Friday, December 3, 2010

How to Shrink the Deficit

President Obama's deficit commission lands with a predictable political thud


      Debates over taxes and spending are at root about political philosophy: How big should government be? How much income should it redistribute, and to whom? I mention this to explain why today's report from President Obama's deficit commission is landing with such a predictable political thud.

      This doesn't mean that Co-Chairmen Alan Simpson and Erskine Bowles haven't offered some useful ideas, much better ideas overall than we feared. As conceived by former White House budget director Peter Orszag, the commission was supposed to be a Trojan Horse for a value-added tax (VAT) to raise federal revenues to a new and much higher level than their 18.5% or so modern average.

      The idea was that the proposal would sit on a shelf until deficits led to a Greek-like crisis, the bond markets demanded action, and the political class reached in desperation for the Simpson-Bowles deus ex machina. Mr. Orszag and other liberals know they need a VAT, or some other kind of new tax, to finance ObamaCare and their other spending ambitions. What they want is a political device to lure Republicans into voting for it.

       Simpson and Bowles rejected the VAT ruse, but their plan is still one of those Beltway specials that fudges the debate over what government should do. Instead, it tries to package things that everyone dislikes in the hope that everyone will swallow the castor oil at the same time. Such proposals never have a chance unless Presidents and Congressional leaders sign on, and in this case Democrats are already in open revolt, while Republicans are saying nicer things than Mr. Obama is about his own commission. 

      The U.S. federal deficit problem isn't hard to understand. In the short term, revenues have collapsed to 14.9% of GDP thanks to the recession and feeble recovery. Meanwhile, Democrats have raised spending to as high as 25% of GDP, a level not seen since World War II. Faster growth should return revenues over time to 18% or 19% (they have never reached 21%), while spending restraint and program eliminations can gradually reduce outlays toward 20%. The key variable here is economic growth, which is why a tax increase would be especially counterproductive.

      Longer-term, the problems are the liberal entitlements of Medicare, Medicaid, Social Security, and, starting in 2014, ObamaCare, which will add about 20 million new patients to the Medicaid rolls and not one doctor. Democrats want to keep these programs as they are and pay for them with much higher taxes—first by balancing the budget at 25% of GDP, and later by necessity at 30%, 40% or more. The alternative—which we support—is to reform the programs and reduce their scope.

       Yet, incredibly, the Simpson-Bowles report has almost nothing to say about the runaway health-care entitlements. This is a blow to the left and the White House, which cut Medicare by $500 billion to finance a corner of ObamaCare and wants its signature achievement untouched. But this is like doing a Pentagon budget review and excluding Iraq and Afghanistan. Republicans ought to reject the report on those grounds alone.

       The deficit commission is more honest on Social Security, on which a bipartisan deal would be possible if Mr. Obama got behind it. Republicans are willing to cut the benefits of future retirees by changing the annual inflation increase formula, but Democrats will have to be willing to raise the retirement age and forgo a payroll tax increase.


       The other place for potential common ground is tax reform. The deficit commission suggests cutting tax rates in return for closing tax loopholes, which would help the economy and raise revenue by increasing the efficiency of the tax code. It would also improve tax equity. Many tax loopholes go to the affluent and powerful who have clout in Congress, such as the mortgage interest deduction for $1 million homes. Alas, Mr. Obama has shown no signs that his philosophy of "spreading the wealth" can bring about lower tax rates.


       Given this reality, we think commission members Paul Ryan and Jeb Hensarling are right to oppose the final report. The House GOP campaign proposal to reduce spending to 2008 levels is already more stringent than what the commission recommends. Mr. Ryan points out that because the commission starts from Mr. Obama's spending baseline, its proposed cuts are also fewer than advertised—only $1 in cuts for every $2 in tax increases ($1.13 trillion in total tax hikes).


      The best strategy for Republicans is to take the commission's better ideas and make them part of their own budget proposals next year. GOP Senators and commission members Judd Gregg, Mike Crapo and Tom Coburn have endorsed the report on grounds that something has to be done, but this is the triumph of desperation over experience.


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