The Plan to Balance the Budget: The Fiscal Commission's Final Report

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The president's deficit commission released its final recommendation for reducing the debt and reforming the budget this morning. Dramatically named "The Moment of Truth," the plan offers a mosaic of reforms that promise to cut $4 trillion from the debt before 2020.

The plan would also cap tax revenue at 21 percent, limit spending to 22 percent, and reduce debt as a percentage of GDP to the key figure of 60 percent by 2023.

The 18-member commission will vote Friday on the plan, which requires a 14-person majority to go to Congress. But you don't have to wait until then to learn the basics. Here is your executive summary, with "bottom line" conclusions to give you a sense of how I see things.

Discretionary/Mandatory Spending

The goal is clear: cut $100 billion from defense and $100 billion from non-defense spending by 2015. The road there is less clear, because the discretionary budget is a vertiginous array of programs.

So the report keeps things broad. Spending in 2012 will equal spending in 2011. Spending in 2013 will come down to pre-crisis levels, adjusted for inflation. The president will propose annual limits for war spending. Disaster funds will be set up to manage unforeseen tragedies. A new 15-cent per gallon gas tax will pay into a transportation fund so that roads


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and bridges rely less on general revenue. Agencies will be responsible for their own diets, but in the event that they don't lose the weight themselves, a new, bipartisan "Cut-and-Invest Committee" will offer guidance.

On the mandatory spending side, the report recommends reforming civilian and military retirement plans, cutting agricultural subsidies, but protecting income support programs.

Bottom line: The commission doesn't particularly care where the spending cuts come from so long as they draw equally from both security and non-security spending and don't hurt education, infrastructure or support for low-income families.

Taxes

The name of the game here is: Broaden the base, lower the rates. That means eliminating most tax expenditures (explanation here) that don't protect the low-income, while slashing tax rates for both individuals and companies.

For individuals, tax brackets move to a new scale of 12%/22%/28% (for comparison: under Clinton, those brackets were 15/ 28/ 31/ 36/ 39.6). Welfare provisions like the Earned Income Tax Credit and the Child Tax credit stay put. Itemized deductions are eliminated and capital gains and dividends are taxed as ordinary income, dramatically raising effective tax rates on rich folks who both itemize heavily and get more income from investments. The mortgage interest deduction [Flashcard here] becomes a tax credit to make it more progressive and the employer health care subsidy [Flashcard here] is capped and phased out slowly.

OK, so the upshot: After-tax income would decline proportionately -- between one and two percent -- on almost all quintiles except for the richest one percent, who would pay significantly more to Uncle Sam.

Here's the key graph summing up the effect on after-tax income for each class.
deftax3.png
Wondering about corporate tax reform? Here's the summary in a chart. The gist is familiar. The plan gives corporations a lower tax rate in return for taking away almost all of the tax deductions that companies use to shrink their liabilities.

deficittaxes2.png
Bottom line: I don't agree with the commission's insistence on capping tax revenue at 21 percent of GDP. But the broad plan to increase tax revenue by cutting both tax rates and tax expenditures is fair, pro-growth, and right on.

Social Security

Like the chairmen's report, the final plan closes the projected shortfall in Social Security with what amounts to three big benefit reforms and one smaller revenue reform. On the benefits side, it shrinks Social Security checks to the middle class and up by changing the benefits formula. This single reform accounts for about half of all Social Security savings. The plan also slowly raises the retirement age to 69 by 2075 and refines the cost-of-living measure used to increase Social Security checks every year.

On the revenue side, the plan raises the "ceiling" of taxable income to 90 percent of earnings so that upper-middle class workers pay more into the program.

The deficit commission's thesis in a sentence: If everybody pays a bit more, government pays a lot less

To protect low-income workers and seniors who cannot work up to the newly raised retirement age, the program creates a new minimum benefit and a hardship exemption.

By 2050, the commission estimates that middle-income families will get a 9 percent cut in scheduled Social Security payments. The fourth quartile will get a 14 percent cut, and the top 20 percent will get nearly a 20 percent cut. Meanwhile, low-income families would get a modest 4 percent bump thanks to the minimum benefit and hardship exemption.

Bottom line: Greater benefits for the low-income and those who can't work past 62. Smaller benefits and higher taxes for the upper-middle class and higher. Unlike the liberal deficit plans, this leans on slimming benefits more than raising taxes. An all-tax fix for Social Security would dramatically raise the cost of employing white collar workers, but I'd prefer a smaller benefit cut for middle-income Americans.

Health Care

The rising cost of health care is a complex, multi-variable problem, and the commission offers a complex multi-variable solution. The simplest way to sum up the plan is: If everybody in the health care system pays a bit more, the government will pay a bit less.

So that's what you get. Employers and employees would gradually lose the tax-free status for workplace health care. Doctors would get smaller reimbursements over time. In return, they would get medical malpractice reform, which would squeeze tort lawyers. Medicare patients would pay higher deductibles. Drug companies would have to offer rebates through both Medicare Part D and Medicaid. Hospitals would receive less money for medical education. And of course, "excess" payments would be targeted throughout the system. In short, if everybody pays a little, government saves a lot.

Crucially, the commission doubles down on the health care reform law, strengthening the pilot programs and the Independent Payment Advisory Board, which would recommend Medicare reforms.

Finally, the report tries to establish a long-term budget goal for health care spending, limiting growth to GDP-plus one percent. This is controversial, because even though everybody agrees that health care spending is the primary cause of our long-term budget, nobody really wants to tie a belt around health spending, squeeze hard, and hope savings materialize.

Bottom line: This plan takes a spread-the-pain approach to health care reform, but it doesn't quite solve the Gordian Knot. That's not a failure of will. Reforming Social Security means tweaking a few numbers: retirement ages, taxable ceilings, COLA adjustments.  Reforming health care, on the other hand, will take decades of sustained effort.


Stimulus Today

To nurture the weak recovery, the report has two key recommendations. First, it delays most of the heavy cuts for two years, until 2013, to give unemployment time to tip-toe away from 10 percent. Second, it suggests passing a $100 billion payroll tax holiday in 2011 to give employers and workers more money to spend.


Bottom line: Good idea.

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Derek Thompson is a senior editor at The Atlantic, where he writes about economics, labor markets, and the entertainment business.

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