been unable to approve any FY 2011 appropriations bills so far.
The resolution will continue funding for most government programs at current levels through December 3. The bill contains some extra provisions that have bipartisan support, heeding the demands of many senators for a relatively “clean” CR with few add-ons, although the White House requested billions of dollars of additional funds in the measure. Some senators also called for the CR to be set at 2008 levels as opposed to the 2010 level, but that showdown apparently has been avoided for now. The desire of most members to return home to campaign seems to ensure a quick and lopsided vote to approve the CR.
Some additional items in the resolution include maintaining the maximum loan limits for Fannie Mae, Freddie Mac, and Federal Housing Authority loans in high-cost areas through September 30, 2011; allowing U.S. Customs and Border Protection to maintain the level of personnel currently in place; and enabling Federal Air Marshals to maintain the existing coverage level for international and domestic flights.
The 84-14 vote sets up a final vote possibly Wednesday, although some are pushing for a vote later this evening. The House is expected to quickly follow suit and then Congress will adjourn until after the mid-term elections.
Congress will address the spending bills and several other measures during a post-election lame duck session.
Recently, two prominent figures have joined CRFB’s Announcement Effect Club. Joining the Announcement Effect Club requires a statement that taking action now to put in place measures to reduce future deficits can actually help the recovery by limiting upward pressure on interest rates that would be expected otherwise as the economy gains steam. By keeping a lid on the competition for financial resources between the government and private sector as the recovery takes hold, we will minimize the “crowding out” of private sector investment through higher interest rates. By keeping interest rates down, government interest payments will be lower. Michael Ettlinger and Michael Linden of the Center for American Progress released an extensive report on the deficit entitled “A Thousand Cuts” (see our blog on it here) in which they argue that:
"Fortunately, avoiding the most serious of the deficit-related risks does not require instituting massive, recession-inducing austerity measures. It does require setting out a plan to achieve sustainability within a reasonable time frame. Laying out such a plan would increase confidence, ease investor fears, and offer some certainty that our budget woes are only temporary."
CRFB can't agree enough with their statement. What is essential is that our policymakers agree upon and announce a credible Fiscal Recovery Plan to put our nation on track for fiscal sustainability within a reasonable time frame (say by the end of the decade), but taking the economy’s weakness into account. Tackling our immediate challenges but also addressing our future challenges can be accomplished through the announcement now of future but credible steps to get our fiscal house in order, if done within the framework of a Fiscal Recovery Plan. This is what the Announcement Effect Club is all about.
Not Much Worth Remembering – As September closes this week, it is clear that lawmakers already have one foot out the door; anxious to return home to campaign in an election season unlike any other. The only accomplishment that Congress can point to this month is the passage of a small business package that had been stalled for months. The one item remaining for legislators is a must-pass continuing resolution to fund government when the new fiscal year begins.
Small Business Bill Makes it Through – The president today signed the Small Business Jobs and Credit Act, HR 5297. The House accepted the Senate-passed version last week. While it is technically paid for, one of the offsets is a timing gimmick that means the bill will likely add to the debt in the long run.
Stopgap Funding Measure Will Be Required – Since Congress has been unable to approve of any FY 2011 spending bills, a continuing resolution (CR) will be required to keep the federal government functioning come October 1, the beginning of the fiscal year. That will be the last major piece of business this week for Congress before it can leave town.
Tax Cut Debate Put Off – The Senate has decided to put off the contentious debate over extending the 2001/2003 tax cuts until after the election. Senate Finance Committee Chairman Max Baucus (D-MT) had planned to release his bill last week, but leaders decided to postpone consideration. The House will likely follow suit and not attempt a vote before adjourning for the final campaign push.
No Ducking the Lame Duck – Tax cuts and appropriations bills will be considered during a post-election lame duck session of Congress. Any recommendations from the President’s National Commission on Fiscal Responsibility and Reform possibly will also be considered then, meaning some very important fiscal decisions could be made during this session.
Lawmakers Will Grill DoD on Fiscal Reforms – Defense Department officials will face questions from the Senate Armed Forces Committee on Tuesday over Secretary Gates’ plan to make the Pentagon more efficient. Gates wants the Department to find $100 billion in savings over 5 years.
