Published at www.economics21.org, December 19, 2011

The failure this year of Congress’s joint deficit-reduction committee produced a spate of post-mortems. Some of these analyses focused on problems seen with the committee process itself – its structure, its mission, the weak deterrents to its failure, and others. There was also the predictable mutual blame-laying, with members on each side pointing to the other’s intransigence.

As we close the books on 2011, it’s worth reflecting that the joint committee’s failure was symptomatic of a larger underlying problem: it was caught in the grip of powerful forces beyond its control. There are multiple reasons why a bipartisan budget accord is now extraordinarily difficult to attain – regardless of the process adopted, and no matter how sincerely legislators approach the task. (Members and staff of the joint committee, by the way, approached their task very seriously — on both sides of the aisle — at least until it was apparent a compromise would not be reached.)

To make progress in 2012 and beyond we must understand the substantive factors inhibiting a budget deal, and develop effective methods for dealing with them:

Factor #1: In the short term, there is no bipartisan consensus that the deficit should be reduced. For the past three years we have run historically high deficits that have both spending and revenue components. The federal government spent 23.8% of total GDP in FY2011 after spending at least as much in each of FY09-10. These were the three highest years for federal spending (relative to the economy) in U.S. history, outside of a world war. Meanwhile, federal revenues are at 15.3% of GDP, well below their historical average.

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Published for www.economics21.org, December 12, 2011

The ongoing effort to partially convert Social Security from payroll-tax-financing to income-tax-financing – by further cutting the payroll tax as a stimulus measure and replacing the funds with general revenues – may in short order put an end to the longstanding conception of Social Security as a benefit earned by worker contributions. The demise of this conception would also threaten the special political protections Social Security benefits have long enjoyed.

Most Americans do not know all of the details of Social Security finances. They do, however, retain a strong sense that Social Security participants somehow paid for their benefits, and that the program’s Trust Funds represent “their money” in a way that the financing for other government programs does not. This sense gives Social Security benefits an extra political protection relative to other programs. It would likely end if we abolished the Social Security payroll tax, did away with its trust fund, and funded the program with general budget revenues.

The proposed payroll tax cut extension would take a major step toward ending this longstanding special status. There’s no way to know where exactly the tipping point is, but it will come sooner than most observers now realize. Continuing and expanding this policy would likely soon turn bipartisan perceptions of Social Security into something more like welfare or at least like Medicare Part B: that is, benefits continually open for political renegotiation because they’re known to be subsidized from the general fund — that beneficiaries themselves did not really pay for them.

As I’ve previously written, even under a “no action” scenario Social Security risks an eventual merger into the general budget (ending the special separation originally envisioned by FDR). A recent Ralph Bristol column persuasively argues that continuing to cut the payroll tax will make it inevitable even sooner that Congress “will formally adopt a ‘reform’ that is least disruptive by simply transferring a large portion of the legal liability for Social Security benefits to (the general fund) ‘where it will have been for the past many years anyway.’”

A detailed inspection of the Trust Funds and their income sources may help explain how rapidly the payroll tax cut might end the “earned benefit” rationale for Social Security.

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Published for www.economics21.org, October 24, 2011

Published for www.economics21.org, September 23, 2011

Federal policy makers are currently battling multiple problems on the domestic front, prominently including both unsustainable budget deficits and a stubbornly sluggish economy. These simultaneous ills inevitably give rise to divergent opinions on how to prioritize our policy responses. But invoking our 2001 experience to argue for more stimulus, as many have done, fundamentally misreads our current circumstances.

The problems of weak economic performance and of high deficits are closely related. After the 2008 financial market freeze and subsequent recession, federal budget deficits soared and still remain near historic highs. Much of our current counter-cyclical deficit-spending arose automatically under pre-existing federal laws. Whenever the economy sags, tax collections automatically diminish while spending in certain categories (for example, Social Security disability claims) rises. These automatic responses increase federal deficits, embodying a built-in counter-cyclical fiscal policy. As it happened this time around, still more deficit spending beyond these automatic responses was implemented by choice: for example, via 2009’s $800-plus billion stimulus package, via the temporary payroll tax cut enacted late last year, and in other legislation.

