<DOC>
[107th Congress House Hearings]
[From the U.S. Government Printing Office via GPO Access]
[DOCID: f:70918.wais]
PERSPECTIVES ON THE
ECONOMIC OUTLOOK
=======================================================================
HEARING
before the
COMMITTEE ON THE BUDGET
HOUSE OF REPRESENTATIVES
ONE HUNDRED SEVENTH CONGRESS
FIRST SESSION
__________
HEARING HELD IN WASHINGTON, DC, MARCH 8, 2001
__________
Serial No. 107-6
__________
Printed for the use of the Committee on the Budget
Available on the Internet: http://www.access.gpo.gov/congress/house/
house04.html
______
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COMMITTEE ON THE BUDGET
JIM NUSSLE, Iowa, Chairman
JOHN E. SUNUNU, New Hampshire JOHN M. SPRATT, Jr., South
Vice Chairman Carolina,
PETER HOEKSTRA, Michigan Ranking Minority Member
Vice Chairman JIM McDERMOTT, Washington
CHARLES F. BASS, New Hampshire BENNIE G. THOMPSON, Mississippi
GIL GUTKNECHT, Minnesota KEN BENTSEN, Texas
VAN HILLEARY, Tennessee JIM DAVIS, Florida
MAC THORNBERRY, Texas EVA M. CLAYTON, North Carolina
JIM RYUN, Kansas DAVID E. PRICE, North Carolina
MAC COLLINS, Georgia GERALD D. KLECZKA, Wisconsin
ERNIE FLETCHER, Kentucky BOB CLEMENT, Tennessee
GARY G. MILLER, California JAMES P. MORAN, Virginia
PAT TOOMEY, Pennsylvania DARLENE HOOLEY, Oregon
WES WATKINS, Oklahoma TAMMY BALDWIN, Wisconsin
DOC HASTINGS, Washington CAROLYN McCARTHY, New York
JOHN T. DOOLITTLE, California DENNIS MOORE, Kansas
ROB PORTMAN, Ohio MICHAEL E. CAPUANO, Massachusetts
RAY LaHOOD, Illinois MICHAEL M. HONDA, California
KAY GRANGER, Texas JOSEPH M. HOEFFEL III,
EDWARD SCHROCK, Virginia Pennsylvania
JOHN CULBERSON, Texas RUSH D. HOLT, New Jersey
HENRY E. BROWN, Jr., South Carolina JIM MATHESON, Utah
ANDER CRENSHAW, Florida
ADAM PUTNAM, Florida
MARK KIRK, Illinois
Professional Staff
Rich Meade, Chief of Staff
Thomas S. Kahn, Minority Staff Director and Chief Counsel
C O N T E N T S
Page
Hearing held in Washington, DC, March 8, 2001.................... 1
Statement of:
Robert Greenstein, Executive Director, Center on Budget and
Policy Priorities.......................................... 2
William G. Gale, Joseph A. Pechman Fellow, the Brookings
Institution................................................ 20
Daniel J. Mitchell, McKenna Senior Fellow in Political
Economy, the Heritage Foundation........................... 44
Bruce Bartlett, Senior Fellow, National Center for Policy
Analysis................................................... 49
Prepared statement of:
Mr. Greenstein............................................... 7
Mr. Gale..................................................... 24
Mr. Mitchell................................................. 47
Mr. Bartlett................................................. 51
PERSPECTIVES ON THE ECONOMIC OUTLOOK
----------
THURSDAY, MARCH 8, 2001
House of Representatives,
Committee on the Budget,
Washington, DC.
The committee met, pursuant to notice, at 9 a.m. in room
210, Cannon House Office Building, Hon. Jim Nussle (chairman of
the committee) presiding.
Present: Representatives Nussle, Spratt, Sununu, Bentsen,
Hoekstra, Clayton, Gutknecht, Price, Collins, Moran, Hooley,
Brown, Watkins, Culberson, Brown, Moore, and Holt.
Chairman Nussle. Good morning. We have a number of
outstanding witnesses that we have asked to come before us
today to testify before the committee on their perspectives on
the future of our economy and the impact that that will have on
the budget and vice versa. Before I begin, I would like to take
a certain prerogative in that I would also invite Mr. Spratt as
well, we have with us here today someone who at least from a
committee standpoint needs absolutely no introduction. But I
just want to highlight the fact that returning to our committee
room today is Richard Cogan, who worked for this committee for
127 years. [Laughter.]
Actually I don't think it's quite that long. I believe you
started with the Library of Congress and CRS back in about
1973, is that right?
Mr. Cogan. Right.
Chairman Nussle. And after CRS is one of the longest-
serving staff members, majority or minority staff members, and
you are now with the Center on Budget and Policy. While there
have been times in the past when there has been good-natured,
in a bipartisan manner, disagreements over particular policy, I
have come to know Mr. Cogan during the discussion on budget
process reform. He is an outstanding advocate for the budget
and for the process for the 1974 act. I don't know if there's
anyone in town or anywhere who has better knowledge about the
budget policy and process.
Even though you were on the other side many times, we
welcome you back. We congratulate you on your retirement. We're
kind of glad you're gone. [Laughter.]
But I understand you keep coming back and that on a regular
basis you're still providing some assistance. So we'll look
forward to working with you in the future.
But welcome back, and I'd invite Mr. Spratt, if he'd like
to say anything.
Mr. Spratt. Richard Cogan is sort of like Bill Clinton when
he was at Andrews Air Force Base, and he said, everybody's
wishing me goodbye, I'm not going anywhere. [Laughter.]
We're glad you're here, Richard, and glad you're still
available.
And to our entire panel, let me say, Mr. Greenstein, Mr.
Gale, Mr. Mitchell, Mr. Bartlett, I think we have a good
segment of the spectrum represented here today. We're glad to
have all of you. We appreciate your input, not just today, but
from time to time, and we look forward to your testimony today.
Chairman Nussle. We have four witnesses. First is Robert
Greenstein, who's the Executive Director for the Center on
Budget and Policy Priorities. Next is Bill Gale, Senior Fellow,
in the Economic Studies Program at the Brookings Institution.
Next we have Dan Mitchell, who is with the Heritage Foundation,
a Senior Fellow in political economy. And last, certainly not
least, is Bruce Bartlett, a Senior Fellow with the National
Center on Policy Analysis.
We welcome all four of you today. We appreciate your
willingness to come and share your perspectives. And we would
invite you, I'd ask unanimous consent that all members be
allowed to put a statement in the record if they care to, and
that all our witnesses be allowed to enter their full statement
in the record, and that they take their time, if you can, to
summarize your testimony in about 5, 6, 7 minutes if you could,
so that we can get into some questions and some comments.
So I'll invite Mr. Greenstein to begin. Welcome, and we'll
receive your testimony.
STATEMENT OF ROBERT GREENSTEIN, EXECUTIVE DIRECTOR, CENTER ON
BUDGET AND POLICY PRIORITIES; WILLIAM G. GALE, JOSEPH A.
PECHMAN FELLOW, THE BROOKINGS INSTITUTION; DANIEL J. MITCHELL,
MC KENNA SENIOR FELLOW IN POLITICAL ECONOMY, THE HERITAGE
FOUNDATION; AND BRUCE BARTLETT, SENIOR FELLOW, NATIONAL CENTER
FOR POLICY ANALYSIS
STATEMENT OF ROBERT GREENSTEIN
Mr. Greenstein. Thank you very much, Mr. Chairman. It's a
pleasure to be here.
If I could say just before starting, in your packets is my
testimony. The testimony in this case is a series of charts and
tables. I actually would like to walk through some of them, so
I think it would work better, if it's possible, for members to
have that out. Mr. Chairman, these are mostly tables with
numbers in them, so it won't surprise you that the person who
helped put together a lot of these numbers is the
aforementioned Mr. Richard Cogan.
If I were to start right at the beginning on these tables,
you'll find first a table labeled Uncertainty of CBO Surplus
Projections. The point I simply wanted to make here is the
importance of the Congress exercising real caution with these
projected budget surpluses. If you look at the bottom of the
page, it tells you that based on CBO's estimates, CBO as you
know has a chapter on uncertainty in its new report, that the
chance, according to the CBO figures that the non-Social
Security, non-Medicare HI surplus will only be half as large as
projected is about one in three, the chance that we'll slip
back into deficits with no change in policy is about one in
five.
To me this indicates the importance of taking a significant
share of what is only a projected budget surplus and setting it
to the side and using it for neither tax cuts nor spending
increases at this point.
The second table looks at the best information at this time
of the cost of the tax cut in the President's budget. The first
two figures are from the President's budget itself. The
President's estimate of the budget's estimate of the tax cuts,
which is a little over $1.6 billion, and of the interest costs
associated with that, which are printed in the budget. Then we
go to the Joint Committee on Taxation re-estimates of several
provisions in H.R. 3 that are listed there, including but not
limited to the acceleration. The joint committee believes the
rate reductions in the plan will cost a bit more than the
President's budget estimates. When we add those in we're up to
$2.2 trillion.
The final item on that list, if you flip back one page, you
see a table that the Joint Tax Committee gave to the Ways and
Means Committee last Thursday. It shows that under current law,
the number of filers subject to the alternative minimum tax
will explode from 1.5 million to 21 million by 2011 and that
under H.R. 3 that will jump to 36 million. The joint committee
also estimated the cost at nearly $300 billion simply of
keeping the number of filers subject to the AMT at 21 million
in 2011, rather than 36 million.
Now, I recognize that fixing the AMT problem is not part of
H.R. 3 or the President's budget as submitted. But I think, Mr.
Chairman, we all know that we're going to have to address this,
it will be addressed sometime in the next few years. Therefore,
we need to leave room in the budget for it. The $300 billion
figure I've shown here, it's really the $292 billion figure off
the next page, really could be considered an unfunded liability
of the President's tax proposal, because his proposal,
according to the Joint Tax Committee, increases by $292 billion
the cost of fixing the AMT.
So we have a projection, we have figures here that suggest
that about $2.5 trillion of the surpluses outside Social
Security would be consumed by the tax cut. I would note that
while there are some estimates and other witnesses here today
will testify the economy could grow faster and that could
reduce the number, there's an upside risk as well.
And the upside risk is that these estimates do not include
further revenue loss from substantial tax avoidance that could
result from complete elimination of the estate tax. There are
now a growing number of tax experts, tax attorneys, tax
accountants, there have been two articles in Tax Notes, one in
the New York Times, all outlining the kinds of tax avoidance
strategies with regard to income and capital gains taxes that
would likely develop from elimination of estate tax as
currently proposed.
Now, the question this next leads to is, does the budget
reserve take care of this problem? The budget lists an $842
billion reserve. First off, because the tax cut is now being
adjusted upwards by the Joint Tax Committee, that $842 billion
would be a smaller starting number. But let's use the $842
billion that's in the budget. Over half of that, $526 billion,
is really the surplus building up in the Medicare Hospital
Insurance trust fund. The administration's budget takes the
unprecedented step of adding together the total costs of
Medicare Parts A and B, and comparing them to Medicare revenues
from payroll taxes and premiums.
But as you know, under the Social Security Act, Medicare
Part A is supposed to be self-financing, Medicare Part B is
supposed to have three-quarters of its financing coming from
general revenues. To add the cost together in this fashion and
leave out the general revenues and then argue that there's no
surplus in the Medicare Hospital Insurance trust fund doesn't
make a whole lot of sense. If you followed that logic, it would
mean that every program in the Federal budget that is financed
by general revenues is running a deficit. The Pentagon is
running a deficit, the Military Pension Program is in deficit,
it needs reform, we should cut back on pension benefits. The
education and health research programs the President proposes
to expand are in deficit.
By this logic, everything in the budget that doesn't have
an earmarked tax is in deficit. The Congress has purposely set
up Medicare Parts A and B with different funding structures,
and the situation in Part A is like that in Social Security. We
have temporary surpluses now while the boomers are in their
peak earning years. They all get drawn down when the boomers
retire and all those funds are eventually needed.
Ironically, if one does the kind of presentation the
administration has to add, to artificially make the Medicare HI
surplus disappear in order to add $500 billion to the surplus
and the general fund, it makes it appear as though the Medicare
surplus funds are available for other purposes, and that
there's more room in the budget for the tax cut. But it really
leaves less room for other things.
Ironically, one of the tradeoffs is that if the tax cut is
enacted, there will be less money available for an adequate
Medicare drug benefit and for the infusion of resources into
Medicare to restore long term solvency. No plan, Breaux-Frist,
Breaux-Thomas or any other reform plan that has been proposed
to date closes even half of the long term financing gap in
Medicare. If we're not going to raise Medicare payroll taxes,
then we're going to have to use general revenues to close the
rest of the gap. But if the money's all gone on a tax cut, we
don't have the general revenues left.
Now, if we account for the Medicare surplus properly, that
leaves only a little over $300 billion in the reserve. But
there are several inevitable costs that are left out of the
budget, and they consume more than $300 billion. Table S11 in
the budget, Mr. Chairman, shows funding for agriculture
programs cut nearly in half, because the budget does not
include the continuation of the roughly $10 billion a year in
payments to farmers Congress has provided on a bipartisan basis
each of the last 3 years. I think we all know that something
like that will be continued, and therefore $100 billion is
needed in the budget for that.
There is the alternative minimum tax problem I've
mentioned. We now have Joint Tax Committee estimates keeping
this from exploding into the middle class in a way neither
party would want to see happen or will accept, entails a cost
of $300 billion to $400 billion over the next 10 years if the
Bush tax cut is passed. The budget takes some of the extenders,
the tax credits that expire every 2 years and are always
extended, it extends some of them for 1 year only.
We know they're going to ultimately be extended for all 10
years; $25 billion is left out for the cost of extending them
through the 2d through the 10th year. When you simply add these
three costs and the associated interest payments, it adds about
$550 billion, which exceeds the $300 billion or so left in the
reserve.
In other words, to get out of all the technical detail, the
bottom line is that when you add the numbers up, there really
is no reserve left. The only way the numbers in the budget add
up is if we go into the Medicare Hospital Insurance or Social
Security reserves and use some of those funds for the rest of
the Government, something that the House voted 407 to 2 or
something like that a few weeks ago not to do. You either would
have to do that, or do significant cuts in programs that are
not specified in the budget.
With that, let me turn to the table called Discretionary
Spending in the Budget. Table S2 in the budget says that over
the next 10 years, total discretionary spending will go up $30
billion. But it also lists initiatives in discretionary
spending for education, defense, health research and a few
other areas, at plus $260 billion over the next 10 years.
Although there's a little question of what baseline that $260
billion is off of.
If these numbers are right, it means the administration and
the Congress would have to find $230 billion in unspecified
discretionary cuts over the next 10 years, possibly more than
that after the missile defense request comes up.
Going to the next page, this raises questions such as,
while the President said in the address to the Congress that
education is the highest priority, do the numbers in the budget
really support that? What we see here, maybe the easiest way to
look at this is to take the 2011 column, everything is in full
effect here. In the 2011 column, we see the budget has $4.5
billion for education increases. The budget says that the tax
cut that year is $254 billion. That is more than 50 times the
amount for education in that year.
Estate tax repeal alone is $60 billion, according to the
President's budget. That's 14 times the education increase. Or
if you go to the final figure here, half of the estate tax is
paid by a tiny fraction of the estates, the biggest ones. About
4,000, the estates of about 4,500 people in 2011, 7 percent,
the largest 7 percent of the taxable estates, the taxable
estates of the wealthiest one of every 1,000 people who die,
would pay half of the estate tax. To repeal the estate tax,
there is a $30 billion tax cut in 2011 for the estates of the
wealthiest 4,500 people who die. Those 4,500 estates would get
seven times the entire increase for the entire Nation in the
education budget.
The next page also shows you that if you look in the
President's budget and the President's baseline over the next
years, Function 500, which includes education, has no increase.
It's an increase of $100 million over the whole next 5 years.
How do we explain this?
The only explanation can be that each dollar of increase in
education is offset by a dollar of cuts in job training, child
care or other programs in Function 500. There's no other way to
interpret the numbers here.
Let me conclude with two larger observations. A table I
passed over, it's about the third or fourth table, it's called
Policy Changes from the Budget in 2011. It tells you that in
2011, the policy proposals in this budget would add $25 million
on the spending side, about half of that in a modest Medicare
drug benefit. And there's a $253 billion tax cut, about 10
times as much.
This helps explain the figures that are on the table called
Tax Cuts for Top One Percent versus Tax Cuts for Initiatives.
If one looks at not the Joint Tax Committee figures, not
counting the AMT, bending over backwards to benefit the
President, just looking at the cost of the tax cut as listed in
his budget, without the higher Joint Tax Committee figures, and
if we use figures for the proportion of the tax cut going to
the top 1 percent that use the Treasury methodology for estate
and corporate taxes, what we find is that about $555 billion
over 10 years would go in tax reductions to the top 1 percent.
If we then look at all of the initiatives in the budget,
Medicare, education, health research, defense, a health
insurance tax credit, everything in the budget combined here,
it adds up to about $485 to $495 billion. That's before you
lower the number to reflect the unspecified and other spending
reductions that are in the budget. The point is that the top 1
percent would indeed get more in tax reductions under the
budget than every initiative area in the budget combined,
including defense.
So the bottom line, in my view, Mr. Chairman, is that a tax
cut is appropriate but the budget lacks balance. The tax cut is
much too large, the risk is high that at the end of the day,
either Congress would have to go into the Social Security and
Medicare Hospital Insurance trust funds to fund the rest of
Government, or the Congress in future years would have to come
up with several hundred billion dollars in cuts that are not
specified today, and at the same time this is done, some of the
biggest problems facing the country are largely unaddressed.
There is no new money for long term Medicare solvency, the
attention to the uninsured is small, and the drug benefit
appears to be of a magnitude that wouldn't allow us to cover
more than about 50 percent of drug costs until the senior
incurred about $11,000 or $12,000 a year in out-of-pocket drug
expenditures.
So I think there is a problem with the balance here.
There's really only one priority in the budget, and it is the
tax cut.
[The prepared statement of Robert Greenstein follows:]
Prepared Statement of Robert Greenstein, Executive Director, Center on
Budget and Policy Priorities
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THE ADMINISTRATION'S BUDGET RESERVE
The budget lists a $842 billion reserve. Closer examination,
however, indicates that no such reserve is likely to be available.
1. Medicare: The budget does not set to the side the surpluses in
the Medicare Hospital Insurance trust fund, claiming that Medicare has
no surpluses and is in deficit. Tables in the budget show that OMB
projects the Medicare Hospital Insurance trust fund will run a $526
billion surplus over the next 10 years. The Medicare HI surplus, which
policymakers of both parties have voted to set to the side and not to
use to finance tax cuts or other programs, amounts to more than half of
the so-called ``reserve.''
Medicare Hospital Insurance (Part A) is financed by payroll taxes
and, to a small degree, by a portion of the income taxes that are
collected from the taxation of a portion of the Social Security
benefits of higher-income beneficiaries. Medicare Hospital Insurance
has its own trust fund. The physician's services part of Medicare (Part
B) is funded separately and, unlike Part A, was never intended to be
self-financing. One-fourth of its financing of Medicare Part B comes
from monthly premiums that beneficiaries pay, but the other three-
fourths comes from general revenues. This is how Medicare was designed.
The administration takes the unprecedented step of adding the total
costs of Medicare Parts A and B and then comparing them to Medicare
revenues from payroll taxes and premiums. Since three-quarters of
Medicare Part B is intended to be funded by general revenue, the effect
is to make it look like Medicare's costs exceed Medicare's income. The
administration then pronounces the Medicare HI surplus as meaningless
and claims that Medicare is in deficit so it has no surpluses to save.
By this logic, all programs funded by general revenues--including the
Pentagon, the military pension program, and the education and health
research programs that the administration proposes to expand--are in
deficit and thus in need of reform, as is everything in the budget not
specifically financed by an earmarked tax.
By artificially making the Medicare HI surplus disappear, the
budget is able to add the $526 billion Medicare HI surplus to the
surplus in the general fund. This makes it appear as though these
Medicare HI funds are available for other purposes. This also makes it
look as though there is more room in the budget for the tax cut and
masks the trade-offs the large tax cut creates for the rest of the
budget. Ironically, one of those trade-offs is that if the tax cut is
enacted, there will be less money available for an adequate Medicare
drug benefit and for an infusion of more general revenue into Medicare
as part of a Medicare reform package that restores long-term solvency
to the program.
Once the Medicare HI surpluses are set to the side, only a few
hundred billion dollars of the Administration's $842 billion reserve
remains.
2. Inevitable Costs that are Left Out. The budget leaves out a
number of inevitable costs. These include:
<bullet> Continuing current payments to farmers, at a cost of about
$100 billion over 10 years (Table S-11 shows spending for agricultural
programs plummeting from $26.1 billion in 2001 to $14.9 billion in 2003
and smaller amounts in subsequent years, because of the
administration's failure to include the virtually inevitable costs of
continuing these farm payments);
<bullet> Fixing a well-known problem in the Alternative Minimum Tax
so it does not subject millions of middle-class families to the AMT,
which entails a cost of $300 billion to $400 billion over 10 years if
the Bush tax cut is passed; and
<bullet> Extending the expiring tax credits for 10 years (the
budget shows the cost of extending most of these credits for only one
year), which adds about another $25 billion.
<bullet> The more-than-$400 billion in costs just mentioned would
also generate additional costs for interest payments on the debt. This
would bring these costs to more than $550 billion, which exceeds the
amount left in the reserve when the Medicare HI trust fund surplus is
set to the side.
3. Additional Costs the Administration has not specified. The
budget does not include funds for a national missile defense or other
defense spending increases that are likely to emerge from the
Administration's defense review.
CONCLUSION
Rather than creating a reserve for unforeseen contingencies, the
budget lacks sufficient funds to avoid a return to deficits outside the
Social Security and Medicare HI trust funds, unless sizable reductions
in domestic programs are enacted.
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Chairman Nussle. Thank you, Mr. Greenstein. Mr. Gale.
STATEMENT OF WILLIAM G. GALE
Mr. Gale. Thank you very much, Mr. Chairman, Mr. Spratt and
members of the committee. It's my pleasure to speak here.
I think it's particularly important to be discussing tax
cut issues in the Budget Committee, because what we're really
having is a budget debate, or what we really should be having
is a budget debate, not just a tax debate. It seems very
difficult to assess the appropriateness of any tax or spending
policy in the absence of an overall budget framework.
So in my comments, I'd like to focus on three items. The
first is the budget outlook, the second is the President's
budget and tax proposals, and the third is a brief discussion
of some of the arguments put forth for and against the
President's tax cut.
Let's start with the budget outlook. The most recent CBO
forecast projects a surplus of $5.6 trillion over the next
decade. But there's really only about $1.7 trillion there or
less even that should be thought of as available for new tax
cuts or new spending initiatives, if Congress is willing to
adopt responsible budgeting practices and realistic forecasts
of tax and spending policy.
How do I get from $5.6 trillion to $1.7 trillion? It's
basically in two steps. The first step, and the biggest step,
is to note that almost 60 percent of that $5.6 trillion is due
to accumulations in retirement trust funds, including Social
Security, Medicare Part A and Government pensions for military
and civilian workers. Congress has shown overwhelming support
for protecting the Social Security and Medicare trust funds
with the compelling logic that these funds represent current
tax accumulations that are committed to future payments.
As you all know, the House voted both last year and this
year to protect Social Security and Medicare from invasions for
other uses, and the Senate voted on two separate bills last
year, passing both of them, and 98 out of 100 Senators voted in
favor of at least one of those bills. So at least up until now,
there's been overwhelming support in the Congress for the
responsible fiscal policy of not spending the Social Security
and Medicare surplus.
If you remove Social Security and Medicare, the $5.6
trillion falls to $2.7 trillion. But there's a third Government
pension fund that doesn't get discussed much, and that's
pension reserves that are set aside for military workers and
civilian workers. Those pension funds are projected to run a
surplus of $400 billion over the next 10 years. I would submit
to you that the economic case for not allocating those funds to
new spending or new taxes is identical to the economic case for
not invading the Social Security and Medicare trust funds.
Certainly no responsible firm would consider its pension
fund as a source of expenditure for current operating expenses.
No household, if it had a budget like the Government's, would
think of itself as anything but drastically under-saving for
retirement. So the Government and the Congress should not be
fooled into thinking that $5.6 trillion is the right starting
point. At the very least, we want to remove pension funds from
the budget, and that reduces the total surplus to $2.3
trillion.
Let me put it differently. The budget contains the assets
in these pension funds, but it does not record the liabilities
in the pension funds. If we included the liabilities, we all
know the Government would show a deficit right now, because
it's severely underfunded in Social Security and Medicare in
the long term. If you're not going to include the liabilities,
at the very least, don't include the assets as funds that can
be spent.
So the best solution would be to include the liabilities
and therefore show a deficit. If that were the case, we
wouldn't be talking about $2 trillion tax cuts. But at the very
least, if you don't include the liabilities, don't include the
assets either. Just set it aside and focus on the rest.
So that brings us down to $2.3 trillion. You get from $2.3
trillion to $1.7 trillion by adjusting for problems for sort of
rosy scenario assumptions about spending and tax policy. In
particular, under current law, the number of people that are
projected to be under the AMT is going to rise dramatically, as
Mr. Greenstein mentioned. Also, current law assumes that the
expiring tax provisions will actually expire. The budget
prediction also assumes that real discretionary spending will
fall by 10 percent on a per capita basis.
