I’d like to do things differently on Memorial Day and ask you to say what you think our biggest national problem is at the present time. If you have been following this blog for a while, you can probably guess what my own answer is. But I will not answer directly, at least not yet. However I will respond to your comments and give you my take on your answer. Later on I’ll give you my own answer to the question. I hope to hear back from you!
Let’s take another look at the Congressional Budget Office’s “An Analysis of the President’s 2014 Budget”. On May 18, I pointed out that his budget projects a deficit of “only” 2% ten years from now in 2023, which amounts to a $542 billion deficit in that year, quite a large amount.
There is actually a clearer and rather frightening way to look at the continuing buildup of debt over the next ten years according to the President’s budget. On page 4 of the CBO report, year by year projections are given for each of the following: Debt Held by the Public (on which interest is paid), Gross Domestic Product, Net Interest on the Public Debt, and Net Interest as a Percentage of GDP. The actual amounts for 2012 are: $11.3 trillion in Public Debt, $15.5 trillion GDP, $220 billion Net Interest and 1.4% Net Interest/GDP. These figures all steadily increase during the next 10 years with projected values for 2023 being: $18.1 trillion in Public Debt, $25.9 trillion GDP, $782 billion Net Interest and 3.0% Net Interest/GDP.
Here’s what is so frightening. Right now we’re paying 1.4% of GDP as debt interest but GDP is itself growing at about 2%. So we at least have a small net growth of .6%. But the 1.4% interest for 2012 and 2013 is projected to keep growing steadily and reach 3% in 2023 and then to continue on growing indefinitely after that. This means that either our growth rate continues to steadily increase and hits at least 3% by 2023, and then still goes even higher after that or else our economy will begin to stagnate and go backwards.
We are currently on a perilous course, caused by the enormous accumulation of debt over the past few years, on which we will have to pay interest in perpetuity. It is an urgent matter to rapidly shrink deficit spending way down close to zero in the next few years. We need to find more effective ways to boost the economy than the excessive public stimulus which has put us into this dreadful current situation.
In yesterday’s New York Times Timothy Noah has a column in The Great Divide series “The 1 Percent Are Only Half the Problem” in which he makes the case that there are two different types of inequality which society needs to address. First, the income gap between the top 1% and the bottom 99% is getting wider and wider. But there is also a skills gap between the (college) educated class and those whose education ended in high school.
What can and should be done about these two different aspects of inequality in America? Controlling the excesses on Wall Street in order to avoid future bailouts will help control the wages of the top 1%. This is already being done with the Dodd-Frank financial reforms and current efforts to require the biggest banks to hold more capital reserves.
But much more could be done. Unfortunately, the main effect of the Federal Reserve’s low interest rate policy is to drive up the stock market which favors the more affluent. Broad based tax reform which would lower tax rates by eliminating unjustified tax breaks for the rich would do much more to stimulate faster economic growth and give a big boost to middle class incomes.
The huge and rapidly growing cost of employer provided health care (now averaging about $5000 annually for individual coverage and about $14,000 for family coverage) is having a huge negative impact on middle class wage growth. The U.S. spends twice as much of GDP, about 18%, on healthcare as any other developed nation. Reforming employer provided health insurance by removing the tax exemption (and replacing it with lower tax rates) would get each of us personally involved with controlling healthcare costs.
The skills gap is driven by globalization and the advance of technology and is not going to disappear. The only way to address it is by improving educational outcomes. Putting more emphasis on early childhood education (ages 0-5) will help as well as making college more accessible and affordable. Online education and especially Massive, Open, Online Courses (MOOCs) will help in both respects. Hopefully more and more students and families will come to realize that there are many attractive alternatives to very expensive and elite residential colleges and universities. It is not necessary to be wealthy or to borrow lots of money to attend college!
Conclusion: inequality in American society is a large and growing problem. But there are effective ways for both policy makers and individuals to respond.
The Congressional Budget Office has just released “An Analysis of the President’s
2014 Budget”. News reports highlight that the Obama plan will decrease the deficit over the next ten years by $1.1 trillion compared with the CBO baseline and that the
deficit in 2023 will be only 2% of GDP as opposed to 4.2% of GDP in 2013. Federal debt held by the public (on which we pay interest) would grow from 73% of GDP ($11.3 trillion) at the end of 2012, to 77% of GDP ($12.8 trillion) at the end of 2014, and then shrink to 70% of GDP ($18.1 trillion) in 2023.
It may sound good to say that the deficit will be “only” 2% of GDP in 2023. But this still represents about $600 billion being added every year to the national debt even 10 years from now. Right now, with very low interest rates, we are paying $223 billion per year (8% of revenue) in interest on the debt. When interest rates return to normal at 5% or so, interest on the debt will skyrocket, reaching $900 billion by 2023, representing 18% of the estimated $5.1 trillion in revenue for that year. Just paying interest on the debt
will become a bigger and bigger burden for American society, continuing indefinitely into the future.
