In a recent Washington Post article, I characterized any forthcoming budget deal as two parties who had dug a hole for themselves deciding to stop throwing shovels at each other. Despite this skepticism, I must admit that this December 2013 agreement is certainly better than throwing shovels—or, more formally, threatening another government shutdown, along with its attendant costs on the workings of government, the well-being of citizens, and economic growth.
This budget agreement also takes a couple of baby steps forward. For the first time in a while, it includes modest reforms to mandatory programs, not just discretionary programs. It cuts back slightly on the silly sequester. Perhaps more important, it gets the two budget committees functioning again. Traditionally, members of these committees have had to fight with the rest of Congress as much, if not more, than with their opponents within the committees—partly because committee members, regardless of affiliation, shared the objective of getting the budget into some sort of order.
If the committee members have really decided to restore their status, and if they are constrained by other congressional leaders from making significant headway on the budget in the months leading to the next election, I hope at least they will start working on bipartisan budget process reforms, such as reducing the game-playing in future budget agreements. One example is greater constraints on future legislation that increases long-term deficits. A trick still possible (but not used in this deal) is to avoid scoring or counting costs against a bill when they fall outside an arbitrary ten-year budget window.
Dateline: January 2014. Federal government shuts down completely.
Day 1. Mall, Washington, DC. Park Police decide shutdown again requires barring access to war memorials and the grounds of the Washington, Lincoln, and Jefferson monuments. Veterans rise up in anger and push back barricades. “If you’re furloughed, how can you keep us from entering the parks?” asks Joe Laploski, an Iraqi veteran from New Rochelle, NY. Park Police assign unpaid legal interns to determine whether Park Police should arrest themselves for working.
Day 2. White House. In hastily called press conference, President Obama announces major plan to deal with the national emergency. Enforcement on malls will be sustained, lest someone fall in the Tidal Basin and sue the government. Government debt will thereby be reduced, since Park Police cost less than those future lawsuits, at least on an expected basis.
Day 3. Capitol. Lights go out. Speaker Boehner lost underground. Democrats offer to fund search party, but, invoking the Hastert rule (requiring agreement by a majority of the majority party to act) and unable to decide whether they want to find him, Tea Party refuses.
Day 4. Longworth House Office Building. Democrats send search party after Boehner anyway. Find flasks of aged whiskey hidden by the late former Ways and Means Committee Chair Wilbur Mills two levels below the committee room where he presided. Debate ensues over whether imbibing is an essential government function. Inspired by former Occupy Wall Street supporters, Democrats decide to represent the activity as unity with the “99 percent,” who normally can’t afford such expensive booze.
Day 5. Treasury Department. Electronic payments of billions of government checks and bills stop. Secretary Lew called to emergency meeting at the White House to determine how much blame to assign to Republicans.
Day 6. Oklahoma City. Local Tea Party members claim the IRS is targeting them, citing delayed refund checks as proof. Back in Washington, House Oversight and Government Reform Committee decides to hold hearings in the dark.
Day 7. Near Capitol. Republican staffers gather at a local bar to debate how to get work done during the impasse. Consider asking the guy in charge of the lights for help, until they discover that position no longer exists because of the sequester. Boehner still missing.
Day 8. White House. President Obama plans national address during primetime. He asks the Democratic Party to pay for the speechwriters. Local TV stations refuse to broadcast the president’s speech unless their invoices for airing “Army Strong” recruiting commercials are paid.
Day 9. Treasury Department. Secretary Lew tries to issue checks to TV stations. In a 5-4 decision, the Supreme Court bars him from doing so until he lays out the precise legal priority for billions of unpaid bills.
Day 10. Princeton, NJ. Despite the worldwide recession induced by the shutdown, foreigners still flock to outstanding US obligations, and interest rates on US government securities tumble instead of rise. In a New York Times op-ed, Paul Krugman argues that at this low rate we should borrow all we can—unless it would pay for a Republican tax cut.
Day 11. Treasury Department. In response to the House Oversight Committee’s hearings, Treasury’s Inspector General issues report that Republicans were indeed targeted, indicating as proof that their delayed refund checks were bigger on average than those for Democrats. However, no crime was committed, he asserts.
Day 12. White House. President issues a statement that IRS targeting of Republicans is inexcusable. Fires top IRS data processing personnel and replaces commissioner with top executive from Avon Products with an unblemished record in taxes and data processing because she has never worked in either field.
Day 13. Sacramento. Governor Brown announces that millions of Californians are now insured under Obamacare. He asks that no penalties be assessed on those getting thousands of dollars in excess benefits since recordkeeping was impossible. On Meet the Press, Senator Cruz expresses amazement that the shutdown he favored affects every government program but Obamacare.