So if you just hold discretionary spending constant per
person and fix the AMT and expiring tax provisions, that's
another $600 billion that's used up. That leaves you with $1.7
trillion.
I want to emphasize, though, that the $1.7 trillion is just
the surplus over the next 10 years. If we did Government
budgeting correctly, if we budgeted the way a firm did, right
now we would show a long term deficit, not a surplus.
Having said that, let's turn to the President's budget
proposal. The President's budget essentially threatens to undo
most of all of the hard-won fiscal gains of recent years. There
are two items I'd like to emphasize. The first is the President
proposes to divert about $1 trillion of Social Security and
Medicare funds from the surpluses to other programs. He would
take $600 billion of surplus in the Social Security fund and
divert it from debt repayment. He would not use those funds to
buy private assets to hold in revenue for future Social
Security benefits either.
But if the money is used for any purpose other than Social
Security, other than for paying down debt or Government
purchase of assets, then in fact the money is being taken away
from the Social Security fund and would violate longstanding
policy to keep Government's hands off that money.
As Mr. Greenstein mentioned, the President would also spend
the $400 million surplus in the Medicare Part A trust fund on
supplemental medical insurance for the elderly, rather than
having general revenue finance SMI. But the point is that the
Medicare Part A surplus is legislatively committed to paying
future Part A benefits. The Part A fund is in a cash flow
surplus right now, but it's in long term deficit.
So taking money away from the Medicare Part A current
surplus makes the long term deficit there worse, and taking the
money away from there and using it to finance the tax cut is at
best ironic and at worst much worse than that.
The second part of the President's proposal, besides
allocating $1 trillion to Social Security and Medicare trust
funds to other uses, is a very large tax cut. Mr. Greenstein
went through the calculations. I could go through a different
set of calculations that gets to the same $2.5 trillion figure.
I won't go through those calculations.
I will mention, however, that the President's budget has a
non-Medicare, non-Social Security surplus of $2.5 trillion. If
you take what I view as the realistic estimates that the JCT
has made of H.R. 3, of Bush's previous proposal, of the
proposals in the President's budget, and if you add in the AMT
adjustment and interest costs, the total cost of the tax cut is
$2.5 trillion. That is according to the administration's own
budget forecast, and realistic assessments of the cost of the
tax cut. There is nothing left to do anything over the next 10
years unless Congress is willing to invade the Medicare and
Social Security surplus.
Well, how does the President get this $842 trillion reserve
fund? Basically, he invades the Medicare and Social Security
surplus, as I stated earlier. So the invasion of Social
Security and Medicare is directly linked to the magnitude of
the President's tax cut. And the magnitude of the President's
tax cut means that from a budget perspective, there's no money
left to do anything else the entire next 10 years unless one is
willing to invade the Medicare-Social Security trust fund.
Let's talk about some other aspects of the President's tax
plan. The administration's rhetoric on the distributional
effects of its plan has been exceedingly misleading and
disingenuous. There is no doubt that this is a tax cut that is
tilted toward high income households. Any reasonable measure of
the distribution of the tax cut shows it's tilted toward high
income households. They get a higher percentage increase in
after-tax income, they get a larger percentage reduction in
their total taxes, not their income taxes, but their total
taxes. And of course, they get a hugely larger dollar tax cut.
The administration has presented some very deceptive numbers on
this, which are discussed in my testimony that I would be happy
to discuss further in questioning.
One of the most puzzling and misleading aspects of the
President's defense of his tax cut, and of the defense put
forth of H.R. 3 is that it's going to stimulate the economy. I
don't think anyone takes this view seriously any more. Even
H.R. 3, which accelerates the cut, only had $6 billion of
stimulus in the first year, in a $10 trillion economy. On top
of that, if you did want to stimulate the economy, you would
want to put the money in hands of people who would be more
likely to spend it, which are low and middle income households.
These are also the households that are more likely to lose
their jobs if there really is a recession.
On top of that, because of how large the President's tax
proposal is, and the implied need to fix the AMT, the magnitude
of the tax cut could well force interest rates up, which of
course would have a negative short term effect on the economy.
So if ever there were a plan that were not designed to fight an
immediate recession, it's the President's tax cut. And that
shouldn't be surprising, because the President's tax cut was
designed 15 months ago when there was no sign of recession on
the horizon.
Some people will argue that tax cuts are needed to prevent
Government from going on a spending spree. I think we can all
see there's some validity to that concern. But in the fact, in
the past year, vast portions of existing surpluses have been
allowed to accumulate, and discretionary spending right now is
a smaller share of the economy than at any time since 1962, and
it's projected to fall even more.
So it's hard to argue that Government is vastly
overspending relative to the size of the economy. In addition,
if the Congress wants to impose spending discipline, the best
way to do that is not to spend the Social Security and Medicare
surpluses, rather than taking $1 trillion out of those
surpluses for other uses.
Chairman Nussle. Mr. Gale, if I could ask you to--don't
rush, but if you could summarize the remainder of your
testimony so we can hear from the other witnesses and get to
questions from the members. Then if there are any points that
you haven't had a chance to get to, by all means, in the
question and answer period, you'll have full liberty to expand
a little bit.
Mr. Gale. May I take 15 more seconds?
Chairman Nussle. No, don't rush, just if you could
summarize the rest of your testimony briefly, we could move to
the other two witnesses.
Mr. Gale. Finally, if the argument is that we need a tax
cut to restrain Government, even if that's the argument, we
don't need a tax cut that is disproportionately tilted to high
income households. So even if you think we need a tax cut to
restrain Government, you don't have to cut taxes by tens of
thousands of dollars for the highest 1 percent, and by tiny
amounts for households in the bottom 40 percent of the income
distribution.
Finally, let me just briefly address the economic effects,
and I'll be happy to talk about this more in questioning. We
had a rise in the top tax rate from 31 percent to 39.6 percent
in the early 1990's. At the time it was predicted that that
would cause a recession, that that would cause a drastic
cutback in the taxable income and the economic activity of high
income households. In fact, we've seen exactly the opposite
over the ensuing decade. We've had a huge spurt in reported
income and in after-tax income among high income households
after the 1993 tax increase.
So if anyone tells you that cutting the tax rates by less
than we increased it in 1993 is going to cause a huge positive
spurt in economic activity, realize that that implies that the
huge ``increase'' in 1993 should have caused a gigantic
recession, and that we saw nothing like that.
Thank you.
[The prepared statement of William Gale follows:]
Prepared Statement of William G. Gale, Joseph A. Pechman Fellow, the
Brookings Institution
Part of the analysis discussed in this testimony is the result of
collaborative work with Professor Alan Auerbach, Department of
Economics, University of California, Berkeley. All opinions should be
ascribed to the author, however, rather than to Professor Auerbach or
the trustees, officers, or staff of the Brookings Institution.
Mr. Chairman and Members of the Committee: Thank you for giving me
the opportunity to discuss the budget outlook and the options for tax
policy. My testimony is divided into two sections. The first provides a
summary; the second provides the background analysis that supports
these views.
SUMMARY
1. THE BUDGET OUTLOOK
The most recent Congressional Budget Office baseline forecast
projects cumulative surpluses of $5.6 trillion between 2002 and 2011.
But there is really only $1.7 trillion or less that can be thought of
as ``available'' for new tax cuts or new spending, under responsible
budgeting practices and realistic forecasts of tax and spending
policies.
Almost 60 percent of the projected surplus is due to accumulations
in retirement trust funds. No financially responsible firm would
consider its pension reserves as a source of financing for current
operating expenses, and neither should the federal government. Both
Houses of Congress have shown overwhelming support for protecting the
social security and medicare trust funds, because they represent
current tax collections that are committed to future uses. Cordoning
off social security reduces the available surplus to $3.1 trillion.
Protecting the Medicare trust fund reduces the amount to $2.7 trillion.
Protecting the pension reserves of government military and civilian
workers--which makes sense for same reasons as protecting social
security and medicare--would reduce the available surplus to $2.3
trillion.
Extending the temporary tax provisions, and fixing problems that
already exist under current law with the alternative minimum tax
reduces the available funds to $2.1 trillion. Allowing real
discretionary spending per person to remain constant reduces the amount
of available funds to $1.7 trillion over the next 10 years. If
discretionary spending were to grow at the rate of GDP, the available
surplus would fall to $1.0 trillion.
There is nothing sacrosanct about a 10-year planning horizon. For
public policies such as social security and medicare, the official
planning horizon is 75 years. Looking beyond the 10-year horizon is
particularly important for assessing the budget outlook because the
rapid growth in entitlement programs driven by an aging population and
rapidly rising medical care expenditures is not projected to begin
until later dates. Despite current surpluses, estimates in this
testimony show that the government continues to face a long-term
financial shortfall. This fundamental fact counters claims that
Americans are being ``overcharged'' for government currently.
2. PRESIDENT BUSH'S BUDGET AND TAX PROPOSALS
The President's budget threatens to undo most or all of the hard-
won fiscal gains of recent years. The budget is hugely fiscally
irresponsible in two main ways.
First, the President proposes to divert about $1 trillion of social
security and medicare surpluses from the trust funds for those
programs. He would take $600 billion of surplus in the social security
trust fund and place it in a general ``reserve'' fund that could be
used for any future (and currently unspecified) purpose. He would spend
the $400 billion surplus in the medicare part A trust fund on
supplemental medical insurance for the elderly (Medicare part B), even
though Medicare part A is in long-term deficit, and even though part B
is funded by general revenues and insurance premia by statute.
Second, the President has proposed a massive tax cut. The tax cut
in his budget differs from the tax cut he sent up to Congress just a
month earlier. The tax cut would cost in excess of $2 trillion,
inculding interest costs. As implemented in HR 3, the tax cut would
leave 36 million on the AMT by 2011. Fixing that problem would raise
the cost to over $2.5 trillion.
Thus, the President's budget:
<bullet> violates the otherwise consensus view that social security
and medicare funds should be protected and effectively diverts $1
trillion from those funds to other purposes;
<bullet> proposes a tax cut that would use up the entire non-social
security, non-medicare budget, according to the President's own
proposals;
<bullet> would leave no funding left for anything else, without
either tapping into retirement trust funds or running a deficit, for
the next decade.
3. EVALUATING THE PRESIDENT'S TAX PROPOSALS
The Administration has had a very difficult time providing a
coherent justification for its tax package. Notably, the President's
justifications for his tax proposal keep changing, but the proposal
does not.
Over the next 10 years, HR3, the other components of the tax plan
that the President sent to Congress on February 8, and the new
proposals in the budget would cut taxes by about $1.8 trillion. The AMT
adjustments would total $292 billion, and the added interest payments
on the federal debt caused by the reduction in federal revenues would
cost another $418 billion. Thus, although the proposal is often
referred to as a $1.6 trillion tax cut, the real cost would exceed $2.5
trillion over the next 10 years. This is much larger than the
``available surplus'' noted above, and implies that no other policy
priorities could not be met unless Congress were willing to finance new
programs with balances in the retirement trust funds or with deficit
spending.
The proposed tax cut would roughly triple the severity of the long-
term fiscal problem. Properly adjusted, Bush's tax cut is about as
large as the net tax cut created by the 1981 and 1982 tax acts. But
taxes on most families were much higher then than they are now, and tax
rates had been rising steadily in years before that. In recent years,
the tax burdens on most families have fallen.
Besides being too large, the Administration's tax cut would be
disproportionately tilted toward high-income taxpayers, who would
receive a bigger percentage decline in tax payments, a bigger
percentage increase in after-tax income, a bigger share of the total
tax cut than their current tax share, and a gigantic cut in dollar
amounts. The Administration's rhetoric on distributional effects has
been particularly misleading and disingenuous.
The President's efforts to ``take down the tollbooth to the middle
class'' and to address the marriage penalty leave out households with
earnings below $20,000, who often face the highest effective tax rates
and the largest marriage penalties.
One of the most puzzling and misleading aspects of the President's
defense of the tax cut is his claim that it would be an effective way
to fight a brewing recession. It is not clear that a recession will
emerge, and most economists (myself included) feel that tax policy is a
poor way to counter a recession. Even if tax policy were a good way to
counter a recession, the President's tax proposal is incredibly poorly
designed for that purpose. It is so big it would raise interest rates,
which would hurt the economy. It is delayed (no tax cuts in 2001 and
only $20 billion in 2002), and so cannot help fight a recession now.
And it is geared toward high-income households, when it is low- and
middle-income households that would be most likely to lose their jobs
and most likely to spend the tax cut.
Another argument the president uses to justify tax cuts is that tax
revenues are at historic highs and therefore that Americans are being
crushed by overburdensome taxes. But if a high aggregate federal tax
burden justifies tax cuts, it should justify cuts in a variety of
taxes, not just the income and estate taxes. About 74 percent of
families pay more in payroll taxes, for example, than in income taxes.
Focusing tax cuts only on income taxes and estate taxes thus ignores
the major tax burden facing almost three-quarters of American families.
In fact, for most families, taxes are as low or lower than they have
been in the past 20-30 years. Overall tax payments have risen because
the rich have gotten richer at an impressive rate.
Some argue that tax cuts are needed to prevent government from
going on a spending spree. There is clearly some validity to this
concern, but the vast portions of existing surpluses have been allowed
to accumulate, and discretionary spending is a smaller share of GDP
today than it has been in any year since at least 1962, so the argument
is weakened considerably. And it is Congress that has been willing to
cordon off Medicare, not the Administration. Finally, even if this
argument justifies a tax cut, it does not provide a rationale for why
the tax cut should be focused on the highest-income households.
An argument put forth recently by Alan Greenspan, and quickly
repeated by tax cut advocates, is that under current surplus
projections, the government will pay off all available government debt
by around 2006 or shortly thereafter. Greenspan and others argue that
having the federal government hold such assets would raise a number of
difficult issues. These issues are real, but the concerns are seriously
overstated. Currently, for example, state and local government pension
funds hold private assets equal to 28 percent of GDP.
4. POLICY OPTIONS
The current fiscal surpluses are a significant accomplishment, and
should not be taken lightly or for granted. There is clearly room for a
tax cut, for spending priorities, and for debt reduction. But I believe
that the most important budgeting decision for the Congress is to
establish a new set of budget rules, and that these rules should be
established before making a significant set of tax and spending
changes.
A. BUDGET RULES
The fiscal accomplishments of the last decade should be preserved
and enhanced, not squandered. The old rules are expiring. And the
current budget situation has dangers associated with it, since there
are short-run surpluses but long-term deficits. Consideration of policy
rules should take several factors into account. First, there is a
certain asymmetry in policy options. It is always easier to reduce
taxes later than to raise them. Second, new and unforeseen policy
priorities frequently arise, so prudent fiscal management would suggest
the equivalent of a ``reserve fund'' of some sort. Third, both budget
projections and economic forecasts are subject to considerable
uncertainty, which suggests another reason not to commit all available
resources immediately.
<bullet> Reaffirm the commitment to protect social security and
medicare and extend the same treatment to government pension reserves.
<bullet> Adopt a proposal put forth recently by Robert Reischauer
to cordon off increasing amounts of future surpluses from current
commitments.
B. TAX POLICY
Tax policy should be made inside of a budgetary framework that
recognizes the importance of other public policy goals-such as
education, health, defense, the refurbishing of social security and
medicare and so on. In addition, fairness, efficiency, and simplicity
remain the core principles of tax policy regardless of the size of the
surplus.
<bullet> Create a new, lower tax bracket of 10-12 percent, covering
a range of income broader than the 10 percent bracket proposed by
President Bush.
<bullet> Combine or integrate interactions between the child
credit, earned income credit, and personal exemption. This would
simplify taxes, improve incentives to work and marry, and provide added
resources to low-income households. A crucial element would be to
increase the refundability of the child credit.
<bullet> Simplify the tax code by raising the standard deduction,
providing a uniform exclusion for capital gains income rather than the
complicated patchwork of capital gains tax rates we currently have.
<bullet> Provide tax cuts to high-income taxpayers and simplify the
tax system further by removing the phaseout of personal exemptions and
the limitations on itemized deductions. Either reform or abolish the
alternative minimum tax.
<bullet> Reform the estate tax by raising the effective exemption,
modestly reducing rates, indexing the tax for inflation, and closing
down a number of egregious sheltering practices.
EVALUATING THE BUDGET SURPLUS AND TAX POLICY OPTIONS
1. THE BUDGET OUTLOOK
After decades of deficits, the federal budget has recently yielded
increasing annual surpluses. The most recent Congressional Budget
Office baseline forecast, released in January projects cumulative
surpluses of $5.6 trillion between 2002 and 2011, including $2.5
trillion in the social security trust fund (the ``off budget'' surplus)
and $3.1 trillion in the rest of the budget (the ``on-budget''
surplus).
Just as perennial budget deficits dominated policy discussions in
the 1980s and early 1990s, choices regarding how to use these surpluses
will shape fiscal debates for years to come. Debates regarding these
choices are almost always carried out in the context of CBO's baseline
forecast. However, while it provides a common and visible benchmark,
CBO's baseline is limited in several crucial ways and does not provide
sufficient information to assess various policy options.
To assess policy options accurately requires a measure of the
surplus that would be available for tax cuts or new spending under
responsible budgeting procedures, plausible assumptions about the
maintenance of current policy, and appropriate time horizons. To obtain
these measures, it is necessary to adjust the baseline forecast for the
treatment of retirement funds, the definition of ``current policy;''
and the time horizon employed. These adjustments provide different
perspectives on the size of the available surplus and generally imply
that the funding likely to be available for new tax cuts or spending
programs is substantially less than the baseline forecast-and the
current policy debate-would suggest.
A. THE TREATMENT OF RETIREMENT TRUST FUNDS
No financially responsible firm would consider its pension reserves
as a source of financing for current operating expenses. Neither should
the federal government. This simple but fiscally prudent observation
has a significant impact on estimates of the available surplus.
As noted above, a substantial portion of currently projected budget
surpluses over the next 10 years occurs because the Social Security
trust fund will take in about $2.5 trillion more in payroll tax
revenues and interest received on its assets than it will pay out in
benefits and administrative costs. Leaders of both political parties
agree that accruing Social Security trust fund balances should
contribute to improving that program's long-term financial viability,
and should not be used to finance tax cuts or other spending programs.
Medicare pays for health care for the elderly, and is divided into
two parts. Part A, hospital insurance, covers hospital costs and is
financed by payroll taxes. Part A is very similar in structure to
social security. Workers contribute payroll taxes to a trust fund while
working and receive promised benefits when they are elderly. Part B,
supplementary medical insurance, is financed by a combination of user
fees and general revenues. Over the next 10 years, the Medicare (Part
A) trust fund is projected to run surpluses totaling $392 billion (CBO
2001, p. 19). Although Medicare is officially part of the on-budget
surplus, both Houses of Congress voted last year to support measures
that protected the Medicare trust fund from being used to finance other
programs or tax cuts. The House of Representatives approved the measure
by a vote of 420-2. The Senate passed two separate measures; 98
Senators voted in favor of one or both. The strong votes demonstrated
overwhelming Congressional support for preserving the Medicare trust
fund. In 2001, the House again has voted overwhelmingly to protect
Medicare surpluses.
While the social security and Medicare trust funds have received
significant attention in the budget debate, a third set of retirement
funds has not. Trust funds holding pension reserves for federal
military and civilian employees will accrue surpluses of $419 billion
over the next 10 years (CBO 2001, p. 19). Under current budget
procedures, these surpluses are a component of the on-budget surplus.
Like Social Security and Medicare, however, these trust funds represent
current accumulations intended to provide retirement benefits to future
workers. Thus, the same economic logic that has led fiscally
responsible leaders to protect Social Security and Medicare balances,
implies that government pension reserves should be protected as well.
Many states, in fact, already separate their pension reserves from
funds available for tax cuts and other spending. A recent proposal (H.
RES. 23) by Representatives Baron Hill (D-Indiana) and Gene Taylor (D-
Mississippi) would protect the pension reserves owed to military
workers. Fiscal responsibility requires that the same protections be
accorded to civilian pensions as well.
B. THE DEFINITION OF CURRENT POLICY
In order to project future spending and tax revenues, assumptions
must be made about how tax and spending programs will evolve. The CBO's
baseline forecast is intended only to measure the implications of
maintaining ``current policy.'' But how one should project current
policy into the future is not always obvious. The baseline forecasts
project current policy subject to a variety of statutory requirements,
which limit the scope of the forecast's underlying assumptions and time
horizons and can be at variance with reasonable expectations.
Mandatory spending-e.g., entitlements, such as Social Security-is
generally assumed to continue as it is currently structured in the law.
Discretionary spending, however, poses problems with regard to defining
``current policy.'' Unlike mandatory spending, discretionary programs-
e.g., defense, education, the environment, or infrastructure-are not
automatically included in the annual budget and thus require annual
appropriations from Congress. As a result, no consensus exists about
how to project current policy for discretionary programs. In light of
this quandary, CBO simply assumes that real discretionary spending
authority will remain constant at fiscal year 2001 levels (CBO 2001, p.
76).
This assumption is clear, but may not be very reasonable.
Discretionary spending totaled 6.3 percent of GDP in 1999 and 2000, the
lowest share since at least 1962. Under CBO's baseline forecast,
discretionary spending would fall to 5.1 percent of GDP. That is, it
would fall by 20 percent relative to the size of the economy. It would
also fall by over 10 percent in per capita terms. In a growing economy
with large surpluses, growing defense needs, and other concerns, this
seems to be a particularly draconian baseline.
At the very least, it would be more reasonable to have real
discretionary spending grow at the same rate as the population (about 1
percent per year). This would hold real discretionary spending per
person constant, but would still allow spending to fall to 5.6 percent
of GDP by 2011. Incorporating this baseline would raise discretionary
spending by $359 billion (CBO 2001, table 4-4) and, counting the added
interest payments on federal debt that would be required, would reduce
available surpluses by about $418 billion.\1\
---------------------------------------------------------------------------
\1\ Interest payments are estimated by assuming the federal
government pays an average of the 3-month rate and the 10-year rate on
outstanding debt (CBO 2001, table E-2), that half of the increased
expenditures in a given year accrue interest costs during that year,
and all of the increased expenditures in a given year accrue interest
costs in future years.
---------------------------------------------------------------------------
A more ambitious alternative baseline would have discretionary
spending grow at the same rate as nominal GDP, thus keeping the ratio
of discretionary spending to GDP constant. This would raise spending by
$905 billion (CBO 2001, table 4-4) and reduce the available surplus by
$1,055 billion between 2002 and 2011.
To put these figures in perspective, note that in the campaign
President Bush proposed new spending programs totaling $475 billion,
along with cuts in government spending of $196 billion, for a net
spending increase of $279 billion between 2001 and 2010 (table 1). This
is virtually identical to the cost of having real discretionary
spending grow by 1 percent over the same period (rather than over 2002-
2011, see CBO table 4-4). Thus, this suggests that having real
discretionary spending grow by 1 percent is a lower bound for the
likely path of discretionary spending, both because Congressional
Democrats and Republicans may have proposals of their own sometime over
the next 10 years, and because President Bush may have more proposals
for spending-especially on defense-after his initial round of
proposals.
At least two aspects of current policy toward taxation merit
consideration. The first regards the alternative minimum tax (AMT), one
of the most complex areas of individual tax law. The AMT was
implemented as a sort of backstop confronting the small number of
taxpayers who are considered to be too aggressive in creating shelters
and claiming deductions to avoid paying taxes.
In practice, the AMT has affected few taxpayers. In 2000, for
example, about 2 million taxpayers faced the levy. Under current law,
however, the Treasury projects that by 2011, 21 million taxpayers will
be affected by the AMT. The main reason why is that the AMT exemption
is not indexed for inflation. CBO's surplus forecasts assume that the
dramatic rise in AMT taxpayers will occur. However, the increase would
be fought fiercely by the affected groups. Indeed, the problem has
already received significant attention, even though only a small
portion of taxpayers currently face the tax.
``Current policy'' would be better represented by indexing the AMT
for inflation. This would keep the number of taxpayers on the AMT
limited to about 1.9 percent by 2010. The lost tax revenue from this
policy would total $113 billion over the next 10 years. Counting the
added interest, the net cost would be $130 billion.\2\
---------------------------------------------------------------------------
\2\ Estimates of the revenue loss from indexing the AMT from 2002
to 2010 are taken from Rebelein and Tempalski (2000). The estimates
rise steadily and reach $18 billion by 2009, and $24 billion by 2010. I
extrapolate the 2011 revenue loss to be $30 billion.
---------------------------------------------------------------------------
A second tax issue relates to temporary tax provisions, a number of
which are scheduled to expire over the next decade. For all taxes other
than excise taxes dedicated to trust funds, CBO assumes that legislated
expirations occur as scheduled. In the past, however, the temporary
provisions have typically been extended another few years each time the
expiration dates approached. In light of this practice, current policy
is more aptly viewed as assuming that these so-called ``extenders''
will be granted a continuance. Extending the provisions-except the one
relating to AMT, which is addressed above-through the 10-year horizon
would cost a net of $69 billion in lost revenues (CBO 2001, table 3-
12), plus an estimated additional $13 billion in interest costs.
