Bill Gale and Alan Auerbach are nice guys, but they sure know how to ruin a beautiful summer day. I’ve spent the morning reading through their latest long-term budget forecast. It’s not even Noon and I think I need a drink.

Gale, who is TPC’s co-director, and Auerbach, who heads the Burch Center for Tax Policy and Public Finance at Berkeley, have done this exercise for the past few years--each iteration more depressing than the last. The story this year: Long after the economy recovers and returns to full employment, long after the TARP and the auto bailouts are history, the U.S. will face massive and unsustainable deficits. Don’t let anyone tell you this is a temporary problem that will fade with the recession. It isn’t and it won’t.

Auerbach and Gale build their forecast on what they consider realistic assumptions about future policy. For example, they extend the Bush tax cuts (most of which President Obama vows to continue), they extend the “patch” for the Alternative Minimum Tax, they freeze but don’t cut physician payment rates under Medicare, and they allow the recent stimulus spending and tax cuts to end as scheduled.

And for all the recent arguing over baselines on TaxVox and elsewhere, Auerbach and Gale show that over the long run it doesn’t matter much which projections you use. Whether you prefer the Obama Administration budget or the policy assumptions of Auerbach and Gale, we will be in the same soup. And either way, we (and our children) will be neck deep in boiling broth.

A few of Bill’s and Alan’s numbers tell the story. Under the Obama budget, Washington will spend 24.5 percent of GDP in 2019, even with the economy operating at full speed. The projected deficit of 5.5 percent of GDP would be the highest in 60 years, except for the deep recessions of 1983 and today. This, they conclude, will be “problematic.” Indeed.  

By 2019, we’ll be spending more than $250 billion on interest on the debt. Think about that for just a minute: We are in the midst of a historic battle in Washington over how to find $150 billion-a-year to pay for health reform. Yet, Treasury will be blissfully writing checks for $250 billion just to pay the vigorish to China and other increasingly nervous lenders.

The long-term bottom line is worse: Gale and Auerbach project that by mid-century, the chasm between revenues and spending will reach 8 percent of GDP. By the end of their forecast period, 2085, it will hit 11 percent. If you prefer the Obama budget forecast, the gap will be a mere 10 percent.

This is, of course, impossible. The only question is: What are we going to do about it?      

As I promised in last Friday’s TaxVox post, here is TPC’s estimate of the 2012 distribution of President Obama’s tax proposals in the 2009 budget, measured against the administration’s chosen baseline. That baseline looks a lot like current policy: extend the Bush tax cuts, index and make permanent the 2009 estate tax, and permanently patch the alternative minimum tax by indexing forward the 2009 parameters.

How does that shift the bottom line? Against the more expansive baseline, some people pay more tax, but they are way up the income scale.

By design, Obama’s proposals would yield virtually no tax change overall, but tax shifts would differ substantially across quintiles (top figure). The lowest 20 percent—or quintile—would see its after-tax income rise by just over 4 percent, the second quintile would get just over half as much, and the next two quintiles would reap after-tax income boosts of 1 percent or more. Only the top fifth would see its tax bill rise, pushing its post-tax income down 1.5 percent. That looks like a pretty progressive tax bill that would be roughly revenue neutral to boot—measured against a fiscally irresponsible baseline.

Break down the top quintile further and the progressivity continues further up the income scale (bottom figure). On average, tax units in the 80th through 95th percentiles would get small tax cuts. Only the top 5 percent would suffer a drop in after-tax income, and for the least well-heeled four-fifths of them, income would dip an average of just 0.7 percent.
Obama would reserve his largest hits for the big guys, clipping after-tax income by more than 5 percent for the top 1 percent. Candidate Obama promised not to raise taxes on the bottom 95 percent of households and his first budget makes good on that promise.

So what is it that makes this view of the president’s tax plan look so much more progressive than the one I showed last Friday? The answer is pretty simple: last week’s story combined the effects of the Bush and Obama tax plans. Bush cut taxes for everybody but heavily favored the rich. Obama first assumes that many of those regressive tax breaks will remain in place but then turns around and raises taxes on those at the very top of the income distribution.  Combine the two and almost everyone gets a tax cut.  If you accept the immortality of the regressive Bush tax cuts as a given, add Obama’s new refundable credits, and toss in higher tax rates for the highest-income taxpayers, you end up with a highly progressive mix.