Managing to perform below the already-low bar set by recent precedent, Congress will not finish work on any FY 2011 appropriations bills before the election. No spending bill has managed to reach the floor of either chamber, representing a glacial pace even by congressional standards.
This means we will begin the new fiscal year on October 1 with no spending plan. Enacting a short-term continuing resolution (CR) to maintain funding of federal operations will be the last major piece of business before Congress adjourns for the pre-election campaign push.
Senate leaders today filed for cloture on a bill that could be the vehicle for a stopgap funding measure, which means floor consideration can occur next week. There had been some anxiety that a dispute over potential riders to the CR could derail it, perhaps even forcing a government shutdown.
The White House requested some $20 billion in extra spending including $5.7 billion for Pell Grants, $1.9 billion for the administration’s “Race to the Top” education initiative, and over $4 billion to settle long-standing lawsuits from minority farmers. Many lawmakers object to this added funding. Concerns about a showdown (and shutdown) appear to have diminished as insiders predict a CR relatively “clean” from extra provisions.
Passage of a short-term stopgap measure will set the stage for FY 2011 appropriations to be considered during a post-election “lame duck” session. The most likely result will be an omnibus package rolling up most, if not all, spending bills. This could produce a very interesting dynamic if Republicans realize the electoral gains that many predict on Election Day. They may prefer to postpone completion of the process until after January when the new Congress is seated. The issue of earmarks will also come back early next year as a ban on the practice by the House GOP expires.
The problems with the process underscore the need for fundamental budget reform. The Peterson-Pew Commission on Budget Reform will offer a blueprint for improving the process in a forthcoming report.
Today, the House passed HR 5297, the small business bill that had been stalled in Congress for weeks. It is expected that President Obama will sign it into law right away. Meant to provide capital for banks to loan to small businesses, the bill will establish a $30 billion lending fund that will buy equity in community banks and have them pay varying dividends based on how much they increase lending (CBO actually expects this provision to raise $1 billion over ten years). Also, the bill will increase the allowable size of Small Business Administration loans from $2 million to $5 million, fund a State Small Business Credit Initiative, and allow the exclusion of 100 percent of the sale of small business stock from capital gains taxation.
The bill is ostensibly deficit-neutral, with the costs coming upfront, as you'd expect from a stimulus bill. CBO’s most recent cost scoring of the bill, which came a month and a half ago, indicates that the bill will increase deficits in 2011 by about $85 billion. After that, the bill will reduce the deficit in each year, eventually making it deficit-neutral--in fact reducing the deficit by $500 million--by the end of the ten-year outlook.
The bill is paid for with a few tax measures. They include greater reporting requirements (i.e. reducing the tax gap), and a tightening of the cellulosic biofuels credit.
The "paid for" is just on paper though. Since the House simply passed the Senate's version of the measure, it also passed the timing gimmick included in the Senate bill: allowing for more rollovers into Roth IRAs. Since the rollovers are taxable, they would raise revenue over the ten-year outlook. But since withdrawals from Roth IRAs are tax-free and withdrawals from traditional IRAs are not, it would decrease revenues in the future. It's unclear how much this specific provision would cost in the long-run, but it would surely be a net decreaser of revenue. Also, if this provision were excluded from the ten-year cost estimate, the measure would not be deficit-neutral.
We would have preferred the bill to be passed gimmick-free, as the House's original bill was. This is the type of shortsightedness that has plagued fiscal policy for far too long.
The September growth play picked up speed at the end of the week, as markets liked stronger than expected US business investment data from August (taking out the volatile transportation sector, durable goods orders were solid, suggesting a good third quarter) and news coming out of Germany (growth appears to have kept up, based on a reliable business sentiment indicator).
But, going forward, things are in fact complicated. Uncertainty and concern over the outlook for the U.S. economy persists, although fears of crisis have subsided for the time being. With weaker economic news earlier in the week and the Fed taking a large step in the easing direction based on worries about weak growth and below target inflation, demand for Treasuries picked up earlier in the week and the yield on the benchmark 10-year declined. With today’s good economic news, the 10-year bond reversed course a little and traders went to equity markets here and in Europe. Demand for gold – considered a safe haven investment by some – remains buoyant. Many cross-currents are also shaping the European outlook. Currency movements are also being driven by policy steps involving the Bank of Japan (which had intervened to dampen the yen’s rise) and the US and China (Congress is expected to raise its currency manipulation concerns next week, in some form).