C. IMPLICATIONS FOR THE AVAILABLE SURPLUS OVER THE NEXT 10 YEARS
Table 2 shows that these adjustments have a profound effect on the
amount of funds that should be considered to be available for tax cuts
or new spending. (Appendix table 1 provides year-by-year estimates of
the alternative surplus measures.) The total 10-year projected surplus
of $5.6 trillion is shown in the first line. Removing the social
security trust fund surplus generates an ``on-budget'' surplus of $3.1
trillion. Removing Medicare trust funds reduces the surplus to $2.7
trillion. Protecting government pension funds from invasion for other
purposes reduces the available surpluses to $2.3 trillion. That is,
almost 60 percent of the projected 10-year surpluses are due to the
retirement trust funds.
Adjusting for the issues regarding the AMT and expiring tax
provisions reduces the available surplus to $2.1 trillion. If real
discretionary spending were held constant on a per capita basis-or if
President Bush's spending plans were implemented-the net available
surplus for other programs would be just under $1.7 trillion. In
contrast, if discretionary spending were held constant as a share of
GDP, the remaining available surplus would be about $1 trillion (table
3).
Thus, depending on what is considered the most reasonable
assumption regarding current policy toward discretionary spending, the
available surplus is between $1.0 trillion and $1.7 trillion. This
represents between 18 and 30 percent of the total surplus, and roughly
one-third to one-half of the on-budget surplus over the 10-year period.
The Center on Budget and Policy Priorities (CBPP) has made a similar
set of adjustments and estimated an available surplus of about $2
trillion over the next 10 years (Greenstein and Kogan 2001).\3\
---------------------------------------------------------------------------
\3\ The CBPP estimates differ from the estimates presented here in
a number of ways. CBPP focuses on holding discretionary spending per
capita constant, does not adjust for government pension reserves, and
includes adjustments for some other programs, such as farm spending.
The differences between the CBPP estimates and the ones presented
above, however, are small relative to their similarities: both studies
make the case that the surplus available for new spending programs or
tax cuts is much less than it appears to be, based on the baseline
forecast.
---------------------------------------------------------------------------
D. LOOKING BEYOND THE 10-YEAR HORIZON
There is nothing sacrosanct about a 10-year planning horizon. For
public policies such as social security and medicare, the official
planning horizon is 75 years. Indeed, an analysis of social security's
finances that focused only on the next 10 years would not pass a laugh
test. Likewise, many important private economic decisions, such as how
an investor values a firm's stock, or how a family sets the parameters
of a financial plan, also typically depend on perceptions of events
that will occur more than 10 years into the future. Looking beyond the
10-year horizon is particularly important for assessing the budget
outlook because the rapid growth in entitlement programs driven by an
aging population and rapidly rising medical care expenditures is not
projected to begin until later dates.\4\
---------------------------------------------------------------------------
\4\ Although CBO is the source of the 10-year baseline forecast,
CBO itself warns several times of the dangers of ignoring the longer-
term situation (see CBO 2001, p. xiv and pp. 4-5) and in fact regularly
publishes estimates of the federal government's long-term fiscal status
(see CBO 2000). David Walker, head of the General Accounting Office,
also testified recently on the importance of taking the long-term
budget picture into account.
---------------------------------------------------------------------------
To take these and other factors into account, previous research
(Auerbach 1994 and 1997, Auerbach and Gale 1999, 2000) estimates the
long-term ``fiscal gap'' under different policies. The fiscal gap is
the size of the permanent increase in taxes or reductions in non-
interest expenditures (as a constant share of GDP) that would be
required now to keep the long-run ratio of government debt to GDP at
its current level. The fiscal gap gives a sense of the current
budgetary status of the government, taking into account long-term
influences.
These estimates use the current CBO 10-year forecast through 2011
and CBO long-term budget forecasts through 2070. In subsequent time
periods, all revenues and non-interest expenditures are assumed to
remain a constant share of GDP. Social Security and Medicare outlays
follow the intermediate projections in the reports released by the
trustees of the funds. Discretionary spending, federal consumption of
goods and services, and all other government programs, with the
exception of net interest, are assumed to grow with GDP after 2010. Tax
revenues are a constant share of GDP, except for supplementary medical
insurance premiums collected for Medicare, which grow relative to GDP.
Table 4 shows that different measures of current policy can have a
significant impact on the long-term fiscal status of the federal
government, if these policies establish levels of spending or taxes
that are preserved (relative to GDP) after 2011.\5\ Under the CBO
baseline assumptions about discretionary spending, the fiscal gap
through 2070 is projected to be 0.67 percent. That implies that a
permanent tax increase of 0.67 percent of GDP, which would currently be
about $67 billion, would be required to restore fiscal balance through
2070. The fiscal balance on a permanent basis is currently 3.33 percent
of GDP. Allowing discretionary spending outlays to remain constant as a
share of GDP raises the fiscal gap further, to 1.45 percent of GDP over
the next 70 years and 4.14 percent on a permanent basis.
---------------------------------------------------------------------------
\5\ I thank Alan Auerbach for providing the estimates in table 4.
---------------------------------------------------------------------------
In light of the recent political pressure to raise spending and/or
cut taxes, it seems highly unlikely that there will be any immediate
action to reduce the fiscal gap. But delaying the implementation of
necessary tax increases or spending cuts will raise the required fiscal
correction at the time of implementation.
All of the calculations above show that systematically
incorporating longer horizons implies that the government faces
significant financial shortfalls. This, of course, significantly
damages the case for large-scale tax cuts today. Remarkably, however,
some tax cut advocates try to use horizons (slightly) longer than 10
years to justify large tax cuts. They argue that when the 10-year
projection period changes next year to 2003 to 2012 (from the current
2002 to 2011), the 10-year projected surplus will rise dramatically
because adding the surplus projected for 2012 will far outweigh the
loss of the surplus projected for 2002. Their claim is correct as far
as it goes, but is misleading. It is essentially arguing for an 11-year
perspective, which completely ignores the long-term fiscal shortfall.
E. UNCERTAINTY
It is difficult to predict the course of the economy over a period
as short as 6 to 9 months. Thus, it should not be surprising that all
of the estimates above are subject to a considerable amount of
uncertainty. A few comments on the uncertainty of the forecasts are
warranted.
First, CBO's underlying economic assumptions do not appear to be
unreasonable. Their forecast for GDP growth over the next two years-2.4
percent in 2001 and 3.4 percent in 2002-is in the middle of the Blue
Chip forecasters. Notably, CBO does not foresee a recession in 2001,
just a slowdown. Just as notably, CBO projects that the economy will
turn around and growth will accelerate in 2002, even without any
changes in tax or spending policy. CBO predicts a growth rate of about
3.1 percent for the rest of the decade, which does not seem out of line
with reasonable expectations. CBO (2001, p. 60) points out that its
forecast does not depend on a continuation of high capital gains
revenues or high stock market values and in fact projects a decline in
the share of revenues from capital gains.
Second, there is simply a huge amount of uncertainty regarding the
evolution of the economy and the surplus. CBO (2001, p. 99) reports
optimistic and pessimistic scenarios for the economy, where the 10-year
surpluses range from $8.8 trillion to $1.6 trillion. In the latter
case, there is an on-budget deficit of about $525 billion over the 10
years. CBO (2001, p. 96) also notes that on average their revenue
forecast has been off by 11 percent of revenues after 4 years. If
revenues were 11 percent higher or lower than forecast over the next 10
years, the surplus would differ from baseline by about $3.9 trillion.
Interestingly, CBO (2001, p. 102) estimates that a mild recession
followed by higher-than-trend growth would have little effect on the
10-year surplus, but that does not preclude a deeper, longer recession
or a change in the long-term growth rate from having a significant
impact.
Third, an important source of uncertainty stems from the fact that
the surpluses are expected to rise over time. Only 12 percent of the
projected total surplus and 10 percent of the projected on-budget
surplus occurs in the first two years. Likewise, only 36 percent of the
projected total surplus and 32 percent of the projected on-budget
surplus occur in the first five years.
Fourth, other things equal, long-term estimates are inherently more
uncertain than short-term estimates. But the added uncertainty should
not lead us to ignore long-term issues, for at least two reasons.
First, the serious consequences of a relatively bad long-term outcome
should spur a precautionary response from policymakers now (Auerbach
and Hassett 2000). Second, over the next 10 years, the primary factor
affecting surpluses will be the course of the economy, which as noted
above, is uncertain. In contrast, in the longer-term, the demographic
pressures that are due to an aging population are far more certain to
occur.
F. IMPLICATIONS FOR THE TAX POLICY DEBATE
These findings suggest some useful lessons for the current debate
about how to allocate the surplus. The virtually exclusive emphasis
given to baseline 10-year budget projections in current fiscal policy
debates is inappropriate. The baseline forecast suggests the
availability of trillions of dollars for tax cuts or new spending, but
is based on a particular set of views of what constitutes current
policy. Fiscal responsibility and plausible notions of current policy
reduce the available 10-year surplus to between $1.0 and $1.7 trillion.
Despite the recent strong improvement in the government's fiscal
position, there is still a long-term imbalance. This imbalance is a
``future'' problem only insofar as our budget accounting rules ignore
the existence of liabilities already accrued.
Given this long-term imbalance, the fiscal climate may be more
troubling now than in previous years. The short-term surplus and the
decline in the long-term fiscal gap are no doubt improvements, but
fiscal discipline may be especially difficult to impose under current
conditions. In the 1980s and early 1990s, when the country faced both
short-term and long-term deficits, the short-term deficits helped focus
attention in a way that also helped reduce long-term gaps. Today, the
United States faces the same trade-off between current and future
generations as in earlier decades, and it is still confronting a long-
term shortfall. But the current policy discussion focuses on ways to
use the surplus that would likely exacerbate the long-term situation.
2. PRESIDENT BUSH'S BUDGET AND TAX PROPOSALS
President Bush's budget predicts a baseline surplus of about $5.6
trillion, a non-social security surplus of $3.0 trillion, and a non-
medicare, non-social security surplus of $2.5 trillion. While these
numbers are reassuringly similar to the CBO figures, the budget departs
from fiscally responsible actions in three main ways.
The first concerns the social security trust fund. Normally, trust
fund surpluses are used to add to government saving, by paying down the
debt. The President, however, would divert $600 billion of social
security trust fund surpluses from debt repayment into a ``reserve
fund.'' The Administration argues that it cannot use those surpluses to
finance debt repayment because there will not be enough purchasable
government debt outstanding. An alternative (discussed below) would be
to purchase private assets with the funds, but the Administration
claims to be philosophically opposed to such a view (even though the
state of Texas holds $21 billion in private assets as part of pension
fund for government workers). The ``reserve fund'' is the only
alternative left, according to the Administration. However, the amount
of available debt to be repurchased is controversial and CBO and Fed
Chairman Alan Greenspan both suggest that the relevant amount that can
be repurchased is hundreds of billions of dollars larger than the
Administration claims. Moreover, if those funds are placed in the
``reserve fund'' they are not being used to protect the social security
surplus and thus represent a violation of the virtually unanimous
agreement in both Houses of Congress to protect those funds.
The second fiscally irresponsible act involves siphoning off the
Medicare trust fund surplus to pay for the rest of Medicare. Medicare
part A is financed by payroll taxes and is currently running a cash
flow surplus. That surplus, however, is nowhere near sufficient to
finance future Medicare part A payments-the part A system as a whole is
in long-term deficit. That is why it is important not only to save the
part A surplus, but to supplement that surplus with additional funds
over the years. The Administration goes in exactly the opposite
direction. Not only does it make no effort to fund the long-term
deficit in Medicare part A, it also takes away the surplus in part A by
spending the funds on current supplemental medical insurance for the
elderly. This is a gross violation of the use of the Medicare surplus,
and flies in the face of efforts of responsible members of Congress
from both parties who have tried to protect the fund.
The third fiscally irresponsible act is the President's tax
proposal. The proposal contains several major elements, and is phased
in gradually over time (Bush-Cheney 2000, JCT 2000a). The most
important elements, listed in order of their revenue cost when fully
phased in, are:
<bullet> Reduce the highest income tax rates.
By 2006, tax rates in the 39.6 and 36 percent brackets would fall
to 33 percent, and rates in the 31 and 28 percent brackets would fall
to 25 percent.
<bullet> Abolish the estate tax.
The estate tax would be reduced gradually and then abolished in
2009. It is unclear whether any changes in the taxation of capital
gains at death would occur.
<bullet> Create a new 10 percent tax bracket.
The first $6,000 of taxable income for singles and $12,000 for
married couples would be taxed at 10 percent rather than 15 percent.
<bullet> Expand the child credit to high-income households, reduce
the phase-out rate, and double the credit amount.
Eligibility for the full credit would be extended to all taxpayers
with income below $200,000 (up from $110,000 for married couples and
$75,000 for singles, currently), the phaseout rate would fall from 5
percent to 2 percent, and credit would double to $1,000. The credit
would remain non-refundable.
<bullet> Allow a two-earner deduction.
Allow a 10 percent deduction for the earnings of the lower-earning
spouse in a two-earner family. The maximum deduction would start at
$12,000 in 2002 and rise to $30,000 in 2005.
Other components include allowing a charitable contributions
deduction for households that do not itemize, allowing individuals aged
55 and over to make penalty-free withdrawals from their IRAs to make
charitable contributions, raising the cap on corporate charitable
contributions from 10 percent to 15 percent of taxable income,
expanding the limits and uses of educational IRAs, and permanently
extending the credit for research and development.
Recently, HR 3 included the creation of a new bracket and the
reduction in the marginal tax rates, with the latter accelerated one
year. The Joint Committee on Taxation has estimated that if HR 3 were
enacted, approximately 36 million taxpayers would face, or be affected
by, the AMT by 2011. This is 15 million more than the 21 million that
would be placed under the AMT under current law. The Bush
administration has acknowledged that the AMT creates a problem for the
proposed tax cut . Indeed, the tax program on the Bush campaign web
site (where voters could calculate how much of a tax cut they would
receive under Bush's plan) did not allow for the AMT to reduce anyone's
tax cut, and thus implicitly assumed that an AMT fix was a de facto
part of the Bush plan. For all of these reasons, I include the
necessary AMT adjustments as part of the Bush plan. To be clear, these
adjustments would merely undo the increase in AMT taxpayers due to the
Bush plan. They would not address the increase in AMT taxpayers that is
expected to occur under current law even in the absence of tax changes.
3. EVALUATING THE PRESIDENT'S TAX PROPOSALS
The justifications for a tax cut are a crucial part of the
proposal, for at least two reasons. First, the goals themselves might
be criticized. For example, trying to use a tax cut to prevent the
economy from falling into a recession may not be an achievable goal,
and thus may not be worth pursuing. Second, the goals may be laudable,
but proposed tax cuts might not achieve the goals very effectively. For
example, fighting a current recession with a tax cut that is
substantially delayed would not be very effective.
More generally, different justifications naturally lead to
consideration of different policies, and the appropriate size, timing,
and distribution of tax cuts depends on the justifications put forth.
The justification given must pass two tests: it must justify a tax cut
in general, and it must justify the particular cut that is being
proposed.
In practice, the Administration has had a very difficult time
providing a coherent justification for its tax package. The President's
justifications for his tax proposal have changed markedly over time,
though the proposal itself has not. Most recently, the goals appear to
include: to provide a fairer distribution of tax burdens, to improve
access to the middle class, to reduce the marriage penalty, to
stimulate the economy, and to reduce the high tax burdens on families
(White House Press Office 2001). In this section, I evaluate the
President's plan along these and other criteria.
A. SIZE OF THE TAX CUT
Interestingly, ``maintaining fiscal discipline'' is not usually
stated as a goal of the President's tax plan, and it is easy to see
why. Table 5 breaks down the costs into three components. (Year-by-year
and provision-by-provision estimates are provided in Appendix Table 2).
The provisions of HR 3 would reduce taxes by $958 billion over the next
10 years. Other components of the plan the President submitted to the
Congress on February 8 would cost $717 billion. Additions to the plan
that were in the President's budget, but not in the earlier submission
to Congress cost another $127 billion. The adjustments required to
avoid having taxpayers bear the burden of the AMT because of Bush's tax
cuts would total $292 billion. The added interest payments on the
federal debt caused by the reduction in federal revenues would cost
another $418 billion. Thus, although the proposal is often referred to
as a $1.6 trillion tax cut, the real cost of the proposal now comes to
an astonishing $2.5 trillion over the next 10 years.
Note also that these figures underestimate the cost because some of
the estimates are based on JCT estimates from May 2000. Projected
revenues in the January 2001 CBO baseline are about 9 percent, or $2
trillion, higher than in the January, 2000 baseline. If the revenue
effects were estimated from the current revenue base, they would be
larger.
Ultimately, assessments of whether the Bush's proposed tax cut is
too large are in ``the eyes of the beholder.'' Several analytic
perspectives, however, suggest the tax cut is excessive. First, the
magnitude of the tax cut exceeds the ``available surplus'' listed in
tables 2 and 3 by between $800 billion and $1.5 trillion. Thus,
enacting Bush's tax cut would imply that no other important policy
priorities could not be met unless Congress is willing to finance the
programs with balances in the retirement trust funds. The Bush tax cut
is exactly equal in size to the Bush administration's non-medicare,
non-social security surplus.
Some have claimed that economic responses to the tax cut would
reduce the costs by one-quarter. However, these economic responses
leave out the reduction in national saving that would occur along with
the cut in tax rates. The reduction in national saving would reduce
productivity growth and place a drag on economic growth. Analysis by
Peter Orszag for the Center for Budget and Policy Priorities suggests
that the decline in national saving would reduce revenue by about as
much as the improved incentives have been claimed to raise revenue.
Hence, the net effect would be roughly a wash.
Third, the proposed tax cut would substantially increase the long-
term fiscal gap listed in table 3. Even if discretionary spending were
held constant in real terms, so that it fell continuously as a share of
GDP, Bush's tax cut would triple the long-term fiscal gap through 2070
and raise it by 150 percent on a permanent basis. This would
significantly worsen the long-term fiscal problem the government faces.
This should not be surprising. By 2011, the Bush tax cut, including the
AMT adjustment, would reduce income tax revenues by over 16 percent on
a permanent basis.
Some tax cut advocates have asserted recently that Bush's proposals
are smaller than the 1981 tax cut signed by President Reagan. This
claim is misleading. When evaluated on an equivalent basis, the two
plans are about the same size. Several adjustments are needed to
evaluate the plans on an equivalent basis, though. Reagan's tax cut has
been estimated by the CBO (1983) and the Treasury (Tempalski 1998) to
have reduced revenues by between 4.2 percent and 5.6 percent of GDP.
However, recall that the tax system was not indexed for inflation in
1981. CBO (1983) estimates that at least 40 percent of the Reagan tax
cut was simply an elimination of tax increases that would have occurred
because of inflation. In addition, as soon as the 1981 act was passed,
politicians on both sides of the aisle recognized that the tax cut was
too large and moved to raise taxes in 1982 by about 1.2 percent of GDP.
Adjusting for these two factors places the Reagan cut at between 1.3
percent and 2.1 percent of GDP (Orszag 2001).
Bush's proposed tax cut, of course, would occur above and beyond
the inflation indexing that will automatically occur over the next
decade. Bush's tax cut is phased in slowly over time and the costs are
heavily backloaded. Table 5 shows that about three-quarters of the
costs occur in the second five years of the forecast period. Thus,
estimates of the cost of the plan relative to GDP over the 10-year
period are misleading. In 2009, when the plan is fully phased in, the
cost of the tax cut and the accompanying AMT adjustments is estimated
at 1.7 percent of GDP. Note that this places the costs exactly in the
middle of the range of the costs of the Reagan plan.
Moreover, the case for tax cuts is much weaker currently than it
was in 1981. The 1981 tax act reduced the top rate from 70 percent to
50 percent, which is higher than the top rate is today. Also, Treasury
data show that in 1981, income tax burdens for families of four with
half-median, median and double-median income were the highest they have
been in any year since 1955 (Lerman 1998). Income tax burdens had risen
for five years in a row for the low-income family, the previous 7 years
for the median income family, and the previous 10 years in a row for
the high-income family. As of 1999, the low-income family's tax burden
is 7 percentage points lower than it was in 1981, the median income
family's burden is 4 percentage points lower than it was in 1981, and
the high-income family's tax burden had fallen by 5 percentage points
as well. Congressional Budget Office (1999) data show that for families
in all five income quintiles, income tax burdens in 1981 were higher
than they are today and in almost all other years.
B. DISTRIBUTIONAL EFFECTS
The allocation across income groups of the tax cuts proposed by
President Bush has proven controversial. The main reason why is that
during the campaign and since the Inauguration, the Administration has
launched a non-stop campaign of tortured logic, misleading examples,
and outright false characterizations of the plan. The main results are
clear: by any reasonable standard, the plan provides disproportionate
benefits to high-income households. But the Adminstration's efforts to
obfuscate this point have confused a significant number of commentators
and are worth exploring carefully.
The administration (White House 2001, p. 1) characterizes the tax
plan as follows:
(i) ``The highest percentage cuts go to the lowest income
Americans''
(ii) ``Lower income taxes for all''
(iii) ``Everyone who pays income taxes benefits''
(iv) ``The greatest help for those most in need''
(v) ``The typical American family of four will be able to keep
$1,600 more of their own
money.''
The Administration likes to focus on two aspects of their tax cut,
each of which is extremely misleading in understanding the
progressivity of the cut. First, they claim the plan benefits the
lowest income Americans most because it gives them the highest
percentage cut in income taxes. Second, the Administration notes that
under its plan, high-income households would pay a larger share of
income taxes than they currently do.
First, the Administration apparently defines ``the lowest income
Americans'' as those with income of $22,000 or higher. In fact, more
than 40 million tax units have income below that figure. Second, the
income tax for the family of four with $26,000 in 2001 is only $20 per
year, so their 100 percent reduction in income taxes raises their
after-tax income by trivial amounts (Greenstein 2001, Greenstein and
Shapiro 2001).
More generally, there are many ways to report the size of tax cuts,
but the percentage reduction in one particular tax or the percentage
share a particular tax-which the Administration has chosen to
emphasize--is very misleading. To see why, examine table 6, which works
through these issues in a hypothetical example. In the current system,
a waitress earns $22,000 pays $72 in income taxes (after the child
credit and before the EITC) and $3,366 in payroll taxes. The payroll
tax includes both the employer and employee share since most economists
believe that payroll taxes are passed on to workers in the form of
lower wages. A lawyer earns $200,000 and pays $48,612 in income taxes
and $15,250 in payroll taxes.
The Bush tax cut would reduce the waitress' income tax by $72 and
the lawyer's by $8,413. Who gets the bigger tax cut? The administration
would say the waitress did. Her tax cut is a larger share of her income
tax, and she pays a smaller share of income taxes after the tax than
before.
However, most reasonable observers would likely conclude that the
lawyer got the larger cut. After all, the lawyer had a bigger
percentage decline in the sum of payroll and income taxes, a bigger
percentage increase in after-payroll-and-income-tax wages, and, most
importantly, a larger percentage increase in after-tax income. Needless
to say, the lawyer also received a tax cut that in absolute terms is
gigantic compared to the waitress's tax cut. Indeed, the lawyer's tax
cut is equal to 4.5 months of earnings for the waitress, yet the
Administration claims that the attorney gets the worse part of the
deal!
It is important in these comparisons to emphasize total taxes,
rather than just income taxes, because policy makers could choose to
cut any of a variety of taxes and it is the overall impact of the tax
cut that matters, not just how one tax is affected.
Table 7 shows the estimated distributional impact of Bush tax cut
proposal. As in the hypothetical example, taxpayers in higher income
brackets receive a larger percentage reduction in total federal taxes,
a larger percentage increase in after-tax income, and a much larger tax
cut in absolute terms. These figures demonstrate that the largest
benefits under the Bush proposal go to high income households.
The administration notes that everyone who pays income taxes will
benefit. However, there are many households that pay substantial
amounts of payroll taxes, but not income taxes, who would not benefit.
If the goal is to provide help for those most in need, it is unclear
why the beneficiaries should be limited to income tax payers. For
example, table 7 shows that 75 percent of tax filing units in the
bottom 20 percent of the income distribution and 37 percent in the next
quintile receive no benefit from the tax cut proposal. This shows that
it is simply false to claim that ``the greatest help goes to those who
are most in need.''
Table 7 also shows that 89 percent of all tax filing units,
including 95 percent of those in the bottom 80 percent of the income
distribution, would receive less than $1,600 in tax cuts when the cuts
were fully phased in. Thus, it may be that some typical family defined
by some metric receives $1,600, but the overwhelming majority of
households will receive less, and 27 percent will receive no tax cut at
all (CTJ 2001).
A common, and reasonable, response to complaints that high-income
taxpayers receive a large share of proposed tax cuts is that high
income taxpayers pay a large share of existing taxes. However, under
the Bush plan, households in the top 1 percent would receive tax cuts
that are far in excess of the proportion of taxes they pay. Table 8
shows that the top 1 percent paid about 21 percent of total federal
taxes in 1999, but under the Bush plan, they would receive at least 35
percent of the tax cut. Under other estimates, not shown in the table,
they would receive as much as 43 percent of the cut.
