How To Cut the Budget Deficit

By :: October 7th, 2010

Kudos to Bill Galston at the Brookings Institution and Maya MacGuineas at the New America Foundation for putting on the table a credible plan to get the federal budget under control. I don’t agree with each and every one of their proposals—no one would—but their plan is both specific and sensible. It sets out an achievable goal and has the potential to reach it. And while it gores just about every ox in the budget, it equitably distributes the necessary pain.

 

Bill and Maya aim to reduce the deficit to below 1 percent of Gross Domestic Product by the end of the decade, well below the Congressional Budget Office's estimate of 5.6 percent if nothing is done (my colleague Bill Gale thinks the likely deficit would be even higher). Galston and MacGuineas figure this would require about $1.1 trillion in budget savings in their target year of 2020, and they’d get there with gradual steps starting in 2012. By 2020, they estimate their plan would result in about $400 billion in annual tax hikes and $400 billion in program cuts. The remaining $300 billion would come from lower interest costs on the accumulated budget savings through the decade.

 

Overall, a Galston-MacGuineas government would spend about 22 percent of GDP and raise about 21.4 percent in 2020. Under President Obama’s budget, we’d spend about 25 percent of GDP and collect just 19.6 percent.

 

To raise revenue, they have two big proposals: They’d enact a broad-based carbon tax and cut and cap tax expenditures—those special interest tax subsidies that function much like spending programs. Revenue from the carbon levy would be used to both cut the deficit and trim payroll taxes. Bill and Maya would cut tax expenditures by 10 percent and freeze the total amount of these subsidies thereafter.

 

Some examples of how they’d trim tax expenditures: They’d lower the maximum mortgage interest deduction from $1 million to $500,000, phase out the deduction for state and local taxes, and replace the exclusion for employer-provided health insurance with a credit. 

 

In addition, Bill and Maya would eliminate special interest business subsidies and cut the corporate tax rate. They’d also add an income surtax to cover war costs after 2015.

 

On the spending side, they would cut throughout the budget.

 

They’d trim defense spending by $80 billion through both cuts in weapons systems and reductions in future military pay and benefits. 

 

They would freeze all domestic discretionary spending for three years and cap future increases at the rate of inflation through the rest of the decade. Unlike the freezes proposed by both Obama and the House Republicans, Bill and Maya include all domestic spending, including homeland security and the VA. Importantly, they propose an overall spending cap, not an across-the-board freeze. Thus, Congress could boost spending for some programs while cutting others.

 

They’d reform Social Security by accelerating the increase in the normal retirement age and gradually boosting the early eligibility age, now 62. They’d slow the growth of benefits for higher-income retirees but create a new minimum benefit for poor seniors. Their plan would also provide a one-time benefit hike at age 85, a time when many of the old-old run out of money. Finally, they’d require workers to save two percent of their wages in a mandatory retirement account. The government would partially match those contributions for low- and moderate-income workers.

 

For Medicare, they’d increase cost-sharing for most seniors and expand the authority of the newly created Independent Payment Advisory Board to adjust benefits as needed. But their most provocative proposal would gradually raise the Medicare eligibility age from 65 to 67. Those who temporarily lose access to Medicare could buy insurance through the exchanges that are included in the new health law.

 

I wish Bill and Maya had proposed broader-based tax reform. I’m skeptical that a cap on tax expenditures would hold. And I’d save tens of billions by turning Medicaid long-term care (which currently costs more than $100 billion-a-year) into a self-funded insurance program.

 

Still, they have laid out one of the first specific and credible deficit reduction plans in our current budget debate. Others, including the White House's own fiscal commission, will soon follow. Bill and Maya have set a good benchmark against which we can judge those plans to come.    

 

     

4Comments

  1. Anonymous  ::  7:08 pm on October 8th, 2010:

    Actually, I think my plan is pretty credible – its just that no one talks about it – especially with regard to Social Security.
    I question the wisdom of using cuts in benefits to continue to fund the unwillingness to raise marginal tax rates on the wealthier half of the population. To really bail out Social Security, have more children by paying much higher Child Tax Credits. I would eliminate the mortgage deduction and instead use the savings to fund that higher Credit. Most families would spend the money on housing (although not necessarily home ownership). While there will be less high end housing built (assuming that such housing is at all tax benefit sensitive), there will be much more moderate income housing built, since poorer families with more money move to better homes – or merely adequate homes.
    I also see that Maya is still holding onto her support of the Clinton USA Savings Account program to boost retirement savings. This won't help, and might hurt if it hurts spending. Such savings accounts, if they are used to buy stock, merely subsidize offshore hiring by multinationals or investment in overseas suppliers. Such investments would, in theory, channel the fruits of third world labor to American profits as a substitute for lost FICA taxes – however often third world workers radicalize and keep more of their wages – so the only answer really is for higher benefits for more children to be born. Young people in Maya's demographic either need to have more kids or settle for higher taxes/lower wages so their fellows can have more kids. There is no other solution to a demographic problem, save total automation and the delivery of free products and services.