Following last month’s release of the Treasury Green Book, the Tax Policy Center reworked its distributional analysis of the tax proposals in President Obama’s 2010 budget. We learned many new details about specific tax provisions, including the practical definition of who has enough income to face higher taxes. The bottom line? You have to have a lot of income to be in Obama’s crosshairs.

Compared with current law, almost everyone would get a tax cut in 2012 from the budget’s tax plan, as Howard Gleckman explained here on Tuesday. On average, households in each of the first four quintiles (or fifths) of the income distribution would see their after-tax income rise by between 4 and 5 percent; even those in the top quintile would get a 3-percent income bump. That’s not a lot of wealth sharing: a little shifts to lower-income households because Obama proposes to make refundable tax credits permanent, but the cuts run across the board.

Go a little higher up the income scale and you find that many people in the top quintile do well under the president’s plan. Those in the 80th to 95th percentiles would see their after-tax income rise more than 4 percent on average, and the 95th through 99th percentiles would get 3 percent more. Only when we reach the 1 percent with the highest incomes do the gains tail off and we have to climb to the rarified top one-tenth of one percent to see a small tax increase—yielding a 0.1 percent drop in after-tax income. That’s no surprise, of course. We heard repeatedly during the campaign that Obama would give tax cuts to 95 percent of working families.

I can already hear some of you objecting that I’ve biased my findings by measuring the budget proposals against current law, which includes a big tax increase after 2010 when most of the past decade’s tax cuts would sunset. Howard blogged on the choice of baseline earlier this week and subsequent comments churned through the alternatives. Next week, I’ll show you the graphs depicting how the tax changes stack up against the administration’s baseline—extend the Bush tax cuts, fix the estate tax at 2009 levels, and permanently patch the AMT (all for the tidy little cost of  $3.2 trillion from 2009 through 2019). If you want to peek at the results sooner, you’ll find the relevant table on our website.

Suffice it to say for now that the tax proposals in President Obama’s 2010 budget are far from the massive redistribution of income we heard so much about during last year’s campaign.

Here we go again. I posted yesterday on a new TPC analysis of the tax cuts in President Obama’s proposed 2010 budget. The conclusion: Nearly everyone, even most of the very wealthy, would enjoy a big tax break. This, I suggested, was not smart, given the nation’s huge deficit and Obama’s ambitious priorities. 

Not surprisingly, a commenter—AMTbuff—called me to task. While many of these revenue provisions represent tax cuts relative to current law, they are not when compared to current policy—that is, assuming all the 2001 and 2003 tax cuts are made permanent, the AMT is patched into the future, etc. According to AMTbuff,  “using current law as the baseline is misleading [since] neither the public nor any experts expect all tax rates to spring back to pre-2001 levels.”

It didn’t take long for TPC’s Len Burman to weigh in. “The presumption,” he wrote, “really should be that all of the tax cuts expire.” We’ve been having this debate since Obama adopted a Bush-extended baseline during his presidential campaign—a choice that, among other things, made his proposed tax cuts look less costly than if compared to current law.

My take is somewhat different from both Len’s and AMTbuff’s. Buff sets up a straw man by arguing that no one thought “all” the tax cuts would return to pre-2001 levels. Of course not. But, neither did anyone expect “all” the Bush tax cuts would be extended indefinitely.

For instance, not a single financial advisor or Hill staffer I talked to ever thought the estate tax would actually be repealed in 2010. Hardly anyone imagined that Bush’s cuts in the top tax rates would survive his administration for long, especially once the red ink started flowing copiously in defiance of the usual, and always wrong, supply-side claims that tax cuts reduce deficits.      

On the other hand, lots of folks figured other Bush tax cuts would have a much longer shelf life. It was a good bet, for instance, that Congress would keep extending the AMT patch. 

Thus we are left in an analytical never-land. One could try to construct an alternative baseline based on a best guess about legislators’ intent nine years ago and an assumption of taxpayers’ beliefs today (and, btw, I’m not sure I buy the assertion that people believe today’s tax regime is cast in stone. I’ve never seen any evidence). But that exercise would only generate more arguments about assumptions and leave us with a Babel of competing "realistic" baselines. 

