Over the last couple of years, the budget deficit has become one of the dominant topics in U.S. politics. As with most issues, the national discourse is rife with propaganda, inaccuracies, and outright lies. Fortunately, the deficit is an issue for which there is ample data and incontrovertible facts. Even on this issue, though, it’s important to disentangle short-term deficits from longer-term trends—which are too often conflated both by sloppy journalists and by political opportunists who want to use deficits as an excuse to slash government programs they don’t support.
Here are some facts:
1. The current short-term budget deficit, slightly over $1 trillion, was driven mostly by Bush-era policies: tax cuts, the wars in Iraq and Afghanistan, the Medicare Part D prescription drug plan, and the increased use of safety net programs in the aftermath of the recession. While some of Obama’s policies have added to the short-term deficit, the additions are small. Obama’s major policy proposals are either fully paid for or generate net government revenue.
2. The short to medium-term deficits would nearly disappear if we simply let all of the Bush tax cuts expire at the end of 2012. This provides a somewhat counter-intuitive result: If Congress does absolutely nothing at the end of the year, the deficit will dramatically shrink.
3. The long-term deficit is driven overwhelmingly by projected increases in Medicare (and to a lesser extent Medicaid) costs, both because overall U.S. healthcare costs are expected to continue to rise, and because the U.S. as a society is getting older. Defense spending and Social Security both contribute to the long-term deficit, but their effects are relatively small.
Given these facts, what do we do?
First, the reason that long-term deficits are bad for the economy is because large deficits push up interest rates. This increases costs for the entire economy, makes interest payments on the national debt more expensive, and can create a vicious cycle—high rates of inflation, eating away at consumer purchasing power, weakening the balance sheets of the banking sector (which is paid back in money that is increasingly less valuable), etc.
Does the U.S. currently face either of these scenarios, i.e., high interest rates or high inflation? The answer at this point in 2012 is a resounding no. Interest rates are near 60-year lows, and core inflation has remained remarkably low since 2008. True, higher energy prices have led at times to short-term spikes, but these have so far been only temporary. (Oil and gas prices are in fact spiking at the moment, largely due to tensions with Iran.)
Setting aside the current spike, record-low interest rates and tame inflation in the U.S. indicate that the short-term budget deficit is not a drag on the U.S. economy, and that the nation should continue short-term deficit spending—to help unemployed workers, maintain the safety net, and promote economic growth with investments in infrastructure and R&D. As I wrote in this space a few months ago, the U.S. government at the moment can essentially borrow money for free; because of this, any investments that provide a net positive rate of return are sound. This doesn’t give the government license to throw money at anything; it does, though, put the onus on those opposed to deficit spending to demonstrate that the government has no profitable investments available to it. This is clearly wrong.
So the case for continued short-term deficits until the economy gets growing at a robust pace (~3%) and unemployment falls (to perhaps 6-7%) rests on solid ground. Those arguing against such spending have little to support their views. As Paul Krugman has noted, supporters of austerity in these times are resorting to magical thinking and clichés instead of data and facts.
The issue of the long-term deficit is more complicated and difficult to address. The issue boils down primarily to bringing healthcare costs under control. I will devote subsequent essays to this topic; for now, here’s a quick overview of the two opposing camps.
The Democratic/progressive camp believes there is no reason for U.S. healthcare costs to be running at close to double the per-capita average of other developed countries; and further, that there are flaws in our for-profit model that lead to more expensive care coupled with poor outcomes. Dean Baker, one of the economists in this camp, has consistently pointed out that if U.S. healthcare costs were close to the OECD average, our long-term deficit would disappear. If that’s true, how do we get there?
The Obama healthcare law has many programs designed to “bend” the cost curve down. These include an increase in preventative services, national insurance exchanges, pay-for-performance in lieu of pay-for-service, and a whole host of experimental policies. Most have yet to go into effect, so the results aren’t even close to being determined. Many healthcare experts believe that Obama’s Affordable Care Act is a good start, but won’t be enough to decrease costs as much as needed. But they believe it can be built upon and improved, as has occurred with all other major U.S. social legislation since the New Deal.
By contrast, the Republican/conservative camp believes that the ACA should be repealed, and that healthcare in America should be based on market forces with little government regulation. The major Republican plans all call for some version of Rep. Paul Ryan’s plan—privatizing Medicare by turning it into a voucher system, with the value of the vouchers growing slightly more than the rate of inflation. Seniors would use the vouchers to shop for insurance on their own. The belief is that competition, combined with tens of millions of seniors with limited resources to spend on healthcare, will essentially force insurance companies to cut the costs of their policies. Unfortunately, no evidence supports this claim. In fact, Medicare Advantage, which is a variant of Ryan’s idea, has consistently resulted in higher per-person costs than Medicare.
The Republican/conservative camp refuses to accept the idea that healthcare is a qualitatively different commodity than, say, computers or cellphones; it’s rife with asymmetric information and perverse incentives, e.g., pay-for-service instead of prevention. Assuming that competition will decrease costs simply doesn’t conform to the realities of healthcare. While the Ryan plan might decrease the long-term deficit—and there’s no guarantee that it would—it’s likely to send tens of millions of seniors into poverty. Given the political clout of this demographic, the chance of this happening is close to zero.
To be continued next week….