Brookings: Topics - Domestic Discretionary Spending

Let’s All Jump Off the Fiscal Cliff

Bradley Belt, Jared Bernstein, William G. Gale and Phillip Swagel — Fri, 07 Dec 2012 00:00:00 -0500

With less than four weeks left, reaching an agreement to avoid the negative short-term economic impact of the so-called fiscal cliff might be beyond the ability of the strained U.S. political system.

Just kicking the can down the road, averting the more than $600 billion in automatic spending cuts and tax increases scheduled to take effect in January, requires one side to give ground on a core belief: either for Democrats to allow an extension of lower tax rates on top earners or for Republicans to accept a return to higher rates for those taxpayers. It is time to consider a backup plan.

Both parties agree that any deal will include increased revenue. They disagree over the form of that revenue.

Republicans look to limit deductions that mainly benefit people with high incomes, while extending the current 35 percent top income-tax rate. This could raise about $800 billion over 10 years if the deduction cap is broadly applied, but considerably less if tax breaks such as for charitable giving are left untouched or if the cap is phased in gradually to avoid a huge penalty for couples crossing the $250,000 income threshold.

President Barack Obama’s plan raises twice that much through higher tax rates and limits on deductions for households with the top 2 percent of incomes. He would extend current tax rates for lower-income groups.

Democrats and Republicans know that the U.S. fiscal position is unsustainable and that reforms are needed of the tax code and entitlements, yet there is no consensus on which programs should be on the table.

Two Tracks

Our view is that fiscal policy must operate on two time tracks: providing near-term support for the still-fragile recovery, while driving the political system to address the long-term imbalance. We propose to let all tax cuts expire and temporarily offset the negative economic impact.

The changes involved are unsatisfactory to all. Increased revenue comes mainly from higher tax rates rather than from a broader tax base; the higher rates affect all income levels; the alternative-minimum tax hits millions it was never intended to reach; and spending cuts are focused on discretionary programs rather than the entitlements that drive the long-term fiscal imbalance.

To avoid a recession, we propose temporary tax and spending measures to boost near-term demand without making choices between the agendas of the two parties. We see this last point as essential. Getting past the cliff with the least damage to the economy requires not making choices about fundamental long- term issues in a lame-duck setting. This means that our proposal doesn’t separate upper-income tax brackets from other tax rates as sought by President Obama, but neither does it extend all rate cuts as sought by Republicans. Instead, all tax rates go up.

Our proposals are explicitly temporary. We propose a one- year, $200 billion tax refund to support household spending, with rebate checks of about $1,200 for a couple and an additional $600 a child sent out in the first half of 2013. As with a similar measure enacted with bipartisan support in 2008, the tax rebates would phase out for higher-income households, focusing the cash on low- and middle-income households.

We would add $50 billion for spending to rebuild roads, repair and modernize public schools, and fund scientific research. We see a need for a sustained increase in infrastructure spending, even in the face of the long-term fiscal adjustment. This amount is meant as a start, and in recognition that only so many high-quality projects can be initiated in 2013.

Keep Patches

An additional $50 billion would go to fiscal relief for states. This would offset some of the economic drag from their cuts but not erase all budget gaps or remove state governments’ incentives to reach sustainable levels of spending and revenue.

Finally, we propose to extend the legislative patch that prevents the alternative-minimum tax from hitting tens of millions of households and the Medicare “doc fix” that averts sharp cuts in payments to doctors serving senior citizens. We also advocate turning off the sequester put in place in August 2011 that means some $100 billion in automatic spending cuts.

The AMT patch and the doc fix both will be extended under any future fiscal package and aren’t entangled in political conflicts. The spending sequester likewise is opposed by all sides. We think it can be turned off without taking a position on the disagreement over tax rates.

All of these proposals together reduce the contraction from the cliff by $300 billion and add $300 billion to offset the rest of the fiscal tightening and provide the economy with a near-term stimulus. We look to support the recovery and to provide time for a grand bargain to be negotiated on taxes and spending to ensure long-term fiscal sustainability.

At the same time, this isn’t a “least common denominator” approach; the fiscal cliff isn’t avoided, as tax rates rise and expenditures decrease in ways that are painful for people of all political persuasions.

This is an outcome preferred by none. Yet it is better than a stalemate that threatens recession.

Authors

Bradley Belt
Jared Bernstein
William G. Gale
Phillip Swagel

Publication: Bloomberg

Image Source: © Charles Platiau / Reuters

What the Super Committee Should Say

Mon, 21 Nov 2011 10:00:00 -0500

Event Information

November 21, 2011
10:00 AM - 11:30 AM EST

Falk Auditorium
The Brookings Institution
1775 Massachusetts Ave., NW
Washington, DC

With the November 23 deadline quickly approaching, the U.S. Joint Select Committee on Deficit Reduction continues to work toward a potential deal to reduce the budget deficit by at least $1.2 trillion. Yet, questions on what to cut and how remain at the center of a contentious political debate. If the committee fails to reach a resolution, as much as $500 billion could be slashed from the defense budget, with other severe consequences to follow. Alongside the challenges of reducing the deficit, making smart investments in infrastructure, education and other catalysts for growth will be critical to national economic rejuvenation.

On November 21, the Brookings Institution hosted a discussion on the budget deficit and the future of the American economy. Panelists included Brookings Senior Fellow Michael O’Hanlon, author of The Wounded Giant: America's Armed Forces in an Age of Austerity (Penguin, 2011), Vice President Bruce Katz, director of the Metropolitan Policy Program at Brookings and Brookings Senior Fellow Alice Rivlin, co-chair of the Domenici-Rivlin Debt Reduction Task Force.

After the program, the participants took audience questions.

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Panelists

An Overview of the Domenici-Rivlin Budget Plan

Pete V. Domenici and Alice M. Rivlin — Tue, 01 Nov 2011 11:13:00 -0400

Senator Murray, Representative Hensarling and Members of the Joint Select Committee on Deficit Reduction, thank you for inviting us to testify on the enormous fiscal and economic challenges confronting our nation.

The testimony we have submitted summarizes more than one and a half years of deliberation by nineteen former senior policy makers ranging from former Democratic mayors of large cities to former governors, to former members of presidential cabinets. The Task Force represented a very diverse cross-section of the nation’s economic and political interests.

