Blog Post

Facing the Fiscal Music

What’s at stake:The burgeoning debate over U.S. spending and debt drew some early attention on Thursday from the G20 talks in Paris. President Obama’s proposed budget (published on Monday) would cut the deficit by $1.1 trillion in 10 years, with about two-thirds coming from spending cuts and one-third from added revenue. The House Republicans have […]

By: Date: February 18, 2011 Topic: Banking and capital markets

What’s at stake:The burgeoning debate over U.S. spending and debt drew some early attention on Thursday from the G20 talks in Paris. President Obama’s proposed budget (published on Monday) would cut the deficit by $1.1 trillion in 10 years, with about two-thirds coming from spending cuts and one-third from added revenue. The House Republicans have called for much broader cuts of $2.5 trillion in 10 years. Both plans are primarily political statements, since neither is likely to be carried out without significant compromise.

The FY 2012 Budget and CBO estimates

Real Time Economics has a summary of the budget. 1) 5-year freeze on domestic discretionary spending, which White House says will save $400 billion. 
2) Two-year moratorium that gives cash-strapped states more time to pay of debt from unemployment insurance programs, followed by the ability to charge taxes on a higher payroll base.
 3) Two-year freeze in federal civilian employees salaries, expected to save $5 billion.
 4) Overhaul in Pentagon spending, which White House believes will save $78 billion over five years.
 5) More spending on education, high-speed rail, wireless infrastructure. 
6) $2.5 billion in cuts to the Low-Income Home Energy Assistance Program. 
7) Army Corps of Engineers, agricultural subsidies, Forest Service, and the Environmental Protection Agency’s Clean-Water Fund are expected to take hits.
Last month, the Congressional Budget Office published its latest ten-year budget projection. William Galston argues that in its latest long-term budget and economic estimates, the CBO looks at our fiscal future in two different ways. Its “baseline” budget assumes that current law does not change. Under that scenario, the deficit declines to about 3 percent of GDP by mid-decade and remains there until the end of the ten-year budget window. And that’s the good news—too good to be probable, in fact. It presupposes steady growth without a recession between now and 2021, a longer uninterrupted period of growth than we have ever experienced. Moreover, in following current law, as it is required to do in constructing its baseline, the CBO assumed that all the Bush tax cuts expire in 2012, that the alternative minimum tax would expand to hit many more households than ever before, and that sharp reductions in Medicare payment rates for doctors take effect at the end of 2011.

The IMF fiscal monitor update released on January 27th takes stock of recent US policy commitments and highlights that the only advanced economies with loser fiscal stances in 2011 than initially pencilled are the United States (loser by 1.1% of GDP), Japan (marginally so) and Canada (from a low base).

Addressing the LT fiscal challenges


Jack Lew
, director of the White House Office of Management and Budget, argues that because non-security discretionary spending amounts to little more than a tenth of the federal budget, cutting solely in this area will never be enough to address our long-term fiscal challenges. That is why President Obama made clear in the State of the Union that he wants to work with Congress to reform and simplify our tax code. He also called for serious bipartisan cooperation to strengthen and protect Social Security as we face the retirement of the baby boom generation. Howard Gleckman, of the Tax Policy Center, writes that having a bloody battle over 12 per cent of spending is something like the management of a bankrupt company using all of its energy to cut the travel budget, instead of trying to figure out why customers stopped buying its products.

Christina Romer
argues that it is not about cutting 2011 expenditures but putting now into law cuts for the next decade and be clear about the need to raise tax revenues, on the rich first but also on middle class families. The tax reform and the fiscal adjustment it allows cannot be revenue neutral and has to gradually and persistently trim the deficit.

Social Security, Medicare and Medicaid


Keith Hennessey
argues that it’s the slope of the spending line that’s killing us. That’s because three enormous spending programs are growing at unsustainable rates:  Social Security, Medicare, and Medicaid.  A better way to think about it is that there are three underlying forces driving spending growth:  demographics, unsustainable benefit promises by elected officials, and per capita health spending growth.

Mark Thoma
argues that Social Security has little to do with our long-run budget problem, and the imbalance in this program can be fixed relatively easily. So whatever we do here it will still leave the big problem — rising health care costs — unaddressed. Until politicians start leveling with the public about the source of the budget imbalance instead of fooling them into thinking the measures they are talking about for Social Security and other programs will help to solve our long-run debt problem, we won’t make much progress.

