Sen. Orrin Hatch is Wrong on the Budget: We Need More Revenue!

Last week, National Journal hosted a policy summit on our federal budget and the deficit. The first keynote speaker was Senator Orrin Hatch (R-UT) and he repeatedly emphasized the need to cut entitlement spending to get our long-term deficit under control. He pointed out that both current federal outlays and revenue are above average compared to the past 40 years. He argued that we need to cut spending, not raise revenues:

Based on the most recent CBO (Congressional Budget Office) data, revenues are projected to average 18.3% of the economy through 2023, almost a full percentage point over the average of the past 40 years. So, despite the repeated claims that we don’t collect enough revenue, we are actually set to collect more than the historical average. At the same time, federal spending over the next 10 years will average 21.1% of the economy according to the CBO – actually, I think it will be much higher than that – exceeding the 20.4% average of the last 40 years. In other words, anyone claiming the lack of revenues is the root of our fiscal problems just hasn’t studied the numbers.

First, I’m going to correct Senator Hatch. Last week, the CBO updated its budget projections for the next 10 years. Government revenue averages 18.9% of GDP from 2014-2023 and federal spending averages 21.9%. These numbers are actually both higher than the ones Hatch cited so they actually help the Senator’s case that we need to reign in federal spending.

Second, Hatch wants to (1) keep our promises to our seniors, (2) not raise additional revenue, and (3)  get our fiscal house in order by reducing entitlement spending.  Accomplishing all three of those goals simply isn’t possible. Here’s why:

Over the next couple of decades, federal spending will be significantly higher than it has been over the past 40 years, because baby boomers are retiring. The aging of our population increases the costs of entitlements and there’s nothing we can do about that if we are to uphold our contracts to our parents and grandparents. In order to keep those promises, it’s going to require increased government revenues to fund those programs. There’s no escaping that fact.

Don’t believe me? Let’s go to the numbers:

Spending.
Those numbers come from the CBO’s 2012 Long-Term Budget Outlook*. When performing these calculations, the CBO is forced to make a number of assumptions about future policy. They do so under two different scenarios. The first, known as the extended baseline scenario, assumes that the Bush tax cuts expire, that sequestration stays in effect and that Congress will no longer pass a doc-fix each year. None of those are realistic. That’s why the CBO created the extended alternative baseline scenario. It assumes the extension of the Bush tax cuts, that sequestration will be overturned and Congress will continue to pass a doc-fix each year. Of course, we now know that the Bush tax cuts were extended for all but the wealthiest Americans, and sequestration is looking more and more like permanent policy. But this report was from June 2012 so it’s a bit out of date. However, my point still holds.

Since the extended alternative baseline scenario more closely aligns with the American Taxpayer Relief Act (which extended the Bush tax cuts) and expected future policy, I will use CBO’s projections under it. As you can see from the table above, federal spending is predicted to increase significantly over the next 25 years as a percentage of GDP and that increase is driven entirely by growth in entitlements.

The increase in entitlement spending comes from two areas: rising healthcare costs and an aging population. Fortunately, the CBO recognizes this as well and breaks down which area has a greater effect on the deficit. The report finds that 68% of rising entitlement spending is due to aging while just 32% is due to cost growth. Here’s the CBO:

Through 2022, the aging of the population will cause spending on the major health care programs and Social Security to rise significantly, CBO projects. In fact, during that period, almost all of the projected growth in such spending as a share of GDP is effectively the result of aging.

Aging remains the more important factor for a few decades following the coming one.

To demonstrate this, let’s assume that there is no excess cost growth in entitlement spending over the next 25 years (meaning health care costs grow at the same rate as inflation). Thus, the only increase in costs is from an aging population. To calculate this, we can multiply the estimated increase in Social Security, Medicare and Medicaid (6.2 percentage points) by 0.68 to eliminate all excess cost growth. The answer is 4.2%. This means that aging of the population will cause entitlement spending to rise 4.2 percentage points over the next 25 years. If you factor that in to total spending, the federal government will spend approximately 24.2% of GDP in 2037. That’s not sustainable without increased revenues.