The United States faces two huge challenges: (1) accelerating growth and job creation and (2) reducing future deficits to stabilize the debt so that it is no longer growing faster than the economy. These objectives reinforce each other. Faster growth will reduce deficits, and stabilizing the debt will cut future interest rates, reduce uncertainty and enhance growth. This Committee, with its extraordinary powers, has both the opportunity and the obligation to address both challenges.

The Bipartisan Policy Center’s Debt Reduction Task Force urges you put ideology aside, cooperate across partisan lines, and craft a Long term budget plan that will put the country on a path to sustainable prosperity and responsible budgeting. To achieve success, the Committee will have go well beyond the minimum charge of identifying at least $1.2-$1.5 trillion in savings over the next ten years, because even savings of this magnitude would still leave the debt rising faster than economic growth. We believe you should craft a grand bargain involving structural entitlement and tax reform that would save at least $4 trillion over ten years. In order to do so, the Committee should take full advantage of the authority given to it by the Budget Control Act (BCA) in Section 404, and write instructions to compel authorizing committees to produce fundamental tax and entitlement reform and provide for “fast-track” consideration of those reforms.

We believe that a grand bargain would have enormous economic benefits and would also reassure citizens and markets that our political process is functioning in the public interest, not stuck in partisan gridlock or overwhelmed by special interests. Failure to reach agreement (or even settling for the minimal $1.2 trillion savings) would increase the chances of continuing weakness in the economy, high joblessness, and deep distrust of the ability of elected leaders to govern.

The BPC recommends a three-step process in order to spur our economy, achieve savings and stabilize our debt:

Step 1 was passage of the BCA, which provided $900 billion in discretionary savings, similar to the amount recommended by the BPC’s Task Force.
Step 2 – in progress – calls on the Committee to identify a down-payment of $1.2-$1.5 trillion in net deficit reduction over ten years, which should be accompanied by a full payroll tax holiday to spur the economy. The deficit reduction should utilize the many bipartisan plans that have been released, combining spending cuts from all parts of the budget with revenues. These savings also must be real – no budgetary gimmicks. Many of these policies will not be overly popular, but a comprehensive plan – one that addresses every aspect of the budget – is the most politically palatable approach.
Step 3 requires the Committee to take full advantage of Section 404 of the BCA and instruct the relevant authorizing committees to legislate further reform. The two primary areas of focus should be fundamental, pro-growth tax reform that raises revenue, and structural Medicare reform to ensure the future sustainability and efficiency of the program, as explained in the Domenici-Rivlin Protect Medicare Act.

Should the Committee fail to reach agreement on major reforms that will encourage growth and stabilize our fiscal situation, you will have missed an historic opportunity to set the country on the right track, and the consequences both to the economy and to public confidence could be dire. A sequester would produce mindless, possibly harmful cuts in spending, and even avoiding the sequester by finding $1.2 trillion would only kick the biggest part of the rising debt problem down the road. We urge you to seize the opportunity to get the job done.

The central elements of any grand bargain to stabilize our debt are clear:

Policies to promote growth and create jobs now;
Savings from discretionary accounts (which have already been enacted in the Budget Control Act);
Fundamental health care reform, especially Medicare; and
Fundamental tax reform that raises revenue.

The Bipartisan Policy Center’s Debt Reduction Task Force, which we co-chaired, only was able to achieve consensus by addressing all four.

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Authors

Pete V. Domenici
Alice M. Rivlin

Publication: Joint Select Committee on Deficit Reduction

Image Source: Â© Mike Theiler / Reuters

Improving the Federal Government’s Performance as a Lender

Douglas J. Elliott — Fri, 21 Oct 2011 10:24:00 -0400

Few people give much thought to the fact that the U.S. federal government is a huge financial institution, in addition to its other roles. At its recent peak during the financial crisis, the government controlled programs to lend or guarantee almost $10 trillion to the private sector, roughly two-thirds of the size of America’s annual economic output. Even now, the total is over $7 trillion, approximately equal to the outstanding loans in the entire U.S. banking system.

About $5 trillion of this sum relates to Fannie Mae and Freddie Mac, which the federal government is likely to eventually relinquish control of, although my bet is that it retains a substantial portion of the risk until the underlying mortgages are paid off over time. However, even the traditional programs that have been around for half a century, like FHA mortgages and student loans, represent a surprising $2 trillion of credit.

Despite a fundamental American idea that the government “stays out of business,” there is very little chance that we will pull back substantially from offering mortgages, helping students borrow to attend college, making loans to small businesses, and aiding farmers in obtaining credit. In some cases there are good policy arguments for the government’s role and in all cases there are very strong political reasons. Do not expect a major pullback from the traditional programs if the Republicans take full charge in Washington in 2012. These programs seldom shrink no matter which party is in power, because they are largely aimed at core voter blocs that can determine elections.

Politics does not always make bad policy; some of these programs are clearly good for the country. Federal credit programs can fill the gap when there are substantial benefits to society as a whole from the activity being financed or when institutional structures in the banking sector are not well-suited to meeting the credit needs. Student loans probably represent the clearest example. The private sector credit providers are simply not geared to make very long-term personal loans, with no collateral, to teenagers whose ability to repay will depend heavily on life decisions and job prospects that are very hard to forecast. (They can lend based on guarantees from creditworthy parents, but the students for whom loans will make the most difference do not tend to have such parents.) Yet there is a strong benefit for our nation and its economy in having a college-educated workforce, leading the government to play a legitimate, useful role.

Unfortunately, the evidence suggests that taxpayers do not get as much “bang for the buck” as they could from the federal credit programs. The most comprehensive studies conclude that the programs taken as a whole are significantly too costly compared to the benefits they provide. A number of smaller studies show results that range from relatively neutral to quite negative in their cost/benefit assessments.

What can we do to improve the return on our investment in the federal credit programs? I have ten suggestions, which are fleshed out in my new book, Uncle Sam in Pinstripes: Evaluating the Federal Credit Programs.

Target borrowers more carefully
Take more account of the relative risk of different loans
Use the same budget rules for all federal credit programs
Use risk-based discount rates for federal budget purposes
Avoid having the Fed run credit programs, to the extent possible
Formalize the process of initiating new credit programs
Create a federal bank to administer all credit programs
Focus more on optimizing the allocation of money between programs
Spread “best practices” more effectively
Improve the compensation and training of federal financial workers

These recommendations would put the credit programs on a sounder business basis without sacrificing the benefits for society provided by federal credit support. If taxpayers are going to own a giant bank, we should ensure it is run as effectively as possible.