Arnold Klin
notes that with Medicare and Medicaid outlays are tied to health care costs, and we all know that health care costs are rising faster than inflation. Everytime a budget wonk says “health care costs,” you should say to yourself “utilization of medical services.” That way, the phrase “we need to slow the growth of health care costs” becomes “we need to slow the growth of utilization of medical services,” which is a much more accurate description of what has to occur. An effective way to hold down health care spending would be for the government to only pay for the medical services that you would have obtained in 2000, so that services above and beyond that are not paid for. No new equipment. No new forms of specialist practice. That would work conceptually to control health care “costs,” although I am not saying that it could be implemented in practice. Still, the point is that when we treat paying for every new medical gizmo and specialist visit as mandatory, we are giving the budget a self-inflicted wound.

Brad DeLong
argues that our long term projected spending and revenue balance is not a problem *if*. If the economy and if programmes perform as expected, if the US government continues to be able to finance its debt at a real interest rate less than the growth of labour productivity plus the labour force, and if Congress and the president do not do anything further to raise spending above or decrease taxes below current law, the United States simply does not have a fundamental fiscal crisis. The problems are all in the *ifs*. Today there are no signs of any possibility of a collapse of foreign investor confidence in their US Treasury holdings. A non-fundamental crisis is not even a cloud on the horizon. The big *if* is, to put it simply, this: Congress will pass something stupid and the president will sign.

The schizophrenia in polling about deficits

There’s been a lot of discussion over the last day or so about a study showing that people underestimate the amount of government services they receive.

Stan Collender
examines the schizophrenia in polling about deficits. Anyone who insists that Americans are unambiguous about tackling the budget is misreading or misstating the actual situation. Yes, polls consistently show strong opposition to federal debt and strong support for reducing the deficit. But they also show outright hostility to virtually all of the policy changes that would make it possible to substantially reduce the deficit and the amount the government borrows. Even though the budget is a numbers problem, these deep contradictions clearly show that the budget is not a rational issue for most Americans; it’s an emotional issue, and that’s why policymakers, interest groups and others typically fail to gain much traction in the debate with graphs and charts.

Bruce Barlett
reproduces a table from a paper by Suzanne Mettler showing that most people don’t realize that they are beneficiaries of government social programs. About 50% of people who benefited from the EITC, 40% who benefited from Unemployment Insurance and from Medicare say they “have not used a government social program.” James Kwak writes that there’s another number in Bartlett’s post that is more interesting. That’s an estimate by the Tax Foundation that, in 2004, the average middle-quintile household received $16,781 in benefits from the federal government. That same study says that, on average, middle-quintile households get back $1.30 in transfer payments and other government spending for every $1 that they pay in taxes.

Mark Thoma
argues that the key here is to overcome the belief that the majority of people using these services are "gaming" the system to get handouts they don’t deserve. Perhaps it would help a little if they realized that they received these benefits, but that’s not the main source of opposition to government programs. People believe they paid for programs such as Social Security and Medicare. The people answering this question are actually answering whether they’ve consumed services they didn’t pay for in one way or another.

Articulating LT and ST issues

Brad Delong explains in a long post the internal debate within the Obama administration about the articulation of short-term and long-term issues. In the initial round of White House decision-making — the round that decided on the Recovery Act passed in February 2009 — Peter Orszag agreed with his fellow members of Obama’s National Economic Council that recovery in the short term was more important than deficit-reduction in the long term, and that the government should spend more without worrying just then how the debt it issued was to be repaid. After that, however, Orszag’s position shifted thought that tying the two tracks together offered President Obama his best chance of success.

Keith Hennessey
argues that the President is proposing an ordinary liberal spending agenda at an extraordinary time in our fiscal history. His proposals for increased government spending on infrastructure, technology, and education are straightforward expansions of the role and size of government, in line with what I might expect from a Carter or even Clinton in his more expansive years. Times have, however, changed significantly since the 70s and the 90s. What were then long-term fiscal problems are now short-term looming crises.

Bruegel Economic Blogs Review is an information service that surveys external blogs. It does not survey Bruegel’s own publications, nor does it include comments by Bruegel authors.


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