Finally, the administration trumpets its expanded child credit as
helping families with children. But one study found that 82 percent of
the benefit of the expanded child credit would go to households in the
top 40 percent of the income distribution. Moreover, about one-third of
all children live in families with incomes too low to receive any
benefit from the credit. (Shapiro, Dupree and Sly 2001).
C. TOLLBOOTH TO THE MIDDLE CLASS
The President's proposal attempts to reduce what he calls the
``tollbooth'' to the middle class, that is, the high effective marginal
tax rates that working families face. The effective marginal tax rate
varies as a function of income level and is a combination of federal
and state income taxes, payroll taxes, and the phase-outs of various
programs. However, it is well known that the highest effective marginal
tax rates are faced by those earning less than $20,000. The President's
proposal does not address these problems at all. As Shapiro et al
(2001) note, expanding the EITC would help both this group and the
higher-income group (in the mid $20,000s) that Bush's proposal is aimed
to assist. In addition, there is little econometric evidence that the
high effective marginal tax rates created, for example, by the EITC,
actually reduce labor supply.
D. MARRIAGE PENALTY
Bush's proposal to address the marriage penalty is to restore a
second-earner deduction that was in place between 1981 and 1986. When
fully phased in, the two-earner deduction would allow up to $30,000 of
the earnings of the lower-earning spouse to be deducted from income.
This would reduce the marriage penalty for two-earner families, who are
the ones most likely to face such penalties. However, the proposal is
poorly targeted in two ways. First, it would enlarge the marriage
subsidies that already exist for many couples. Second, it would provide
no benefits for lower income households. This is important both on
distributional grounds and because the EITC imposes some hefty marriage
penalties.
E. TAX CUTS AND A RECESSION
One of the most puzzling and misleading aspects of the President's
defense of the tax cut is his claim that it would be an effective way
to fight a brewing recession. First, whether there is a recession or
simply a slowdown in the growth rate is unclear. Second, almost all
economists, including top Bush economic advisers Larry Lindsey and John
Taylor, have argued that tax policy is a difficult way to fine tune the
economy (See Lindsey 1999, pp 28-9 and Taylor 2000, p. 27). Tax laws
have to be drafted, debated, passed, reconciled, signed and
implemented. Counter-cyclical tax cuts could also make the Federal
Reserve Board's job more difficult by adding a new element of
uncertainty. In contrast, the Federal Reserve Board can cut interest
rates quickly and decisively to stimulate the economy.
But even if there is a recession, and even if tax cuts could in
general fight recessions effectively, the President's tax proposal is
incredibly poorly designed to fight a recession that is happening
currently. For starters, there is simply no tax cut proposed for fiscal
2001 (which ends on September 30, 2001). It is hard to see how a tax
cut could boost the economy now if it is not providing any tax cuts
now. In addition, the President's plan would only provide tax cuts of
$21 billion (about $75 per person or 0.2 percent of GDP) in fiscal
2002. Thus, in the next 18 months, the plan would provide virtually no
stimulus at all.
In addition, an anti-recession plan should put money in the hands
of low- and middle-income households. These are the people who are most
likely to lose their jobs in a recession, and the ones for whom tax
cuts would give the biggest bang for the buck in stimulating the
economy. In contrast, the President's plan gives the vast bulk of funds
to high-income households, as shown above.
Finally, an anti-recession tax package should be small enough not
to raise interest rates. However, tax cuts that would use up more than
$2 trillion of surpluses during the next 10 years could well lead to
higher interest rates. Note that this would actually be
counterproductive to fighting a recession, so that the plan could make
matters worse. Nor does a plan that grows in costs over time make sense
as an anti-recessionary device. Recessions are temporary. We do not
need to cut taxes by $1.1 trillion between 2007 and 2011, as Bush's
plan would, to stave off a recession in 2001.
Bush supports the idea of making the tax cuts immediate, but his
proposal does not contain such a feature. Moreover, accelerating his
package would provide few benefits but would create significant
problems. It would only give the economy a tiny stimulus ($21 billion)
in fiscal 2001, and so would do little to help fight a recession
directly. And it might indirectly hurt the economy. My own estimates,
based on JCT data, and a similar analysis by Greenstein (2001) show
that accelerating the plan would raise the 10-year cost by $400
billion. This would further crowd out other spending priorities and
would likely put increased pressure on interest rates. The net effect
could be to make the economy less productive in the short run. And, of
course, accelerating the package would not change the distributional
effects.
F. ARE AMERICANS OVERTAXED?
Another argument the president uses to justify tax cuts is that tax
revenues are at historic highs and therefore that Americans are being
crushed by overburdensome taxes. The first claim is right. Federal tax
revenues were 20.6 percent of GDP in 2000, the highest peacetime level
ever. Note, however, that this total includes all federal taxes, not
just income taxes. Thus, if a high aggregate federal tax burden
justifies tax cuts, it should justify cuts in a variety of taxes, not
just the income and estate taxes.
However, even granted that total revenues are high, it is not true
that most households are bearing higher tax burdens than they would
have with the same income in the past. In fact, for most families,
taxes are as low or lower than they have been in the past 20-30 years.
Overall tax payments have risen because the rich have gotten richer at
an impressive rate and because they have faced higher tax rates due to
policy changes in 1990 and 1993. This distinction between what is
happening to most households and what is happening at the aggregate
level is crucial to the debate. Tax cut advocates typically prefer to
focus on the aggregate numbers. But even the Wall Street Journal
editorial board, a staunch supporter of tax cuts, has acknowledged
recently that ``taxes on a typical middle income family have fallen to
their lowest level in more than 20 years'' (Wall Street Journal 2001).
A Department of Treasury study (Lerman 1998), using a methodology
that has not changed over the course of several Administrations, shows
that across a wide range of income levels, federal income taxes as a
share of earnings are down. A four-person family with earnings of about
$55,000 paid 7.5 percent of that amount in federal income taxes in
1999, the lowest rate since 1966. For families with earnings half as
large, the 1999 income tax rate was the lowest since 1955, when the
estimates begin. Families with earnings of almost $110,000, who are
squarely in the top 10 percent of the income distribution, the 1999
income tax burden of 14.1 percent was the lowest rate since 1972 (see
figure 1). Adding social security and medicare taxes to the Treasury
income tax estimates raises the estimated tax burden, but does not
change the conclusion that taxes are low relative to previous years
(see figure 2).
Congressional Budget Office (1999) estimates show that, for
households in the bottom 40 percent of the income distribution, the
burden of all federal taxes is at a twenty-year low (see figure 3). For
households in the 40th to 80th percentile, federal taxes are at
approximately the average share that they have been in the past. Only
among the top 20 percent of households did total federal taxes rise in
the last 15 years. Notably, those households received the largest cuts
in 1981, as shown in figure 3, and despite the increase in their
average tax burden, their after-tax income has increased faster than
income in any other quintile (see figure 4). The after-tax income of
high-income households rose particularly fast between 1995 and 2000.
Thus, their tax burden rose primarily because their incomes rose so
much and the U.S. has a progressive tax system.
American tax burdens are also low compared with those in other
industrialized countries. Among the 20 largest OECD countries in 1996,
the U.S. had the lowest ratio of taxes to gross domestic product.
Ultimately, whether Americans are overtaxed is a judgment call. The
measure of appropriate tax levels depends on many factors, including an
analysis of how the money is used. But the evidence speaks clearly: the
vast majority of American families forfeit the same or smaller share of
their income to taxes today than they would have in the past with the
same income, and those that forfeit more have generally experienced
huge income gains in the past decade.
G. ARE TAX CUTS NEEDED BECAUSE GOVERNMENT WOULD WASTE ANY SURPLUS
FUNDS?
Another set of arguments claims that we need tax cuts because
surpluses lead to bloated government spending. There is certainly an
element of truth to this characterization of the problem. For example,
Congress exceeded the spending caps by increasing amounts in each of
the past three years. However, the vast portions of existing surpluses
have been allowed to accumulate, so the argument is weakened
considerably.
Moreover, it is especially inappropriate for defenders of the Bush
administration's tax cut to make this argument, for several reasons.
First, President Bush himself has proposed about $500 billion in new
spending programs over the next decade (see table 1). The President
clearly believes that not all government spending is wasteful. Second,
reforming social security and medicare and increasing defense spending,
as the President has indicated he would like to do, will cost
additional funds. Third, while both Houses of Congress have voted to
protect Medicare surpluses from being used for other purposes, it is
the White House that is currently resisting this effort.
Finally, even if this argument justifies a tax cut, it does not
provide a rationale for why the tax cut should be focused on the
highest-income households.
H. PAYING OFF THE DEBT WOULD FORCE THE GOVERNMENT TO INVEST IN PRIVATE
ASSETS
An argument put forth recently by Alan Greenspan, and quickly
repeated by tax cut advocates, is that under current surplus
projections, the government will pay off all available government debt
by around 2006 or shortly thereafter. At that point, with more
surpluses pouring in every year, the government would have to start
accumulating private assets, either bonds or stocks. Greenspan and
others argue that having the federal government hold such assets would
raise a number of difficult issues, concerning government interference
in the operation of private companies, the selection of assets to go
into the government portfolio, etc. Greenspan and others claim that it
would be preferable to avoid that situation by cutting taxes now,
rather than being forced either to cut taxes or raise spending
massively at some point in the future or have the government invest in
private assets.
Many supporters of fiscal discipline, however, recognize that these
issues are important, but believe that Greenspan has overstated the
problem. For example, government agencies could invest passively in
index funds, in the manner of the Federal Thrift Savings Plan. Orszag
(2001b) notes that state and local government pension funds have
invested in private assets for a long period of time. In 2000, state
and local pensions held the equivalent of 28 percent of GDP in bonds
and other assets, including almost $2 trillion (equivalent in size to
about 19 percent of GDP) in corporate equities. Research suggests that
such funds perform relatively well (Munnell and Sunden 1999). Foreign
governments also have extensive experience in private investments.
Canada, Norway, and Denmark have all had favorable experiences with
investment of government funds in private assets. In addition, note
that giving tax cuts in order to avoid paying off the national debt
will likely reduce national saving, and thereby impose a cost on future
generations.
A related concern is that paying off the debt will make the market
for Treasury bills and bonds evaporate. Treasuries play several
important roles in financial markets-as a safe asset, a source of
liquidity, an index against which other loans are priced, as a
mechanism for Federal Reserve Board open market operations, etc.
However, paying off government debt does not preclude the government
from continuing to issue bonds. It would merely collect the funds and
then reinvest them. Moreover, if the government did not issue any new
bonds, fierce competition among private suppliers of debt could be
expected.
In any case, how government would handle investment in private
assets and how the Treasury market would respond to paying off the
government debt are important questions that should be addressed. But
they do not provide a justification for large tax cuts, nor do they
provide a justification for tax cuts aimed at the highest-income
households.
I. ARE TAX CUTS NEEDED BECAUSE THE AMERICAN PEOPLE ARE BEING
OVERCHARGED?
President Bush and others have claimed that tax cuts are needed
because Americans are being overcharged for government currently.
Apparently, ``overcharged'' refers to the idea that current revenues
exceed current outlays, under budget procedures that are in place now.
Unfortunately, it is not that simple. As noted above, the government
faces a long-term shortfall, not a surplus. That is, Americans have
collectively promised themselves more in benefits than they have been
willing to commit to in taxes. That hardly qualifies as overcharging
themselves.
A related argument claims that ``It is the American people's money.
Give it back to them.'' Again, that argument is correct as far as it
goes-it is the American people's money. But the long-term financial
shortfall is also the American people's financial obligation.
A slightly more sophisticated version of the same argument says
that if the deficits in the 1980s and early 1990s justified tax
increases, then the surpluses that are currently in existence should
justify tax cuts. However, in the 1980s and early 1990s, the nation
faced long-term deficits and short-term deficits. The short-term
deficits helped focus attention on improving the fiscal status of the
government, but the real problem was the longer-term situation. Now,
short-term cash-flow surpluses are obscuring the real problem, which is
that we still have a long-term financial shortfall.
4. POLICY OPTIONS
The current fiscal surpluses are a significant accomplishment, and
should not be taken lightly or for granted. There is clearly room for a
tax cut, for spending priorities, and for debt reduction. But I believe
that the most important budgeting decision for the Congress is to
establish a new set of budget rules, and that these rules should be
established before making a significant set of tax and spending
changes.
A. BUDGET RULES
There are several reasons to develop a new set of rules. The fiscal
accomplishments of the last decade should be preserved and enhanced,
not squandered. The old rules are expiring. It will be more difficult
to make wise choices in the absence of an overall budgetary framework.
And the current budget situation has dangers associated with it. The
emergence of significant cash-flow surpluses over the medium term will
create understandable pressures to use the funds for tax or spending
initiatives. However, most of the surpluses stem from the retirement
trust funds (tables 2 and 3), which prudent budgeting suggests should
not be used to finance other programs, and the long-term fiscal stance
is still negative (table 4).
Consideration of policy rules should take several factors into
account. First, there is a certain asymmetry in policy options. It is
always easier to reduce taxes later than to raise them. Second, new and
unforeseen policy priorities frequently arise, so prudent fiscal
management would suggest the equivalent of a ``reserve fund'' of some
sort. Third, both budget projections and economic forecasts are subject
to considerable uncertainty, which suggests another reason not to
commit all available resources immediately. A set of budget rules that
is consistent with these views would include the following:
<bullet> Reaffirm the commitment not to spend social security trust
funds on other programs.
<bullet> Reaffirm the votes taken last year that protect Medicare
Part A trust funds from being spent on anything other than hospital
insurance. This is especially important because the Bush administration
has not committed to this view.
<bullet> Accord similar protections to the balances in trust funds
for military and civilian pensions.
<bullet> Elevate the importance of budget outcomes over longer time
horizons by having CBO report its long-term forecast at the same time,
and in the same document, as the 10-year Outlook that is produced every
winter and the Update that is produced every summer.
<bullet> Adopt a proposal put forth recently by Robert Reischauer,
President of the Urban Institute (Reischauer 2001). Under the
Reischauer rule, Congress and the President would establish a benchmark
surplus measure and would only allow themselves to commit a certain
percentage of projected benchmark surpluses to new spending or tax
cuts, with the percentage declining over the 10-year horizon.
Reischauer suggests the benchmark surplus should be the non-social
security, non-medicare surplus, and that 80 percent of the benchmark
surplus projected in years 1 and 2 would be available, 70 percent in
years 3 and 4, and so on concluding with 40 percent of the benchmark
surplus in years 9 and 10. Making this adjustment would result in a 10-
year ``usable'' surplus of about $1.4 trillion (determined by applying
the Reischauer percentages to the appropriate figures in appendix table
1). The non-retirement trust fund surplus (thus removing government
pensions as well as social security and medicare) is an alternative
possible benchmark. In practice, this alternative definition does not
make a huge difference; the available surplus would be $1.2 trillion.
These proposals may not be as radical as they first appear. Last year,
for example, the House passed a resolution to devote 90 percent of the
coming year's surplus to debt reduction. This is merely an extreme
version of the Reischauer rule.
There has also been discussion of making tax cuts or new spending
programs contingent on actual budget surpluses in the previous year.
The ``trigger mechanism'' has an admirable goal-to ensure that Congress
does not promise more than it can afford. But I believe the Reischauer
rule would work better, for two reasons. First, a trigger mechanism
introduces uncertainty about future taxes. Second, if the goal is to
ensure that tax cuts can be paid for, the trigger mechanism may fall
short. A trigger mechanism would allow a tax cut in a given year, if
the surplus in the previous year surpassed a target level. The problem
is that the tax cut would typically be permanent (for example, if rates
were cut), but the surplus may only be temporary. The fact that the
surplus the previous year surpassed a target does not guarantee that
surpluses in future years will be sufficient to cover the permanent
costs of the tax cut. One way around this problem is to use the trigger
each year to generate a one-time tax rebate. The rebate would not be
repeated the following year, unless the surplus was sufficiently large.
This removes the question of whether the tax cut could be funded but
limits the scope of policy that could be undertaken.
B. TAX POLICY
Tax policy should be made inside of a budgetary framework that
recognizes the importance of other public policy goals-such as
education, health, defense, the refurbishing of social security and
medicare and so on. In addition, fairness, efficiency, and simplicity
remain the core principles of tax policy regardless of the size of the
surplus. A number of important tax policies are consistent with these
objectives and a prudent budget framework:
<bullet> Create a new, lower tax bracket of 10-12 percent, covering
a range of income broader than the 10 percent bracket proposed by
President Bush.
<bullet> Combine or integrate interactions between the child
credit, earned income credit, and personal exemption, along the lines
proposed by Sawhill and Thomas (2001), Ellwood and Liebman (2000) or
the Economic Policy Institute (2000). This would simplify taxes,
improve incentives to work and marry, and provide added resources to
low-income households. A crucial element would be to increase the
refundability of the child credit.
<bullet> Examine the potential for an income tax credit that is
based on payroll tax liabilities.
<bullet> Simplify the tax code by raising the standard deduction,
providing a uniform exclusion for capital gains income rather than the
complicated patchwork of capital gains tax rates we currently have, and
consolidating the various education programs and the various retirement
saving programs.
<bullet> Provide tax cuts to high-income taxpayers, and simplify
the tax system further, by removing hidden taxes and ``take back''
provisions. These taxes are imposed even when a taxpayer is complying
perfectly with the law, but ends up with what the law has deemed ``too
many'' deductions or ``too little'' income. These items adversely
affect incentives, raise little revenue and create unnecessary
complexity.
Personal exemptions are phased out for high-income taxpayers. Two
percent of the exemption is eliminated for each $2,500 or fraction
thereof that AGI exceeds certain thresholds. The total amount of
itemized deductions a taxpayer may claim is reduced by 3 percent of
households' income above certain (different) thresholds. These two
items can raise effective tax rates by more than 3 percentage points
above statutory tax rates, and should simply be repealed.
The major reason individuals get placed on the AMT is that they
have high deductions for state and local taxes or large families
(Rebelein and Tempalski 2000). This is hardly the egregious tax
sheltering behavior that the AMT was intended to capture. Either the
AMT exemption should be increased substantially (by $100,000) and
indexed for inflation, or the AMT should be abolished. However, before
abolishing it, Congress should study what sort of sheltering
opportunities would be created and act preemptively to close them off.
<bullet> Another way to assist high-income taxpayers is by
reforming the estate tax. The effective exemption could usefully be
raised and the rates brought down modestly. In addition, the exemptions
and rate brackets should be indexed for inflation. Making these changes
would provide room to eliminate the most egregious and abusive
sheltering practices, of which there are many. (See Gale and Slemrod
2001, or Schmalbeck 2000, for further discussion.)
It would also make sense to decide whether the expiring tax
provisions should be made permanent or should be abolished. Finally,
there has been substantial discussion of tax rebates. Rebates have the
advantage that they can be administered immediately, and they make the
most sense either if Congress desires to put money in citizens' hands
quickly, or if a tax cut is made contingent upon the size of a surplus.
However, as discussed above, tax policy is generally not a useful
counter-cyclical policy tool, and making a tax cut contingent on the
size of the surplus introduces unnecessary uncertainty.
REFERENCES
Auerbach, Alan. 1994. ``The U.S. Fiscal Problem: Where We Are, How
We Got Here, and Where We're Going,'' in Stanley Fischer and Julio
Rotemberg, eds. NBER Macroeconomics Journal. Cambridge, MA.
Auerbach, Alan. 1997. ``Quantifying the Current U.S. Fiscal
Imbalance.'' National Tax Journal, 50(3):387-98.
Auerbach, Alan, and William Gale. 1999. ``Does the Budget Surplus
Justify Big Tax Cuts?: Updates and Extensions.'' Tax Notes, October
18:369-376.
Auerbach, Alan, and William Gale. 2000. ``Perspectives on the
Budget Surplus.'' National Tax Journal, 53(3):459-72.
Auerbach, Alan, and Kevin A. Hassett. 2000. ``Uncertainty and
Design of Long-Run Fiscal Policy,'' in Alan J. Auerbach and Ronald D.
Lee, eds. Demographic Change and Fiscal Policy. Cambridge, UK:
Cambridge University Press.
Bush-Cheney 2000 Campaign. 2000. ``A Tax Cut with a Purpose.''
http://www.georgewbush.com/Media/PDFs/tax.pdf
Cherry, Robert and Max B. Sawicky. 2000. ``Giving Tax Credit Where
Credit is Due. A `Universal Unified Child Credit' that expands the EITC
and cuts taxes for working families.'' Economic Policy Institute
Briefing Papers.
Citizens for Tax Justice. 2001. ``Bush Tax Plan Benefits are
Similar to Campaign Proposal: Skewed Toward Wealthy.'' http://
www.ctj.org/pdf/bush0201.pdf, February.
Congressional Budget Office. 1983. ``Baseline Budget Projections
for Fiscal Years 1984-1988.'' Washington, D.C.: U.S. Government
Printing Office, February.
Congressional Budget Office. 1999. ``Preliminary Estimates of
Effective Tax Rates.'' Washington, D.C., September.
Congressional Budget Office. 2001. The Budget and Economic Outlook:
Fiscal Years 2002-2011. Washington, D.C.: U.S. Government Printing
Office, January.
Ellwood, David T. and Jeffrey B. Liebman. 2000. ``The Middle Class
Parent Penalty: Child Benefits in the U.S. Tax Code.'' NBER Working
Paper 8031. December.
Gale, William G. and Joel B. Slemrod. 2001. ``Rethinking the Estate
and Gift Tax: Overview.'' Brookings Institution. http://www.brook.edu/
views/papers/gale/20010126.pdf, January.
Greenstein, Robert. 2001. ``How Would Families at Different Income
Levels Benefit From the Bush Tax Cut?''. Center on Budget and Policy
Priorities. http://www.cbpp.org/2-6-01tax3.pdf, February.
Greenstein, Robert, and Richard Kogan. 2001. ``What the New CBO
Projections Mean: Can the New Surplus Projections Accommodate a Large
Tax Cut?''. Center on Budget and Policy Priorities. http://
www.cbpp.org/1-31-01bud.pdf, January.
Greenstein, Robert, and Isaac Shapiro. 2001. ``Taking Down the Toll
Booth to the Middle Class?: Myth and Reality Governing the Bush Tax
Plan and Lower-income Working Families.'' Center on Budget and Policy
Priorities. http://www.cbpp.org/2-5-01tax.pdf, February.
Joint Committee on Taxation. 2000a. ``Estimated Revenue Effects of
Various Provisions Described as the `George W. Bush Tax Reduction
Proposal.' '' May.
Joint Committee on Taxation. 2000b. Memorandum from Paull to Mays,
Buckley, and Davis on Revenue Request, September.
Lerman, Allen H. 1998. ``Average and Marginal Federal Income,
Social Security and Medicare, and Combined Tax Rates for Four-Person
Families at the Same Relative Positions in the Income Distribution,
1955-1999.'' Office of Tax Analysis Report. January.
Lindsey, Lawrence B. 1999. Economic Puppetmasters: Lessons from the
Halls of Power. Washington, D.C.: The AEI Press.
Munnell, Alicia and Annika Sunden. 1999. ``Investment Practices of
State and Local Pension Funds: Implications for Social Security
Reform.'' Center for Retirement Research, Boston College, WP 1999-01.
April.
Orszag, Peter R. 2001a. ``How the Bush Tax Cut Compares in Size To
the Reagan Tax Cuts.'' Center on Budget and Policy Priorities. http://
www.cbpp.org/2-6-01tax2.pdf, January.
Orszag, Peter R. 2001b. ``The Budget and Long-Term Fiscal Policy'':
Testimony Before the Senate Budget Committee. February 7.
Rebelein, Robert and Jerry Tempalski. 2000. ``Who Pays the
Individual AMT?'' Office of Tax Analysis Paper 87, June.
Reischauer, Robert D. 2001. ``Stop Them Before They Overspend
Again.'' New York Times, February 8, A31.
Sawhill, Isabel, and Adam Thomas. 2001. ``A Tax Proposal for
Working Families with Children.'' Brookings Institution: Welfare Reform
and Beyond Policy Brief No.3. January.
Schmalbeck, Richard. 2000. ``Avoiding Federal and Wealth Transfer
Taxes.'' in William G. Gale and Joel B. Slemord, eds. Rethinking the
Estate and Gift Tax. Washington, DC: Brookings Institution Press.
forthcoming
Shapiro, Isaac, Allen Dupree, and James Sly. 2001. ``An Estimated
12 Million Low- and Moderate-Income Families--with 24 Million
Children--Would Not Benefit from Bush Tax Plan.'' Center on Budget and
Policy Priorities. http://www.cbpp.org/2-7-01tax.pdf, February.
Taylor, John B. 2000. ``Reassessing Discretionary Fiscal Policy''.
Journal of Economic Perspectives 14(3):21-36.
Tempalski, Jerry. 1998. ``Revenue Effects of Major Tax Bills.''
Office of Tax Analysis Paper 81, December.
Wall Street Journal. 2001. ``Progressive Plunder.'' Wall Street
Journal, February 6, A18.
White House Press Office. 2001. The President's Agenda for Tax
Relief. http://www.whitehouse.gov/news/reports/taxplan.pdf, February.