Though the efficacy of these automatic and discretionary fiscal stimulus measures has been widely debated, the empirical fact is that federal deficit-spending has exploded while the economy has remained weak.

Throughout this period there has nevertheless been a chorus of advocates persistently calling for still more deficit-spending as a means of stimulating economic growth. These advocates place a relatively lower priority on addressing the untenable accumulation of federal debt; in their eyes the priority problem is that the government isn’t yet providing enough fiscal stimulus. Some have even suggested that those who disagree with this view must either be guided by malicious intent or inhabit an “alternate reality.”

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Published for E21, September 2, 2011

The twelve-member budget “super committee” established by the recent debt ceiling legislation faces a tall order: to get seven of their members to agree to $1.5 trillion in deficit reduction over the next ten years. This will require members of opposing political parties to vote together despite the fact that the respective Congressional party caucuses sharply differ on fiscal issues. The super committee’s task is as difficult as it is important.

The recent history of bipartisan negotiations has much to tell us about which tactical approaches might maximize the committee’s chances of success. It also has much to teach us about the substantive compromises that might be reached. In particular, we should not anticipate a bipartisan accord on tax policy in the absence of a binding commitment to a hard cap on total federal spending as a percentage of GDP.

The recent successful example of bipartisan fiscal negotiations is the Simpson-Bowles commission: 11 of 18 members of that commission voted for an ambitious package of fiscal reforms dealing with politically vexatious issues from fundamental tax reform to Social Security reform. Members who voted for the package spanned a great distance on the political spectrum, from conservative Republican Senator Tom Coburn to liberal Senate Democratic Whip Dick Durbin.

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Published for economics21.org, August 23rd, 2011:

The recent drama over the federal debt ceiling resulted in legislation that resolves the government’s operational debt management issues through early 2013. Left unresolved, however, was the critical matter of how to repair the government’s larger fiscal imbalance. The next step in this process will be taken by a bipartisan budget “super committee” consisting of twelve Senators and Congressmen, established in that same legislation.

This special committee is charged with developing recommendations, due later this fall, to achieve $1.5 trillion in deficit reduction over the next ten years. The White House, continuing its rhetorical approach employed during recent budget negotiations, has publicly expressed the hope that this committee will “seek a balanced approach to larger deficit reduction.”

Different observers will inevitably have different opinions of what constitutes “balance.” I offer the view that no deficit-reduction agreement can credibly be called balanced if it fails to do one simple and necessary thing: cut the projected cost of new spending enacted in last year’s health care law.

Background: In March, 2010, Congress passed and President Obama signed legislation that would make several sweeping changes to federal health care spending. At the core of the legislation were provisions mandating that U.S. residents obtain health insurance, along with provisions expanding eligibility for Medicaid and establishing federally-subsidized exchanges through which individuals could buy their own insurance. These expansions of the federal government’s commitment to health care were to be financed in a number of ways, most notably an assortment of tax increases and reductions in projected Medicare payments.

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Published for economics21.org, July 21st, 2011:

This week, the Senate’s “Gang of Six” unveiled a deficit reduction framework that has been publicly described as generally building off of the Simpson-Bowles fiscal commission recommendations, and as specifically pursuant to Social Security reform, among other objectives. A careful examination of the framework, however, reveals that it is a step back from bipartisan Social Security reform rather than a step toward it.

This piece explains specific elements of the Gang of Six’s Social Security framework. I want to be clear from the outset that I strongly support the conceptual objectives of the Gang of Six to promote deficit reduction, general bipartisan cooperation, and to build off of the specific Simpson-Bowles recommendations. My repeated support for anddefenses of the Simpson-Bowles Social Security proposals are on the public record. The goal of this piece is to explain the substantive implications of the Gang of Six document, leading to the conclusion that it moves away from meaningful Social Security reform. I would look forward to applauding future efforts from the Gang of Six to advance such bipartisan reforms.

