So, About That Deficit Commission ...

The chairmen of the deficit commission have released a proposal as to what we should do about our fiscal future. It's not the commission's final report; rather, it's a starting place for negotiations. The broad outlines:


1) Tax revenues capped at 21% of GDP.

2) Substantial renovation of the Social Security program which will make it substantially more progressive, gradually raising the percentage of payrolls that are subject to Social Security tax to about 90%, and altering the formulas for calculating and indexing benefits so that those whose lifetime earnings are above the median will see much less in the way of benefits.

3)

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A hundred billion or so in defense cuts, including closing 1/3 of our overseas bases, forcing military retirees to wait until age 60 to collect their pensions, and reducing procurement expenditures.

4) A like cut in domestic discretionary spending, including reducing foreign aid, a 10% reduction of the federal workforce, and the elimination of all earmarks.

5) Tax simplification and top rate reduction. This proposal is complicated, and is being oversimplified by many commentators.

6) Big cuts to health care and an alteration of the IPAB mechanism for recommending further cuts.

Needless to say, this has attracted quite a bit of ire. My inbox is crowded with missives from conservative groups screaming that the commission has proposed ONE TRILLION IN TAX INCREASES that will DEVASTATE THE ECONOMY. Meanwhile progressive groups are proclaiming that it's outrageous to cap tax revenues at 21% in order to cut the top tax rate to 23%.

My thoughts:
1)  Progressives are going to have to accept that this isn't going to be all, or even mostly, done with tax increases.  The comparisons to European nations being bandied about are silly.  For starters, unlike, say, Sweden, America has really substantial state and local spending, which limits how much the federal government can tax and spend.  According to the Census, in 2008 state and local governments spent $2.8 trillion, of which about $2 trillion were operating expenditures.  That same year, the US government spent about $3 trillion.  US government spending at all levels is now over 40% of GDP.  

In America, I don't see how this number is going to go to 50% without some sort of fiscal cataclysm, and no, I don't care how awesome Sweden is.  Twenty-one percent of GDP is well above the historical average of the last 50 years, indeed, it's well over what we're taking in now, or will take in when the Bush tax cuts expire.  Meanwhile, state and local taxes are going to have to go up, because of pensions and other mandatory spending.

I see a lot of commentary this morning saying that a plan with such a low revenue cap is "not serious," but I could say the same of blithely assuming that you can raise federal taxes by, say, 40%.  When I asked a senior deficit commission official why there was no mention of a VAT, he dryly noted that a resolution opposing the VAT passed the Senate in April by 83-13.

Moreover, the problem is on the spending side.  There's no way, mathematically, to make up all or even most of our budget problems with tax increases.  There were always going to be more spending cuts than tax increases, especially in health care.

There is especially no way given that, um, Republicans exist.  You can get as angry as you want, but you cannot assume away the half of the political spectrum that does not want a massive increase in government spending and income redistribution.  If you do, the voters will . . . well, do what they just did, and elect more of those people. Get angry at the voters, if you want, but it's foolish to get angry at the commissioners.

Conservatives are getting angry that there is any tax increase at all seem as foolish, at least.  There was never any chance of a 100% spending cut program--even if the Democrats didn't control a thing, remember how Social Security privatization went?  This is a good compromise: the tax take increases by roughly 15%, along with a broad simplification plan that should remove economic distortions and enhance growth.

2)  The tax proposal has been somewhat mis-described.  The proposal includes three options, only one of which includes a 23% top tax rate.  And that top tax rate is not a serious proposal.  Rather, it's part of what they call the "zero option" for radical tax simplification.  They zero out all tax expenditures, including the EITC, and show what the tax rate would be on that very broad base.  Then they slowly add back in expenditures, illustrating what the rate would be if you add the expenditures back in.  It's sort of like what you should do with your household budget--start with the basics, and then add in extras as you earn more income.

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A top tax rate of 28% on a much broader base is not a giveaway to the rich; it's more than double what Theresa and John Kerry paid in 2003.

Option 2 is the Wyden-Gregg plan, with a top rate of 35%, while Option 3 is a sort of dead-man switch--a massive across the board cut in tax expenditures if Congress doesn't act.

Since tax expenditures primarily benefit the top brackets, this is considerably more progressive than many people seem to think.

3)  This is not a "cat food" proposal that cuts spending on the poor.  In fact, the Social Security proposal boosts benefits for the very poor and the very old.  

This is a proposal to refocus government spending--both entitlements and tax expenditures--away from the middle class and onto the needy.  If you believe that "a program for the poor is a poor program"--I'm skeptical--then this should worry you, but not because we're throwing the elderly on the street.  Rather, it might someday undercut support for some programs.

Hell, we're not even throwing the middle class on the street--the benefit cuts are largely very slow indexing changes that phase in over decades.  The cuts to tax expenditures are more problematic--which is why, contra many commentators, I do think they need to be paired with pretty substantial rate reductions.

4)  The cuts to health care strike me as implausible.  Essentially, the commission recommends undoing all the political compromises that were made to get health care passed.  The cuts will, then, hit the most popular groups hardest, like doctors, so stand by for ads featuring a kindly, white-haired GP sorrowfully explaining that he's not going to be able to give his patients the quality of care they deserve.  Here the plan is all pain, no gain, with the exception of tort reforms that seem to generate an implausibly large amount of cost savings.  I'm skeptical that the doctors are going to think payment reforms that will likely substantially lower their compensation are a worthwhile trade-off for tort reform.

Neither, I think, will seniors--this proposal would have far-reaching effects on how they get health care.  It also leans rather hard on the states, who you may have noticed don't have any money.  They propose cutting back on various Medicaid-related income streams, just as the states have a new influx of Medicaid patients from the health care bill.  Given that the Patient Protection and Affordable Care Act got more than half of its coverage expansion by enrolling people in Medicaid, this seems like sort of a problem.

Indeed, the health care reform bill seems like sort of a problem, generally, for the deficit commission.  Even the commission official I spoke with admitted that yes, PPACA had used up the politically easiest cuts, leaving the commission to find harder, deeper ones--though he hastened to praise the bill anyway.  But to my mind, health care reform has made the prospects for deficit reduction dimmer, not merely because the cuts are harder, but because the legislators who went through it have some fairly serious PTSD.  No one wants to spend another twelve months or so trying to make more Medicare cuts--especially when this time they don't even have any sweeteners like a pre-existing condition ban.  I'm worried that the health care bill may well end up being what we did instead of addressing the deficit.

5)  Many of the other cuts also strike me as implausible--tax simplification probably has the best chance, and maybe Social Security reform because the changes are so far off.  The others are going to face fierce, angry fights from all the entrenched interests:  public sector unions and auxiliary unions like health care workers, military and veterans, doctors, and so forth.

And yet, I have no more plausible plan to offer.  The magnitude of deficit reduction required is far greater than anything we've had to do so far (except in post-war interludes where the solution was to um, not spend so much money shooting at people).  There is no magic pot of money out there that does not come attached to some angry interest group.

We have to deal with that problem now.  Oh, I don't think the bond vigilantes are ready to ride just yet--but they're holding back precisely because they assume that we'll eventually wise up and do something, the way wealthy developed nations usually do.  But if they start to suspect that we can't--well, we'll be in for an extremely rapid and unpleasant progression of events.

I doubt that this is the final plan, but I suspect that it is like the final plan in most essential respects--most especially in that it will make almost everyone ferociously angry, and politicians will not be eager to vote for it.
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Megan McArdle is a columnist at Bloomberg View and a former senior editor at The Atlantic. Her new book is The Up Side of Down.

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