TABLE 1.--PRESIDENT BUSH'S CAMPAIGN PROPOSALS FOR NEW SPENDING: 2001-
2010
------------------------------------------------------------------------
$ Billions
------------------------------------------------------------------------
Medicare Prescription Drugs and Reform.................. 158.0
Additional Medicare..................................... 40.3
Health.................................................. 131.9
Defense................................................. 45.0
Education............................................... 47.6
Compassion/Charity...................................... 23.9
Agriculture............................................. 7.6
Housing/IDAs............................................ 6.6
Environment............................................. 5.3
Crime................................................... 0.7
Other Domestic.......................................... 7.8
Subtotal.......................................... 474.6
Less Savings from Government Reform..................... -196.4
Total Spending.................................... 278.2
------------------------------------------------------------------------
Source: Bush Campaign. September 5, 2000. ``Bush Budget 2001-2010,''
http://www.georgewbush.com/Media/PDFs/SummaryBudgetSept052000.pdf.
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Chairman Nussle. Mr. Mitchell.
STATEMENT OF DANIEL J. MITCHELL
Mr. Mitchell. Thank you. If I could submit my full
testimony for the record and just focus on the highlights.
I'd like to address four questions. One, is the economic
forecast being used to guide policy accurate? Two, are there
policies that can affect the economy's performance? Three, what
is the best use of surplus? And four, is Government debt a
serious problem?
The first question I think is easy to answer. Neither CBO
nor OMB are going to get it right. But it doesn't matter, so
long as we assume that the errors are random and that the
average long term growth rate is somewhere close to what
they're projecting. If you look at the CBO and OMB forecast
compared to the consensus blue chip forecast and other
estimates that are out there, I don't think there's any reason
to believe that there's a rosy scenario, so to speak. If
anything, they're probably understating growth rate and
understating the amount of revenue that's going to come flowing
in in the next 10 years, in large part because they make an
assumption that taxes as a percent of GDP, assuming no changes
in policy, are going to decline, when of course normally you
would expect taxes as a share of GDP to rise slightly because
our tax system imposes higher rates on people as their income
climbs.
The second question is whether certain policies affect the
economy's performance. I think this is much more important. And
I think it's important because some people are incorrectly
assuming that the economy's growth path and therefore the
revenues that are going to come in are somehow independent of
the fiscal policy decisions that will be made in the near
future. I think this is a big mistake. Substantial reductions
in tax rates will of course improve the economy's performance.
As economists, we all may disagree on the amount of
additional growth that will be generated when tax rates are
reduced. But one will be hard pressed to find a credible
economist who would argue that there is no impact whatsoever.
Likewise, if we reduced the tax code's bias against savings and
investment, we are going to see positive economic results from
that. This is why the elimination of the death tax is going to
cause an increase in economic output. This doesn't even
consider the dramatic reduction in compliance costs and the
substantial improvement in the efficiency of investment if the
death tax disappears.
Tax policy is important, but it's not the only thing that
can have an effect on the economy's long term performance and
therefore the tax revenues that will be generated by the
economy. Social security reform is something that lawmakers are
very likely going to address in the next 2 years. That could
have a profound impact. If we make a transfer from a pay-as-
you-go system that reduces employment and lowers national
savings to a system based on personal accounts, as so many
other countries have done, we would very likely see substantial
long term benefits.
Then of course, no discussion of the economy's performance
and the budget would be complete without addressing the size of
Government. Regardless of whether Government is financed by
taxes or by borrowing, you're shifting resources from the
productive sector of the economy to the Government. Unless
you're willing to believe that Government spending is more
efficient than private spending, you're very likely causing
some substantial drag on the economy. And as a result, if there
can be even a modest level of fiscal discipline, such as
holding the aggregate growth of spending to 4 percent a year,
that should create benefits compared to allowing spending to
grow faster.
This of course plays into the whole issue of dynamic
scoring. The President in effect in his budget has taken a
worst case scenario, assuming that his tax cuts and other
proposals to reform the economy are going to have zero economic
impact, zero benefit and of course, our economic history in the
U.S., world economic history shows that countries that move to
lower tax rates and more fiscal discipline will grow faster and
perform better. Therefore, it's very, very likely that the
President's tax cut will actually have a revenue loss of much,
much less than $1.6 trillion, whether it's 33 percent less, 50
percent less, no one's going to know the exact answer. But we
know from history that it will be substantially less.
The third question is how best to use the surplus. I
actually think in some sense this is the wrong issue. Whether
or not we have a surplus or deficit is not nearly as important
as whether we have a tax code that rewards productive behavior
or at least doesn't punish it as heavily. It's not as important
as whether or not we can modernize the Social Security system
to address the huge long term problems that Mr. Gale pointed
out. And it's not as important as whether or not we can reduce
the size of Government and the burden it imposes upon the
American economy.
In short, deficits and surpluses do not have much impact on
the economy's performance. Self-proclaimed debt hawks assert
that fiscal balance is important, because interest rates will
remain low, yet there is virtually no empirical evidence for
that proposition. Indeed, the evidence actually suggests that
both fiscal balance and interest rates are dependent on the
economy, not vice versa. In other words, a healthy economy will
generate the tax revenues that balance the budget, but a
healthy economy will also probably create attractive investment
opportunities and this will tend to bid up interest rates.
If we like low interest rates, we should go back to the
Great Depression. Real interest rates were very, very low at
the time, because no one wanted to borrow any money, because
there was nothing to invest in. Moreover, the idea that changes
in our fiscal balance are going to have a dramatic impact on
interest rates is rather questionable, given the sheer
magnitude of international capital markets. Can anyone
seriously believe that a $50 billion to $100 billion shift in
the U.S. annual fiscal balance will have a noticeable impact in
interest rates, when more than $2 trillion changes hands every
day in world financial markets?
But having issued all these caveats that the surplus or the
deficit isn't the appropriate measure, let me now talk about
what I think is the best use of the surplus. Tax cuts,
specifically lower tax rates and reduction in the double
taxation of income that is saved and invested, will improve the
economy's performance and thereby create more opportunities for
American families. Indeed, because certain tax cuts will have
significant supply side effects, the amount of tax relief can
actually be much larger than the package proposed by the
administration. The $1.6 trillion figure, as I mentioned, is
based on static estimates and therefore greatly overstates the
actual revenue left to the Treasury.
Social Security is another very desirable use of the
surplus. But frankly, it should happen even if we didn't have a
surplus. Simply stated, the current system faces two big
crises. The first crisis is the long term deficit, the second
crisis is that it's a bad deal for workers. They have to pay
record levels of taxes into the system, and they get very
meager benefits in exchange.
I think America should learn from countries like Australia,
Sweden, Chile, England, countries all over Latin America, all
around the world, that are shifting to personal retirement
accounts. These professionally managed personal retirement
accounts are allowing workers to build up nest eggs that will
give them comfort and security in retirement.
Now, of course, an important component of any Social
Security reform plan is to hold all current retirees and older
workers completely harmless. In other words, the Government
should fulfill its part of the contract and give them all the
benefits they've been promised. This guarantee could be
fulfilled, as other countries have shown, even if there wasn't
a surplus. But certainly, having all this extra tax revenue
coming into Washington will make this commitment very easy to
discharge.
This brings us to my final question, which is, what about
the national debt? Shouldn't we use all the surplus to pay down
the national debt? I would argue that the national debt is only
a minor irritant. At just over $3 trillion, it is a small
fraction of our annual income. Compared to other nations, our
national debt is trivial. And the burden of debt will continue
to keep falling, even if we don't redeem a single bond, so long
as the economy continues to grow.
The national debt today, for example, is much bigger than
the debt we had at the end of World War II. But because our
economy has expanded so much in the last 50 years, the burden
of debt measured as a share of GDP is less than one-third of
its World War II high. The real debt problem, for those
concerned about debt, is of course Social Security. The long
term deficit in Social Security, even after adjusting for
inflation, is more than $20 trillion. That's seven times
bigger, roughly, than our national debt.
This of course is a debt that does threaten future
generations, assuming we don't want massive payroll tax
increases or massive benefit cuts, this is the debt, this is
the issue that our surplus should be at least in part dedicated
to solving.
Now, some critics complained that shifting to personal
accounts will use up the surplus, make it harder to pay off
debt. But this is akin to not removing a tumor for fear of
leaving a scar. Social Security reform may use up some of
today's surpluses, but the long term reduction in the program's
unfunded liability makes this one of the most effective
investments that lawmakers can make.
In effect, Social Security reform is like refinancing a
mortgage when interest rates drop. Yes, there may be some
upfront costs, the transition expense of fulfilling the
contract with older workers and current retires. But the long-
term savings will more than make up for that short-term cost.
This is why it is so misleading to talk about the cost of the
transition to Social Security reform. If lawmakers consider the
total impact on Government finances, Social Security is a big
money saver. But more importantly, it's good for the American
people.
Thank you for the opportunity to discuss these questions.
[The prepared statement of Daniel Mitchell follows:]
Prepared Statement of Daniel J. Mitchell, McKenna Senior Fellow in
Political Economy, the Heritage Foundation
Mr. Chairman, members of the committee, thank you for the
opportunity to testify on the economic and budget outlook. I must
stress, however, that the views I express are entirely my own and
should not be construed as representing any official position of The
Heritage Foundation. I would like to focus on four key questions:
1. Is the economic forecast being used to guide policy accurate?
2. Are there policies that can affect the economy's performance?
3. What is the best use of the surplus?
4. Is government debt a serious problem?
The first question is easy to answer. Neither the CBO forecast nor
the OMB forecast is accurate. But the fact that economists have never
been able to predict the economy's short-term performance is not a
cause for concern-as long as there is reason to believe that the errors
are random and balance out over time.
In other words, a forecast is a good guide for policymakers if the
average annual growth rate over the 10-year period is reasonably close-
perhaps within 0.5 percentage points-to what actually happens. Using
this more sensible performance standard, both CBO and OMB are basing
their economic estimates on very reasonable predictions of the two key
components of real GDP-population growth and productivity gains.
As such, there is no reason to believe that either forecast is
systematically optimistic. Indeed, it is more likely that they are
understating revenue growth over the next ten years-and thereby low-
balling the surplus. This is not because the growth estimate is
necessarily too pessimistic, but rather because the forecasts assume
that tax revenues as a percent of GDP will decline slightly from
today's record levels.
This is somewhat puzzling. As long as real income is increasing,
and as long as we have a tax code that imposes harsher penalties on
people for earning more income, tax collections should slowly climb as
a share of economic output. The fact that the forecasts show just the
opposite indicates that CBO and OMB are making some rather interesting
assumptions. These assumptions may be reasonable, but this is an issue
the committee may want to investigate.
The second question is whether certain policies can affect the
economy's performance. This is a much more important topic to address.
Many policymakers incorrectly are assuming that the economy's growth
path is somehow independent of the fiscal policy decisions that will be
made in the near future.
This is a mistake. Substantial reductions in tax rates will improve
the economy's performance. Economists may disagree over the amount of
additional growth that will be generated when tax rates are reduced,
but one would be hard-pressed to find a credible economist who would
say there is no effect. Likewise, one would find even stronger
agreement that the economy will grow faster if lawmakers reduce the tax
code's bias against savings and investment. This is why elimination of
the death tax will result in additional economic output, particularly
if the dramatic reduction in compliance costs and substantial
improvement in the efficiency of investment are included in the
estimate.
Tax policy is important, but it is not the only economic policy
variable that deserves attention. Social Security reform could have
profound consequences on future economic performance. The current
system, a pay-as-you-go, tax-and-transfer scheme, reduces employment
and lowers national saving. If America does what so many other
countries have done and shifts to a system of personal retirement
accounts, the impact on the economy's long-term performance would be
quite significant.
Finally, no discussion of economic growth would be complete without
addressing the size of government. Regardless of whether it is financed
through taxes or borrowing, government spending represents a transfer
of resources from the private sector to the public sector. If
government spends that money in a way that generates a sufficiently
high rate of return, the economy will benefit. If the rate of return is
below that of investments in the private sector, however, then the rate
of growth will be slower than it otherwise would have been.
Unfortunately, most analyses indicate that the vast majority of
government programs have low rates of return. Thus, if lawmakers can
reduce the size of government-or at least limit its growth to 4%
annually-this could free up resources that could be more efficiently
used by the productive sector of the economy.
What does all this mean? If tax rates are lowered and the death tax
is repealed, the economy will grow faster. This will enable more
families to climb the ladder of opportunity. More important, for
purposes of this committee, it will mean that tax cuts will not result
in nearly as much foregone revenue as static forecasts suggest. My
colleagues at The Heritage Foundation estimate that roughly half of the
lost revenue will be recaptured as a result of improved economic
performance. In simple terms, if a tax cut results in more income to
tax, then there will be some level of revenue feedback. Similar
``supply-side'' estimates have been produced by economists at Harvard
University and the American Enterprise Institute.
The third question is how best to use the surplus. This is the
dominant debate on Capitol Hill, but it actually is a greatly overblown
issue. Whether or not we have a surplus or a deficit is not nearly as
important as whether we have a tax code that rewards productive
behavior. It is likewise not as important as whether we can modernize
the Social Security system. And it is not as important as whether we
can impose some greatly needed discipline on the spending side of the
budget.
In short, deficits and surpluses do not have much impact on the
economy's performance. Self-proclaimed debt hawks asset that fiscal
balance is important because interest rates will remain low, yet there
is virtually no empirical evidence for this proposition. Indeed, the
evidence actually suggests both fiscal balance and interest rates are
dependent on the economy, not vice versa. In other words, a healthy
economy will generate the tax revenues that balance a budget, but a
healthy economy also will create attractive investment opportunities,
and this will tend to bid up interest rates.
Moreover, changes in our fiscal balance are dwarfed by the sheer
magnitude of international capital markets. Can anyone seriously
believe that a $50 billion-$100 billion annual shift in the U.S. fiscal
balance will have a noticeable impact on interest rates when more than
$2 trillion changes hands every day in world financial markets?
Having issued caveats as to why this is not the right question, let
me now suggest the best way to use the surplus. Lawmakers should focus
on policies that will produce the greatest benefits for the people.
This suggests both tax cuts and Social Security reform.
Tax cuts, more specifically lower tax rates and a reduction in
double taxation of income that is saved and invested, will improve the
economy's performance and therefore create more opportunities for
families to prosper. Indeed, because certain tax cuts have significant
supply-side effects, the amount of tax relief can be much larger than
the package proposed by the Administration. Remember, the $1.6 trillion
figure is based on a static revenue estimate and the actual revenue
loss will be far less than that amount.
Social Security reform is another desirable use of the surplus,
though it should happen even if there were no surplus. Simply stated,
the current system faces two crises. The first crisis is the gigantic
long-term deficit. According to Social Security Administration figures,
the inflation-adjusted deficit between 2015 and 2075 is a staggering
$21.6 trillion. The other crisis is the fact that Social Security is an
increasingly bad deal for workers. They are required to pay a record
level of taxes into the system, but the benefits they are promised upon
retirement are very meager.
America should learn from countries like Australia, Sweden, Chile,
and England. Workers should be allowed to shift some portion of their
payroll tax burden into a professionally managed personal retirement
account. These private accounts would enable today's workers to build a
substantial nest egg that will provide a secure and comfortable income
upon retirement.
An important component of any reform plan, however, is that current
retirees and older workers should be given every penny of benefits that
currently are promised. This guarantee could be fulfilled even if we
did not have a surplus, but the extra money certainly will make this
commitment easy to discharge.
Some would argue that the surplus should be used to reduce the
national debt, which leads us to the final question. More specifically,
is government debt a problem? The answer is yes, but not for the reason
most people usually cite.
America's national debt is a minor irritant. At just over $3
trillion, it is a small fraction of our annual income. Indeed, compared
to other industrialized nations, our national debt is inconsequential.
And the burden of debt will keep falling even if we don't redeem a
single bond-so long as the economy continues to grow. The national debt
today, for example, is much bigger than the debt that was built up
during World War II. But because our economy has expanded so much in
the last 50+ years, the burden of the debt-measured as a share of GDP-
is only one-third of its post-World War II high.
The real debt problem facing America is Social Security's unfunded
liability. The program's long-term deficit is more than $21 trillion,
roughly seven times bigger than the official national debt. This is the
debt that threatens the well-being of future generations. And this is
why Social Security reform is the issue that debt hawks should
champion.
Critics complain that shifting to personal accounts will use up
some of the surplus and therefore make it harder to pay off the debt.
This is akin to not removing a tumor for fear of leaving a scar. Social
Security reform may use up some of today's surplus, but the long-term
reduction in the program's unfunded liability makes this one of the
most effective investments that lawmakers can make.
Social Security reform is like refinancing a mortgage when interest
rates drop. Yes, there may be some up-front costs, but the long-term
savings will dwarf the short-term expense. This is why it is so
misleading to talk about the ``cost'' of transitioning to a system of
personal accounts. If lawmakers considered the total impact on
government finances, Social Security reform is a big money-saver.
Thank you for the opportunity to discuss these important issues,
and I look forward to answering any questions.
Chairman Nussle. Thank you, Mr. Mitchell. Mr. Bartlett.
STATEMENT OF BRUCE BARTLETT
Mr. Bartlett. Thank you, Mr. Chairman.
I would just like to make three brief points. First, I
believe that the estimated revenue loss that we keep hearing
about, and which keeps getting inflated every time I hear it,
is way, way too high. Because all these estimates are so-called
static estimates, they assume that the tax cut that is being
considered will have no macroeconomic effect on the economy--no
effect on GDP growth, no effect on productivity, no effect on
anything.
I think this is a very unreasonable assumption. The House
of Representatives also believes this. Six years ago, the House
voted to allow the Joint Committee on Taxation to take into
account macroeconomic effects in its revenue forecast, upon
request. For reasons I don't know, no one has ever asked them.
They've hired new economists, they've done research on this
matter precisely for this purpose. And I believe now is a very
good time to do this.
I do not know what figures they will come up with. I don't
know what the figures would be. I do know that there are some
published estimates. The Heritage Foundation, which Dan
represents, believes that the faster economic growth resulting
from this tax cut will recoup almost half of the static revenue
loss, with the loss being less than $1 trillion over 10 years.
Recently, Martin Feldstein, using the National Bureau of
Economic Research model, estimated that about 35 percent of the
revenue would be recouped. This is a very standard estimate.
You can get it out of any textbook. Basically any textbook will
tell you you'll get back about 35 percent from faster
consumption and therefore faster economic growth. That doesn't
even take into account any supply side effects.
Therefore, I think the static revenue figures we've heard
here are absolutely a minimum of 35 percent too high. If the
committee wanted to make an assumption of 25 percent, I think
that would be extremely conservative and well within the bounds
of what is acceptable in academic theory. I append to my
testimony a long list of articles in prominent academic
journals that point out almost universally that dynamic
scoring, that does take into account macroeconomic effects, is
feasible. There are of course questions about it. But I think
that this is a very good time to institute this for budgetary
purposes.
Second, I'd like to make the point that I believe that the
baseline revenues which we are all discussing are way, way too
low. For reasons I don't understand, both the CBO and OMB are
estimating that over the next 10 years, Federal revenues will
grow at a rate slower than GDP. This is simply contrary to all
evidence and all logic. Since 1963, Federal revenues have risen
about 4 percent faster than GDP. Since 1986, they've risen 18
percent faster than GDP. And since 1993, they've risen, I
believe, 37 percent faster than GDP.
I think a very reasonable assumption would be that some of
the post-1993 bulge in revenues was due to one-time factors. So
if you simply stick with the post-1986 trend, we're looking at
18 percent more revenues--revenues growing 18 percent faster
than GDP--over the foreseeable future. If you calculate it out,
this gives you about $2.1 trillion of additional revenue in the
baseline than is currently being projected.
Now, that's more than enough to pay for this tax cut. And
you'd still have exactly the same amount of revenue that is
currently being forecast without a tax cut.
Lastly, I would point out to people who worry, I think
excessively, about the potential risks of enacting a large tax
cut such as this, much of this discussion in effect implies
that we only do a budget once every 10 years. So we worry, I
think, very, very excessively about things that are going to
happen so far into the future they are absolutely not worth
thinking about. The history of this Congress is that when
there's a need for additional revenues, it has not shown any
resistance to enacting tax increases.
Over the last 20 years, there have been 15 major tax bills
that have been passed into law. And of those, only four were
tax cuts, and two of them were trivial, and one was very small.
Only the 1981 tax cut was substantial.
So I would say that this means there really is no need for
a trigger mechanism. If there is some reason why additional
revenues are needed in the future, Congress should simply pass
a tax increase at that time. Thank you.
[The prepared statement of Bruce Bartlett follows:]
Prepared Statement of Bruce Bartlett, Senior Fellow, National Center
for Policy Analysis
Mr. Chairman, there are three major points I would like to make
this morning regarding the budgetary implications of President George
W. Bush's proposed tax cut.
First, the estimated revenue loss from it is too high, because the
published estimates do not take into account the macroeconomic impact
of the tax cut.
Second, I believe that the baseline revenue forecast is too low,
meaning that the impact of the tax cut on the surplus is too high.
Third, the tax cut is being treated as if it will be a permanent
feature of our tax system for all time. In the event that budgetary or
economic circumstances change, it can be changed in the future.
SCORING TAX CUTS
As this Committee well knows, the impact of tax changes on
aggregate revenues is highly uncertain. I believe that a key reason for
this is that the revenue estimators use static scoring methods that
ignore the macroeconomic effect of tax changes. Use of dynamic scoring,
which is permitted under House rules, would give a more accurate
estimate of proposed tax changes.
The basic issue is this. Large tax cuts, of the sort currently
being proposed, stimulate economic growth. There is really no debate
about this in the economics profession. The only question is how much
will growth be stimulated. Clearly, there is great disagreement about
this, owing mainly to inadequate statistical techniques for measuring
different sorts of tax cuts. For example, a tax rebate and a permanent
tax rate reduction of equal dollar size on a static basis will have
very different effects on growth, both in the long- and short-term. But
it is very hard for existing macroeconomic models to capture these
effects.
In recent years, there has been considerable discussion of tax
scoring methodology in prominent academic journals. Almost all agree
that dynamic scoring is feasible, although there are important
questions still to be resolved about how to do it and when. (I append
to my testimony a bibliography of academic research on dynamic
scoring.) But the basic point is undeniable that the tax cut currently
under consideration by Congress will raise growth by some degree, thus
reducing its net revenue loss.
In a recent study, the Heritage Foundation, utilizing the well-
respected WEFA econometric model, estimated that faster economic growth
will recoup almost half the static revenue loss (www.heritage.org/
library/cda/cda01-01.html). Over a 10-year period, the static revenue
loss is estimated at $1.8 trillion. But this loss falls to $939 billion
once faster growth is taken into account.
The Heritage estimate is probably a little on the high side, I
admit. But it is very common for economists to get about 35 percent
revenue reflow from a tax cut of this type. For example:
<bullet> In 1981, Richard Musgrave, dean of American public finance
economists, told the Joint Economic Committee that the Reagan tax cut
would recoup 30 to 35 percent of the static revenue loss.
<bullet> In 1996, Lawrence Chimerine, chief economist of the
Economic Strategy Institute, wrote that ``credible evidence
overwhelmingly indicates that revenue feedback from tax cuts is 35
cents per dollar'' (Washington Post, 7-23-96).
<bullet> Just a few days ago, Martin Feldstein, Harvard professor
and president of the National Bureau of Economic Research, found that
the Bush plan would only lose 65 percent of its officially estimated
revenue loss (Wall Street Journal, 2-16-01).
I don't know what the correct reflow assumption is, but I know with
certainty that it is not zero. Ideally, I would like to see the Joint
Committee on Taxation and the Congressional Budget Office work together
to come up with a dynamic estimate. Six years ago, the House amended
its rules to allow such an estimate to be made, but in all the years
since, no one has ever asked. I think now is the time. Even if the JCT
comes up with an estimate more conservative than those cited above, it
will still give a better picture of the impact of the tax cut on budget
totals than we have now.
BASELINE REVENUES
The failure to use dynamic scoring inflates the budgetary size of
the proposed tax cut. But from the point of view of this Committee, the
absolute budgetary levels are also of concern. In this respect, I
suggest that the baseline revenue forecasts, both from CBO and OMB, are
underestimating future revenue growth. Hence, even if the tax cut loses
as much revenue as the static forecast projects, revenues may still
rise by a greater rate than projected. In short, there may well be more
revenue available for a tax cut, debt reduction and spending growth
than currently assumed.
Historically, revenue growth has closely tracked nominal GDP
growth. Since 1963, for every one percent rise in nominal GDP, revenues
have risen by 1.04 percent. Since the Tax Reform Act of 1986, the
elasticity has been slightly higher at 1.18 percent. Since the 1993 tax
rate increase, the elasticity has grown still more to 1.37 percent. In
other words, since 1993 federal revenues have increased 37 percent
faster than GDP. That is the reason why revenues as a share of GDP have
risen from 17.6 percent in 1993 to 20.6 percent last year.
Given this highly consistent trend, broken only by recession
periods, it is very odd that both CBO and OMB are projecting future
revenues to rise by less than the growth of GDP. Over the next five
years, CBO estimates that nominal GDP will grow 5.2 percent per year on
average, whereas individual income tax revenues are projected to grow
only 4.7 percent per year. In other words, CBO expects revenues to grow
10 percent more slowly than GDP will grow over the next five years. OMB
is even more pessimistic about revenue growth, stating that it projects
revenue growth ``to lag GDP growth throughout a multi-year period to a
degree generally experienced only during recession.''