Economists and budget wonks generally agree that the U.S. should aim for a budget deficit of 3% each year. If federal spending is 24.2%, revenues will have to be 21.2% to hit that 3% mark. That’s WAY above our historic level. It’s WAY above our current level. And this is working under the assumption that there is no excess cost growth in entitlement spending. We’ve done a better job of controlling healthcare costs over the past few years, but we’re not going to get to zero excess cost growth anytime soon.

Sen. Orrin Hatch speaks at the National Journal policy summit.
Sen. Orrin Hatch (R-UT) speaks at the National Journal policy summit.

Hatch’s claim that we have a spending problem is technically true, but it’s an unavoidable spending problem. If Hatch wants to keep revenues at 18.9% – the CBO’s prediction for the next 10 years – he would have to cut spending by 2.3 percentage points (to 21.9% of GDP) in order to keep the deficit to 3%. And that’s still assuming there’s no health care excess cost growth. Since Hatch wants to do that by cutting entitlements, he’ll have to reduce them from an expected 14.6% of GDP to 12.3% in 2037. That’s a huge cut.

To put this in perspective, two of the most common suggestions to reduce the budget deficit are to raise the Medicare and Social Security eligibility age to 67 and to switch to chained-CPI to calculate yearly changes in the cost-of-living adjustment for Social Security benefits. The CBO found that raising the eligibility age would reduce the long-term budget by 0.4% of GDP by 2035 while switching to chained-CPI for Social Security would reduce the deficit by 0.2%. That’s nowhere close to enough to both keep revenues at 18.9% and keep the deficit to 3%.

All of this is to say that Hatch and his fellow Republicans need to go back and look at these numbers again. It’s simply not possible to keep our promises to seniors, keep the budget deficit to 3% and keep revenues unchanged. Demographic changes make it impossible.

But it’s not just Republicans who believe this. To pay for our entitlement programs, we’re probably going to have to raise taxes on the middle class. We have a big gap to make up and as I just demonstrated, we can’t do it with spending cuts alone. That’s going to require everyone else to pay more as well. How many Democrats have mentioned this though? Very few. They don’t have any interest in increasing revenue as well. Right now would be a poor time to raise taxes on the middle class of course, but at some point it’s going to need to happen and most Americans have no idea that it’s coming. Years of Republicans claiming we don’t need more revenue and Democrats promising not to raise middle class taxes have lulled the country into a false belief that taxes aren’t going up. They are. An aging population requires it. It’s about time politicians revisited these numbers and stopped fooling their constituents. Either we break the promises to our seniors or we increase revenue. There are no other options.

*The CBO is releasing its 2013 Long Term Budget Outlook tomorrow. I’ll have a full update on the numbers then.

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How Do You Measure Presidential Leadership?

You hear all the time that President Obama cannot lead. He doesn’t reach across the aisle. He has a poor relationship with Congress.

That seems to be a widely assumed fact throughout D.C. Many people (including myself) doubt that the President would accomplish anything more even if he was a better leader. But most people seem to assume that this president just isn’t a very good leader.

But is this true? It’s tough to be a good leader when half your followers are committed to undermining your every move. Is there anything the President could’ve done to convince Republicans to work with him? I’m doubtful, but I’m also new to politics and new to D.C. so I have trouble putting President Obama’s leadership skills in context. Did former presidents work better with Congress? Did they show more deference to the institution?

At the National Journal’s policy summit yesterday on America’s fiscal condition, Sen. Orrin Hatch (R-UT) offered a clue when he spoke about a dinner he had with the President:

We had supper in the family dining room – it was the first time in my 37 years that I was ever in the family dining room.

Senator Hatch is the longest-serving Republican in the Senate and during all his time there throughout a number of different administrations, he had never been invited to dine in the family dining room. Based on a bit of googling, the dinner Hatch is referring seems to have taken place on April 10 of this year with a dozen different Senators.

