A Deficit-Reduction Plan Rife With Problems

A Deficit-Reduction Plan Rife With Problems

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The draft proposal of the leaders of President Obama’s deficit commission arouses strongly mixed emotions.  On the one hand, authors Erskine Bowles and Alan Simpson deserve credit, along with others who are addressing the problem of long-term budget deficits, for trying to alert the American public and their elected officials to a problem that most of us would like to disregard.

The solutions to this problem will be painful and divisive.  On the other hand, the plan is profoundly disappointing.  Although it contains a number of proposals that budget analysts of both parties have long advocated, it sets unnecessarily strict targets that make needed political agreements needlessly difficult and it is vague where specificity is badly needed.

All responsible budget analysts agree that the United States faces a daunting deficit problem.  It should be addressed soon.  But how soon is not clear.  After the recovery is well under way, most would agree, and certainly before the debt/GDP ratio gets too large.  What is not clear is what “well under way” means and whether it will happen soon enough to prevent to debt/Gross Domestic Product ratio from getting too large.  The Bowles-Simpson plan would start deficit reduction in fiscal 2012, which starts on October 1, 2011, not even eleven months from now.  Since unemployment is likely then to still be in the vicinity of 9 percent or higher, that is too soon, as premature deficit reduction could intensify and lengthen the recession.  This is not a minor issue, as nothing more effectively depresses revenues and generates deficits than a weak economy.

Even more troubling than timing, is the program itself.  Over the first nine years, 70 percent of the deficit reduction under the Bowles-Simpson “mark” would come from spending cuts, 30 percent from added taxes.  The steady-state spending level, as a share of GDP, would be 20.5 percent of GDP.  That is lower than spending averaged from 1980 to 2008 when none of the baby boomers had yet retired and claimed Social Security and Medicare and when spending on health care per person was a minor fraction of what it will be in 2020.

Other problems:

●  The plan calls for a reduction from baseline in federal health care spending of about one-third by 2040, but doesn’t say how that target will be achieved. 

● The plan would block grant Medicaid payments for long-term care, which would increase the marginal cost to the states of Medicaid— benefit levels and coverage—by anywhere from 100 percent to more than 200 percent.  The result would be powerful incentives to cut benefits.

●  The  plan presents four options for modifying the tax system, but doesn’t endorse any.  All would tax capital gains as ordinary income, which means doubling the rate on them.

●  All tax plans would end or curb deductions for charitable contributions.  That would curtail the capacity of the private sector to provide relief to vulnerable populations, at the same time that the principal programs supporting these very populations – Medicare, Medicaid and Social Security -- would be slashed.

● The deductions for mortgage interest and property taxes would be curbed or eliminated—this, during the most severe housing price collapse in at least seventy-five years.

● Deductions for contributions to IRAs, Keogh plans, and 401k plans would be ended.