Here’s another problem with the President’s budget. Almost half of the ten year deficit reduction ($493 billion) is achieved by limiting tax deductions to 28% of income (the tax
rate on income up to $183,000). Using a limitation of tax deductions to shrink the deficit will make fundamental tax reform that much harder. There is a strong bipartisan consensus for broadening and simplifying the tax code which means lowering, if not completely eliminating, many deductions in return for lower tax rates. This should be the primary focus of tax reform in order to stimulate the economy by encouraging
more investment.
What we need is a credible plan to completely eliminate deficit spending in the
short term, and to do this together with pro-growth tax and regulatory reform. It will be a huge challenge to get this accomplished but our future liberty and prosperity depend on it!
The Congressional Budget Office has just released an update to its February 2013 Budget Projections. The deficit for 2013 is now projected to be $642 billion, down from the previous $845 billion. This is good news but its main effect will only be to delay by several months until fall serious negotiations about raising the debt limit again. The long term outlook has changed very little. New debt for 2014-2023 is now projected at $6.3 trillion. The total debt this year will be 76% of GDP and in 2023 it is projected to be at 74% of GDP and rising. Over the past 40 years total debt has averaged 39% of GDP.
Such a large debt level now and for the indefinite future obviously has very serious negative consequences. As soon as interest rates return to more typical higher levels, interest payments will rise by hundreds of billions of dollars per year, crowding out much other spending. We can be sure that a new crisis will occur sooner or later leaving national leaders at that time in a precarious position, unless the debt level shrinks significantly in the meantime.
This means that significant additional deficit reduction is still needed at the present time. Realistically, it should come from reforming entitlement spending which is becoming an even bigger driver of our continuing debt explosion. Any national leader who denies the seriousness and urgency of our current frightful fiscal condition should be considered irresponsible and held to account for this failing.
The presently high unemployment rate of 7.5% is no excuse for inaction. The way to boost the economy, and thereby reduce unemployment, is to encourage more business investment with tax and regulatory reform. Economic stimulation and deficit reduction are not in opposition to each other. They can and should be addressed together at the same time.
The New York Times reported on May 9, 2013 that “Emphasis on Deficit Reduction
Is Seen by Economists as Impeding Recovery”. According to the reporter, “Tax increases and especially spending cuts, the critics say, take money from an economy that still needs stimulus now, and is getting it only through the expansionary
monetary policy of the Federal Reserve. … In all of this time, the president has fought unsuccessfully to combine deficit reduction, including spending cuts and tax increases, with spending increases and targeted tax cuts for job-creation initiatives in areas like
infrastructure, manufacturing, research and education.”
The $845 billion deficit for the current year, as estimated by the Congressional Budget Office, hardly represents austerity, and is in fact a massive stimulus. The president says that he wants “sensible” deficit reduction, but simply offsetting sequester
spending cuts and higher taxes on the wealthy with other spending increases and
targeted tax cuts as above, really amounts to no deficit reduction at all.
Most observers agree that it is entitlement spending, especially for Medicare and Medicaid, which is the main driver of the national debt. Serious deficit reduction will not be achieved by further whittling away at discretionary spending, as wasteful as
some of it is. The president has proposed changing the way the Consumer Price Index is computed, by switching to a “chained CPI” which will save the federal government about $30 billion per year. This is a worthwhile change to make but represents a relatively modest savings by itself.
If the Democrats want to spend more money on “investments” and other forms of
fiscal stimulus, to try to speed up the recovery, they will have to get on board with serious reform of health entitlements. The rapidly exploding national debt is a far too serious and urgent problem to ignore any longer. The president might say that it should be addressed in a sensible manner, but postponement is no longer a sensible option.
In a New York Times column on May 3, 2013, “Not Enough Inflation”, Paul Krugman writes that since we are now in a liquidity trap, where business is sitting on hoards of cash, what we need is more inflation. A higher rate of inflation would encourage more borrowing and spending and make it easier to pay down debt. Inflation is low because of the economy’s persistent weakness which prevents workers from bargaining for wage increases and forces business to hold down price increases. He goes on to say that what we also need right now is “more stimulus, monetary and fiscal, to reduce unemployment” and that “the response from people who consider themselves wise is always that we should focus on the long run, not on short-run fixes”. I think that Mr. Krugman has overstated his case as he so often does.
On May 4 the NYT “Off the Charts” columnist Floyd Norris shows that “Business Investment Rebounds Even as Recovery Drags”. He looks at data for our four most recent recessions which shows that while consumer spending is growing slowly in our current recovery, and government spending (federal, state and local) is way down, business investment has been quite strong. This is especially significant because the Stanford economist, John Taylor, has pointed out the amazingly strong inverse correlation between business investment and the unemployment rate. (See also his more recent blog on February 4, 2013.) This is a strong indication that the unemployment rate will continue to drop and perhaps even more quickly in coming months.