  2. Anonymous  ::  7:19 pm on October 8th, 2010:

    On the spending side, I proposed a VAT on all domestic military and civilian discretionary spending of about 13% – with visibility on receipts – and a regional appropriations process and a requirement that regional budgets be balanced. Some regions will have to cut spending or lose some pork, since all regional economies would not be impacted to the same extent. If it were constitutional, I would have different VATs for each region, but they care considered an Excise tax and excise rates must be uniform (as Prof. Mikesell pointed out to me). That would balance at least the discretionary budget as soon as it was ratified.
    Entitlements would be funded by an expanded Business Income Tax (essentially a hidden VAT for all employers where tax credits would be allowed for health care and the Child Tax Credit). OASI would still be taxed separately.
    There would be an income surtax to fund overseas defense and civil operations (including CIA and IMF), as well as net interest and debt repayment to FICA and the public). The higher the tax rate and the quicker the wars and deployments are ended, the lower the taxes on the wealthy.
    This plan was, like Maya's plan, submitted to the Fiscal Commission. It was not discussed, to my knowledge, mostly because it would work.
    The fact that TPC has not scored it (I provided by analytical tables) shows the bias in both Brookings and Urban toward politicians and other think tanks. Ideas don't seem to be as important as personalities.

  3. Anonymous  ::  4:56 pm on October 20th, 2010:

    I join Howard Gleckman in applauding Bill Galston and Maya MacGuineas for their milestone “The Future is Now” report — it is superb. But I disagree with Howard’s emphasis on the details of the report. Where he sees and applauds a set of specific spending cuts and tax increases bringing the deficit below 1 percent of GDP by 2020, I see and applaud Bill and Maya’s courage to lay down hard principles to guide the tough choices that need to be made. In my judgment, this is the real contribution Bill and Maya are making to the debate. Until the principles to guide hard decisions are agreed upon, debate on details will be unending.
    To my knowledge only two sets of spending and taxing principles have been offered by major institutions – Galston and MacGuineas’ “Future is Now” principles and those put forward by the Partnership for America’s Economic Success (PAES). The Galston-MacGuineas principles put shared sacrifice at the top to address the key threat to agreement — political warfare — and then move to economic growth, progressivity, transparency, and demographics. The PAES principles put human capital at the top to address the key input to economic growth, and then move to early childhood, government performance evaluation, transparency, and sustainability. Somewhere in a melding of the two sets of ideas, there’s the kernel of a consensus that might work.
    I strongly agree with Galston and MacGuineas’ first principle. Its power reflects the fact that budgets are not about money alone. Government budgets express the fabric of civil commitments citizens have made to each other over many decades. Those commitments – public safety, education, good roads, freedom from government over-regulation, and reasonable taxes – are built into local, state and federal budgets. People organized their families and businesses around these commitments. The very slowness with which they accumulated and were reaffirmed year after year in budget legislation, attested to their firmness and reassured people they could safely organize our lives around them.
    When we talk about a budget crisis, it is a crisis not because there is not enough money. It is a crisis because the fabric of our society is being ripped apart, threatening families and businesses. Bringing U.S. fiscal conditions back into sustainable balance will require identifying a priority or commitment so compelling, that if voters can be assured that this commitment will be met, they will be agreeable to adjusting the others and constructing a new framework of civil commitments peacefully and cooperatively.
    I also agree with their second principle, “Encourage Growth,” but it won't be easy. The U.S. is enduring an historic credit crisis. The U.S. economy is in a kind of structural trap, and it will take years, if not decades, to get our economy back on its feet and keep it there. Here I prefer PAES’ first principle “Human Capital: To achieve economic growth and fiscal sustainability, government should emphasize strengthening the skills and capacities of America’s workforce.”Solving a civil crisis requires a “through line” idea that unifies people politically and makes sense economically. For me, the principles must be forward looking and put the life success of the next generation first in budget decision-making. These principles should reflect the strongest values of family, including quality childcare, nutrition, health and education, and the strong involvement of seniors, all focused on workforce competitiveness as the key to achieving fiscal sustainability.
    Robert H. Dugger, Managing Partner, Hanover Investment Group

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