This is one tiny little data point, but it puts things in a bit of context for me. I don’t know how to judge the President’s leadership skills. I don’t think there is a simple metric for doing so. But for those that say the President doesn’t lead, what do they think dining with a dozen Republican senators in the family dining room is? I’m sure they’ll respond that it’s one moment of leadership amidst a sea of disdain towards Congressional Republicans and that it took until Obama’s second term for him to host the dinner. But this a moment of leadership that Hatch never saw from a previous President. I don’t know if any of the other Senators had dined in the family dining room before. I’m sure at least some others had not.

Not surprisingly, the dinner didn’t seem to help the budget negotiations, but it still puts those criticisms of the President in a bit of context for me. I’d love to hear more. In the meantime though, I’m taking the “Obama can’t lead” complaint with a grain of salt.

Legislators Are Like Kids

The Senate Finance Committee is determined to take on tax reform, but Chairman Max Baucus (D-MT) and Ranking Member Orrin Hatch (R-UT) have chosen a unique way of starting the process: they are asking their colleagues what tax breaks they want, not which ones they want to eliminate. Basically, they are starting from a blank slate and asking lawmakers what they want. The goal was to give Senators the chance to fight for their beloved tax breaks, since few would fight for the removal of favorable tax breaks.

Genu Steuerle of the Tax Policy Center summarized the benefits of the strategy a few weeks ago:

[I]dentifying losers is immensely unpopular among voters, and politicians shy away from it. Worse, they blast those from the other party brave enough to provide details.

But if Baucus sets a revenue target at the beginning of this tax reform exercise, the dynamic shifts—from simply identifying winners and losers to explicit trade-offs. Winners and losers march together. With a blank slate or zero base, every restoration of a tax break requires higher rates (even an alternative tax), especially if there are few or no alternative preferences to sacrifice.

But when the burden of proof changes, a lobbyist can appear to be helping his masters simply by saving a subsidy, even if the net benefit is smaller than in the old law. After all, preserving a preference in some form is success relative to a zero baseline.

So, have other Senators stepped forward to support their favorite tax breaks? Not exactly. Senators don’t really understand the process and are worried that supporting one tax break over another will anger certain interests. So far, submissions have been few and far between. Baucus is still convinced that the process will work and a few Senators are working on legislation supporting different tax breaks, but most are hesitant to join on this method of reform.

This reminded me of a passage from Michael Grunwald’s book on the stimulus where he explained the White House’s strategy of not force feeding legislation down Congress’s mouth. Instead, it tried to give them some autonomy over it in hopes of generating greater support and speedier passage. What the Administration found was that Congressmen were eager for guidance:

The cagey approach helped fuel the myth that Obama punted the Recovery Act to Congress. He never submitted a formal draft, and many Hill Democrats grew frustrated with his team’s refusal to nail down exactly what he wanted and what he needed in the bill.

As one Senate staffer puts it, most legislators are like kids: They say they want freedom, but deep down they crave guidance. So Democrats who had spent years demanding respect from the White House quickly decided that Obama’s team was too deferential. “People were like: Just tell us what the hell you want!” recalls Tom Perriello, a Virginia Democrat who had just been elected to the House.

Baucus and Hatch’s reform process differs from the Stimulus because the Stimulus didn’t create losers, as tax reform undoubtedly will. But, still, the two legislators should keep this in mind as they continue down this road. Legislators like a coherent direction about not just how the process works, but also what the limits are of their power throughout it. Right now, no one knows how many tax breaks they can or should fight for. They don’t know the likelihood of passage or how their support for different tax breaks will affect them politically. Everything is up in the air and many Senators are too scared to take part.

So Baucus and Hatch should be forewarned: starting from a blank slate sounds like a great idea, but like children suddenly confused by having free reign over their day, Senators are equally bewildered by having free reign over legislation.