All very interesting you say, but is the Obama plan a big tax cut or not? To answer, you need to use some baseline. And to my mind, the best of two poor choices is the law, flawed and unrealistic as it may be. Whenever possible, I use another, more straightforward, measure: How much revenue would government collect as a share of GDP and how much is it planning to spend. The President’s own budget answers that question: In 2010, he’d spend 8.5 percent of GDP more than he’d raise. The gap narrows once the economy improves, but even in 2019, it is still nearly 3.5 percent of GDP. Whatever baseline one chooses, that’s not a good thing. 

  
    

Everybody gets a tax cut!

To look at TPC’s latest estimates of the tax provisions of President Obama’s 2010 budget, you’d think there was no deficit of $1.84 trillion, or that the White House has no need to pay for an ambitious health reform plan. Or more education spending. Or more infrastructure construction.

According to TPC’s new analysis of the tax proposals in the Treasury Department’s Green Book (which turn out to be even more generous that what was disclosed in his earlier budget summary), Obama would give 90 percent of all families and individuals a tax cut. Only about 600,000 taxpayers—or about 0.4 percent--would see their taxes go up under the Obama plan.

Given the nation’s fiscal mess, this appears to be fiscal policy designed by Lewis Carroll, rather than Larry Summers or Tim Geithner. You may remember the White Queen, who told Alice, “Why, sometimes I've believed as many as six impossible things before breakfast."

How generous is the Obama plan? On average, taxpayers making $500,000 or less would enjoy a bigger increase in their incomes under his budget than they did under President Bush’s 2001 and 2003 tax cuts. Even those making between $200,000 and $500,000 would get a bigger boost in after-tax incomes under the Obama plan than they did under Bush.    

In fact, while it has become shorthand to say that Obama would make only the rich pay higher taxes, that doesn’t quite tell the story. More than three-quarters of those making between $500,000 and $1 million would get a tax cut. Almost 60 percent of those making more than $1 million a year would get a tax cut. Those lucky duckies making between half-a-million and $1 million would get an average tax cut more than $6,000 and enjoy an increase in after-tax income of more than 1 percent. And the incomes of the luckiest duckies of all—those making more than $1 million—would increase by $4,600. Is this a great country or what?

Thanks in part to Obama’s Making Work Pay credit, a sweeter Earned Income Credit, and more generous refundability provisions of the child credit, low-income families would do very well. Those making less than $50,000 per year would see their incomes rise by an average of 4 percent or more. Those making between $100,000 and $200,000 would also come out nicely, with their after-tax incomes rising an average of 4.5 percent, or about $4,800.

Two important technical points: TPC estimated the effects of the tax cuts for 2012, when most provisions are fully phased in. Also, the tax changes are relative to current law. Obama, of course, prefers to measure them against current policy—assuming, for example, that the Bush tax cuts are permanent, the estate tax is repealed, and the AMT is patched. If TPC used that measure, higher income people would be paying higher taxes under this plan. Not to be old-fashioned, but to me the law is what it is, and that’s what we should be using as a basis of comparison.  

The irony here is the Republicans continue to bash Obama for being a tax-and-spender. That he is a spender is beyond dispute (and maybe not all bad, at least in the recession-ravaged short-run). But a big taxer? Hardly.

Californians vote tomorrow on six ballot measures addressing their state’s perennial budget problems.  If nothing passes, California will face a $20 billion budget shortfall. If everything passes, the deficit drops to—drum roll, please—$15 billion. Big numbers but not unusual for the Golden State. The bigger issue is whether California, or any other state, should budget by initiative.

 

While California is hardly alone, it remains the poster-child of state budget dysfunction. Its highly volatile tax system follows the economic cycle through boom and bust. Recessions mean collapsing revenue collections collide with spending mandated by earlier ballot measures, making it hard to get a balanced budget.  Using the ballot box to address these problems seems only to make matters worse.

 

It may have all started with Proposition 13, the 1978 initiative known mainly for limiting property tax assessments and rates. Prop 13 began the cycle where the state controlled most spending decisions and the ballot box often earmarked funds.  While most people know about its effect on local revenues, Prop 13 also changed state budgeting rules, requiring a two-thirds majority to pass the state budget and any tax increases.  This supermajority requirement, combined with hyperpartisan politics, makes it extraordinarily difficult for the state to pass a budget, even when the economy is relatively healthy.  In a poor economy, when revenues fall short, the budget process becomes a circus.