Both CBO and OMB base much of this pessimism on an anticipated
decline in capital gains realizations, owing to the fall in the stock
market. However, the principal reason why revenues have historically
grown faster than GDP is because of the progressive nature of the tax
code. Although the personal income tax is largely indexed to inflation,
it is not indexed for real economic growth. As real incomes rise,
workers are pushed up into higher tax brackets in the same way
inflation used to. Thus as long as there is real GDP growth, we will
still get bracket creep.
A reasonable approach to forecasting revenues would leave out the
recent revenue bulge resulting from exceptionally large capital gains
realizations. But I think that the post-1986 trend for revenues, in
which they grew 18 percent faster than GDP, is far more likely than the
excessively conservative forecasts of OMB and CBO. On this basis, the
federal government can expect $2.1 trillion in additional revenue, over
and above that presently estimated, between now and 2011. That is more
than enough to pay for President Bush's tax cut and still run surpluses
as large as currently projected without the tax cut.
FUTURE RISKS
The foregoing analysis indicates that President Bush's proposed tax
cut is easily affordable. Nevertheless, some members have expressed
concern that unforeseen events might alter that view. They suggest that
the tax cut should be subject to some sort of trigger mechanism. If
budget surpluses don't emerge as expected, the tax cut would be
canceled.
I think the trigger idea is utterly unworkable. The principal
economic benefit of lowering marginal income tax rates is so that
people will change their behavior in ways that will increase work,
saving and investment. For example, someone might seek additional
education or training in response to the prospect of keeping more of
their future income. Adding a high degree of uncertainty to whether
legislated lower tax rates will emerge defeats this purpose.
Of course, future tax rates are always uncertain to some degree.
Congress can and does change rates and other features of this tax code
from time to time. This is another reason why triggers are undesirable.
In the event that economic or political circumstances change in the
future, Congress can always pass new tax legislation, raising revenues
if necessary.
Some would suggest that this is unrealistic, because it is easier
to cut taxes than to raise them. However, this view conflicts with the
experience of recent history. According to a recent Treasury Department
study (www.ustreas.gov/ota/ota81.pdf), there have been 15 major tax
bills since 1980. Of these, 11 were tax increases. Ronald Reagan, the
arch tax cutter, signed into law 6 of them, including the Tax Equity
and Fiscal Responsibility Act of 1982, one of the largest tax increases
in history. And of the 4 tax cuts, only the Economic Recovery Act of
1981 was significant.
Therefore, I would suggest that raising taxes is not nearly as
difficult as it is painted. True, many of these tax increases occurred
as the result of tense budget negotiations. But in most cases, the tax
increase portion of those budget packages was their least controversial
element. Of course, there are exceptions, as in 1990 and 1993. But the
point still holds that Congress has shown a willingness to raise taxes
by large amounts in recent years, when it felt that budget
circumstances warranted it. Those who favor a tax trigger implicitly
assume that Congress cannot or will not do the same in the future.
CONCLUSION
I believe that the proposed tax cut is affordable and necessary.
Without it, the tax burden will rise from a level that is already
extraordinarily high by historical standards. I believe it will help
improve the performance of the American economy in future years, and is
appropriately designed both in size and structure.
APPENDIX
LITERATURE ON TAX SCORING METHODOLOGY
Auerbach, Alan J. 1993. Public Finance in Theory and Practice. National
Tax Journal, vol. 46, no. 4 (December): 519-526.
Auerbach, Alan J. 1996. Dynamic Revenue Estimation. Journal of Economic
Perspectives, vol. 10, no. 1 (Winter): 141-157.
Bartlett, Bruce. 1996. The Case for Dynamic Scoring. Wall Street
Journal (July 30).
Bartlett, Bruce. 1997. A Victory for Supply Siders. Wall Street Journal
(January 23).
Bopp, Michael D. 1992. The Roles of Revenue Estimation and Scoring in
the Federal Budget Process. Tax Notes, vol. 56, no. 12
(September 21): 1629-1652.
Congressional Budget Office. 1978. Understanding Fiscal Policy.
Washington: U.S. Government Printing Office.
Congressional Budget Office. 1982. How Changes in Fiscal Policy Affect
the Budget: The Feedback Issue. Washington: U.S. Government
Printing Office.
Congressional Budget Office. 1995. Budget Estimates: Current Practices
and Alternative Approaches. CBO Papers (January).
Congressional Budget Office. 1998. Projecting Federal Tax Revenues and
the Effect of Changes in Tax Law. CBO Papers (December).
Engen, Eric, Jane Gravelle and Kent Smetters. 1997. Dynamic Models: Why
They Do the Things They Do. National Tax Journal, vol. 50, no.
3 (September): 657-682.
Feldstein, Martin. 1994. The Case for Dynamic Analysis. Wall Street
Journal (December 14).
Feldstein, Martin. 1995. Revenue Estimates Should Reflect the Effect of
Taxes on Work and Saving. In House and Senate Budget
Committees, Review of Congressional Budget Cost Estimating, pp.
191-194. Washington: U.S. Government Printing Office.
Feldstein, Martin. 1997. How Big Should Government Be? National Tax
Journal, vol. 50, no. 1 (June): 197-213.
Gravelle, Jane G. 1994. Dynamic Revenue Estimating. CRS Report for
Congress, 94-1000 S (December 14).
Joint Committee on Taxation. 1997. Joint Committee on Taxation Tax
Modeling Project and 1997 Tax Symposium Papers. Washington:
U.S. Government Printing Office.
Kies, Kenneth J. 1995. The Revenue Estimating Process-Letting in the
Light and Letting Out the Hot Air. Tax Notes, vol. 69, no. 3
(October 16): 373-375.
Lackman, Abraham M., and John M. Bryan. 1997. Does Dynamic Scoring
Work? Examining the Repeal of the New York State Real Property
Gains Tax. 1996 Proceedings of the National Tax Association,
pp. 308-313.
Lyon, Andrew B. 1996. Should We Be Afraid of Dynamic Revenue Estimates?
1995 Proceedings of the National Tax Association, pp. 207-213.
Mauskopf, Eileen, and David Reifschneider. 1997. Dynamic Scoring,
Fiscal Policy, and the Short-Run Behavior of the Macroeconomy.
National Tax Journal, vol. 50, no. 3 (September): 631-655.
Schwartzstein, Linda A. 1996. Smoke and Mirrors: Tax Legislation,
Uncertainty and Entrepreneurship. Cornell Journal of Law and
Public Policy, vol. 6, no. 1 (Fall): 61-93.
Slemrod, Joel. 1998. Methodological Issues in Measuring and
Interpreting Taxable Income Elasticities. National Tax Journal,
vol. 51, no. 4 (December): 773-788.
Sunley, Emil M., and Randall D. Weiss. 1992. The Revenue Estimating
Process. American Journal of Tax Policy, vol. 10, no. 2 (Fall):
261-298.
Triest, Robert K. 1998. Econometric Issues in Estimating the Behavioral
Response to Taxation: A Nontechnical Introduction. National Tax
Journal, vol. 50, no. 4 (December): 761-772.
Vasche, Jon David, and Hoang Nguyen. 1994. The Treatment of Feedback
Effects in Revenue Impact Analyses. Tax Notes, vol. 65, no. 5
(October 31): 599-618.
Williams, Brad, Kristin Szakaly and Jon David Vasche. 1996. Dynamic
State Revenue Impact Analysis: A View From California. 1995
Proceedings of the National Tax Association, pp. 214-221.
Chairman Nussle. Thank you very much, Mr. Bartlett. Thank
you to all the witnesses for their testimony.
Let me begin the questioning first with Mr. Gale. I want to
begin by clarifying something and really correcting something.
I recognize that you work in a think tank and fortunately or
unfortunately that's the kind of environment that makes this
environment look like the real world.
But here, I think being accurate, being direct is extremely
important. You stated that the President was proposing to pay
down $2 trillion in debt. That's certainly correct. That's more
debt repayment than has ever been achieved by any country in
the history of the world, but certainly that's more debt paid
down over a shorter period of time than in our Nation's
history.
Then you suggested though that there was an additional $574
billion that was being generated largely by the Social Security
surplus that the President was proposing to use for any purpose
at all. That's wrong. That is not accurate. The President's
budget is explicit that those funds can only be used for Social
Security. Now, you may disagree and we may all have
disagreements about how they would be used to modernize or
strengthen Social Security. But to suggest that they're being
put in the budget to be used for any purpose simply is not
correct.
I would begin by asking you, given that those funds are
being set aside, the Social Security funds, $574 billion, they
cannot be used to pay down debt without incurring significant
penalties. What would you propose to do with those funds?
Mr. Gale. Well, first, as a point of fact, my understanding
is that the money is not being used to pay down debt, this $574
billion, what we're rounding to----
Chairman Nussle. As I just stated, because we would incur
significant premium penalties if we tried to do so.
Mr. Gale. Well, OK, it's my understanding it's not being
used to pay down debt and that the money is ending up in this
so-called reserve fund of $842 billion.
Chairman Nussle. No, let me be clear, that is not. That is
a separate reserve fund, $574 billion, Social Security
surpluses, that's being set aside in its own reserve fund to be
used for Social Security.
Mr. Gale. All right, well, my----
Chairman Nussle. What would you propose to use those funds
for?
Mr. Gale. There's a number of things we can do with those
funds. The simplest thing is to note that State and local
governments currently hold $3 trillion of private assets,
including $2 trillion of equities. That is 10 percent of all
private equities in this country are held by State and local
governments.
Chairman Nussle. Held by governments or their pension
funds?
Mr. Gale. Their pension funds, but they are not self-
directed funds. They are invested by boards of trustees on
behalf of workers. Workers do not get to choose where these
things go. They're defined benefit plans.
These funds earn market rates of return, less than 2
percent of them----
Chairman Nussle. That's fine, so you think one use would be
for the Federal Government to buy equities, to buy stocks, to
buy private assets that are out there?
Mr. Gale. That's correct. The other----
Chairman Nussle. I think that's a good idea, but that's
certainly a legitimate point you make. But you would want to do
that through the Social Security system, right? You're not
saying to spend that for something other than Social Security?
Mr. Gale. Right, to invest it in order to address future
Social Security needs. That's a way of cordoning off the funds
in a way that they can't be spent.
Chairman Nussle. So you're with the President here, set
aside the funds, use them for Social Security?
Mr. Gale. Well, no, the President, the budget says the
administration is philosophically opposed to investing these
funds in private assets, even though the State of Texas invests
$20 billion on behalf of its workers.
Chairman Nussle. They're not supporting buying private
assets, and again, I don't want the Government out there buying
Microsoft stock or GE stock and to suggest that this is going
to be insulated from political influence I think is a misnomer.
Mr. Gale. If you'd let me finish my----
Chairman Nussle. Insofar as setting aside the funds in a
reserve and using those funds for Social Security, you're for
that, correct?
Mr. Gale. I'm absolutely for--let me be clear. The
President, I have a feeling the administration wants to pull
the same kind of switch on Social Security as it's trying to
pull on Medicare, which is, it's going to try to use the $600
billion surplus there left over to fund the privatization plan,
which is different from setting aside the money to pay down
future revenues. It's the same deceptive budgeting that they're
trying to do on Medicare.
Chairman Nussle. I'd like to maintain a decent tone, I
think this is a substantive discussion. I'm not questioning
your motives in putting forward your proposal for getting the
Federal Government into the stock market, and I don't think you
should question the administration's motives or intentions in
setting aside these funds. I don't think the administration has
done anything for anyone here, Democrat, Republican,
Independent, observers, to come in and suggest that the whole
budget's a ruse and it's part of a bait and switch. I just
think that sets the wrong tone for looking at what is a serious
opportunity with significant surpluses to do good things.
Mr. Gale. I agree that this is a serious opportunity. Paul
O'Neill has testified in Congress, I don't know if it was this
committee or a different committee, I don't know if it was
House or Senate, but he testified in Congress he was unwilling
to commit that that $600 billion was going to be held to pay
future Social Security liabilities under the existing system.
That's about as authoritative a measure as you can get in terms
of what the administration's economic policy is at the current
time.
I agree, it's very difficult to understand what the
administration's policy is. But that's largely because they're
trying to push a tax cut through before they've even sent up a
budget that has all the details, as Mr. Greenstein has pointed
out. So I agree this is a serious debate. But I don't think my
comments were at all out of line in terms of what the
administration's budget is absolutely proposing.
Chairman Nussle. The administration's budget is not
proposing to spend that money on anything other than Social
Security. And everyone knows that the administration supports
conceptually some very bold and progressive reforms for Social
Security. And we can agree or disagree with those reforms. But
I don't think it's fair to misrepresent the very clear
statements of the budget.
Let me talk about tax relief. You talked about a $2.5
trillion tax relief package. You know what reconciliation is, I
take it, you probably understand the process better that me or
other members of this committee, given your extensive work in
the budget. The way reconciliation is written into our budget
resolution, it will contain a statement in the President's
budget proposal, and if we pass a resolution that largely
follows that, it will allow for a tax relief package up to $1.6
trillion, correct? That's the way the reconciliation language
is written in the budget resolution, up to the amount, up to
$1.6 trillion.
Given that fact, and that that's the only way we can
protect the tax package from a filibuster in the Senate,
explain to me the series of events or the conspiracy that will
go on once we've passed that reconciliation number to allow
this $2.5 trillion package to move through the Senate.
Mr. Gale. Well, I don't think it's necessarily a
conspiracy. But let's say the tax cut is $1.6 trillion over 10
years. There's an interest cost associated with that which
according to the administration's budget is almost $400
billion. That's not technically part of the tax package, but
that should be included in the total cost of the surplus. And
the tax package, if it includes the provisions of H.R. 3, will
leave a whole mess of unfinished business, namely that 36
million taxpayers will be on the AMT as of a decade from now.
That's one out of every four taxpayers.
Chairman Nussle. I'll get to that point. I definitely want
to ask about the AMT. But also on the interest costs, you've
seen the President's budget proposal and submission, I'm sure.
It includes the anticipated interest costs, even under static
scoring, that would occur because of any additional spending or
tax relief, correct?
Mr. Gale. No, the $1.6 trillion number doesn't.
Chairman Nussle. No, not $1.6 trillion, his budget proposal
does. It comes to $417 billion over the 10-year period.
Mr. Gale. Right.
Chairman Nussle. OK. Let's talk about income distribution a
little bit. You sort of talked about weighting the tax relief
to upper-income earners. I, just for the record, want to get
some figures here. If you take the top 10 percent of wage
earners in this country, what share of personal income do they
represent?
Mr. Gale. I'm not sure what share of personal income they
represent. I can tell you what share of taxes they pay.
Chairman Nussle. Well, I want to know how much money
they're making first.
Mr. Gale. I don't have that in my testimony. I'd be happy
to provide that in written follow-up.
Chairman Nussle. If you could. I believe it's approximately
45 percent of aggregate personal income in this country. What
share of the income taxes do they pay on that income?
Mr. Gale. What share of total income taxes?
Chairman Nussle. What total income taxes do the top 10
percent of wage earners pay in this country?
Mr. Gale. According to CBO data, they pay 63 percent of
income taxes and 49 percent of total taxes.
Chairman Nussle. But 63 percent of the income taxes, but
their share of personal income is only 45 percent. Now, I would
just ask you in general terms, do you think that's a pretty
fair share of the personal income tax burden?
Mr. Gale. In a progressive tax system, you expect, almost
by definition you expect high income taxpayers to pay a higher
share of the taxes than of the income that they----
Chairman Nussle. Right, so 45 percent of the income, 63
percent of the taxes. Is that roughly where you would want it
to be, or would you rather have them pay 75 percent of the
taxes, 85 percent of the taxes? Does Brookings or do you
personally have a goal for the progressiveness in the tax code
if it's not progressive enough already?
Mr. Gale. Brookings doesn't take institutional positions on
any issue. If we want to talk about the progressivity of the
tax code, and----
Chairman Nussle. But you are arguing that this tax relief
package is too heavily weighted toward the wealthy, which
suggests that you do have a position on the progressiveness of
the code.
Mr. Gale. OK, I just said Brookings doesn't, I didn't say I
don't have a position. And I'm trying to get to my position, if
you'll let me finish.
Let's go with your number that the top 10 percent earn 45
percent of all income. I don't have that number at my disposal,
let's go with that. They pay 49 percent of all Federal taxes.
They paid 63 percent of income taxes, but 49 percent of all
Federal taxes. They would get a larger share of the Bush tax
cut than the proportion of all Federal taxes that they pay.
Let me put it differently. The proportion of the Bush tax
cut that goes to the top 10 percent is bigger than the
proportion of total Federal taxes that they pay. So that will
make the system less progressive. Now, it might make the income
tax itself more or less progressive, depending on how you
calculate it. But the income tax is a progressive, is the most
progressive part of the system, other than the estate tax.
So if you cut income tax levels generally, you're making
the whole system less progressive. It's that emphasis on the
whole tax system, rather than just the income tax, that is so
important. When the President says that Americans are facing
record tax burdens, that includes the payroll tax and three-
quarters of families pay more in payroll taxes than in income
taxes.
So if the President were really concerned about reducing
the tax burden on the typical American family, he wouldn't have
proposed the tax cut that he proposed.
Chairman Nussle. Mr. Greenstein, I want to talk about AMT.
You talked about the AMT and that again, regardless of the fact
that it will include a reconciliation number up to a certain
level that will, and only that level will be protected as a
bill moves through Congress, you suggest that, well, there's
another $300 billion in AMT changes that need to be made. Are
you suggesting that we should include changes to AMT in the tax
relief package that we move through the House and Senate?
Mr. Greenstein. Two answers. First, yes. I do think we
should include AMT relief. I've thought that for several years.
We urged the Clinton administration in its budgets to go
farther in proposing more. We all know this is a problem that
has to be addressed.
But Mr. Chairman, let me make another key point. I
recognize that AMT reform will probably not be done this year.
Might be next year, might be 2 years from now. My point is, we
have a projected budget surplus for the next 10 years. We have
to leave room in it for the AMT cost. And the argument that
because it won't be in this year's reconciliation bill, we can
ignore the cost when adding up how to dispose of the projected
surplus I think is not responsible budgeting.
The cost of fixing the AMT, which probably will not be done
this year, is, according to the Joint Tax Committee, increased
by $292 billion over 10 years by H.R. 3. Therefore----
Chairman Nussle. And you've taken a position in favor of
that $300 billion modification to the AMT? Is that your
personal position or you're saying the Center for Budget and
Policy Priorities has supported AMT reform?
Mr. Greenstein. The Center has supported and continues to
support AMT reform. I don't know that we've looked at it in
enough detail to have a specific AMT reform proposal. I do
think the single biggest problem is probably that this big
exemption amount is an index for inflation. If you index that
for inflation that would solve a lot of the problem.
Chairman Nussle. I would ask you to submit just for the
record any position papers from the Center on reforming the
AMT. I don't follow all the work that you do and I'm sure it's
a lot of good work. But I am unaware of the Center having taken
a position, a clear position for AMT reform prior to this----
Mr. Greenstein. Mr. Chairman, since you're questioning my
veracity, could I respond to that?
Chairman Nussle. Oh, no, I'm saying I'm aware of it. If you
could submit a policy statement.
Mr. Greenstein. I don't know that we have a formal
position. We have said it in prior Congressional hearings, we
have said it in the press. We have said it in meetings on the
Hill. We have said it to the Treasury and OMB----
Chairman Nussle. Terrific.
Mr. Greenstein [continuing]. And White House officials
during the Clinton administration. We have been very consistent
on this.
Chairman Nussle. And just for the record, if you could
submit a reference to prior testimony before this committee----
Mr. Greenstein. I'll see if we have something in paper.
It's mostly been--I don't know that we have, we probably have
something and I'll find it and submit it.
Chairman Nussle. Terrific. Finally, let me talk a little
bit about forecasting and error rates, because you presented
some interesting information there. You referenced an error
rate of plus or minus $1 trillion over a 10-year period. What
10-year period were you using as a reference there?
Mr. Greenstein. Years 2002 through 2011. These figures come
right out of the chapter, they're based on the data in the
chapter on uncertainty in the new CBO report issued in late
January that covers 2002 through 2011.
Chairman Nussle. So that's a prospective assessment of what
the----
Mr. Greenstein. I'm sorry, Richard is correcting me. The
2011 figure is a 5-year total from the CBO report, and it's
2002 through 2006.
Chairman Nussle. But it's a prospective assessment of what
the error rate could be, as opposed to a look-back to the
1970's or to the 1980's or to the 1990's and saying, gee, our
forecasting varied in the 1990's by $1 trillion.
Mr. Greenstein. No, to the contrary, what CBO did is, it
took the entire period for which it has done forecasts for at
least a 5-year period. And it said, what was our average error
in the fifth year during this period. And it expressed its
average error for the fifth year as a percentage of GDP. That
translates into errors over this 5 year period as a whole.
They estimated the average error over a 5-year period and
in the fifth year. If you simply take their average, the
average error, if we have the same error in the next 5 years
that they've been off on average for their whole history of
doing 5-year forecasts, it would be $1.1 trillion in either
direction, too high or too low.
Chairman Nussle. Let me talk briefly about averages. It was
something alluded to by Mr. Bartlett. Do you know what the
average, the historic growth in revenues has been over the last
50 years?
Mr. Greenstein. I don't have the specific figure, but I
would say that most economists I know would not at all agree
with Mr. Bartlett's assessment that there is a standard
estimate that revenues would grow by this amount.
Chairman Nussle. No, but there is an average. There's an
historic average which is about 7\1/2\ percent.
Mr. Greenstein. I don't have the specific figures.
Chairman Nussle. It is 7\1/2\ percent nominal growth in
revenues per year. In fact, it's surprisingly consistent. If
you go to any 10-year period during the last 50 years, you come
up with an average annual nominal revenue growth rate of
between 7 and 9\1/2\ percent. Do you know what the revenue
growth forecasts are in the current budget submission over the
10-year period?
Mr. Greenstein. I don't have the specific percentage in my
head, but I know, Mr. Chairman, that one of the things that's
been taken into account is that one of the driving forces in
revenue growth in the last few years has been huge surges in
capital gains taxes as a result of the big increases in the
stock market, and that there is a strong reason to believe,
given how high the price-to-earnings ratios are, and how high
the market already is, that it won't grow at the same rate in
coming years and that one would therefore have to assume a
lower rate of growth in capital gains taxes during this period.
So we can't simply look at long-term averages. We also have
to consider the events of the most recent period. I am not an
expert on revenue forecasting, but I do----
Chairman Nussle. But your point is a very good one. It's
the same point that Alan Greenspan made. So I think you're in
pretty good company there, that there might be something
unusual about the revenue growth we've seen over the past 3 or
4 years. But----
Mr. Greenstein. There's a larger issue here which CBO
points out in its report. That is the big unknown is the rate
of productivity growth. We've had a higher rate of productivity
growth in recent years, and no one really knows to what degree
it's permanent. CBO and OMB have made a certain judgment about
how much of it's permanent in their forecast. They could be too
high or too low.
The point is that CBO points out that this forecast has a
higher degree of uncertainty, this budget forecast, than most,
because of the degree of uncertainty regarding the productivity
growth rate estimates.
Chairman Nussle. I understand that. At the same time, I
think that any observer would be hard-pressed, given the
productivity growth rate recently, and currently, and the
argument of economists that that productivity rate has seen a
structural increase, to then argue that the next 10 years will
bring a lower revenue growth rate than we have ever seen in our
modern economy.
Now, I'm not arguing for a wildly optimistic revenue growth
rate. But I do want to drive home the point that the revenue
growth rate forecast in this 10-year budget is about 5 percent
per year. That is a full 2 percentage points below the historic
average of the last 50 years. I apologize for taking so much
time, and at this time yield to Mr. Spratt.
Mr. Spratt. Thank you, Mr. Chairman.
Do we have a vote? What is that, the 10-minute bell? Let me
take a few minutes, then we'll come back.
With respect to the AMT, Mr. Chairman, I would simply point
out that the Center doesn't have to endorse the AMT reform in
general or any specific form, other than to say that when it
confronts 20 million taxpayers, there's likely to be clamor for
significant change. I think that's a political fact that they
can express their judgment upon.
I share that judgment. I think you would, too, when we go
from 2 million people to 30 million people affected by the AMT,
being extended benefits under the code that are then taken
back, we'll change it.
Chairman Nussle. And if you would yield on that, I don't
disagree at all. I simply wanted to point out the process
issues of trying to include that in our reconciliation
instructions for the Senate, if the number is $1 trillion or
$1.6 trillion, any modifications need to be made within that
number, and it wouldn't be right from a process standpoint to
assume that we could easily layer the AMT reform that you
talked about and that Mr. Greenstein has talked about on top of
it.
Mr. Spratt. Let me also clarify something else that you
were questioning Mr. Gale about. If you look at the Blueprint
for New Beginnings, page 12, it says, after achieving all these
goals, $1.6 trillion in tax cuts, roughly $1.4 trillion in
projected surpluses will remain. The President proposes to use
some of these and the additional needs as a contingency to
reserve is ultimately an insurance policy. The surpluses may
not be as large as projected. Farm conditions could require
additional resources. More money may be needed for national
security.
To get to $1.4 trillion, which they're claiming as a
cushion fund and a contingency reserve there, you have to
include the Social Security, some of the Social Security
surplus. There's no other way you can add it up.