For the economy in the 4th quarter and early next year, uncertainty over tax policy is becoming a problem. Households and businesses, trying to plan, do not know whether what their tax bill will be, starting January 1st. This uncertainty appears to be starting to dampen economic activity now. With the recovery struggling, the last thing we need is avoidable policy uncertainty.
It's that time of year again, when people start asking whether Social Security recipients will receive a Cost of Living Adjustment (COLA). And it appears that the answer is, once again, "no." As Donald Marron said on his blog recently:
It looks like 2011 will be another year without a cost-of-living adjustment (COLA) for Social Security recipients. Why? Because consumer prices haven’t yet returned to the peak they reached in the third quarter of 2008, when the 2009 COLA was set.
Provided there is no major increase in the CPI-W in September, Marron is absolutely right. One reason why prices haven't rebounded to their 2008 level is that the 2008 level itself was so high. COLAs are measured by their third-quarter-to-third quarter increase, and, as you might remember, the third quarter in 2008 was when oil prices hit $150 per barrel and gas prices were north of $4 per gallon. The result of this timing was a CPI level that was unusually high, leading to a large 5.8 percent cost-of-living increase for 2009. Prices, especially oil prices, dropped precipitously after the summer of 2008 and they haven't increased to that level since.
Social Security recipients are in better shape now than they could have been. As Marron says, if Social Security benefits simply followed the CPI-W (going up and down in line with overall prices in the economy), they would actually be below 2009 benefit levels right now. But since benefits never are cut, they have stayed flat, meaning that real benefits have actually increased. Normally, COLAs keep real benefits flat. Ironically, deflation leads to a better outcome for seniors' COLAs than inflation does.
The chart below shows how a hypothetical $1,000 benefit in 2005 would increase or decrease based on different COLA rules: the current one that has a zero bound and an alternative one that allows for negative COLAs.
When the no-COLA announcement was made in October 2009 for benefits in 2010, there were many calls for an ad-hoc COLA or a one-time payment to seniors, as the Obama Administration advocated. Luckily, advocates were rebuffed (well, not really--see below). This year seems to be no different; in fact, Rep. Earl Pomeroy (D-ND) beat everyone to the punch by introducing a bill in July that would make a $250 one-time payment in the event of a no-COLA year. In the words of Charles Barkley, "that's a terrible idea."
(It seems that lawmakers were actually able to sneak-in a one-time payment to seniors this year--just under a different guise. Under the health care reform act, Medicare Part D beneficiaries will be receiving a $250 check to help them deal with the "donut hole", or the coverage gap between a beneficiary's maximum deductible under their drug plan and the threshold where catastrophic coverage would kick in. Measures in the health care reform package will gradually close this coverage gap, but to "hold beneficiaries over", the federal government will be sending them $250. "Coincidentally", the Medicare Part D and Social Security cover nearly all of the same people . Even under the guise of health reform, lawmakers just couldn't resist the urge to pander to seniors.)
Politico mentioned the possibility in passing the other day that some lawmakers may support using the credit on the PAYGO scorecard to pay for any sort of COLA measure, though nothing specific has been brought up yet. The $43 billion in "credits" on the PAYGO scorecard are the savings that have been accumulated by bills passed this year; most of the savings come from health care reform. Under the PAYGO law, Congress would technically be able to pass a bill such as the one-time payments using these savings as offsets. (Note that Congress could instead decide to use the PAYGO credit to pay for extending tax cuts for upper-income earners.) Again, these are all terrible ideas that would reflect poor policymaking and poor fiscal decision making.
But some of these ideas are even worse than others:
- The worst outcome would be an ad-hoc COLA, since such an action would institute a permanent change in the Social Security system by making benefits higher (indefinitely) than they would have been.
- Also very bad would be a one-time payment to seniors that was designated as "emergency spending"--thus waiving the requirement that it be paid for. This would at least be only tempory, but it would add to the debt and set a bad precedent.
- Nearly as bad would be a one-time payment that used credits on the PAYGO scorecard -- that would at least eliminate the ability of lawmakers to use those hard-earned credits for something else.