Authors

Douglas J. Elliott

Image Source: Â© Molly Riley / Reuters

Time to ’86 the Tax Code? Prospects for Tax Reform After 25 Years

Wed, 19 Oct 2011 13:30:00 -0400

Event Information

October 19, 2011
1:30 PM - 4:00 PM EDT

Falk Auditorium
The Brookings Institution
1775 Massachusetts Ave., NW
Washington, DC

October 22 marks the 25th anniversary of the signing of the Tax Reform Act of 1986, landmark legislation that brought together members of both political parties to dramatically simplify the tax code. Twenty-five years after that bipartisan success, the Joint Select Committee on Deficit Reduction is considering significant tax reform to help cut at least $1.2 trillion from the federal budget deficit. Many Republicans have vowed to oppose any revenue increases, arguing for using spending cuts alone to reduce the deficit—while Democrats have instead proposed a combination of spending cuts and tax increases, with the latter focused on raising rates for wealthy Americans. With sharp partisan lines being drawn in the budget deficit debate, is there any hope of achieving sound, comprehensive tax reform before the next presidential election?

On October 19, the Urban-Brookings Tax Policy Center hosted a conversation reflecting on the impact of the Tax Reform Act of 1986, and the prospect for passing significant tax reform as part of a “grand bargain” on deficit reduction. In two panel discussions, tax and budget experts examined lessons from the last major tax reform, and discussed opportunities for reform in the current political landscape.

Following each panel, the participants took questions from the audience.

Audio

Time to ’86 the Tax Code? Prospects for Tax Reform After 25 Years

Transcript

Transcript (.pdf)

Event Materials

20111019_tax_reform

Participants

Panelists

William G. Gale

Senior Fellow and Co-Director, Urban-Brookings Tax Policy Center

Moderator: Donald Marron

Director, Urban-Brookings Tax Policy Center
The Urban Institute

Bruce Bartlett

Author, The Benefit and the Burden (Simon & Schuster, 2012)
Columnist, The Fiscal Times

Jane Gravelle

Senior Specialist, Economic Policy
Congressional Research Service

Gene Steuerle

Institute Fellow and Richard B. Fisher Chair
The Urban Institute

Kevin Hassett

Senior Fellow and Director of Economic Policy Studies
American Enterprise Institute

Eric Toder

Institute Fellow and Co-Director, Urban-Brookings Tax Policy Center
The Urban Institute

The Connection Between Employment and Poverty Rates

Isabel V. Sawhill — Thu, 29 Sep 2011 15:30:00 -0400

At a recent event, Isabel Sawhill spoke on the connection between the unemployment rate and poverty, arguing that the best way to decrease the poverty level in the United States is to provide job opportunities for all adults.

She also detailed the impact federal policy can have on the poor, and discussed the possibility that the government will decrease discretionary spending by passing budget cuts that disproportionately impact low income families.

Authors

Isabel V. Sawhill

Image Source: © Robert Galbraith / Reuters

A Grand Bargain on Job Creation and Deficit Reduction – Is It Possible?

Fri, 09 Sep 2011 09:30:00 -0400

Event Information

September 9, 2011
9:30 AM - 11:00 AM EDT

Falk Auditorium
The Brookings Institution
1775 Massachusetts Ave., NW
Washington, DC

On September 9, the day after President Obama's address to Congress on job creation, the Budgeting for National Priorities project at Brookings hosted a panel discussion to examine the options for an agreement that could increase economic growth in the short term while reducing the budget deficit in the medium and long term. Senior fellow Ron Haskins moderated a panel that included Alice Rivlin, Isabel Sawhill, and Adam Looney of Brookings as well as Douglas Holtz-Eakin of the American Action Forum.

The panelists agreed that odds are still good for a "grand bargain" that will both increase job growth and reduce the federal budget deficit - and agreed that should be the goal. Alice Rivlin noted that both policies need to be pursued simultaneously, that much of the hard work of developing policy details has been done by two commissions, and that "there is more will to work together now that there was a few months ago."

Both Rivlin and Adam Looney argued for investments in infrastructure and human capital. Looney noted that the depth of the "jobs gap" means that policies to increase employment in both the short run (such as the jobs tax credit) and the longer run (such as policies to spur training and education) will be valuable. Rivlin noted the importance of preventing layoffs at the state level, and Isabel Sawhill discussed how to best design a payroll tax holiday. While expressing skepticism about many of the policy ideas proposed by President Obama, Doug Holtz-Eakin noted that Republicans in Congress are likely to engage on the agenda, probably extending unemployment insurance and getting into “real back and forth” on aid to states and infrastructure.

Audio

A Grand Bargain on Job Creation and Deficit Reduction – Is It Possible?

Transcript

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Event Materials

20110909_obama_jobs

Participants

Moderator

Panelists

Douglas Holtz-Eakin

President
American Action Forum

(Still) Tempting Fate: An Updated Federal Budget Outlook

Alan J. Auerbach and William G. Gale — Tue, 30 Aug 2011 00:00:00 -0400

ABSTRACT

We present new estimates of the budget outlook, incorporating the impact of the recent debt-limit deal and the latest projections by the Congressional Budget Office and the Medicare and Social Security Trustees. Although the official budget figures have improved relative to a year ago (as a result of the debt-limit deal and lower interest rate projections), realistic budget projections show that the medium-term outlook remains troublesome and the long-term outlook remains unsustainable. Even with the recent legislation in place and the economy recovering fully by 2017, as projected by CBO, on a path following current policy with respect to taxes and spending (for example, by making the Bush tax cuts permanent and indexing the alternative minimum tax for inflation), deficits will exceed $8 trillion (4 percent of GDP) over the next decade, with the debt-GDP ratio exceeding 80 percent by 2021 and continuing to rise thereafter.