If you turn the page to page 14, the $1.4 trillion at the
bottom of the page becomes a $1 trillion reserve. The
President's budget recognizes there are inherent uncertainties
in making 10-year projections. In deference to this, it sets
aside a large $1 trillion reserve. Once again, by my
arithmetic, to get to $1 trillion, you have to include some of
Social Security and all of Medicare.
Then on page 185, there's a table, Table S1. We talked
about it yesterday. The contingency fund there is not
identified to any particular purpose, just a general
contingency fund, is $842 billion. Yesterday the chairman
opened the hearing by saying there was a lot of angst in your
party over the fact that the administration was advocating the
inclusion of the Medicare surplus, Medicare HI trust fund
surplus, in some kind of a contingency fund. He wanted it made
clear that the HI surplus could not be used for anything but
Medicare. And the witness who was there is in charge of the
Medicare program as the Secretary of HHS. And he said
absolutely not, only Medicare.
Well, if you back out the surplus, $526 billion, which Mr.
Greenstein does, and Mr. Gale does, you're down to a
contingency fund of just $316 billion. There are a lot of other
things that would have to be taken into account. So if there's
confusion, it's not because we're politicizing the issue, it's
engendered by this particular blue book. Mr. Gale.
Mr. Gale. Thank you for bringing it up. The text on page 12
that Mr. Spratt referred to is precisely the motivation for my
written testimony and the discussion I was having. I didn't
have access to that, to the written text, while we were talking
before. But that's precisely the language in the President's
budget that leads me to the conclusions that I mentioned.
Mr. Spratt. Thank you very much.
Have you voted?
Chairman Nussle. I haven't. What I would suggest, and I'm
sure you have other questions you'd like to ask and there are
other members, so what I would suggest is that we recess and
come back and then we'll continue with your questioning.
So the committee will be in recess, subject to the vote on
the floor.
[Recess.]
Mr. Gutknecht [assuming Chair]. The committee is back in
order. Mr. Spratt.
Mr. Spratt. Listening to the four of you testify, I thought
there may have been one strand of agreement, when it came to
looking at the budget long term, longer than a 10-year horizon.
Mr. Mitchell, you or Mr. Bartlett I think used a figure of $21
trillion as the deficit in Social Security alone. I'm not
really sure what the number represents. The number I've always
used is $3.1 trillion as the present value of the unfunded
liabilities for benefits promised today.
Where does your $21 trillion come from?
Mr. Mitchell. That's an inflation adjusted figure, taking
the Social Security Administration's forecast between now and
2075.
Mr. Spratt. For all benefits?
Mr. Mitchell. Looking at all promised benefits compared to
projected revenue collections, taking the annual deficits that
begin around 2015 through the 2075 year period. You add them
all together, they come up to some enormous number well over
$100 trillion. But you adjust it for inflation to today's
dollars, you come up with $21 trillion. You of course put it in
present value terms, you can get it down lower than that. I've
always thought the inflation adjusted dollars was the most
accurate, because Government doesn't budget using accrual
accounting, so the present value concept wouldn't really have
much value.
Mr. Spratt. Well, let's just use $3.1 trillion. That number
has some validity, it's used by lots of people. If we used
accrual accounting and if we had a $3.1 trillion liability fund
funded benefit, which we now could see and recognize, accrual
accounting would require us to begin booking it right away. Our
accountants might let us get away with incrementally booking it
so that over a period of time we would cover that.
But if that were true and if we had accrual accounting, we
wouldn't have a surplus, would we?
Mr. Mitchell. Well, I confess, I don't know whether we'd
have a surplus with accrual accounting. I do know that
obviously you would recognize the long-term obligations of the
Social Security system and in some sense, I'm very tempted to
go down that route, because it would show that Social Security
reform is a savings, not a cost. But on the other hand, I'm
also concerned that people might be tempted to play games by
reclassifying Government consumption expenditures as
investments. There might be opportunity for shenanigans that,
well, to be perfectly honest, both parties would want to engage
in, depending on which programs they were supporting at the
given time.
Mr. Spratt. But, Mr. Greenstein, would you agree with that,
that if we were to accrue the liability for the unfunded
present value of future benefits that we would have a marginal
surplus, certainly nothing approaching $5.6 trillion in the
unified budget?
Mr. Greenstein. I don't know what the figure would be
precisely over the next 10 years. If you had a longer time
frame than 10 years, you would clearly see return to deficits.
I'm reminded of a phrase that Gene Searly of the Urban
Institute uses. He says we're on an island of surpluses in a
sea of deficits. We came from deficits, we're going back to
deficits. The island looks considerably larger than it did a
year ago. It's still an island.
Mr. Spratt. I appreciate your reminding me who said that. I
plagiarized it this weekend and didn't know who I was supposed
to attribute it to, so I claimed it for myself. I'll thank Gene
Searly for it.
Getting back to the point, though, I'm simply saying that
when you recognize the liability for Social Security and you
recognize the liability for Medicare in some form, there's a
lot of talk of reforming it, but there's no way around the fact
that medical costs are going up faster than other costs, and
the demographics are there, they're not going away for a long
time to come. Both of those factors means substantial
liabilities for the future. If you factor in those liabilities,
we have a lot less surplus than we think we have, and
therefore, doesn't that mean, doesn't that suggest to you that
we ought to deal with those long-term liabilities before we
declare a surplus? And, if we can indeed pull off the kind of
alchemy that you're talking about, with private accounts, and
wipe out this huge liability, then we can go back and dispose
of the remaining surplus.
But shouldn't that come first?
Mr. Mitchell. I would have no objection to doing Social
Security reform before tax cuts or doing tax cuts before Social
Security reform. I don't think they're necessarily linked. But
if it's alchemy, we should bring all the alchemists from all
these other countries around the world that have successfully
done it and do it as quickly as possible. I'm glad that the
President in his address before Congress stated that he has
every intention of moving forward on this issue.
Mr. Spratt. Mr. Greenstein.
Mr. Greenstein. They're inextricably linked. And I think
the reason they're inextricably linked is that Congress cannot
pass, I don't see how Congress can pass Social Security reform
or long-term Medicare financing reform unless it either engages
in budget gimmickry to an extraordinary degree or transfers
significant funds from the non-Social Security, non-Medicare
surpluses into those programs.
Take the proposal to take 2 percentage points of the
payroll tax and put it into individual accounts. If that was
the only thing you did, insolvency would come in 2023 rather
than in 2037. Obviously there would be some Social Security
benefit reductions linked to setting up individual accounts.
But the President has said that no one who is now elderly or
nearing retirement would have those Social Security benefits
touched.
While if you look at the numbers, in order to avoid
insolvency in Social Security, you do 2 percent in individual
accounts. If you don't touch benefits for anybody 55 years and
over, you have to have, for example, average Social Security
guaranteed benefit cuts for people age 30 today up around 50
percent. And even after you factor in the individual accounts,
it would be a net reduction, using high rates of return that
people like Martin Feldstein use, which may be too high for
what you get from the stock market for the individual accounts.
You'd still have a 20 percent benefit reduction.
Now, Congress isn't going to accept that. That isn't going
to happen. So the only way to fit the numbers together is to
have some transfer from the rest of the fund. Whether you do
individual accounts or you don't, or you do Social Security
long-term solvency the traditional way, either way, you
couldn't put together something you could pass, because of the
benefit cuts that would be involved, unless you lubricated,
softened the reform by having some transfer from the rest of
the budget so the benefit cuts wouldn't be too deep.
The same is true in Medicare. Breaux-Frist, Breaux-Thomas,
all these things, I forget the numbers, 70 percent, 75 percent
of the long-term shortfall in Medicare is still unaddressed.
Even if you raise the eligibility age to 67 and do things like
that.
So if Congress is to take tough actions that will be
controversial in Medicare and Social Security, to restore long-
term solvency, in order to have that not be so controversial
you can't possibly pass them, you're going to have to have as
part of that package some transfer which suggests to me, you
know, do that first, figure out how much of a transfer we need.
I'm not talking about doing just a transfer. I'm in favor of
some tough reforms in both programs.
But to consume the whole non-Social Security, non-Medicare
surplus on a tax cut and not have resources left to do as part
of that transfer I think at the end of the day could end up
meaning that we go another bunch of years without restoring
long-term solvency to either program.
Mr. Spratt. Mr. Gale.
Mr. Gale. I agree that they are inextricably linked, both
for policy and for economic reasons, they being Social Security
and Medicare reform on the one hand and tax cuts on the other
hand. One of the commonly heard arguments in favor of tax cuts
goes along the line of, it's the people's money, give it back
to them, we're overcharging them because we have a surplus. All
of those arguments omit the fact that the Government has
promised more in benefits to the American public than the
Government has agreed to collect from the American public.
So yes, it's the people's money. But which people? The next
generation or this generation? If you give the money back to
people this generation, then you're making the problem for the
next generation more complicated. So an emphasis on the long-
term financing issues is crucial to understanding how much
money is available for a tax cut.
Mr. Spratt. Mr. Mitchell, Mr. Bartlett.
Mr. Mitchell. I would just make the point that yes, in all
likelihood, if we reform our Social Security system like so
many other countries have done, there probably will be a
general revenue transfer to help facilitate that process, or to
lubricate it, as Mr. Greenstein said. But if we don't reform
Social Security, we'll have to make a much bigger general
revenue transfer into the program to make up for that giant
unfunded liability that currently exists, on the assumption,
bringing political realism into the equation, that we're not
going to cut people's benefits by 35 percent or increase
payroll taxes on low income workers by 50 percent.
So the question is, if we're going to use some general
revenue at some point in time for Social Security, do we do it
in a way that makes it, that creates a stronger, better system.
And does that have anything to do with tax cuts? Absolutely
not. Countries have privatized their Social Security systems
when they've had surpluses, they've privatized their Social
Security systems when they had deficits. They did it not
because it was a fiscal issue, but because it was a way of
guaranteeing workers a better, stronger retirement system, and
helping their economies by switching from a tax-and-transfer
entitlement scheme into something based on private savings,
which every economic theory that I know of, even Marxism, they
all agree that capital formation, savings and investment, is
the key to rising wages over time.
Mr. Spratt. Mr. Bartlett.
Mr. Bartlett. I don't have anything to add to that.
Mr. Spratt. Mr. Mitchell, my only response to your response
is that the question is, which comes first. If you have the tax
cuts first and not enough is left over to begin to lubricate or
facilitate the transition to Social Security and Medicare
reform, what do you do? You're back into deficit, aren't you,
and you're defeating your purpose? You're borrowing to prevent
borrowing.
Mr. Mitchell. I would refer back to my testimony. I don't
think we should worship at a shrine of a surplus or a balanced
budget. Let's say for some reason we had no surplus today. It
would still make sense, as I said in my testimony, to run a
shortrun deficit to reform Social Security in order to both
achieve all the long-term fiscal savings and also of course,
let's keep in mind, to create a better system for today's
workers that will give them more security in their retirement.
And of course, we just talked about accrual accounting. If
we had accrual accounting, it would show that this kind of
reform was actually something that reduced aggregate present
value deficits for the Government. So we can't keep switching
back and forth between cash budgeting and accrual budgeting,
depending on which point we want to make.
Mr. Spratt. Thank you very much for your testimony, for
your coming here today and for your patience. Let me yield to
other members for questions.
Mr. Gutknecht. Mr. Bentsen or Mr. Price, either one. Mr.
Bentsen, if you have questions, go ahead.
Mr. Bentsen. Thank you, Mr. Chairman.
I want to go back to what you were talking about with Mr.
Spratt and sort of walk through the math on this. First, Mr.
Mitchell, I think what I hear you saying is similar to what
Martin Feldstein and others have said in their proposal to
reform, we'll just issue new debt to get us over. That's
obviously one way to do it, of course, the debt's not free,
there's a price to pay for that, both in terms of actual
dollars as well as the associated macroeconomic costs.
But this is something we've tried to sort of discuss in our
hearings. Since none of you either are elected officials or
serve in a publicly elected administration, you have a lot more
leeway to say what you want, and not to think that others who
have testified wouldn't have absolute candor, because they
might be concerned with political issues or controversy, just
as Members of Congress might not have such candor. Of course,
that would never happen.
If we look at the long term issues, and you look at CBO's
numbers, on its face if we do nothing, and we could pay down
all the debt, forgetting the question of what's callable and
non-callable, what's redeemable and non-redeemable, by, I think
2030, we start to see a dramatic uptake in our debt to GDP.
Now, of course, that number backs up to 2020 the more of the
projected surplus that you use.
We have surpluses in Part A of Medicare and surpluses in,
which is the Hospital Insurance trust fund, as you know, and we
have surpluses in Social Security. We expect those to grow for
some time and then to start to be drawn down.
If you take those moneys and use those moneys for anything
other than the long term benefit that they are promised to,
aren't we in effect double counting those moneys? Because
ultimately, you have to make those up. The only way, if we're
not double counting, is the only way to avoid that by replacing
those moneys somewhere else, either through benefit cuts or
payroll taxes, or additional debt on top of that? Is that a
fairly correct theory?
Mr. Mitchell. I guess I think we're double counting in the
current system. No matter whether we have a lockbox or not,
regardless of whether the Social Security surplus is used for
more spending, for tax cuts, or used to pay down debt, none of
that changes the fact that at the end of the day, all that
happens with the Social Security surplus is that the Social
Security trust fund gets Government bonds, IOUs that simply
represent a claim on future taxpayers.
This is not real savings. It's not like a State and local
pension system where they buy private assets.
Mr. Bentsen. I see where you're going. Let me back up and
use my simplistic sort of banker's mentality on this. Assuming
that you have an indenture and you have a flow of funds of
where they go, these surpluses are invested in interest bearing
Government securities and correctly in the future, the Social
Security trustees are going to go to the Treasury window and
they're going to present these bonds, and they're going to say,
we want our cash. More likely than not, the Treasury is going
to say, fine, here's your cash, while at the same time, they'll
roll the bond into the public market.
But the money is encumbered. The instrument represents real
dollars and real interest that under the indenture of the
Social Security trust is encumbered for payment on future
benefits. I don't think anybody has yet denied that. The point
is, if you spend that money on anything else but those future
benefits, and legally you would have to make that up, but
forgetting the laws, think of the laws of economics or the laws
of finance, the laws of mathematics, don't you also have to
make it up? I mean, you're taking a dollar from one pot and
putting it in another.
Mr. Mitchell. No, but what happens with Social Security is
that the payroll taxes automatically get credited to the Social
Security trust fund. If we don't have enough of a benefit
obligation that year, that money then automatically is going to
go for something else.
Mr. Bentsen. I understand all that. And they get a
certificate against the dollars. I think that muddies the
debate, though, when you say, well, it's spent on something
else or whatever. I understand you to say that's a claim
against future revenues of the Government.
But the fact is, that claim is in effect a monetary
instrument encumbered against future benefits. Whether it's
cash or a bond, it's still encumbered.
My question is, if you spend that cash or that bond on
anything but future benefits, don't you have to make that up
somewhere else?
Mr. Mitchell. Under current law, all that matters is that
the Social Security trust fund gets credited with a bond. What
actually happens with the surplus cash after that doesn't
change the size of the Social Security trust fund, it doesn't
change the fact that, as you point out, Social Security will
present those bonds to Treasury when they begin to run
deficits, and that Treasury of course will redeem those bonds,
either by raising taxes, or more likely just by rolling them,
as you said, into the debt held by the public.
But it's not going to affect the size of the trust fund or
any of the underlying mechanism and operation of Social
Security, how that surplus money is then disposed of. I mean,
the whole lockbox concept is simply saying, we want to make
sure that surplus is spent to buy down debt.
Mr. Bentsen. No, I'm not talking about the lockbox. The
lockbox is, I think, somewhat of a gimmick, myself. But there's
a legal obligation and there's a mathematical obligation. If
there's $500 billion that is for future benefits, whether it's
sufficient or not, there is that $500 billion. If you take, say
you take $250 billion of it away, don't you have to make up
that $250 billion in one of a number of ways, higher taxes,
additional debt on top of the $500 billion debt that's out
there, or benefit cuts? I don't know if anybody else wants to
comment on that.
Mr. Mitchell. All I would say is, that's exactly what
happens under the current system. And nothing----
Mr. Bentsen. Well, I guess my point is, if that's exactly
what happens under the current system, but then you reallocate
some of that obligation, don't you make it worse by the amount
you reallocate?
Mr. Mitchell. It wouldn't matter whether you spend the
money, cut taxes with the money. The point is that the Social
Security trust fund still has this claim through this
Government bond on future revenues from the Treasury
Department. The only way that could actually be changed is to
say that the Social Security surplus from now on is going to be
invested to purchase private assets.
Mr. Bentsen. The Chairman is indulging me, I guess maybe--
let me rephrase it this way. If you transfer the claim, if you
say the trust fund is a claim, and we're going to use part of
the claim, rather than for future benefits, we're going to use
it to privatize the system in some way. Then you have to make
up the deficit in that claim.
Would that be correct? Does that make sense?
Mr. Mitchell. I suppose one could design a reform plan that
did that, and presumably, if it occurred that way, it would be
accompanied by some general revenue transfer to hold them all
harmless.
Mr. Bentsen. Well, let me try one more time, Mr. Chairman,
if I might. Larry Lindsay, the President's Chief Economic
Advisor, whatever his title is, but de facto Chief Economic
Advisor, talked about the idea of taking $600 billion of the
projected Social Security trust fund and using that to
privatize Social Security. He thus is taking $600 billion worth
of claims or obligations, claims against future obligations,
and using it for another purpose, albeit within the system, but
using it for another purpose.
So don't you have to make up that $600 billion some way?
Mr. Mitchell. Yes, I understand the point you're making
now. Yes, of course you would, and that's what people mean by
talking about the general revenue transition financing to make
the system work.
Mr. Bentsen. So it would be through general revenue or what
else?
Mr. Mitchell. It would be through general revenue,
borrowing, reductions in other Government programs, that's
something lawmakers will have to decide, as they've done in all
these other countries that have made the reforms.
Mr. Bentsen. Anyone else want to comment on that?
Mr. Greenstein. That's precisely the point. This is
precisely why the tax cut is too big and we shouldn't be doing
it now. We need to figure out how much money we need to
transfer to Social Security. Whether it's for a transition to
individual--it is in individual accounts that give you a higher
rate of return. I think this is pretty clear in the economics
profession.
Two things give you higher rates of return, advance
funding, so the money earns interest, it could earn interest in
the trust fund, it can earn interest in individual accounts,
and a diversification of investments. You can do it through
individual accounts, you can do it through allowing the trust
fund, through an independent board, to be able to invest in
index funds.
Things that give you the higher rate of return and the
advance funding and the equity investment, you don't have to do
either through private accounts, you can do them for private
accounts. I think doing through private accounts is preferable,
low administrative costs, better guarantees for the
beneficiaries. But that's another discussion.
But the point is, is you want to go to advance funding to
ease these long-term liabilities and to be able to get higher
rates of return, you have a transition issue and you have to
get the money from somewhere. And if there's no money left in
the general fund, because it's all gone for a tax cut, then you
either can't proceed with Social Security reform or you're
going to proceed by virtue of doing substantial on-budget
deficits. Those are the choices.
Mr. Gale. It might help, it might not, to think about a
family that's trying to plan for their retirement. They have a
mortgage that they're trying to pay off, and they have assets
that they're saving. If the family raised its mortgage debt and
put the loan proceeds in the retirement account, it would not
be correct to say that its wealth went up, because it now has a
bigger liability on the mortgage side. This is just another way
of making the exact same point that Mr. Greenstein is making
and that you are making, which is if you take the money out of
one pot and move it, you haven't increased the total amount of
money they're saving for retirement. You've just shifted it
from one set of claims to another set of claims.
Mr. Bartlett. I think one of the important things to keep
in mind here, if we're going to talk about the long-term
sustainability of Social Security, is that it is currently
unsustainable. I mean, changes in the law will have to be made
at some future date, because current tax rates are insufficient
to pay benefits, all the benefits that have been promised. So
there's already a fundamental disconnect. We've made a promise
for which we have not provided the funding, and now we're
concentrating solely on the promise element of it, when the
promise was in effect fraudulent to begin with.
We don't have a funded system. The analogy between the
Social Security trust fund and a private trust fund held by a
responsible financial institution I think is a flawed analogy.
And I think also that it's important to remember that benefits
formulas have been changed many times in the past. The Supreme
Court has even ruled that you don't have a right to Social
Security benefits.
A few years ago, for example, we increased taxes on Social
Security benefits, which had previously been untaxed. So I
think that treating some of these numbers out into 75 years as
if they can never be changed for any reason whatsoever is
extremely unrealistic. Obviously, changes will have to be made,
very substantial changes.
I think everybody understands that there's going to be a
tradeoff of some kind in terms of those people who move into a
more privatized system will give up future benefits. If you do
all that on a present value basis, it can work out. The problem
is, you have different sizes of cohorts and things of that
sort, so that the cash flow isn't the same every year.
So getting from here to there, in other words, is a very,
is a difficult political and accounting problem. But it's not
an insurmountable economic problem. If you could just sort of
throw all that accounting stuff out of the way, it would be a
lot easier to design something that would work. I think most
economists would say that there's nothing wrong with floating
some new debt to pay to get rid of another kind of debt. I
mean, people refinance their mortgages all the time, and people
don't say that that's phony baloney. You obviously save
something in the process, or you wouldn't do it. And that's
part of what I think is going on here, is the idea of in
effect, refinancing the Social Security debt into one that is
more manageable under a different set of rules.
Mr. Bentsen. That is true as long as it's an economically
beneficial refinancing, and not one that costs you more or is
equal.
Mr. Bartlett. Of course.
Mr. Gutknecht. Mr. Price.
Mr. Price. Thank you, Mr. Chairman.
I want to thank the panel this morning. I appreciate all of
you being here. I'd like to pick up on Mr. Spratt's search for
possible common threads of agreement, even though you've
disagreed on many things, and I suppose on most of the major
questions confronting us, as to the optimal size of a tax cut
and the fairest distribution of the benefits.
In terms of budget process and what we're going through in
this chamber today, is there any one of you that would want to
say it's sound procedure to vote through the major portion of
this tax cut before we have a budget? Is there anybody who
would wish to defend that process or that procedure?
Mr. Bartlett. Well, before I walked in here, I was handed a
sheet of paper that was prepared by the staff of the Budget
Committee that indicated that you're operating under the
current budget. That is, the one that was passed last year,
that for the current fiscal year you're in. So there is a
budget.
Mr. Price. Do you think that's a credible claim? I'm aware
that is the legal claim that's been made: that we're actually
operating as the budget law intended, and not just the letter
of the law, but the principles of sound budgeting. Do you think
that's a credible claim, that we're doing all this under the
fiscal 2001 budget resolution and therefore it's just fine?
Mr. Mitchell. I would agree that perhaps this is not what
the drafters of the Budget Act envisioned would normally
happen. But I think that to simply note that this is an unusual
step doesn't in any way indicate that there's something
irresponsible about taking a step in terms of tax relief that
is part of an overall budget framework that's been presented
and is going to be digested throughout the year.
Mr. Price. But you seem to be suggesting there might be
some burden of proof on proceeding in this way.
Mr. Mitchell. I just think it's an unusual step. That
doesn't make it irresponsible or wrong or reckless in any way.
Mr. Price. Well, if it's unusual, what might justify it?
What do you think is the justification?
Mr. Mitchell. I think the justification is that many
lawmakers are concerned about the state of the economy and want
to move quickly on tax relief.
Mr. Price. And this tax package has a reasonable chance,
you think, of turning the economy around?
Mr. Mitchell. I've always preferred to think of tax policy
in terms of what's going to help the economy's longrun
performance. But having said that, I think the sooner you can
cut tax rates and improve people's incentives to work, save and
invest, the sooner you're going to realize some of the
benefits. So if anything, I think that the majority is being
too cautious and too slow with its tax rate reduction package.
Mr. Price. All right. I wonder if anyone has a different
view? In light of what we all know is awaiting in the Senate,
it just doesn't seem to be a credible claim that violating the
procedures in this way meets any kind of burden of proof in
terms of what budget law requires and what sound budgeting
procedures require.
Mr. Greenstein. There were two justifications just offered.
One was, we're operating under last year's budget resolution,
and the other is that the economy needs an injection, the
sooner the better. I think both of those fall apart very
quickly upon close examination. If we're operating under last
year's budget resolution, this tax cut busts it. It is much
larger than the amount of the tax cut that was allowed under
last year's budget resolution. My understanding----
Mr. Price. And would be in total violation of any kind of
pay-go rules or pay-go standards?
Mr. Greenstein. It would be in violation of the pay-go
rules, it's in violation of the budget resolution. My
understanding, it's going to the floor with a waiver of the
revenue floor in last year's budget resolution.
Mr. Price. So the notion that this is kind of flying under
last year's budget resolution is really a fig leaf if by that
resolution you mean the explicit constraints imposed on revenue
reductions?
Mr. Greenstein. Precisely. And with regard to an injection
into the economy, this tax cut provides in 2001 a tax cut equal
to 5/100ths of 12 percent of GDP. I think it would be pretty
hard to find anybody who would argue that you get any
noticeable stimulative effect from a tax cut equal to 5/100ths
of 1 percent of GDP.
