July 22nd, 2011
The “Bipartisan Plan to Reduce our Nation’s Deficits” developed by the “Gang of Six (or Seven)”, a group of Senators from both parties, certainly is not something I would brag about before a group of Princeton students who, I routinely tell them, will have to grow up quickly to clean up the mess their parents have made of our country and have proven unable to clean up themselves.
But in a country that, as Robert J. Herbold recently noted in The Wall Street Journal in his “China vs. America: Which is the Developing Country?”, now effectively is left without a functioning national government, it is a feeble hint that governance might yet one day be resuscitated in what we call “our government,” even if not restored to full vigor and health.
Viewed from that perspective, we must rate the achievement of the Gang of 6 to 7 as a significant breakthrough and thank them for their enormous effort at reaching even this tenuous and vague compromise.
The plan is long on hopes and short on specifics. We learn of an immediate “down payment” of a $500 billion deficit reduction in federal spending by capping discretionary spending through 2015, reducing by an expected average of 25 basis-points the inflation update for Social Security by shifting from the current inflation adjustment to the Chained-CPI, repeal of the CLASS Act for long-term care insurance that was included in the Affordable Care Act, freezing Congressional pay and, as in Greece, selling off some unspecified federal properties.
It remains to be seen how easily this wish list can be converted into binding legislation. Repealing the CLASS Act probably will be easiest, because the program it envisages is not yet in place.
The longer-term deficit reduction called for by the Gang of 6 to 7 for the remainder of the decade consists in the main of general instructions, supported by several procedural enforcement mechanisms, to relevant Senate committees somehow to find specified amounts of savings in the federal programs under their jurisdiction.
Savings From Federal Health Care Programs
The Finance Committee, for example “would permanently reform or replace the Medicare Sustainable Growth Rate formula ($298 billion) and fully offset the cost with health savings, but would find an additional $202 billion/$85 billion in health savings, and would maintain the essential health care services that the poor and elderly rely upon.”
To the typical voter, this instruction may be as clear as mud. As I understand it, it means that Medicare is to pay physicians over the next decade $300 billion more than is currently projected, but carve that sum out of other federal health care programs and, on top of that, find additional savings from these health care programs. The Gang, however, could not reach agreement on how large these additional savings ought to be, so they show two figures — either $202 billion over the next decade or only $85 billion. Why the Gang thought that its phrasing should make this obvious to the media and the public beats me.
In 2010, a provision in the Affordable Care Act that called for a cut of about $500 billion in Medicare spending to finance health-insurance coverage for otherwise uninsured younger Americans swiftly triggered accusations of “rationing” and “killing Granny” from opponents of the ACA It will be fascinating, and vaguely amusing, to observe how the folks who leveled these accusations now defend the much deeper future cuts to federal health spending they now advocate.
Because over the years Congress has taught us that, in Washington, D.C., English words such as “cuts” and “savings” have entirely different meanings than they do in the hinterland, we should expect that these top down instructions will be met by Congress’ legendary budget artistry, especially once the lobbyists for impacted special interest groups plead their clients’ cases and open up their cash kitties.
The Senate Finance Committee is to reform our tax system by broadening the base but lowering tax rates, with 29 percent, rather the current 35 percent or originally proposed 39.5 percent for the highest income groups. As part of the broadening of the tax base, the Committee is to “reform, but not eliminate,” current tax expenditures (tax deductibility) for health care, charitable giving, homeownership and retirement, whatever that may mean specifically. Here, too, lobbyists for the affected groups – e.g., real estate developers, health insurers, employers of many stripes, unions and non-profit groups — undoubtedly will seek to help write the specific provisions.
Raising And Lowering Revenue At The Same Time
As I read the talking-point memo issued by the Gang, it appears that the tax reform is to achieve two goals at once. First, it must be estimated to yield $1 trillion in additional tax revenue over the decade. Second, it should be done so that the Congressional Budget Office (CBO) will score the tax reform as a net tax relief of approximately $1.5 trillion.
Folks from the hinterland may view these desiderata mutually inconsistent. They are not in Washington, D.C. budget speak. It is eminently possible to estimate that a given tax reform will both increase and decrease tax revenues, if different baseline revenue projections are assumed to which the new tax projections are compared.
It so happens that the tax-revenue projection under the tax reform envisioned by the Gang lies above the baseline projection (without the reform) assumed by the Gang, but it lies below the baseline projection the CBO is, by statute, compelled to use. For its baseline, the CBO must assume that the Bush tax cuts will expire by 2013 for all income classes. The Gang’s baseline, on the other hand, assumes that the Bush tax cut would expire only for high-income groups, that is, people with incomes above $250,000, as was assumed by the Bowles-Simpson Commission. (I thank Paul N. Van de Water of the Center for Budget and Policy Priorities for explaining this detail to me.)
The beauty of these differential baselines lies in the fact that they allow members of Congress to explain to constituents who favor tax increases that the program does just that, while others can tell their constituents who may favor tax cuts that the program does just that. In fact, the same member of Congress could tell both stories, each with a straight face, to different constituents. In my Princeton classes, we call it “siffing,” that is, structuring information felicitously.
The budget plan also provides that if future Congresses find that the dynamic effects of tax reform result in additional revenue – the comforting theory that cuts in tax rates will raise total tax revenues – then that revenue must go either to further tax-rate reductions or deficit reductions. Fortunately, one can always find distinguished economists who will certify that such dynamic effects did, indeed, occur, whatever the truth may be. There will, of course, be other distinguished economists who will deny it. Econometrics is just that flexible in empirical application.
In any event, the proposed tax reform is based on the hypothesis that reductions in income tax rates will spur economic growth, although as a micro economist one would like to see explained more fully how exactly lower tax rates will translate themselves into added economic growth in an era of sluggish demand and of widespread excess capacity. I, for one, believe that the effect of changes in tax rates on economic growth is likely to depend where in the business cycle they occur (and ditto for changes in government spending).
An Attempt At A Cease Fire In A Decades-Long War
In the sweep of things, one can understand the Gang’s effort as a fragile cease fire in a long ideological war fought over the distribution of economic privilege in this country, a war that has been raging unabated for over three decades now.
One side in this war believes that the current distribution of income and wealth in this country is fair, as it rewards generously those who contribute commensurately to the economy and properly gives short shrift for those who do not – e.g., unskilled workers. The only complaint of that faction is that the distribution of income and wealth in this country would be even fairer and more efficient if the tax system did not take away so much income from the richly deserving. That faction does not appear to believe that health care, education and legal care, so to speak, need to be distributed among the citizenry on a roughly egalitarian basis, and believes that federal efforts to achieve such a distribution through taxes and transfers will doom the economy.
The opposing faction believes that the current distribution of income and wealth no longer is the product of a genuine meritocracy, and even if it were, that health care, education and legal care are so-called social goods to which rich and poor should have access on roughly equal terms, regardless of their own ability to pay for these increasingly expensive services. That faction would be willing to trade off some economic growth for the sake of this egalitarian goal.
Economists can at best project the economic footprints these distinct visions would be likely to beget over time, if implemented. As economists, they are not licensed to judge their merit on ethical grounds.
It remains to be seen whether the cease fire worked out by the Gang of 6 to 7 will take hold, and how long it will last. The larger war of which it is but a small part is far from over.Email This Post Print This Post