Budget Clarity

The chatter about the budget gets more noisy. I understand the reasons why this has emerged as such a big issue: the economic landscape will, in large part, be shaped by the Federal Budget over the next few years. And we are now entering the post-crisis, or rather post triage, phase of the recession, so naturally people start to talk about slight;y longer term problems. There is no doubt that one of those problems is the level and accumulation of national debt.

This is not a unique US-only problem. The entire industrialized world is now being weighted down by record or near record government deficits. Indeed the crisis is such that some countries, notably Ireland, Greece, Italy and Spain are under enormous pressure, and are at risk of being unable to continue to fund their obligations.

The US is nowhere near that level of indebtedness, but recent chatter has made it seem so.

Given the upcoming debates on health care and banking reform we should all keep a sensible approach to the issue. In that vein I want to highlight the central topics.

1. Under the currently proposed budget and various bail-out programs in place here the US national debt has no prospect of declining during the next ten years. Even after the immediate crisis abates, sometime in the next two years, the Federal deficit will continue to add annually to the debt. At no time in the foreseeable future is there a surplus. The Congressional Budget Office, just today, forecast the debt as reaching beyond 80% by the end of this decade. This long term permanent annual, or ‘structural’, deficit is what the fiscal hawks and the bond markets are howling about. I have said before that I think the level of criticism they are making is simply so much shrill hypocrisy given their total support for the Reagan/Bush fiscal follies that created the deficits, but I agree: structural deficits are a problem that need to be dealt with.
2. The root causes of the deficits are fairly easy to identify: after the triage efforts have subsided, and the temporary or ‘cyclical’ part of the deficit is reduced, there remains an imbalance. We spend too much. On too many things. We have an inherent conflict between the goodies we want and our willingness to pay for them. There is no magic in this. What is more difficult is getting a dialog going on what we should do. This requires an examination of our priorities which, given our post Reagan political polarization is practically impossible. But it is something we need to do.
3. This means every budgetary line item should be open for critique.
4. The big ‘deal breakers’ are health care and defense. Oddly retirement, while it represents a massive problem is more tractable to solution: raise the retirement age in line with our longer life expectancy and the issue shrinks remarkably. In contrast health care looks set to blow the budget wide open. Which is why we will be discussing the reform of our system ad nauseam over the summer. Even harder, apparently, is getting a sensible discussion over defense spending. The US spends as much on defense as the next ten countries added together. It has no credible near term conventional enemies even remotely capable of inflicting harm on the US mainland, so this level of spending seems out of kilter with the threats. Non-conventional enemies we have in abundance. Our foreign policy is not exactly benign, so gathering enemies has been easy. Post 9/11 defense has been an untouchable budgetary item. For how long this can go on is debatable. Eventually the cost of maintaining the military will impinge on our domestic choices. It will definitely accelerate our budgetary decline.

The US is lucky in that tax revenues are low compared with other countries. Even including State taxes the total is still less than 30% of GDP. Most European countries are at the 40% mark. They thus have far less scope for dealing with their deficit issues: they can only realistically cut spending, extra taxes appear unlikely. Here, however, there is scope for a more balance approach. We have room for some tax increases as well as getting costs under control. Our debate therefore should be an easier one.

There is extra revenue, i.e. more taxes, available here because we have more tax loopholes to close. The two most obvious ones are the welfare support for home ownership via mortgage interest tax deductibility, and the exemption that businesses get fro health care payments they provide as benefits to employees. Neither of these should survive an honest discussion of our budgetary priorities. They both are highly selective and serve to make the tax code inequitable. They also have pernicious economic effects by tilting investment incentives towards unproductive assets. They should be eliminated. The revenues from these two moves alone would go a long way towards establishing a fiscally conservative long term budget.

But that would still leave a gap to be closed. A gap that can only be dealt with if health care is dealt with. Health care reform is not so much about health care, it is about fiscal prudence. We spend too much. We are profligate in our health care spending. We run the risk of bankrupting the nation is we don’t break this habit. Demographics cannot be avoided. The greying of the population that has been ‘looming’ for so long is now upon us. It isn’t looming, it has arrived. That we have refused to do anything in preparation is baffling, and makes the solution both more urgent and more difficult to achieve. But we have no alternative.

Cutting costs will inevitably mean less of something. Less service is probable. But that less service does not automatically mean less healthiness: our current wastefulness has not provided good basic care, it has produced the world’s most extravagant use of exotic and marginally useful tests or drugs. We are not healthier than other countries. We get less than average results from gilded and over the top costs.

It has to stop.

Finally clarity around the budget requires us to keep the two types of deficit clearly apart in our minds. the cyclical anti-recessionary deficit has bought us something: we dodged a depression. So there was a good return on that money being spent. Yes we need to reduce our cyclical spending, but that will happen as the economy recovers. The structural deficits bought us nothing. The Bush tax cuts provided no long term stimulus to the economy because they were so biased towards high end earners whose marginal spending was never going to be sufficient to boost demand and thus allow the cuts to ‘pay for themselves’. Instead we are saddled with the ned to re-examine them and get rid of the more egregious. Fiscal conservatism means undoing most of the Reagan/Bush legacy. This may sound counter-intuitive, but it remains a fact.

So budget clarity:

• don’t confuse cyclical with structural deficits
• we have scope for revenue raising via tax code tightening
• re-visit the Bush tax cuts
• but cost cutting is inevitable
• defense
• health care, health care, health care.

No matter what Cheney says: deficits do matter. We are now approaching the time to debate how to deal with ours.