Agreement on Debt Limit Increase

We have a deal (pending votes, of course). (UPDATE: CRFB has a press release on this deal here)

Last night, the leaders from both parties announced a deal to raise our debt limit and avoid economic calamity, combined with some significant deficit reduction. The deal is modeled after plans released by Senate Majority Leader Harry Reid and Speaker of the House John Boehner last week. The deal includes upfront savings that match those in the Boehner plan, along with a three-tranche increase in the debt limit and a process for a new Joint Congressional Committee to find more savings, backed up by a trigger of automatic spending cuts if savings are not realized. In total, the plan lays out a process by which the debt limit will be raised between $2.1 and $2.4 trillion and the deficit will be reduced by at least $2.1 trillion.

^{*We assumed that other mandatory and discretionary spending change at the same level as the Fiscal Commission's.}

As for upfront savings, the deal calls for the exact same discretionary spending caps as under the Boehner plan, with the exception that in 2012 and 2013, the caps specify levels for Security and Non-Security (under the White House definition of the categories) as opposed to ranges for Defense and Non-Defense. The caps, according to the CBO score, would reduce outlays by $756 billion from 2012-2021. The plan also matches the program integrity efforts and changes to Pell Grants to pay for increased funding by eliminating in-school interest subsidies for student loans. Including interest savings, this puts the plan at $917 billion in savings, ala Boehner's plan.

The deal includes an immediate increase in the debt limit equal to $400 billion, which Treasury estimates will give it enough room to borrow through September. Following that, a $500 billion increase to the debt limit would be subject to a resolution of disapproval from the Congress, which would be subject to a Presidential Veto.

Lastly, the deal calls for a special joint congressional called the Joint Select Committee on Deficit Reduction of six Democrats and six Republicans charged with finding deficit reduction equal to $1.2-1.5 trillion, off of its own baseline, in order to achieve an additional $1.5 trillion debt ceiling increase. The committee is guaranteed a fast-tracked vote on its recommendations before December 23.

If the joint congressional committee either fails to come to an agreement on a plan of at least $1.2 trillion in savings, or if a sufficient plan that it agrees on fails to become law, there will be an across-the-board sequester composed of 50 percent defense spending and 50 percent domestic spending with Social Security and low-income programs exempt and limiting Medicare cuts to 2 percent of the cuts.

The sequestration mechanism, similar to the one contained in the Balanced Budget and Emergency Deficit Control Act (Gramm-Rudman-Hollings), would not go into effect until the start of 2013--which coincides with the expiration of the 2001/2003/2010 tax cuts. The White House as also indicated that they will use the tax cuts as a trigger to ensure that revenue comes out of the special committee. 

If the committee does come up with a deal totaling between $1.2 and $1.5 trillion in deficit reduction, the debt ceiling is increased equal to that same amount. If the committee comes up with a deal less than $1.2 trillion, the difference will be made up with sequestrations. The debt ceiling will therefore be increased by a minimum of $2.1 trillion and a maximum of $2.4 trillion, regardless of whether the committee meets its minimum goal of $1.2 trillion or exceeds $1.5 trillion in savings.

A final provision of the deal would guarantee a vote in both Houses on a balanced budget amendment, which would be expected to fail in the Senate.

Although the legislation could serve as a useful first step toward reducing the deficit, it would be insufficient to bring the debt under control. Based on realistic assumptions, debt could still grow to between 76% and 80% of GDP by the end of the decade (see the graph above), even if the commitee is successful in enacting a full $1.5 trillion cuts.

The joint committee should therefore tool to enact a far more ambitious deficit reduction plan - preferably closer to $3 trillion - and must make sure it is addressing long-term entitlement growth and comprehensive tax reform.