Day 14. White House. President Obama launches new peace initiative. He asks Hassan Rouhani of Iran and Bashar al-Assad of Syria to hire their own nuclear and chemical weapons inspectors, claiming that the U.S. shouldn’t have to pay to clean up other countries’ messes. President Putin offers to mediate and contribute Russian oil revenues.
Day 15. Capitol. Boehner found. Claims, like always, he knew exactly where he stood. Negotiates agreement with president on a continuing resolution to fund government until after congressional elections. Congress then shuts itself down until December 2014.
Day 16. Russell Senate Office Building. Before departing, Chairman Camp of the Ways and Means Committee and Chairman Baucus of the Senate Finance Committee issue a 6,700-page document with complex details on how to structure a major tax reform. Congressional leaders promise to take up issue immediately…in the next Congress.
No one quite knows what exactly Senate Finance Committee Chairman Max Baucus (D-MT) and Ranking Member Orrin Hatch (R-UT) mean when they say they will rely upon a “blank slate” as the starting point for tax reform discussions. But done carefully and with political artistry, taking advantage of their unique power, Baucus and Hatch could revolutionize how members of Congress negotiate the future of taxes.
But it’s all in the practice, not the theory. Done right, the strategy could reenergize the tax reform debate. Done wrong, it will be just another dead-end.
The idea of reforming the tax system from a “zero base” or building up from a blank slate is hardly new. And lawmakers always talk about everything being on the table. The challenge is in making it happen.
Baucus and Hatch must accomplish two goals. First, they must shift the burden of proof from those who favor reform to those who would retain the status quo. Second, they must force members to pay for their favored subsidy, denying them the opportunity to pretend it is free.
As a veteran of the Tax Reform Act of 1986, I always emphasize the crucial role of process. Sure, serendipity smiles or frowns unexpectedly on any endeavor, but the ’86 effort took off when Treasury, President Reagan, House Ways & Means Chair Dan Rostenkowski (D-IL), and Finance Committee chair Bob Packwood (R-OR) all put forward proposals that started with specific rate cuts and removal of many tax preferences.
Their plans were all somewhat different, but each changed the burden of proof. Lobbyists won many later battles, but now they were forced to explain why they needed to retain special preferences when others would not be so favored. Moreover, given a fixed revenue target, restored preferences had to be paid for. Lawmakers had to acknowledge that the price of adding back tax preferences was a higher tax rate.
Baucus, ideally with the support of Hatch, can put forward a “chairman’s mark” from which committee members can debate amendments. As both senators have suggested, that mark can be a relatively clean slate. Further, Baucus can require that amendments must not add to the deficit or change his revenue target, effectively requiring members to offer what are called “pay-fors.”
Normally, members debate items one at a time. Each adds a new subsidy without worrying about who pays for it—perhaps those currently too young to vote or the yet-unborn.
In dark times, politicians try to reduce the deficit by figuring out what tax increases or spending cuts will restore order to the budget. But identifying losers is immensely unpopular among voters, and politicians shy away from it. Worse, they blast those from the other party brave enough to provide details.
But if Baucus sets a revenue target at the beginning of this tax reform exercise, the dynamic shifts—from simply identifying winners and losers to explicit trade-offs. Winners and losers march together. With a blank slate or zero base, every restoration of a tax break requires higher rates (even an alternative tax), especially if there are few or no alternative preferences to sacrifice.
This process not only gives new life to a broad rewrite of the tax code but also makes it much easier to reform specific provisions. For instance, tax subsidies for homeownership, charity, and education can be much more effective and provide more bang per buck out of each dollar of federal subsidy. But politicians largely ignore such ideas because they create losers who scream loudly. Thus, the default for elected officials who fear negative advertising and loss of campaign contributions is to do nothing to improve these tax subsidies.
But when the burden of proof changes, a lobbyist can appear to be helping his masters simply by saving a subsidy, even if the net benefit is smaller than in the old law. After all, preserving a preference in some form is success relative to a zero baseline. Of course, as we learned in 1986, this argument grows stronger as the probability of tax reform grows. Can Baucus and Hatch change the burden of proof and force members to pay with higher rates for the subsidies they want to keep? They can certainly lead their committee and Congress in that direction, but only by specifying precisely a chairman’s mark that sets revenue and rates while slashing tax preferences.
If they do, Baucus and Hatch may force fellow senators to acknowledge that every subsidy must be paid for. And that, in turn, will open a window to design alternative tax subsidies that are fairer and more efficient. This sort of process revolution could remake policy in ways that extend well beyond tax reform.
Nothing better exemplifies our gridlock over the future of 21st century government, as well as how to recover from the Great Recession, than the false dichotomy of austerity versus stimulus.