While the long-term budget outlook is sensitive to assumptions about how health care spending will respond to recent legislation and how durable the provisions of the recent budget deal will be, even the most optimistic assumptions imply a long-term fiscal gap of about 5.5 percent of GDP under current policies, and less optimistic but still plausible assumptions generate fiscal gaps of almost 10 percent of GDP. Policymakers and the public will eventually be forced to address these issues. Addressing them soon rather than later will allow for more reasonable and gradual adjustments.

INTRODUCTION

The United States faces the prospect of large federal fiscal deficits in the immediate future, the next 10 years, and the longer term. Although perhaps subject to the greatest public attention, criticism and expressions of concern, the short-term deficits — the result of the tax cuts and spending increases of the last decade, the “Great Recession” and economic policy adjustments that responded to it — are generally thought to be helping the economic recovery, even though the recovery has been very weak to date. In contrast, the medium-term deficits projected for the next 10 years and the long-term deficits projected beyond 2021 are a source of concern. Even if they do not lead to an immediate crisis, these medium- and long-term deficits will nevertheless create growing and serious burdens on the economy.

The unsustainability of federal fiscal policy has been discussed since at least the 1980s. But the problem has increased in importance and urgency in recent years, for several reasons. First, the medium-term projections have deteriorated significantly. Second, the issues driving the long-term projections — in particular, the retirement of the baby boomers and the aging of the population and the resulting pressure on Medicare and Social Security — which were several decades away in the 1980s — are now imminent. Third, there are increasing questions about the appetite for U.S. debt on the part of foreign purchasers, including some who have voiced their concerns quite publicly. Fourth, many countries around the world and many of the U.S. states now face daunting fiscal prospects themselves, creating a more challenging environment for any attempts at U.S. fiscal consolidation. In light of these issues and the recent agreement to raise the debt limit that included provisions aimed at dealing with the U.S. fiscal imbalance, this paper provides new projections of the federal budget outlook. [1].

The biggest change in the policy and economic environment relative to prior analysis results from the recent budget deal that President Obama signed into law on August 2, 2011 (Pub. L. No. 112-25). The measures contained in the Budget Control Act of 2011 would reduce the deficit in two phases. The Act first uses discretionary spending caps and program integrity initiatives to reduce the deficit by a cumulative amount of $895 billion over ten years (CBO 2011c). The legislation also establishes a bipartisan Joint Select Committee on Deficit Reduction to identify and recommend an additional $1.5 trillion in deficit savings by November 2011. Unless proposals from the Joint Select Committee are enacted and projected to reduce deficits by at least $1.2 trillion over 10 years, the Budget Control Act specifies automatic spending cuts to achieve the difference between the required $1.2 trillion and any deficit savings on which Congress and the president can agree.

With the debt deal in place, CBO (2011c) projects the fiscal-year 2011 deficit to be $1.3 trillion, about 8.5 percent of GDP. Other than 2009 and 2010, this represents the largest deficit as a share of the economy since World War II. For 2012–2021, the CBO baseline projects a cumulative deficit of $3.5 trillion, with deficits declining sharply to 1.1 percent of GDP by 2015 and hovering between 1 and 1.5 percent of GDP through 2021.

This would be a reassuring outcome, at least for the medium term, except that the CBO baseline is not intended to represent likely or probable outcomes. Rather, it essentially reports the implications of the assumption that Congress does nothing over the next 10 years. All major tax provisions currently scheduled to expire are assumed to do so as scheduled, for example.

An alternative way to project future outcomes is to assume that future Congresses will act more or less like previous Congresses, for example in granting continuances to expiring tax provisions. To generate a better measure of where fiscal policy is headed, we alter the CBO baseline assumptions in ways that we believe are more representative of current policies. Under this extended policy scenario, we estimate a 10-year deficit of $8.1 trillion, or 4.1 percent of GDP. As in CBO’s baseline, deficits decline in the near term, but only to 3.4 percent of GDP by 2015, and unlike in CBO’s baseline, deficits then rise substantially.

By 2021, although the economy is projected to have been at full employment for several years, the deficit under these alternative assumptions rises to 4.3 percent of GDP, the debt-to-GDP ratio rises to 80.3 percent (the highest since 1948), and net interest payments rise to 3.4 percent of GDP (the highest share ever ).

The estimates above, for the 10-year horizon and the debt-GDP ratio headed into the next decade, are significantly improved relative to those from earlier this year (Auerbach and Gale 2011). The 10-year extended policy deficit has fallen from $11.8 trillion (6.0 percent of GDP) in those estimates to $8.1 trillion (4.0 percent of GDP) currently. Of the $3.7 trillion difference, about $2.1 trillion is due directly to the debt-limit deal (and to the less-than-certain assumption that it will be enacted and enforced as legislated), another $770 billion or so is due to lower interest rate assumptions by the CBO (which presumably are also due in part to the debt-limit deal and its impact, through lower deficits, on interest rates), about $430 billion is due to our no longer assuming that discretionary spending grows with population (since the debt-limit deal specifies the path of discretionary spending), and the rest is due to changes in a variety of economic and technical assumptions by CBO.

After 2021, the deficit and debt/GDP ratios are poised to rise further, with revenues growing much more slowly than spending, implying that the situation is unsustainable. The debt-to-GDP ratio will pass its 1946 high of 108.6 percent late in the 2020s under extended policy and around 2040 under the CBO baseline. Under both scenarios, however, the debt-to-GDP ratio would then continue to rise rapidly, contrary to its sharp decline in the years immediately after 1946.

To examine long-term issues more formally, we estimate a long-term fiscal gap — the immediate and permanent increase in taxes or reduction in spending that would keep the long-term debt-to-GDP ratio at its current level. Using current-law assumptions for Medicare spending, as put forth by the Medicare trustees (2011), and assuming that the budget cuts enacted in the recent debt deal are not only enforced as legislated over the decade, but also persist for the indefinite future, we find that the long-term fiscal gap is about 3.3 percent of GDP under the assumptions in the CBO baseline and 5.5 percent of GDP in the extended policy scenario. However, these estimates hinge critically on the evolution of health care spending and on assumptions about whether the debt deal’s effects will persist beyond 10 years. The long-term gap rises by almost 3 percent of GDP under each of these scenarios when substituting the Medicare outlay estimates put forth by the Medicare actuaries (CMS Office of the Actuary 2011) and rises by additional 1 percent of GDP when using assumptions employed by CBO (2011b). Under each of the various health care scenarios, the fiscal gap rises by an additional 0.4 percent of GDP under the assumption that the debt deal’s restrictions are enforced for a full decade, but not thereafter.

