The Weirdness of 10-Year Deficit Reduction

The Gang of Six plan proposes to reduce the cumulative deficit by $3.6-3.7 trillion over ten years relative to the CBO’s March 2011 baseline. Everyone’s excited about it. Four trillion dollars! Hooray!

The weird thing is that if you are claiming deficit reductions against the CBO’s baseline, I think intellectual honesty requires you to point out that, according to the CBO’s baseline, there is no deficit problem. The projected 2021 deficit is $729 billion, but net interest spending is $807 billion (Table 1-5). That means that the primary budget is running a surplus of $78 billion, the entire deficit is due to interest payments on the debt, and the debt has stabilized around 75 percent of GDP. This is not a great situation, but it’s no emergency, either.

Now, you may point out that the baseline is unrealistic, and I agree. But the three most unrealistic things in the baseline cancel themselves out. We know that Congress will continue to patch the AMT, which will cost $804 billion over ten years. (Numbers are from the CBO’s January Budget and Economic Outlook, Table 1-7; the baseline only changed minimally (and in a good way) between January and March.) We know that Congress will not let Medicare payment rates immediately fall by 28 percent; that costs $302 billion over ten years. But we also know that we are reducing military operations in Iraq and Afghanistan, which will save $1,371 billion over ten years.* Add those three corrections, and the cumulative deficit is smaller than in the baseline by $265 billion.**

The big policy uncertainty that hangs over the ten-year baseline is the Bush and Obama tax cuts of 2001, 2003, and 2009, which were extended in December 2010 and now expire at the end of 2012. If we extend all of those tax cuts, we will add $612 billion to the 2021 deficit (on top of $137 billion for patching the AMT). That’s real money. To which my answer is: let them expire. Let all the tax cuts expire, and there is no ten-year deficit problem.

Instead, the Gang of Six plan proposes to cut taxes by $1.5 trillion (over ten years) relative to the CBO baseline — which means $1.5 trillion in unnecessary spending cuts.

The real problems come after the ten-year horizon, when Medicare spending accelerates due to an aging population and increasing health care costs. Those problems need to be solved sooner or later, and sooner is better than later, since every year of high health care cost inflation that goes by makes the problem worse. But the Gang of Six plan is the wrong way to solve those problems (although it is admittedly far better than the Ryan Plan, which only makes them worse). Does anyone really think that the middle class’s paltry 2001/2003 tax cuts will make up for a lower Social Security cost-of-living adjustment and a cap on federal health care spending?

* By statute, the CBO baseline must project military appropriations as a straight line based on past appropriations, so it assumes constant force levels for the next decade.

** The 2021 impact is even better: there you get a net $28 billion saving, which boosts the primary surplus to $106 billion.

This post originally appeared on Baseline Scenario and is reproduced here with permission.