The austerity thesis, reduced to its simplest form, suggests that government has been living beyond its means for some time, only exacerbated by the actions that accompanied the recent economic downturn. Sequesters, tax increases, and spending cuts become the order of the day.
The stimulus hypothesis, reduced also to simplest form, suggests that more government spending and lower taxes puts money in people’s pockets and helps cure a country’s economic doldrums. Once the economy is doing better, government spending will naturally fall and taxes rise.
The debate then plays out largely over deficits: do you want larger or smaller ones?
But reduced to this form, the debate is a fallacy, for several reasons.
First, one must define larger or smaller relative to something. Last year’s spending or taxes or deficits? What’s scheduled automatically in the law? The public debate often glosses over these issues. Which is more expansionary when keeping taxes at the same level: an economy whose growth in spending is cut from 6 to 4 percent or one whose growth is increased from 1 to 3 percent?
Second, a country’s ability to run deficits depends on its level of debt. A recent debate over whether at some point higher debt starts to slow economic growth doesn’t change the fact that lenders want to be repaid. People won’t loan to Greece now, but they still find the U.S. Treasury securities a safe haven for their money.
Third, and by far the most important, what timeframe is involved? Is the Congressional Budget Office pro-austerity or pro-stimulus when it concludes that sequestration hurts the economy in the short run, but is better in the long run than doing nothing about deficits? No one on either side suggests that debt can grow forever faster than the economy. Everyone implicitly or explicitly believes that to accommodate recessions when debt grows faster there are times when debt must grow slower.
So where’s the rub? Here you must understand the emotional systems, usually veiled, that lie behind those on both sides trying to force the problem to an either/or solution.
Start with hardline austerity advocates. Many of them don’t just want smaller deficits. They want smaller government—or, at the very least, they want to prevent the government from taking ever larger shares of the economy, even given changing demographics. Essentially, austerity advocates don’t trust their pro-stimulus adversaries, some of whom can almost always find an economy going into a recession, in a recession, coming out of a recession, or attaining a lower-than-average growth rate and, therefore, needing some form of stimulus. Austerity advocates have learned from long experience that once government spending is increased, it’s hard to reduce. So they feel they have to get what deficit reduction they can now that the public’s attention to recent large debt accumulations is creating pressure to act.
Now for many the hardline stimulus advocates, their support for additional temporary government intervention cannot be entirely disentangled from their sympathy for a larger future government. Else why not agree to cut back now on the scheduled acceleration of entitlement programs, particularly fast-growing health and retirement programs? That would bring the long-run budget, at least as currently scheduled, back toward balance. It would simultaneously please many of their austerity opponents and allow for more current stimulus.
The hidden agendas are complicated further by inconsistencies on both sides. Many hardline austerity advocates, at least in the United States, don’t want cuts to apply to defense spending. For their part, many hardline stimulus advocates would be glad to pare growth in tax subsidies.
Regardless, the dichotomy falls apart once one realizes that a solution can involve a slowdown in scheduled growth rates in spending and a higher rate of growth of taxes, accompanied by less short-run deficit reduction and an abandonment of poorly targeted mechanisms such as sequesters.
Consider the buildup of debt during World War II, the last time we saw U.S. levels above where they are today. Debt-to-GDP fell fairly rapidly after the war all the way until the mid-1970s. While the growing economy certainly helped, tax rates that were raised substantially during the war were largely maintained afterward, and spending had essentially no built-in growth (actually huge declines when the troops came home). Just the opposite holds now even with recovery: there are limited tax increases to pay for past accumulations of debt or wartime spending, and spending is scheduled to grow long-term, even after temporary recession-led spending and defense spending on Afghanistan declines.
Both sides—pro-austerity and pro-stimulus—want desperately to control an unknown future, either by not paying our current bills with adequate taxes or by maintaining built-in growth rates in various programs, mainly in health and retirement. The false dichotomy between austerity versus stimulus has fallen by the wayside, and what we see through the veil are two sides in mutual embrace trying to control our future, whatever the cost to the present.
Knowing how many of us economists toil away in obscurity on most research, I’m always intrigued by what catches the press’s and public’s attention. Take, for example, the significant attention paid to a 2010 study by Harvard economists Carmen Reinhart and Kenneth Rogoff that concluded that countries with debt levels above 90 percent of GDP began showing slower rates of growth. When Thomas Herndon, Michael Ash and Robert Pollin, scholars at the University of Massachusetts at Amherst, recently had trouble replicating Reinhart and Rogoff’s results, the debate played out in national news outlet.
