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Thursday, August 4, 2011

DEBT AND SPENDING: WHAT WAS ACCOMPLISHED?

Now that the immediate threat of a federal government "default" is over, numerous questions remain:  "Is the crisis over?"; "Have meaningful cuts in federal spending been made?" "Have vital social programs been gutted?" "Is the U.S. government finally on a path to fiscal responsibility?"

The short answers respectively are, no, no, no and no.  However, there is still a glimmer of hope and cause for unenthusiastic optimism.  First, any legislation which passes over the opposition of ideological extremes on both ends of the political spectrum, in this case the far Left and Tea Party purists, must as least represent a reasonable compromise.  This means that the democratic process in the U.S. Congress while on life support, still hasn't quite expired.  The debt ceiling extension passed in the House of Representatives by a 269 to 161 majority with 105 Democrats and 56 Republicans opposed.  In the Senate the bill passed with a 74 to 26 majority with 5 Democrats and one far Left Independent (Sanders (I-VT) and 19 Republicans opposed.

This does not mean that a state of harmony has been restored to the culture of the Congress.  House Minority Leader Nancy Pelosi warned that "Republicans are trying destroy the world as we know it" before voting in favor of the impending destruction.  Republicans associated with the Tea Party were called "terrorists", "hostage takers" and chefs in "Satan's" kitchen.  But back to the "questions" remaining.

Although delayed until 2013, the crisis is not over. The federal debt continues to grow and the debt limit will have to be raised again (and again). Republicans have warned that similar demands for spending cuts will accompany that process and Democrats have warned that "next time" they will press harder for revenue increases i.e. taxes.

Meaningful cuts in federal spending have not been made.  Certainly the initial required cuts of 917 billion dollars and the second phase requirement of an addition 1.2 to 1.5 trillion dollars are huge numbers in real terms.  BUT, the second phase cuts are to be spread out over ten years.  This means on average and at a minimum, they represent reductions in future federal spending of about 120 billion dollars a year.  Again, in real numbers this is a fairly large amount but in the context of the total annual budget, the projected annual deficit and the total and projected federal debt, they shrink into relative insignificance. 

Total spending for fiscal year 2011 is 3.82 trillion dollars.  Now no ordinary mortal, including members of Congress can fully comprehend what a trillion dollars really is but it's an enormous number. Federal revenues for 2011 are 2.17 trillion dollars thus resulting in over spending (an annual deficit) of 1.65 trillion dollars. So the average cut required by the current debt extension legislation after the initial cut, represents about  4% percent of current annual spending, only 16% of the projected 2012 deficit and only 1.5 percent of the 14.3 trillion dollar existing federal debt. 

What this all means depends on one’s ideological orientation.  Liberal Democrats obviously see it as a blow against the government’s role, which in their view is to provide subsidies to those segments of the population who are not “rich”. Conservative Republicans see it as a first, but inadequate step in reducing the size of government and thus avoiding a future state of European style insolvency while promoting economic growth by freeing up capital for investment and thus higher levels of employment.  Essentially, as the numbers cited above demonstrate, the importance of the debt ceiling/spending reduction legislation is that it might represent a turning point in the typical culture and agenda of Congress from ever increasing spending to a search for ways to bring spending more in line with revenues.  For now this turning point will only hold as long as Republicans maintain a majority in one house of Congress but the debate has certainly raised the consciousness of the American  people with respect to federal spending, deficits and debt and that insures that these issues will play an important role in the 2012 federal elections.

Reducing the federal debt as a percentage of national income (GDP) is vital.  Many conservatives hope to do this over time by the passage of a “balanced budget” amendment to the constitution.  The new legislation sets up a “super legislative committee” of twelve House and Senate members whose job it will be to find an additional 2.1 to 2.5 trillion dollars in spending reductions by November 23, 2011; Medicaid and Social Security are exempt. If such cuts are not proposed and accepted by Congress, automatic across the board cuts  totaling 2.1 trillion dollars are enacted and a vote in both houses of Congress on a balanced budget amendment to the Constitution is required.  Such a vote would not be successful in the current congress where a 2/3 majority is required in both houses and it is unlike to pass in the new congress in 2013 without another Republican sweep.  It would then have to win approval in 3/4 of the 50 state’s legislatures. Still, including this requirement in the so called automatically “triggered” response to a failure of the super committee and the Congress to find the additional spending cuts is another demonstration of the changing political orientation in the Congress.

While a requirement for an annual balanced budget would speed up the reduction in the national debt and, at its current level which is close to 100% of GDP it is extreme, most economists agree that some federal debt is manageable.  The last federal surplus occurred in fiscal year 2001 and in that year federal debt amounted to 5.8 trillion dollars or 58% of GDP and there was little controversy about it.  In fact, the 40 year average to 2010, of federal debt to GDP is 35%. 

In spite of the long and adversarial debate over this debt reduction effort and the doom and gloom predictions from the Democrats, the proposed cuts are far from adequate to make significant reductions in either predicted annual deficits or the enormous current federal debt.  All the cuts fall on to "discretionary spending" including defense. A genuine program to cut deficits/debt must include the "entitlement" category which constitutes almost 2/3 of the budget.  These items are Social Security, Medicare and Medicaid.  Liberals have made supporting these programs at their current levels a quasi-religion and reject all changes. But demographic realities can't be ignored and without changes deficits and debt will continue to escalate and the programs themselves will eventually become insolvent.  Tea Party conservatives are equally rigid with respect to taxes. Spending cuts alone cannot solve the budget problem.  The tax system needs to be reformed in any case and the President's bi-partisan commission which he established to recommend financial reform and then ignored, proposed ideas which are worth pursuing.  The commission's ideas included creating only two tax rates and lowering them from their current levels as well as  revoking most currently available deductions and loopholes.  The predicted result was a significant increase in tax revenues and a simpler tax code.  This is not a radical departure from the Tea Party position of "no new taxes" and would be an important contribution to the budget balancing effort. 

The rest of the year will be both interesting and contentious as the "super committee" does its work, the 2012 fiscal year federal budget is formulated and the issues are magnified by the politics of the 2012 election, but a workable long range debt policy will probably have to wait until the next congress and the next administration whether it is the second Obama administration or a Republican successor.

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