These estimates show that health care reform is an important part of the long-term budget outlook, but also that even very substantial and sustained reform of health care will leave a significant fiscal gap. They also demonstrate quite forcefully that the debt-limit deal, as painful as it was to achieve, is only a prelude to the much bigger adjustments that will be needed in the coming years.

[1] This paper builds on analysis and conventions developed in previous papers, including Auerbach and Gale (1999, 2000, 2001, 2009, 2010a, 2010b, 2011), Auerbach et al. (2003), and Auerbach, Furman and Gale (2007, 2008).

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Authors

Alan J. Auerbach
William G. Gale

Image Source: © Jim Bourg / Reuters

The Debt Deal: A Hopeful View

Alice M. Rivlin — Tue, 09 Aug 2011 11:36:00 -0400

The process for raising the debt ceiling was unbelievably awful, outrageous, irresponsible, embarrassing–-no adjectives are too strong. A minority with inflexible views not only put the economic wellbeing of millions of their fellow citizens at risk, but put the world’s faith in the U.S. political system in jeopardy. We will all pay a price for this in the coming years.

That said, this deal could be a big plus for the cause of fiscal sanity. It all depends on what happens next. To be sure, Democratic critics blame the president for agreeing to cut spending too deeply without getting any revenue increases or new support for the flagging economy. And Republican critics blame the president for putting national security at risk with steep cuts to the defense budget, without reforming entitlements. However, both these views assume that the Joint Select Committee put in place to craft the second stage of the agreement will fail, triggering automatic additional spending cuts that both sides find unacceptable. But that scenario is not likely to happen.

First, there is hope that the Joint Select Committee will produce a combination of entitlement reforms that slow future spending growth and revenue-increasing tax reform that could command a congressional majority and be signed by the president. Such a package, which could include an extension of unemployment benefits and a longer payroll tax holiday, could help the flagging recovery and stabilize long-run debt or at least take a substantial step in that direction. Second, even if this process fails, the spending cuts that both sides fear are likely to be modified. The point of a trigger is to encourage compromise by posing an unacceptable alternative that forces opponents to cut a deal. It is hard to imagine that spending cuts unacceptable to a majority in both House will actually take place. More likely the cuts will be modified or the trigger will be overridden.

I strongly believe that putting our federal budget on a responsible, sustainable path requires bipartisan agreement on a package with three elements: (1) caps on discretionary spending growth, both domestic and defense, (2) entitlement reform that slows the growth of Medicare and Medicaid and preserves Social Security for future beneficiaries; (3) tax reform that simplifies the tax code and broadens the tax base to raise more revenue with lower rates. The Simpson Bowles Commission, the Domenici-Rivlin Debt Reduction Task Force, the Senate’s Gang of Six, and numerous other bipartisan groups have provided blueprints for this three-step agenda. Reportedly, both the president and Speaker Boehner want such a “grand bargain.”

The legislated spending reductions in the debt deal are very much in line with the discretionary spending caps in Domenici-Rivlin and less severe than those in Simpson-Bowles, so step (1) has been taken. The Joint Select Committee, with the active support of the president and moderates in both parties, could take steps (2) and (3). This could happen if party leadership perceives that the public is revolted by the partisan gridlock of the past months and desperately wants compromise. Of course, they would have to stand up to the extremists of both right (no revenues, even with lower tax rates) and left (no benefit cuts in Medicare or Social Security) to reach such a compromise.

Polls show clearly that a majority of the public is angry with the unseemly behavior of their elected representatives and want more civil discourse and constructive compromise. The Standard and Poor’s downgrade is symbolic of the economic damage that such behavior has done. The August recess will be test whether politicians can listen to the public and come back prepared to work together in the common interest. If so, the debt deal could provide the first three steps on the road to a sensible, sustainable federal budget and the restoration of confidence in American democracy, at home and abroad.

Authors

Alice M. Rivlin

Publication: The American Square

Image Source: ï¿½ Ho New / Reuters

Death, Taxes... And Deficit

Erskine Bowles, Pete V. Domenici, Alice M. Rivlin and Alan Simpson — Mon, 16 May 2011 11:49:00 -0400

Extreme partisanship has made it doubtful whether Congress will have the courage to forge a comprehensive, multiyear debt reduction plan. Postponing it, however, would be bad news for the country. Both parties should move toward achieving fundamental fiscal reform this year.

Here are some lessons we learned from our recent experience chairing the president’s fiscal commission, which achieved supermajority support, and the Bipartisan Policy Center’s Debt Reduction Task Force, which achieved consensus.

Bipartisan compromise is possible if all parties develop trust and mutual respect — and are willing to put their respective sacred cows on the table. Republicans and Democrats worked together on both panels to craft policies that, while no one’s first choice, aimed to solve the problem.

Failure to reach an agreement this year is not an option. We all agree that the public debt — which could surpass the size of the economy within a decade — must be reduced. Delaying action will make the choices we face increasingly difficult and sharpen the risk of a debt crisis in which bond markets force us to take painful steps.

If we fail to act, our nation could face unaffordable interest payments in excess of $1 trillion per year, which could crowd out needed investments and lead to rising interest rates and a massive debt.

A fiscally responsible plan must be bold and comprehensive — and involve shared sacrifice by all except the most vulnerable. It must restrain spending across the federal budget, slow the increase of health care costs, reform the tax code and make Social Security strong for the next 75 years and beyond with modest changes to current law.

At the same time, a plan to reduce the debt must be carefully phased in so as not to undermine the recovery.

Washington must use this opportunity to make the government work better and help growth. We must create a more cost-effective federal government and root out waste wherever we find it. Discretionary spending can be better targeted and our tax code dramatically simplified by eliminating tax earmarks and subsidies.

A credible plan must address the growth of entitlement spending caused by our aging population and unsustainable growth in health care costs. We can make Social Security financially sound for future generations through a combination of modest benefit changes and additional revenues.

Negotiators should take the best cost-control ideas from both parties, including delivery system reforms, increases in beneficiary responsibility, reductions of excess payments to providers and pharmaceutical companies, greater flexibility for states in administering Medicaid and reforms to the medical malpractice system. They should also consider reforms that bring market competition into Medicare and examine the current tax exclusion for employer-sponsored health insurance.