- Though a one-time payment to beneficiaries that was fully offset would do the least fiscal damange, it is poor policy nonetheless. Such a payment is unjustified given that real benefits will aleady be higher than in 2009. And it will take away a policy change which could have been potentially used for deficit reduction.
Getting the message? Any way you frame it, it's just a bad idea. If prices do not drastically increase this month, any type of COLA or one-time payment to seniors in 2011 would be plain old political pandering.
Many of the credits on the PAYGO scorecard (in fact, over $44 billion) were put there by health reform's savings from Medicare Advantage and cuts to Medicare providers over the coming decade. (Note: these numbers should not be confused with the $143 billion in deficit reduction over ten years.) Those deficit savings were hard-earned, and the public was promised that health reform would reduce the deficit. Policymakers must not use those credits to pay for other initiatives.
Not making the deficit any worse is the first step--but we need to start lowering them. Lawmakers must resist the temptation to enact an ad-hoc COLA.
Today the Republican caucus of the House of Representatives released an agenda-setting document as a part of its strategy to take control of the House in November. The “Pledge to America” covers five broad topics: jobs and the economy; reducing federal spending and the size of government; repealing and replacing the health care reform law; congressional reform; and homeland and national security.
The prominence of fiscal policy in the document is a testament to how potent the issue of rising deficits and debt has become to voters. Pledges pertaining to fiscal matters are:
• Renew all the tax cuts that expire at the end of the year
• Allow small business owners to deduct 20 percent of their business income from taxes
• Require a vote in Congress of any new federal regulation that is determined to have an annual economic cost of $100 million or more
• Repeal the 1099 requirement in the health care reform law
• Cancel unused stimulus funds
• Reduce federal spending to “pre-stimulus, pre-bailout levels”
• Institute discretionary spending caps
• Reduce Congress’ budget
• Vote weekly on spending cuts
• Allow any legislator to offer amendments to cut spending in appropriations bills
• Cancel TARP
• Reform Fannie Mae and Freddie Mac
• Impose a net hiring freeze on non-security federal employees
• Adopt “sunset” provisions for federal programs
• Reform entitlements
• Repeal the health care reform law
• Enact medical liability reform
While there are not enough numbers to determine the overall fiscal effect, we are betting that on net, this would be a move in the wrong direction. Still, there are plenty of good ideas here that should be part of the discussion.
The document correctly points out that “[t]he lack of a credible plan to pay this debt back causes anxiety among consumers and uncertainty for investors and employers.” While there are several ideas in the document that should be pursued, it falls short of being the detailed, credible fiscal plan that the country needs to reduce the mounting debt. Although there is an unambiguous focus on cutting federal spending and a vague aim to “put government on a path to a balanced budget and pay down the debt,” no clear benchmarks are enunciated that will help chart a sustainable fiscal course.
In the pledge Republicans promise a national dialogue that will be vital to closing the fiscal gap.
We will have a responsible, fact-based conversation with the American people about the scale of the fiscal challenges we face, and the urgent action that is required to deal with them. We will curb Washington’s spending habits and promote job creation, bring down the deficit, and build long-term fiscal stability.
Not surprisingly, the pledge focuses on spending cuts. Ok, but those who support ideas like extending the 2001/2003 tax cuts and the small business income deduction proposed in the pledge will have to articulate how they will pay for them and how they fit within the fiscal targets that must be established to reduce the debt. Spending cuts to close the budget gap and more spending cuts to offset the cost of tax cuts is an awful lot of spending cuts – and though the policies laid out here are pretty vague, we are betting they don’t make it.
The call for discretionary spending caps is critical, and one that CRFB has repeatedly advocated [see here, here and here]. While the document notes that spending caps helped bring about budget surpluses in the 1990s, it fails to mention that those caps were coupled with strong “pay as you go” requirements. As we have noted previously, spending caps are most effective when paired with genuine PAYGO rules (not the current PAYGO law that contains massive exceptions).
The pledge also promises that:
Instead of pushing off our long-term fiscal challenges, we will reform the budget process to ensure that Congress begins making the decisions that are necessary to protect our entitlement programs for today’s seniors and future generations.