 

Asking voters to approve propositions that temporarily increase revenues but limit future spending growth isn’t new—California has done it before with numerous initiatives and three special elections just since 2000.  The state set up a rainy day fund and tried to limit spending in 2004, during the last fiscal crisis. You remember that recession: the dot.com boom busted, the governor tried to reinstate a tax that had been temporarily cut when times were good and got recalled and replaced by a Hollywood star.  The new governor made up the shortfall through borrowing but proposed (and voters passed) a new rainy day fund and balanced budget rules that would fix the state budgetary process and keep the state from going off the rails again.  That was 2004.

 

What would this year’s ballot measures do? Measure 1A would increase taxes for a couple of years, promise to limit future spending, and expand the rainy day fund.   The other ballot measures mainly change formulas established in prior elections that  allocate funds to specific programs in a bid to free up money now for the general fund. While easing the current fiscal crisis, they will clearly fall short of erasing the current shortfall and make budgeting decisions more difficult down the line.

 

One ballot measure is unrelated to prior budgeting-by-ballot-box initiatives.  Prop 1F would prohibit raising elected officials’ salaries during recessions.  That’s a feel good measure that doesn’t really solve the state’s fiscal problem or really do much of anything.  But it’s the only measure predicted to pass. I feel so much better knowing elected officials’ salaries won’t go up during recessions.

 

Rather than further complicating the ballot, maybe its time for California to start over by enacting a new constitution that handles the big issues and possibly lets legislators legislate.  Lawmakers may not want this power but tweaking finances through the ballot box doesn’t seem to work. And there’s still that pesky $15-20 billion shortfall.

Taxes aren’t just for grown-ups. In fact, our new Urban/Brookings study estimates that 40 percent of all federal expenditures spent on infants and toddlers flows through the tax system. That’s more than $22.8 billion.

The two main programs that drive this spending are the earned income tax credit (EITC) and the child tax credit (CTC). Although both allocate fairly large percentages (18%) of their total program expenditures to families with infants and toddlers, they differ dramatically in the benefits that are refundable and those that are not. The EITC is fully-refundable, so in 2007 (the most recent year of available data), almost 90 percent of benefits received by families with infants and toddlers ($7.1 billion) came as a tax refund. In contrast, only one third of the partially refundable CTC benefits ($2.8 billion) were refundable, so most of CTC’s benefits reduced tax liability but failed to put cash back into needy families’ hands.

Such a difference is a big deal given how hand-to-mouth many families with infants and toddlers live. Indeed, when compared to those in other age groups, infants and toddlers consistently rank among those most likely to live in low-income families. In 2007, 43 percent of all infants and toddlers lived in low-income families. Lack of income constrains many of these families’ attempts to provide a stable and nurturing environment – which, childhood development specialists agree, is a must at this pivotal stage of human development.

Expanding the CTC’s refundable portion could help struggling families move toward economic stability. And the President’s proposed 2010 budget would permanently lower the CTC earnings threshold to $3,000 – a positive step toward the kind of stability very young kids need to realize their potential.

It’s not all that’s needed, but it’s a start.

Medicare’s Part D drug benefit is going to cost taxpayers a lot of money. A really, really lot of money.

You can find the story deep in the bowels of the Medicare Trustees report that was released earlier this week. It is a nice little case study of how a well-intentioned government program can add tens of billions of dollars annually to the federal deficit. And it is a cautionary tale of how hard it will be to bring medical costs under control, despite the promises of the Obama Administration and industry lobbyists.

Part D was adopted by Congress in 2003 and began to pay full benefits in 2006. When Congress passed the drug program, conservatives groused that it was too expensive, while liberals complained it was both too complicated and not generous enough.       

Premiums finance only about 25 percent of the program’s cost—the rest is paid through general tax revenues. Unlike Part A hospital insurance, there is no payroll tax funding for this piece of Medicare. 

For the past three years, benefits have been significantly lower than government actuaries first projected, in part because so few costly new drugs have made it on to the market. But don’t worry. That bit of fiscal good fortune is not likely to last long.

According to the actuary’s intermediate cost assumptions, Part D spending will nearly triple from about $50 billion last year to a staggering $140 billion in 2018. Per capita spending will more than double, from $1,500-a-year to almost $3,200. And the program’s long-run costs are even more troublesome: growing from about 0.4 percent of Gross Domestic Product in 2008 to 1.4 percent of GDP by mid-century to 1.8 percent by 2080. Yikes. That’s about 10 percent of what it has historically cost to run the entire federal government.