We can achieve substantial savings in defense spending without endangering our security — saving roughly a half-trillion dollars or more over 10 years. Savings can be achieved within our current force structure by applying Defense Secretary Robert Gates’s efficiency measures to deficit reduction, prioritizing defense investments, eliminating unnecessary or duplicative weapons systems and reforming military health care, with even greater savings possible by reevaluating our defense posture. As Adm. Michael Mullen, chairman of the Joint Chiefs of Staff, said, the U.S. debt is the “single biggest threat to our national security.”

Revenues need to be part of the solution — but as part of fundamental tax reform. Today, we spend more than $1.1 trillion a year on “tax expenditures” — credits, deductions, loopholes and exclusions, which are really just spending by another name.

Closing or tightening those loopholes can reduce the debt. At the same time, it can dramatically reduce personal and corporate tax rates, simplify the code and improve U.S. competitiveness.

Finally, to help ensure the deal is not undone by future Congresses, negotiators should include strong enforcement mechanisms with their recommendations. Statutory discretionary caps and pay-go rules are a good start. But policymakers should also consider a fail-safe mechanism, which requires action if the budget falls off track.

There is no need to reinvent the wheel. The plan put forward by House Budget Committee Chairman Paul Ryan (R-Wis.) and the framework offered by President Barack Obama have moved the debate forward by putting many proposals on the table and establishing the parameters for the discussions.

But now we need to work toward a bipartisan agreement. Administration and congressional negotiators can benefit from the bipartisan agreements achieved by the Bowles-Simpson and Domenici-Rivlin commissions and the work being done in the Senate by the Gang of Six.

The groundwork has already been laid. Time is short, our debt is mounting and credit markets around the world are watching like hawks — or vultures.

Authors

Erskine Bowles
Pete V. Domenici
Alice M. Rivlin
Alan Simpson

Publication: POLITICO

Debt Reduction as an Opportunity to Make Government Work More Fairly and Effectively

Alice M. Rivlin — Tue, 15 Mar 2011 00:00:00 -0400

In testimony before the Senate Budget Committee, Alice Rivlin argues that America's urgent need to reduce future debt is also a major opportunity to make the federal government operate more fairly and effectively. Rivlin focuses on key budget issues including tax reform, entitlement reform (specifically slowing the growth of Medicare), budget process reform and using discretionary spending caps to increase the effectiveness of federal programs.

Mr. Chairman, Senator Sessions, and Members of the Committee:

Thank you for the opportunity to testify before the Committee today.

My good friend and co-chair on the Debt Reduction Task Force, Senator Domenici, has done an excellent job laying out the scope of the debt crisis facing America if we fail to curb the unsustainable growth of our nation's public debt. I agree with everything he has said.

The United States cannot go on borrowing at projected rates. Without major policy changes, we risk a debt crisis that could severely damage our economy and weaken our influence in the world. Even if we avoid a debt crisis, the interest bill will absorb much of our future revenue as debt rises faster than the economy grows and pushes interest rates up.
Future spending is driven by commitments made to older people by both parties over many years, which have become increasingly unaffordable because of demographic change combined with rising spending for health care. In the long run, debt cannot be contained without slowing the growth of health care spending nationally, reforming the incentives built into Medicare and Medicaid, and putting Social Security on a firm fiscal foundation for future retirees.
However, since retirement program reforms can only be made slowly and it is urgent to contain debt within the next few years, we must also cap defense and non-defense discretionary spending, restrain other mandatory programs, and restructure the tax code to raise more revenue. All parts of the budget must be part of the solution to this huge challenge.

Today I want to focus on the positive aspect of our situation--the fact that the urgent necessity to reduce future debt is also a major opportunity to make our government operate more fairly and effectively. For too long we have added spending programs, both domestic and defense, that were intended to further worthwhile objectives without examining whether the money was effectively spent, whether program objectives overlapped with each other, and whether lower priority spending could be weeded out to make room for higher priority objectives. We have failed to examine the incentives that government was creating for private sector behavior. We have loaded our tax code with special provisions benefitting particular groups-provisions that diminished economic efficiency, created real or perceived unfairness, reduced the tax base, and necessitated higher tax rates for everyone.

The cumulative damage done to the effectiveness of government spending and taxing by many well-intentioned actions is significant, but the political obstacles to undoing the damage are formidable, because each spending program and tax provision has beneficiaries and defenders, Now, however, we face the prospect of debt crisis and economic disaster if we do not act. This prospect may provide the impetus and political cover for long overdue overhauls of both discretionary and mandatory spending as well as the tax code. I will focus here on three examples:

Using discretionary spending caps to increase the effectiveness of federal programs.
Reforming Medicare to slow cost growth and introduce a controllable Medicare subsidy.
Using this opportunity to reform the tax code to make it simpler and pro-growth, while reducing rates to make America more competitive.

Discretionary spending. Our Task Force recommended zero growth in nominal non-defense discretionary spending for four years-a hard freeze--and growth in line with GDP after that. This stringency is an opportunity to rethink federal activities and focus spending on the most effective and highest priority programs while eliminating and combining others and making room for needed investments. The Task Force report provides an illustrative list of programs recommended for cutting by recent administrations and others. A recent GAO publication details the remarkable overlap and duplication among federal programs with the same general objectives.

Similarly, our Task Force recommended freezing nominal defense spending (excluding current war spending, which is assumed to decline as the wars wind down) for five years, followed by a cap at GDP growth. We believe the United States could maintain an overwhelming force with capabilities sufficient for any likely contingency within this constrained spending limit if we are willing to make aggressive efforts to streamline the force and emphasize efficiency. Building on efficiencies recommended by Secretary Gates, we suggest options for increasing effectiveness and saving money, including a somewhat smaller active duty force, eliminating some major and minor hardware programs, reducing duplication in intelligence, and imposing greater cost sharing in TRICARE.

Medicare Reform. Medicare is still largely a fee-for-service (FFS) system, in which the government is obligated to pay the bills presented for specified services to eligible beneficiaries. There are few incentives built into the system for providers to deliver care efficiently or effectively, costs vary widely from one provider or area to another, and the government has no way to restrain the total cost of the program. There are major opportunities both to slow the growth of Medicare spending and for the program to provide leadership in improving health service delivery.