In summary: business investment in growing robustly, consumer spending is growing steadily, and quantitative easing (monetary policy) is just about maxed out. Government spending is down but this is primarily because state and local governments have to balance their budgets. So there is really only one policy lever left to further stimulate the economy, i.e. federal spending.
However this is where the long run matters at least as much as the short run. With the national (public) debt currently at 76% of GDP and growing, it is simply too risky to let it go much higher. In fact it is only prudent to begin reducing it as soon as possible. Absent an unforeseen national emergency this must be our first priority.
In today’s Wall Street Journal the columnist Holman Jenkins, with “The Reinhart and Rogoff Distraction”, writes that “Washington has signally failed to enact confidence-building and growth-inducing reforms that would make its fiscal and monetary stimulus seem less reckless and more like part of a coherent therapy. The real problem is the incentive of voters and their representatives to stonewall any serious adjustment to the status quo….Hardly has the time been riper for another reform spasm like the Carter-era deregulation efforts, Reagan’s tax overhaul, … The ill-timed Obama campaign to magnify the perversities of our health-care system epitomizes a failure of political leadership to do its part to make the global monetary Hail Mary come off.”
The Republican House can slam on the brakes to try to slow down excessive federal spending but there is not much else it can do by itself. The Democratic Senate is showing that it can address important but less central issues like Gun Control and Immigration Reform. But only the President can provide game changing leadership on our fundamental economic and fiscal problems. His political base of liberals and minorities does not want either spending cuts or reduction in tax rates. So he proposes spending increases, small adjustments to entitlements, and tax increases on the wealthy. This amounts to a political posture in order to appear to be addressing important issues without really engaging on them.
What has Obama accomplished? He has shown that a liberal can be elected President but can’t govern effectively from the left. What is the likely outcome? A stagnant economy with a slowly dropping unemployment rate from now until 2016 when we’ll have our next chance to vote for a reform agenda. Eventually our rapidly growing national debt will lead to a new fiscal crisis, much worse than the Great Recession which we’ve just been through. However it probably won’t happen until sometime after 2016. So Obama is temporarily off the hook, so to speak, but he’ll still catch much blame later on.
Oh well, what is life without challenges!
Barron’s Gene Epstein recently had a column entitled “The deficit deniers should do the math”. He presents a chart from the Census Bureau showing that the percentage of the U.S. population age 65 and older, now 22.6% of the total of working age Americans, will hit 30% by 2023, ten years from now, and 36.6% by 2040.
Right now there are 4.4 people of working age supporting each senior citizen. By 2040 this ratio will fall to 2.7 working age individuals supporting each senior. If we’ve got trillion dollar annual budget deficits now, how in the world will we pay for Medicare and Social Security in 2040 when there will be so many more seniors to support?
The Congressional Budget Office predicts that, under current trends, budget deficits will fall to about $400 billion in the next few years and then begin to rapidly increase after that. The Deficit Deniers conclude that the problem therefore isn’t urgent and so we can safely postpone action until the economy is more fully recovered before we start to worry about the deficit. This is very short sighted indeed.
We’ve had an anemic 2% annual growth recovery so far from the recession which ended four years ago. What if the recovery continues to limp along without picking up steam? We’ll still have the same demographic time bomb to deal with a few years from now, and we’ll be in no better shape to deal with it then than we are now.
With a President and Senate Democratic majority unwilling to address our urgent economic (7.6% unemployment) and fiscal (enormous annual deficits) problems in a serious manner, without demagoguery, the outlook for progress is grim indeed.
In today’s Wall Street Journal, columnist David Wessel declares that “Faster growth relies on a bump free road”. Mr. Wessel cites a new forecast from the International Monetary Fund that sees a “three speed recovery” with the U.S. lagging behind emerging markets and developing economies but doing much better than the no-growth Euro zone. According to Mr. Wessel our own economic growth is so closely tied in with the rest of the world, and especially Europe’s floundering economy, that the best we can do is to avoid “overly strong deficit reduction” and hope that there are no major bumps in the road.
It is pessimistic indeed to assume that there is little if anything we can do to boost economic output. We can lower both individual and corporate tax rates, offset by eliminating deductions and closing loopholes, in order to stimulate more private investment. We can help small businesses grow by removing the huge burden of having to provide health insurance to their employees (this can be accomplished by changing the tax treatment of health care insurance). We can encourage more entrepreneurial activity with targeted (but temporary) tax exemptions. Immigration reform, hopefully now in the works, will boost the productivity of our 11,000,000 illegal immigrants by giving them more economic freedom.
Twenty million U.S. citizens are either unemployed or underemployed. Our national leaders should consider it to be their moral duty to adopt measures to put more of them back to productive employment. In addition, as the strongest economy in the world by far, we will boost the entire world economy if we can speed up our own growth. The benefits of faster growth are so obvious that it should be the first priority of Congress and the President to work together to get this done!
It Does Not Add Up 