Mr. Price. Let me move on to Mr. Gale and some questions
about the distribution of the benefits of this tax cut.
Secretary O'Neill, in an appearance before the committee last
week, derided what he called advocacy statistics, with explicit
reference to a couple of our witnesses this morning. But
speaking of selective statistics, the administration has said
that the average benefit for taxpayers under the Bush tax cut
plan would be $1,600.
Now, going back to statistics 101, I wonder if the mean
here is the figure that gives us the best picture of how the
average American would be affected, or the greatest group of
Americans would be affected by this tax cut. Mr. Gale, what
percentage of taxpayers would actually get that $1,600 tax cut
or more? And then could you instruct us maybe on the difference
between the mean and the median and tell us what the median
figure is?
Mr. Gale. Sure. Thank you. The mean of course is just the
average of all the tax cuts. The median is what the typical
person or the 50th percentile, the midpoint in the
distribution, would get. According to the estimates that I've
seen and view as reliable, upwards of 90 percent of families
would get less than the $1,600 that the so-called typical
family would get.
Mr. Price. So 90 percent of the taxpayers would be below
the $1,600 mean figure?
Mr. Gale. That's right, including about 95 percent of
households in the bottom 80 percent of the distribution. So
almost all households in the bottom 80 percent of the
distribution would get less than $1,600, and about half of
households in the bottom 40 percent of the distribution would
get nothing from the tax cut. And in the top 1 percent, the
estimates are in the 20's or 30's of thousands of dollars per
year.
Mr. Price. What would the median taxpayer receive? Do you
have that figure?
Mr. Gale. The median taxpayer would receive about $400 in
tax cuts.
Mr. Price. So you're looking for the figure whereas many
taxpayers would get that or more as would get that or less.
Mr. Gale. Right.
Mr. Price. Then you're looking more at the $400 range,
rather than $1,600, is that accurate?
Mr. Gale. It's on that order. Twenty-seven percent of
taxpayers would get no tax cut. And in the bottom 40 percent of
the distribution, the average tax cut is about $100.
Mr. Price. If you want to refine those figures for the
record, I would appreciate it.
Mr. Gale. Sure. I'd be happy to.
Mr. Price. But I think that gives us the picture.
Mr. Chairman, if I could ask one last question here, since
we've had a rather discombobulated session this morning. I
would like to go back to Mr. Mitchell and his quote that the
national debt is a minor irritant. I think those were the words
you used. Do you regard $200 billion plus a year in interest
payments on the publicly held debt as a minor irritant in terms
of other uses to which those funds might be put in terms of
either public or private investment? And picking up on your
conversation with Mr. Bentsen, quite apart from the
technicalities of how the Social Security trust fund works and
how those obligations are going to be met, isn't it true that
when the cash flow reverses, as the baby boomers retire, and if
general funds have to be used to make good on those obligations
that the trust fund holds, wouldn't we be in a stronger
position to meet those obligations with those interest payments
being off our collective backs?
Mr. Mitchell. I guess it depends on what your long term
goal is. Simply paying down debt today so we can borrow it all
back and then trillions of dollars more in the future doesn't
strike me as a very feasible or fiscally prudent plan. On the
other hand, if we use some of the money today to restructure
our program so it will be much stronger in the future, then I
think there's a lot more merit to that approach.
Now, obviously, referring to the first part of your
question, if we had somehow never run any deficits in the past
and had no debt and didn't therefore have $200 billion of
interest payments, of course that would be wonderful. But I
suspect it was probably well worth the cost to win World War
II, to win the Cold War, and many of the other things that we
wound up incurring debt for. Then again, some of the expenses
I'm sure weren't very valuable.
The point I'm simply making is, that at the end of World
War II, our national debt was over 100 percent of GDP. Now it's
down around what, 30 to 35 percent of GDP. And if we do
nothing, don't pay down a single penny of debt for where we are
now, it will fall even further just because our economy will
grow, and the difference between the numerator and the
denominator will cause that to happen.
I'm simply saying that we don't want to be so myopically
focused on that one statistic that it prevents us from
undertaking other economic policy reforms that will strengthen
our economy in the future.
Mr. Price. Well, I understand, and I think every member of
this committee would express huge relief at the fact that we're
now dealing with surpluses rather than deficits, and we are
systematically bringing down the debt. Both parties are
committed, as you know, to using proceeds from the Social
Security surplus for that very purpose. There's a lot more
agreement on that than the rhetoric sometimes indicates.
But I also think that not a single member of this
committee, and not just for political reasons, would describe
the current publicly held debt as a minor irritant. Nor would
we describe the third largest item in the Federal budget,
namely debt service on that debt, as of minor importance. It
seems to me to continue to reduce that debt, to get that
interest burden off of our back, for whatever purposes, is a
worthwhile objective. We have an obligation to assure
ourselves, as we debate this tax cut and the budget resolution
eventually, that we're providing for the disciplined,
systematic reduction of that debt.
Would you disagree with that?
Mr. Mitchell. I guess I'm speaking in relative terms and
you're speaking in absolute terms. I think the national debt we
have today is minor compared to a national debt of over 100
percent of GDP. Now, obviously, $200 billion is a lot of money.
I'd like to have it. I'm sure lots of people would like to have
that money used either for, as you said, returning it to
taxpayers or spending it on other Government programs. But in
relative terms, which was the context that I was using, our
national debt is not a significant economic impediment,
especially when you compare the situation we're in to the other
industrialized nations of the world, many of them who have
debts well in excess of 100 percent of GDP.
And also, speaking again in relative terms, the national
debt, the official national debt I think is a minor problem
compared to the implicit debt of the Social Security system,
which as I mentioned earlier, is seven times as large as the
official national debt. So again, I'm speaking in relative
terms. I'm not saying that in absolute terms it's not
unfortunate that we're spending $200 billion in interest on the
debt.
Mr. Price. I see. Any other witnesses have a comment?
Mr. Bartlett. Congressman, I think that this whole issue of
debt paying off has gotten really blown out of proportion. I
mean, if a corporation decides that it wants to make an
investment, it might float debt or it might float equity or it
might decide to take money out of retained earnings. There's no
value judgment placed on one versus the other. It's simply what
makes sense at a given moment in time.
I think that the implication that we should use all the
money that is coming in over and above what the Treasury needs
to pay its bills, solely for one exclusive purpose, is like
telling your constituents, don't buy a new car, don't buy any
new clothes. Pay off the mortgage on your house before you do
anything else, because that's the only thing that you should be
spending your money on.
I think that that makes no sense, and I think it equally
makes no sense to pick this one particular purpose that could
be used for the current cash surplus of the Government, when
there are other things it could be used for. You mentioned
spending money for various projects. I'm sure there's things we
could probably agree upon. And I think tax reduction is one of
them. I think the main benefit of paying off the debt is that
we free up these interest payments and don't soak the taxpayers
for them.
So I think that it's something that's desirable, but it has
to be looked at in context, rather than elevating it above
everything else.
Mr. Price. I understand your point. I also think as we
conceptualize this and think about giving taxpayers their money
back, we also need to understand this debt is also a shared
obligation on the part of the American people. Surely we ought
to have that same attitude about benefiting taxpayers, but also
meeting the responsibilities of the citizens in this country to
take care of these accumulated obligations.
My time has expired. If one of the others has a comment,
we'd be glad to hear it.
Mr. Gale. I just wanted to respond to two things that Bruce
said. One is the idea that Treasury has enough money to pay its
bills and it has money left over. The only reason we think that
is because we're not accounting for these long-term liabilities
that we're talking about. In fact, again, to emphasize it, if
the Government kept its books like a business it would show
these huge unfunded liabilities in its pension and retiree
health programs and would not think of itself as wallowing in
cash.
The other thing, Bruce used a family example, which I think
is a good way of thinking about these things. But I would give
a slightly different family example. The United States right
now is sort of like a middle aged family that's in its peak
earnings years, but has saved nothing for retirement. So if
that family gets a bonus, the question is, should they blow
that bonus on a vacation or should they put it away and start
setting their retirement accounts right?
And put in that context, I think the responsible thing to
do, no question, is to save the funds. It's not a matter of
just having excess cash around and maybe we buy a car, maybe we
go to a nice dinner. The problem is that we have a current cash
flow surplus for a few years, that's the island of surplus that
Mr. Greenstein mentioned. Then we have these retirement issues
looming on the horizon. So a responsible family would do what a
responsible government would do, which would be to put that
money away.
Mr. Bartlett. Can I add something to that, just briefly? I
think part of the Social Security debate here is not whether we
should save the money or blow it on a weekend in Vegas, but
whether we should put the money into a passbook savings account
that gives us 3 percent or put it into the stock market where
you can get 10 percent over a long period of time. I think
that's really a lot of what the debate here is. It's not just
whether you save, but how you save and what is the most
appropriate way to save for the particular purpose you're
saving for.
Mr. Greenstein. If I could just add a quick point. If you
look at the GAO and CBO long-term forecasts, they both warn us
that under the current policy path, even if we don't do a tax
cut or any spending increases, that eventually, when the baby
boomers retire, deficits return, debt rises as a percentage of
GDP and it eventually reaches levels that are not sustainable
for the economy and would cause serious economic damage.
Now, it's true that that isn't at a level today that causes
economic damage. But the forecast is that it will get there.
Now, it seems to me that if you see that on the horizon,
you want to be doing things now to ease that problem on the
horizon. One of them is paying down as much debt as you can now
to get that debt-to-GDP ratio as low as you possibly can,
knowing that whatever we do on Social Security and Medicare,
when the boomers retire, that ratio is probably going to go
back up.
Mr. Price. Thank you very much. Thank you, Mr. Chairman.
Mr. Gutknecht. Thank you.
Mr. Mitchell, my understanding is you need to leave. I have
some questions, but if you do need to leave, I think we
promised you to be out of here by 11:30. If you need to leave,
please feel free to do so.
Mr. Mitchell. Well, it's a meeting with a Congressional
staffer where several other people are going to be at as well.
As much as I think I probably would add to the discussion,
they'll say the same thing I would say anyhow. So I don't know
that there's a crisis in me being late for that meeting.
Mr. Gutknecht. I just wanted to respect your time. Let me
ask, first of all, this has been a great discussion today. I've
really enjoyed listening to all the different vantage points.
You've provided us with a lot of things to think about.
Let me go back to the issue that's here today, and Mr.
Greenstein, I'm not sure if you're aware of what our resolution
provided for last year for tax relief, the budget resolution
that we're currently operating under. Are you aware of what
number that is?
Mr. Greenstein. Yes. My understanding is, Richard was
informing me that it was $150 billion over 5 years.
Mr. Cogan. As it was passed last year, it was $150 billion
over 5 years.
Mr. Gutknecht. But then wasn't there also a provision
within that budget that allowed for an update in July and
August, and that CBO update would be included in that
resolution, isn't that also correct?
Mr. Cogan. At the option of the chairman, the increase in
the forecast CBO provided for last July, when they made their
estimate, could have been added to, subtracted from the revenue
to allow a larger tax cut.
Mr. Gutknecht. Right. Maybe we should invite you up to the
table. Instead of making you do that, Richard, which I'm not
interested in making you do, I think the bottom line here is
that the budget resolution of last year permitted a tax cut
over 5 years of $284 billion. Certainly, yes, there were
prerogatives that were allowed to the Chair, they were extended
last year. And so there is a $284 billion technical, now again,
whether or not people determined that that is in the best
interests of our country or whether that's in the best interest
of the budget is a judgment decision that people have to make.
But the parliamentarian, just so we're clear, Mr.
Greenstein, the parliamentarian disagrees with your position.
CBO disagrees with your position and suggests that not only is
this current tax cut is smaller than that amount that was
allowed for in that budget resolution, but it does in fact fit
within last year's budget.
Now, I'm not arguing the point with you, you suggest that
we should do a budget first, this year, first, that's fine,
that's your opinion. But there is a technical issue here that
we do have to follow, at least for the purposes of this budget.
The rulings by the officials who are in charge of the budget
and in charge of the rules of the Budget Act and in charge of
the rules of the House disagree with you.
Mr. Greenstein. Mr. Chairman, I believe my answer would
have been correct yesterday. Richard informs me that in the
last 24 hours, a mechanism was used under the budget resolution
to adjust the revenue floor. I was not aware of that when I
mentioned it earlier. But the general point I'm making still
fits.
Mr. Gutknecht. And I respect your opinion on the general
point. I just wanted to make sure that at least for the
record's purposes, that we were correct on that, and that you
were at least aware of that.
Mr. Greenstein. I have been made aware that the adjustment
just occurred in the last 24 hours.
Mr. Gutknecht. Well, that, there's nothing unusual about
that type of procedure being used throughout many Congresses ad
infinitum.
One other thing that I just wanted to ask, you had
mentioned that the tax cut was too big, because you needed to
have, you were suggesting that at some point in time there will
be transfers that are needed in order to deal with some of
those other looming problems. I think there was general
agreement, I would agree that those looming problems are Social
Security and Medicare, at least two big ones. There are some
others, I think Ross Perot described them as crazy aunts in the
basement that you're in the attic that you have to deal with.
But those are the two most prominent members of the family that
we know that are out there that we're going to have to deal
with.
What size or how much of that tax cut would be needed, are
you suggesting? All of it would be needed? What size of a
transfer are we talking about here, how big of a hole is in
Social Security?
Mr. Greenstein. It's hard to know until we actually get
into Medicare and Social Security. We did an estimate last year
in which we looked at the question, if you were to close 70
percent of the long-term hole in Medicare and Social Security
through other means, and I do not think Congress can agree on
things that will close 70 percent of the Medicare hole through
other means, but if one heroically could, and you only needed
to cover 30 percent of the hole through transfers, you'd need
about $500 billion over 10 years. In reality, my guess is
probably somewhere between $500 billion and $1 trillion.
But I think that's not the only problem in terms of the
size of the tax cut. Mr. Chairman, I cannot believe that over
the next several years, Congress is going to agree on a
Medicare drug benefit that only costs $153 billion over 10
years. For that level, you probably can't even cover 50 percent
of drug costs until out-of-pocket costs are $11,000 or $12,000
a year. You're going to inevitably end up with a larger drug
benefit than that. You're going to inevitably, even if it isn't
this year, fix the AMT issue. We don't have a price tag yet on
national missile defense.
So when we add all of those pieces together, of which
perhaps the biggest one is the needed transfer, I think the
numbers simply don't add up unless we're lucky and the
surpluses keep growing. But we don't know at this point that
they will.
Mr. Gutknecht. But the number for Social Security you would
put at somewhere between $500 billion and $1 trillion?
Mr. Greenstein. Yes.
Mr. Gutknecht. Add to that what would be your estimate with
regard to Medicare?
Mr. Greenstein. I would--now, this may be phased in. You
know, the Clinton proposal last year was about $350 billion
over 10, when you looked at the percentage of drug benefits
that covered. I'm not making a judgment of how big I think a
drug benefit should be. I think at the end of the day, and it
may take several years to get there, I would guess you're
talking about a drug benefit that ultimately is going to be at
least $500 billion over a 10-year period.
Mr. Gutknecht. So that may be as much as $1.5 trillion of
needed transfers during that period of time.
Mr. Greenstein. Clearly, we need to make some Medicare
reforms as well, without question. But even factoring those in,
if you're covering the drug benefit cost and then you're doing
reforms, assuming that we would only need $500 billion to $1
trillion in transfers assumes significant and controversial
Social Security and Medicare reforms.
Mr. Gutknecht. So under the budget that you would
construct, and under that scenario, the tax cut is not only too
big, but it's nonexistent. It would be pretty difficult to
envision any, and there are those who are suggesting that while
$1.6 trillion is too large, that in fact there's a whole other
party that is suggesting that we should do it at $900 billion.
Nine hundred doesn't fit, according to your calculations. That
would be irresponsible. Sounds like we're all being
irresponsible, according to your, which is fair, if that's what
you're telling us.
Mr. Greenstein. There's a question of the perfect being the
enemy of the good. If we were totally responsible on this one,
I prefer a tax cut of probably around $500 billion. But
basically, given these big unmet needs, 900 is better than 1.6;
1.2 is better than 2.0. We're not going to deal with all of
these things right now. But I think it is a very serious
concern.
And yes, in my view, even $900 billion is larger than would
be desirable, but less undesirable than $1.6 billion or $2
billion or $2.5 billion.
Mr. Gutknecht. What has changed in your opinion over the
last 5 years, 10 years, 15 years, 20 years? I mean, the issues
involving Social Security and Medicare as far as an unfunded
liability have been there for quite a while. I mean, I don't
recall, and I'm not challenging you, maybe you did, and maybe
others did. But I don't recall anybody running in here before
and saying, don't increase spending because we've got an
unfunded liability out there, don't increase the welfare
programs because we have an unfunded liability out there, don't
increase children's health care because we have an unfunded
liability out there. Don't increase the deficit, because we
have an unfunded lability out there.
For years and years and years, in fairness, both sides have
been putting forth priorities which arguably could eat into,
depending on the economics, eat into that future unfunded
contingent liability that is out there. So while I respect that
you and many others would come forward today and suggest that,
what I would hope that we maybe could do, because I think part
of this is politics on our side, certainly, we put forward a
plan that we believe in, others put forward a plan that they
believe in, what I would like to focus on is, what are some of
these long-term liabilities. You mentioned two huge ones today,
Medicare and Social Security.
I would invite the others on the panel, because we will be
later this year holding a hearing on some of these unfunded
liabilities and what we should do 2, 5, 10, 20 years out in
order to deal with them. Aside from the context of today's
debate of juxtaposing those with tax cuts, which is interesting
but I think as we all hear the debate on the floor, it's the
train already left the station on that issue.
What other unfunded liabilities would you propose need to
be added to the mix for us to discuss as a budget committee as
we're looking at that horizon? I'll start with you, Mr.
Greenstein, and we'll move down the aisle for comments.
Mr. Greenstein. I think it's the things I--it's Social
Security and Medicare. Then there are things that, I don't know
if you'd call them an unfunded liability, but we know the
political system will address them, so we need to leave room
for them. A Medicare drug benefit, AMT reform, some form of
continuation of payments to farmers, which isn't included in
the budget.
Mr. Gutknecht. If I could interrupt, that horizon may be
next week. I'm talking about what is on the horizon, and I'm
very serious about the question. I understand the--let's get
the politics out of here for just a moment. What is 10 years
out that's going to come up and bite us? Social Security and
Medicare is obvious. We've been hearing about that for 20
years. What haven't we heard about yet, or what aren't we even
considering to address? We're going to address agriculture and
we're going to address prescription drug benefit. But what
haven't we even been talking about?
I had a gentleman mention to me, for instance, that some of
our nuclear waste and hazardous waste is an issue that has a
10-, 20-year horizon that we aren't even talking about yet. And
part of my question is, what else do you see out there that has
that kind of horizon?
Mr. Greenstein. I think one that we're all starting to talk
about is AMT. I think another, which I hesitate to mention,
because my level of knowledge in it is pretty limited, but
there's increasing evidence that the global warming problem is
real. Some of the changes that may be needed to deal with it
may entail various kinds of cushions in Government expenditures
of some sort, or Government tax breaks of some sort. I'm not an
expert on exactly what we ought to do on that front.
I'd also note on the unfunded liability front, you know, at
the time after the 1983 Social Security Commission, it was
thought that solvency had been restored for 75 years. Now we're
both getting closer to the boomers' retirement, and we have
newer and better figures, so we all realize this is more of a
problem.
Just in terms of what various of us said in the past, just
as a brief point for the record, I'd note that for example, in
1995 at a press conference our Center held, we said we thought
the most responsible budget before the Congress then was
neither the Democratic budget, the Clinton budget, the
Republican budget, but was rather the Blue Dog budget. I got no
end of grief from the Clinton White House for having said that
at the time. But I think we've been talking about these issues
for a while.
Mr. Gutknecht. Mr. Gale.
Mr. Gale. Thank you. I certainly would second everything
Mr. Greenstein just said and just add a couple more
possibilities to the list, with the emphasis of course that
these are prospective issues.
One is that Medicaid spending is projected to rise faster
than the rate of inflation. That in conjunction with Medicare
and Social Security is projected to eat up an increasing share
of GDP over the next 50 years.
Mr. Greenstein. Particularly because of long term care.
Mr. Gale. Right. And the CBO and the GAO outline those
projections very clearly. A second issue may be Government
pensions, that's pensions for military and civilian workers,
which again, in the current budget, the assets of those funds
are included but the liabilities are not.
And the third issue, I'm not certain about this, but I
would speculate that we probably haven't been doing enough to
maintain the physical infrastructure of the country and roads
and bridges and things like that may need to be thought about
in terms of being built up.
I also want to mention two things. One is, I think that's a
great question to ask, and I'm glad that we're having this
conversation in the context of a discussion also of the tax
bill, because the two are linked. But also, the main thing
that's different between now and 20 years ago or 30 years ago
is that the baby boomers are about to retire. In these
demographic patterns, where you're dealing with these things,
10 years is not that long of a time.
So I think the main issue is not a day-to-day urgency,
nothing's going to happen this week or next week if we don't
fund this immediately, but the problem is getting much closer,
the leading edge of the baby boom turns 62 in 2008. In the
years after that, we will have many, many more people that are
of retirement age. So I think that's the main difference
between now and 20, 30 years ago.
Mr. Gutknecht. Mr. Mitchell.
Mr. Mitchell. Well, first, let me give the caveat there are
plenty of issues I don't know anything about, like nuclear
waste. So whether they're big, long-term problems, I'm the
wrong person to ask. In terms of sort of the traditional fiscal
policy issues, I think there's widespread agreement, even among
the diverse opinions on this panel, that demography is driving
much of this, Social Security, Medicare, Medicaid, those are
all really demographic problems. I think it appears there is
some agreement that advance funding is the way to go. And I
think Mr. Bartlett raised the appropriate question, do you want
a 3 percent passbook savings account by having in effect the
Government owe the money to itself, or do you want advance
funding in the sense of defined contribution accounts that
individuals control?
Mr. Gutknecht. Mr. Bartlett.
Mr. Bartlett. Just to add something new to the list of
what's been discussed, I'm becoming increasingly concerned
about the contingent liability of all the Government sponsored
enterprises. The debt of Fannie Mae and Freddie Mac is just
exploding. It's just going through the roof. And although they
always make these arguments that, oh, they're private,
everybody in the financial markets knows that there's an
implicit Government guarantee of their debt. There's a serious
moral hazard problem. If everything goes along fine, that's
great. But there's always risk of some sort of financial
problem that would make the S&L problem a few years ago seem
trivial by comparison.
I would certainly urge the committee, at the very least, to
pay much, much more attention to these off budget contingent
liabilities than I think has been the case.
Lastly, I would just like to agree with Mr. Greenstein that
the cost of any prescription drug benefit that Congress passes
will, by definition, be vastly larger than anybody estimates,
because it's going to change people's behavior. I think that
also, the recent history suggests that the greatest
breakthroughs in the areas of medical technology are mainly in
the drug area.
I think the prospect of having more money available to pay
for prescription drugs will certainly drive the drug companies
to produce more drugs, more expensive drugs. And given the
testing process--we all know it costs $500 million to bring a
drug to market--I think that the consumers will change their
behavior. The drug companies will change their behavior.
Everybody will change their behavior so as to take advantage of
whatever benefit Congress enacts.
I believe it's potentially a black hole of Government
revenues for which there is absolutely no bottom. Frankly, I
would urge you not to step into that hole, but I guess
political factors may overwhelm my judgment in this area.
Mr. Gutknecht. Well, I want to thank you, because part of
what I'm considering doing, and I've talked to Mr. Spratt about
it, and I don't want to put words in his mouth, but I think he
shares some interest in this as well, and that is that the
committee, over the last 20 years, has been a committee that
has dealt with today's budget, the here and now. Balance was
the grail that everybody was searching for. I guess we got it
now, finally, at least under some definition of balance.
But the point is that now that we've achieved the here and
now, we have a responsibility, we're really the only committee
that can do a good job of looking at the horizon and saying,
what's coming up from a situation in our country that's going
to come and bite us at the Federal level, from a fiscal policy
standpoint. That's part of the reason that this year, when we
get through with the here and now budget, we want to lift our
sights a little bit and look at that horizon.
So I appreciate the list that you're giving us. That's part
of the outlook that I was hoping you would give us today. If
you have additional thoughts or ideas about that horizon,
issues that you think we should pay attention to, I would
appreciate it. Because I believe that that can be an exercise
that can be done in a very nonpartisan, just American,
patriotic way. That's not an issue, I mean, the politics of
here and now, we'll deal with that. We'll have our tax cut
versus whatever debate and we'll have that out as we're having
today.
But whether or not hazardous waste or whether or not the
AMT or whether or not global warming or whatever it might be is
out there, and from a budgetary standpoint maybe something we
need to pay attention to is yet an issue that Congress is not
really trying to address. I think this is the committee that
needs to at least begin to approach that.
So I appreciate the exercise of at least giving me some of
those ideas. I appreciate your testimony today and thank you
for your indulgences all the way until noon.
Unless anybody else has anything else, the committee will
stand in recess until 1:30, where we will continue the Members
Day hearing panel. Thank you.
[Whereupon, at 12 noon, the committee was recessed, to
reconvene at 1:30 p.m. the same day.]
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