The Affordable Care Act includes important provisions aimed at improving health outcomes and reducing cost growth-authorizing Medicare to contract with accountable care organizations on the basis of shared saving and value-based payments to providers, pilot projects to try out other payment reforms, research on effectiveness of treatments and development of information technology--but the impact and timing of these efforts is still uncertain. Therefore, the Task Force recommended several cost-saving Medicare reforms in the short run followed by a gradual transition of Medicare to a premium support program, which would incent efficient delivery while controlling the rate of growth of total Medicare costs.

Beginning in 2018 Medicare beneficiaries would have a choice of remaining in Fee-for-Service (FFS) Medicare or going to a Medicare Exchange, where they could choose among alternative health plans. The private health plans would receive a lump-sum payment, risk-adjusted for the age and health status of the beneficiaries and would not be able to cherry pick the least costly beneficiaries. In the first year, the subsidy for those choosing the exchange would be equal to the average subsidy for traditional FFS Medicare. In subsequent years, the growth in the subsidy for both options would be limited to growth of GDP (five-year average) plus one percent, which is lower than a baseline projection of GDP plus 1.7 percentage points. Beneficiaries opting to remain in traditional FFS Medicare would pay higher premiums to cover the difference.

There are two reasons for shifting to a premium support model for Medicare. One is that the total subsidy would be controllable. Congress could, of course, vote to increase the subsidy faster than the GDP rate plus one percent, but the budgetary consequences of doing so would be explicit. The other reason is that competition on a well managed Medicare Exchange can be expected to attract beneficiaries to health plans that organize themselves to provide the most effective care at the lowest price. The Medicare Exchange would be charged with providing the beneficiary with clear, customer friendly information about each plan's benefits, cost and health outcomes.

Fundamental tax reform

Even with aggressive spending reductions, the Task Force concluded that additional revenue would be needed to achieve debt stabilization. We saw this as an opportunity to dramatically improve the tax code to make it far simpler and more favorable to economic growth, while preserving progressivity. Our proposed reforms would cut tax rates; broaden the tax base; boost incentives to work, save, and invest; and ensure, by 2018, that about half of potential tax filers no longer have to file tax returns.

Specifically, our innovative tax reform plan would:

Cut individual income tax rates and establish just two rates - 15 and 27 percent - replacing the current six rates that go up to 35 percent;
Cut the top corporate tax rate to 27 percent from its current 35 percent, making the United States a more attractive place to invest;
Eliminate most deductions and credits and simplify those that remain;
Replace the deductions for mortgage interest and charitable contributions with 15 percent refundable credits that anyone who owns a home or gives to charity can claim; and
Restructure provisions that benefit low-income taxpayers and families with children by making them simpler and more progressive.

In order to enable these simplifications and pro-growth reforms, while also achieving debt stabilization, the Task Force concluded that modest new revenues would also be necessary. Consequently, the plan would establish a new 6.5 percent national Debt Reduction Sales Tax (DRST) that, along with the spending cuts I have outlined, would stabilize the debt by 2020 and secure America's economic future.

Budget Process Reforms. The Task Force plan would put into place a series of reforms to enforce budget savings and improve the budget process. Specifically, the plan would enforce the defense and non-defense discretionary freezes by imposing statutory caps on both categories of spending - a mechanism I found to be quite effective when I served as Director of the Office of Management and Budget.

The plan would also prevent new tax cuts or new entitlement spending from worsening the fiscal situation by enacting a strict, statutory "pay-as-you-go" (PAYGO) regime, requiring policymakers to fully offset new tax cuts, expansions of existing mandatory spending, or new mandatory spending. Like the spending caps, this mechanism worked quite well in the 1990s - in contrast with recent "swiss cheese" iterations of PAYGO that are replete with exemptions.

The plan also calls for converting the federal budget process from annual to biennial budgeting to provide more certainty for federal budget planners and would establish a Fiscal Accountability Commission that would meet every five years to assess whether program growth is remaining within long-term projections and, if not, would propose measures to restore long-term sustainability. This periodic review of long-term projections is something that I personally believe to be imperative for America's long-term economic health.

Finally, I want to underscore the conviction of the Task Force that these debt reduction measures should be enacted in tandem with targeted measures to strengthen our economic recovery. Specifically, the Task Force called for a one-year payroll tax holiday for both employers and employees to stimulate the recovery. While I am pleased that some payroll tax relief was enacted for 2011, it is insufficient - particularly in light of rapidly rising energy prices. A full size $650 billion payroll tax holiday would provide a big shot in the arm to revive our economy and create, according to CBO, between 2.5 and 7 million new jobs.

Overall, our debt reduction plan is well balanced, as displayed in the chart next to me. In 2020, more than half of the budget savings are derived from spending cuts, 38% from cuts in tax expenditures, and only 9% from new revenues. As you can see, this distribution remains stable for the foreseeable future.

In closing, Mr. Chairman and Senator Sessions, I want to underscore that the congressional budget process gives your Committee the means, at this critical moment in history, to adopt comprehensive debt stabilization plan. If you have the courage and political will, the Budget Resolution and Budget Reconciliation processes provide all the tools you need to restore fiscal responsibility.

Senator Domenici and I would be happy to take your questions.

Authors

Alice M. Rivlin

Publication: Senate Budget Committee

Education and President Obama's Proposed Budget

Alan Berube — Fri, 18 Feb 2011 10:28:00 -0500

As seasoned observers have acknowledged, a sharply divided Washington makes President Obama’s budget this year at least as much a political act as a policy one. Ambitious new initiatives stand little chance at passage. Yet it’s still worth asking how the administration sees education through a political lens. After all, President Obama identified education as one of the central pillars for investment in his State of the Union call to “win the future.”

Let’s start then with the top line. The Department of Education surfaces as one of the clear winners in the FY 2012 Obama budget. While the budget freezes non-security-related discretionary spending overall, spending at Education would rise 11 percent under the president’s proposal. Much of the increase is for pre-K through 12 spending, expanding and/or restructuring programs like Title I, Investing in Innovation (I3), support for early education, and Race to the Top, under the auspices of a reauthorized Elementary and Secondary Education Act (popularly known as No Child Left Behind).