Budget process reform will indeed be essential to overcoming the long-term fiscal challenges. And entitlement reforms will definitely have to be a very large part of the equation. However, entitlement reform will require a lot more than reforms to the budget process (we say as a group running a commission on reforming the process). The pledge’s largest shortcoming is the massive punt on how to reform entitlements. In fact the 45 page document only mentions the word “entitlement” twice.
Additionally, there is much more to reforming the budget process than simply entitlements. Comprehensive reform of the budget process is required that will establish and enforce fiscal targets consistent with national priorities and make the process more efficient, transparent and accountable. The Peterson-Pew Commission on Budget Reform will issue a report next month that lays out a blueprint for improving the budget process.
The document does not mention tax expenditures, even though House Republican Leader John Boehner (R-OH) hinted recently that these tax breaks that often benefit relatively few taxpayers and are rarely reviewed should be addressed. Reforming tax expenditures could offer an opportunity for bipartisan cooperation.
The pledge is also silent on fundamental reform of the tax code. This is a vital issue that must be addressed. The complex and archaic tax system must be vastly improved to make it simpler while also broadening the tax base. Senators Ron Wyden (D-OR) and Judd Gregg (R-NH) have proposed a thoughtful reform plan that can help inform and move this debate.
It is time to get very specific about how we will address the growing fiscal gap. We need to develop a credible fiscal plan now with annual targets and triggers to meet those goals that can be implemented as the economy recovers. We need detailed policy proposals now and CRFB is committed to creating an environment conducive to advancing and discussing specific ideas. Senators Wyden and Gregg, and Representatives Paul Ryan (R-WI) and James Himes (D-CT) will participate in a September 30 “Getting Specific: How to Fix the Budget” policy forum sponsored by CRFB. CRFB will also kick-off a “Lets Get Specific” series of papers.
Ok, so it’s a political document. No surprise there. And we suppose we will have to wait until after the election for a real, specific, discussion of what to do to improve the debt situation.
Until then, you can work on coming up with your own plan – or pledge – using CRFB’s Stabilize the Debt online budget simulator.
The Center for American Progress released a paper yesterday titled "A Thousand Cuts." The paper aims to show how deep policymakers would have to cut spending to reduce the deficit to primary balance in 2015--the equivalent of finding about $255 billion in savings in the year 2015.
As we said yesterday, the paper presents five budget scenarios for achieving primary balance: 33 percent spending cuts, 50 percent spending cuts, 67 percent spending cuts, 100 percent spending cuts (without tax expenditures), and 100 percent spending cuts (with tax expenditures). The spending reductions are specified while the gap is filled in with unspecified revenue increase.
The following summary table shows the amount (in billions) that their specific proposals would cut in 2015 alone.
100% (without Tax Expenditures)
Scenario 1 focuses on tax expenditure reduction and defense cuts. It saves $10 billion by eliminating the deduction for business meals and entertainment, $12 billion in troop reduction in Europe and Asia and $25 billion in defense overhead that would otherwise be used to offset additional spending. Scenario 2, closing 50 percent of the gap through spending reductions would build on that by including a $6 billion cut in military compensation and a full ($13 billion) repeal of the exception from passive loss rules for $25,000 of rental loss. The 3rd also includes $9 billion more in cuts from the exclusion of interest on private purpose bonds and $7 billion in additional Federal Highway Administration cuts, and layers on new cuts in non-defense discretionary, including reductions in environmental and conservation related programs.
The 4th scenario has large cuts for many spending areas such as a 75 percent cut in agricultural subsidies and $12 billion from Social Security (by indexing COLA to an improved measure of inflation). There are cuts to 15 different tax expenditures, $96 billion in defense cuts and a full 2.5 percent decrease in non-defense discretionary spending. Of note, however, is the lack of Medicare and Medicaid reductions which CAP states is due to the cuts already in place in the recent health care reform act.
The last scenario drops the $53 billion in savings from tax expenditures. This scenario eliminates the Build America Bonds program ($12 billion) and state grants for rehabilitation services and disability research ($3 billion), reduces defense spending by an additional $14 billion, $2 billion from housing assistance, $600 million from children and families service, completely eliminates the Universal Service Fund ($5 billion more), $13 billion more from the Federal Highway Administration and another $1 billion from the Federal Aviation Administration.