Just as troubling is the uncertainty of these estimates. While $140 billion is the mid-range forecast for 2018, the actuaries warn the cost could range from as low as $107 billion to as much as $180 billion. With admirable understatement, the trustees say, “there remains a very substantial level of uncertainty surrounding these costs projections.”

It is probably worth adding that these are net drug costs. Presumably, some of these medications will reduce other medical expenses by keeping people out of hospitals, and by avoiding surgeries and other costly treatments. That is surely an argument that the pharmaceutical industry will make when the White House asks it to do its part to trim medical expenses by 1.5 percent.      

But how will we ever know? Reducing $140 billion by 1.5 percent would save only about $2 billion. And that is so far within the estimating error that it is little more than loose change under the statistical sofa cushions.

The drug benefit was a sensible reform. It was absurd that in 2003 Medicare was still offering health insurance that excluded pharmaceutical drugs. But those House conservatives were right about one thing: Part D will be hugely expensive. And we need to find a way to pay for it.

 

President Obama said last night he was going to request $1.5 billion to help address the swine flu outbreak. I wish he had also promised to find the dough to pay for this initiative. But, he didn’t. This follows a troubling, and ongoing, pattern. Obama and the congressional Democrats say they recognize the consequences of burgeoning deficits and promise to address the problem—next time.    more »

I was quoted in the New York Times yesterday, which is kind of fun. Many of my friends read the Times, and it’s a great way to make new friends, and enemies.    more »

Do not read the new CBO budget projections by the dark of night. Instead, pick a bright sunny day and keep a significant other or perhaps a pet by your side. A good stiff drink wouldn’t hurt. If Stephen King were a budget wonk, A Preliminary Analysis of the President’s Budget and an Update of CBO’s Budget and Economic Outlook would be his kind of book. The headline is CBO’s projection that the deficit will hit $1.8 trillion this year under President Obama’s policies. That’s a deficit of more than 13 percent of GDP—twice as large as any annual deficit since 1946. But that’s far from the scariest number in this report. Far more troubling to me is what will happen after the economy recovers and fiscal policy returns to what I suppose will be the New Normal.    more »

In the presidential campaign, Barack Obama promised he’d cut taxes for 95 percent of all Americans. And, so far at least, it looks like he’s coming close to meeting that goal. I think this sort of largess is a mistake given the nation’s long-run fiscal problems. But GOP claims that Obama is trying to raise taxes for many Americans are bogus. TPC has just completed a major analysis of the tax provisions of the President’s 2010 budget. We found that, compared to current law, 91 percent of taxpayers would get a tax cut under the Obama plan. That is, they’d pay less tax than they would if the Bush tax cuts expired as scheduled in 2010 and the Alternative Minimum Tax is allowed to bite millions more taxpayers.    more »

President Obama’s promise of transparency in government is a laudable goal after too many years of near-obsessive secrecy by the Executive Branch. Unfortunately, at least when it comes to his tax agenda, the president’s new budget falls far short of that vow. Too many tax proposals are written in Inside-the-Beltway code. For many provisions, there is no description at all in the 134-page budget. Most can be found only by deciphering the tables in the back. Some items worth hundreds of billions of dollars appear only as mere footnotes. Others are nothing more than numbers in revenue tables. There are no real proposals at all.    more »

There are already signs that a key tax element of President Obama’s budget--his proposal to limit to 28 percent the value of all tax deductions—may not survive on Capitol Hill. And if it is allowed to die, Congress may find itself staring squarely at another hard-to swallow tax hike—trimming the tax exclusion for employer-sponsored insurance. Key Republicans have strongly objected to the curb on deductions. Powerful Democrats, including Finance Committee chairman Max Baucus (D-Mt), are less than enthusiastic. Charities that fear they will lose contributions are gearing up for a big fight, even though TPC estimates that gifts would decline by only about 2 percent. And in the face of this criticism the Administration has signaled that it may not fight very hard to save the proposal. "We recognize there are other ways to do this," Treasury Secretary Tim Geithner told the Finance panel yesterday.    more »

President Obama’s budget would eliminate a small but meaningful program for low-income families – the Advanced Earned Income Tax Credit (AEITC). A far better idea would be to expand the program. This credit allows eligible families to receive a portion of their Earned Income Tax Credit (EITC) throughout the year through a reduction in tax withholding, so they don’t have to wait until they file their tax returns to get the extra cash. In 2009, the program could boost a family’s take-home pay by up to $35 a week.    more »