The budget also goes to great lengths to maintain the maximum Pell Grant of $5,550 amid increasing enrollments and eligibility during the economic downturn and slow recovery. While budgeters on Capitol Hill will likely focus on these trimming these subsidies for lower-income students (House Republicans have proposed to cut the maximum grant by $845 in fiscal year 2011 and cut student eligibility by 1.7 million), chances are little will be said about the $5 billion HOPE credit, the benefits of which largely go to students from middle-class families.

Race to the Top and I3 are beginning to leave imprints on the administration’s preferred approach to funding other aspects of education. For instance, the budget proposes converting the $150 million Fund for the Improvement of Post-Secondary Education, increasingly a Congressional earmark factory, into a “First in the World” competition to improve college access and completion, modeled explicitly on the I3 program. This is in addition to a $50 million College Completion Incentive Grants program, which would match states’ own performance-based funding for post-secondary institutions--and presumably encourage more states to institute such funding models. The budget also proposes, as it did last year, to create an Early Learning Challenge Fund to improve the quality of early childhood programs (hopefully by supporting new models that don’t force educators into traditional bachelor’s degrees).

The administration’s focus on innovation is further exemplified by a $90 million proposal to create ARPA-ED, modeled on the Defense Advanced Research Projects Agency, to support “breakthrough” developments in education technology and learning systems. Andy Rotherham and Sara Mead wrote about this for us in a 2008 paper, but Andy reminds us how tricky it will be to manage, absent reforms that better insulate competitions from politics and conflicts of interest.

Not everyone was a winner in the department’s budget, however. Support for career and technical education, for instance, much of which is directed to financially-strapped community colleges, would drop by about $260 million. Of course, even programs that manage to achieve stable or increased funding are unlikely to make up for the severe cuts being carried out at the state and local levels. And all this is before Congress gets its hands on the budget; it’s hard to imagine substantial increases surviving a House majority that has proposed to cut $5 billion from the current year’s education budget.

Even if new programs and spending fail to materialize this year, the administration’s FY 2012 budget sends a clear message that spending on education remains a central part of its economic strategy for the country. Notwithstanding the rancor in Washington over reducing federal spending, over 60 percent of Americans still think that federal spending on education should be increased, the highest of any area. Expect the president and Secretary Duncan to make the most of that popular support during what is sure to be a tough and prolonged budget battle.

Authors

Alan Berube

Publication: The Avenue, The New Republic

Obama Should Lead on Tough Spending Cuts to Entitlements, Tax Reform

Pete V. Domenici and Alice M. Rivlin — Thu, 17 Feb 2011 00:00:00 -0500

President Obama’s budget proposal takes some important first steps to address the challenge of surging federal deficits and debt, but we’ll need to do a lot more if we want to actually solve the problem.

Yes, the president’s budget would reduce deficits to around 3 percent of the economy for most of this decade, essentially stabilizing the debt as a share of the economy over that period.

But, that would provide just a temporary reprieve from rising deficits and debt that would return in full force later on. That’s because the budget largely avoids the main factors behind longer-term deficits: soaring healthcare costs and the aging of the population, which will greatly increase spending on Medicare, Medicaid and Social Security. Revenues will not come close to offsetting those costs.

Medicare, Medicaid, Social Security and interest on our debt not only will drive longer-term deficits and debt, they eventually will squeeze out spending for everything else — from defense to homeland security, education to research, law enforcement to food safety. That will leave the government without the funds to protect the nation, address critical needs and respond to national emergencies.

This challenge is far more than an issue of dollars and cents. We will address it, or we will face a future of less savings and investment, lower living standards and less U.S. leadership around the world. We cannot remain the world’s leading economic, military and political power while generating larger deficits and debt without end.

It is not exaggeration to say, as economic historian Niall Ferguson has warned, that America’s national debt is reaching catastrophic levels.

The president must lead. He must make clear, to both Congress and the public, that the United States faces a problem that could turn our great nation into a second-rate power. No one else can lead the charge.

The president could have done what two fiscal commissions did recently — craft a plan to address the problem head-on.

Together, we co-chaired a bipartisan,?19-member task force of former federal, state and local leaders for the Bipartisan Policy Center (BPC), developing a plan to reduce deficits to manageable levels, balance the “primary budget” (everything but interest payments) by 2014 and stabilize the debt below 60 percent of the economy over the long term. We simplified the tax code for individuals and businesses while raising more revenue through a new 6.5 percent national sales tax; reformed Medicare and Medicaid to control healthcare costs; reformed Social Security so it can pay benefits for the next 75 years; found other entitlement savings; and froze defense and domestic discretionary spending for several years.

One of us (Alice Rivlin) also served on Obama’s National Commission on Fiscal Responsibility and Reform, which crafted a bipartisan plan to reduce deficits and stabilize the debt that received support from 11 of its18 members. Similar to the BPC panel’s plan, it would simplify taxes; reform Medicare, Medicaid, and Social Security; find savings in other entitlement programs; and freeze (and then cut) defense and domestic discretionary programs.

The nation’s leaders need to follow the example of the two fiscal commissions and address the challenge as soon as possible. That will reduce the risk of an economic crisis, strengthen the economy over the long run and ensure that America continues to play a leadership role on the world stage.

We recognize that, had the president proposed in his budget the kinds of unpopular steps that would address the longer-term problems, he would have faced almost certain partisan political attack. That, in turn, actually could have set back efforts to develop bipartisan solutions to the problem at hand.

The best hope for progress lies in the bipartisan discussions that are already occurring in Congress. Sens. Kent Conrad (D-N.D.), Tom Coburn (R-Okla.), Mike Crapo (R-Ind.), and Dick Durbin (D-Ill.) were all members of the president’s fiscal commission who signed the proposal. Sens. Mark Warner (D-Va.) and Saxby Chambliss (R-Ga.) have formed a bipartisan group working together on a debt-reduction plan that reportedly includes more than 30 senators.

We encourage the president and congressional leaders of both parties to turn those discussions into a broader bipartisan proposal for longer-run deficit reduction, including fundamental tax and entitlement reform.

The sooner we can get to that stage, which holds the promise of repeating the success of bipartisan deficit-cutting negotiations of the 1980s and 1990s, the better.

Authors

Pete V. Domenici
Alice M. Rivlin

Publication: The Hill