The following are the principal attributes of the Gang of Six Social Security framework:

1. Lack of support for the substantive reforms in Simpson-Bowles. The Simpson-Bowles Social Security plan would correct program finances by, among other things, gradually increasing eligibility ages, constraining the growth of benefits above inflation for higher earners and increasing the cap on taxable wages. None of these reforms are endorsed in the Gang of Six recommendations. The only financial correction specified that would affect Social Security is general reform of theConsumer Price Index (CPI), a technical refinement in the measure of price inflation with effects spread throughout many government programs. The Gang of Six rhetorically separates this general CPI reform from Social Security reform and even espouses other changes to SSI and Social Security to counteract some of its effects. In sum, the Gang of Six declined to embrace any of the Simpson-Bowles financial corrections that are specific to Social Security itself.

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Published for economics21.org, July 12th, 2011

Recent reports indicate that the budget/debt negotiations will not produce a “grand bargain.” At best they will produce a smaller set of targeted reforms slightly improving but not correcting the unsustainable trajectory of federal finances. But whether the budget discussions produce a big deal or a small one, however, both sides would do well to implement a more accurate measure of economy-wide inflation, namely the “chained” C-CPI-U.

Basic background: Many aspects of federal law from income tax brackets to Social Security payments are indexed to grow each year with price inflation, more specifically with the Consumer Price Index (CPI). There are different versions of CPI now in use, including the CPI-U (measuring inflation facing all urban consumers) and the CPI-W (measuring inflation facing urban workers). Some programs use one of these and some the other, but generally the two are close in value anyway.

Over the years, many economists have noted that these measures tend to overstate actual price inflation as felt by consumers. Simplifying considerably, this is because the rising price of one item often causes consumers to buy a different item instead, one whose price hasn’t risen as much. The mix of items that consumers buy thus changes over time, with the increase in the total cost of living being less than if no purchase substitutions had occurred.

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Published for economics21.org, June 30th, 2011:

Recent statements from key policy personnel of AARP, the powerful lobby for the elderly, expressed a willingness to consider reductions in future Social Security benefit growth to help correct the program’s financial shortfall. These remarks received a fair amount of coverage, the central thesis of which was that AARP’s newly expressed receptivity to benefit changes may make it substantially easier to enact bipartisan reform legislation.

My take on this interpretation of AARP’s statements is one of skepticism. I do not see their recent comments as significant or new. In support of this skepticism I offer the following observational points:

First point: The substance of AARP’s recent statements is not new or different. AARP has always expressed a willingness to consider “a balanced package of revenue and benefit measures”, if – and that’s a big if – the entire package is to their liking. By contrast, there has always been another caucus of advocates urging that benefit growth restraints never be enacted. This other is an unabashedly far-left caucus and AARP has never been within it, instead portraying itself as less ideological and less partisan. AARP has in the past expressed an appreciation of the need to reform Social Security’s benefit structure even as they have withheld their support from various specific proposals to do so. AARP’s follow-up statements have confirmed that this longstanding posture has not changed.

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Published for The Hoover Institution, May 26th, 2011:

In this morning’s Washington Post, political analyst Dan Balz interprets the Democrats’ victory in the 26^th New York Congressional District as being a direct result of Republican overreach on Medicare reform. Specifically, he writes that Republicans are making “the same miscalculation that other politicians in both parties have made, which is to assume a mandate when one doesn’t exist.”

As his prime example of “other politicians” making the same mistake, Mr. Balz offers President Bush’s Social Security reform efforts of 2005:

“Former president George W. Bush made a similar mistake after the 2004 election when he launched his proposal to partially privatize Social Security. He sprang the plan on Congress and the country in early 2005 without having fully aired his intentions during his reelection campaign.”

Whether Mr. Balz is correct in his current political analysis is not a matter on which I have any especial expertise to offer. I did, however, serve President Bush during the 2005 Social Security reform effort and thus feel compelled to note that the description above is incorrect on at least two counts.

The substantive correction first: President Bush did not propose to “partially privatize” Social Security. He did propose a savings component within the Social Security program, but he explicitly specified that both this savings component and the traditional portion of Social Security would remain publicly administered by a federal agency. Given the frequency with which political opponents charged President Bush with wanting to “privatize” Social Security, it’s not wholly surprising that Mr. Balz would make this mistake, but it is nevertheless is an incorrect description of what President Bush actually proposed.

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