Keep in mind that in the first three scenarios, the goal is not reached through spending cuts alone. Thus, in order to fully reach the overall budget goal under these scenarios, revenues would have to be increased by about $170 billion in the first scenario, $127 billion in the second, and $85 in the third. Moreover, since this is done from the President's budget, this assumes that the 2001/2003 tax cuts for upper-income earners would expire, meaning that the additional needed revenue would have to come from another source. One must also recognize that these revenue numbers and the spending cuts examined by CAP are only for 2015, meaning additional cuts/revenue enhancers would be needed for each additional year.
Lastly, the fifth scenario is indicative of what many policymakers say when they want to reduce the deficit, but not touch revenue.
Regarding the magnitude of the spending cuts in the 3rd, 4th, and 5th scenarios, John Podesta, founder of CAP, stated that:
"We believe that cuts this severe would eviscerate the foundation for future growth and do lasting harm on the health of the American middle class."
We also believe that a more balanced approach--one that includes both spending reductions and revenue increases--represents the most viable solution to controlling our rising debt.
This is an incredibly useful exercise and we applaud CAP for putting forth such a detailed analysis of different approaches to cutting spending. Click here to try to cut the debt yourself.
The remarkable level of austerity proposed in Britain’s new emergency budget made news around the world (see our earlier blog for details) as, in the wake of the Grecian debt crisis, the British coalition government declared deficit reduction their number one priority. If enacted, the emergency budget would reduce the nation’s budget deficit from 11 percent of GDP last fiscal year to 1.1 percent by 2015—a very dramatic reduction.
What would it look like if the U.S. adopted a similar budget policy in the coming years? In a recent paper, taxanalysts showed that over 10 years, the UK budget austerity package would translate to a $10.4 trillion U.S. deficit reduction package, with just over $2.5 trillion of that coming from tax increases and almost $8 trillion in non-health spending. Such a package would bring the U.S. debt-to-GDP ratio down to roughly 45 percent by 2020 (using CRFB's Realistic Baseline), which is only slightly above historical averages.
While the Administration is aiming to reduce the deficit by 2015 in a manner that would stabilize the debt-to-GDP ratio, Britain’s austerity budget would have their debt-to-GDP ratio steadily declining by that year. (Note: The Peterson-Pew Commission has called for stabilizing the debt-to-GDP ratio at 60 percent by 2018, and to decline thereafter.) Major spending cuts would include adjustments to the indexing of government payments for inflation and the freezing of all government salaries.
Considering that we are currently debating the extension of the Bush tax cuts—which would cost about $3.3 trillion under the President's proposal and about $4 trillion if all the tax cuts are extended (see our blog from Monday for more discussion)—it is clear that a package like Britain’s is about 10 steps ahead of the discussion here in the U.S. (and it’s highly controversial there as well). However, the time has come for us to enact our own fiscal plan that will slowly phase in changes as the economy recovers. Such a plan could actually strengthen the recovery now while eliminating the threat of a fiscal crisis down the road.
Today, the Fed widened the door further toward easing monetary policy (presumably in the form of additional quantitative easing). The Fed's shift rests on a weaker outlook for growth (investment appears to have started to slow again, too), limited prospects for a pick-up in employment, combined with inflationary pressures below its target. It does not however make it at all clear what would prompt it to "take the plunge" and actively ease. The key passage in today's Federal Open Market Committee (FOMC) statement is as follows: "The Committee ... is prepared to provide additional accommodation if needed to support the economic recovery and to return inflation, over time, to levels consistent with its mandate." The lone dissenter continued to be Kansas City Fed President Thomas M. Hoenig, who did not support additional easing because he judges that the economy is recovering at a moderate pace anyway.
Attemping to show how deep policymakers would have to cut spending to reduce the deficit to primary balance in 2015, the Center for American Progress today released a paper titled “A Thousand Cuts”.
The paper begins by looking at the projected 2015 deficit in the President's FY 2011 Budget, and then presents five different budget scenarios looking at how a set proportion of spending cuts could be used to reduce the deficit to primary balance in 2015 (a balanced budget except for interest payments). The five scenarios offer an illustrative picture for the types of spending changes that would be necessary to meet this goal. The Center did not include large revenue increases in its research in an effort to show the huge impact of using only spending cuts to reach balance.
Stay tuned, as we will have more analysis of these five scenarios shortly.