Unfortunately, this discussion quickly devolved from substance to politics to arguments ad hominem. Without getting into the extent to which I or others can validate Reinhart and Rogoff’s (R&R’s) original findings, I offer six cautions for anyone witnessing this or a similar statistical debate with significant policy implications: (1) statistics should never be interpreted as showing more than simple but potentially useful correlations; (2) healthy skepticism is required for all social science research, which seldom gets replicated for validity; (3) all empirical economic work is based on history that will not repeat in the exact same form; (4) research can certainly contradict conventional wisdom but not reason; (5) arguments ad hominem, particularly by those with their own agendas, are unhelpful; and (6) be careful with labels and straw men.
- Correlation versus causation. It’s long been stressed that statistical tests never prove causation, not simply because they can’t but because researchers make many choices and assumptions, often of statistical convenience. This doesn’t mean statistics are useless. Just accept that any result merely shows that A and B seem to occur together even after trying to account for other influences under a huge range of never-fully-tested assumptions.
- Skepticism. A growing body of “research on research” shows that few social science experiments, and even many medical studies, are replicated. Also, positive results get published; negative results usually do not. R&R’s study was replicated mainly because it got an unusual amount of attention.
- History. The past never repeats itself exactly—or, as Heraclitus warns, “You could not step twice into the same river.” That historical interpretations are contained and sometimes couched in data analyses doesn’t mitigate this well-known caution.
- Reason versus conventional wisdom. The R&R debate mainly revolves around two reasonable notions. One is the simple arithmetic conclusion that debt can’t rise forever relative to national income, along with the related economic conclusion that higher levels of debt can and have been shown in many places to have consequences for investment, interest rates, ability to borrow, and how government revenues are spent. The other is that institutions, times, places, and circumstances matter greatly, and they affect how one should interpret past data, such as those presented by both R&R and their critics.
- Ad hominem arguments. R&R published some of their work with the Peterson Institute for International Economics, so some of those who attacked R&R may have considered the authors guilty by association because of Peter George Peterson’s concern about deficits and his contributions to that Institute. Peterson’s own “guilt” on budget issues seems to be that he became rich on Wall Street, although he favors higher taxes on what he calls “fat cats” like himself. Still, while many of those who engage in these attacks themselves fail to represent their own or their institution’s sources of funding, let’s be honest. Much social science research is funded in ways that doesn’t necessarily bias how the research is done, but rather what is researched in the first place. So, unless one fully engages and thoroughly analyzes every study, even the careful academic reader must often try to determine trustworthiness in other ways, such as whether the researchers report results only consistent with some special interest or political party.
- Labels and “straw men.” While we all use labels and straw men at times to set up the stories we tell, they at best simplify greatly. In this case, R&R are identified as advocates of “austerity” and their opponents as “Keynesians” advocating stimulus, both of which are nothing more than labels. Most budget analysts I know worry about deficits but vary widely in whether they would engage in more short-term stimulus or in how strongly they believe that a path toward long-term balance even requires austerity. For instance, is reducing some rate of growth of spending, no matter what its level, austerity? Is the Congressional Budget Office an advocate of austerity or Keynesian when it asserts that sequestration hurts the economy in the short run, but has long-run benefits relative to doing nothing about deficits?
The bottom line: use extreme caution no matter which economist you read or believe.
Full disclosure: I have spent most of my career at the Urban Institute or the Treasury Department, brief periods each at the Brookings Institution, American Enterprise Institute, and the Peter G. Peterson Foundation (which differs from the Peterson Institute for International Economics). I also serve or have served on many advisory groups and boards for such organizations as the Committee for a Responsible Federal Budget and the Comptroller General of the United States. As a consequence, je m’accuse of being among the many economists limited more than I would like by what research is supported by those institutions or their funders.
I would like to offer two simple plans, one for Republicans and one for Democrats, to avoid a blunt, across-the-board sequester with no realistic assessment of priorities. Each plan gives both parties something they want without abandoning their core principles. Each also strengthens the party making the proposal by putting the other one on the spot if it fails to move toward a moderate compromise.
First, Republicans. They should offer to empower the president, within fairly broad limits, to reallocate the direct spending cuts required by sequester and include entitlements in the offer. Yes, they would cede some power over a relatively moderate share of total spending, but they would retain their primary goal: forcing Democrats to tackle the spending side of the budget.
Next, Democrats. They should replace their demand that the sequester include tax increases with a simpler demand that the rich pay a fair share of any burden. Yes, they would give up their requirement of balancing tax increases with spending cuts, but they would retain their more basic goal: maintaining or enhancing progressivity.
To understand why these strategies would work, we have to go back to the root causes of the impasse. Both parties are fiercely fighting to compel the other one to ask the middle class for the inevitable—to give up something, at least long term, to restore reasonable balance to the budget. Each party considers it political suicide to take the lead itself. Just think back to the presidential campaign, when each candidate indicated support for Medicare cuts, only to be viciously attacked by the other.
At the same time, both parties feel trapped and confused by years of mutual dissembling about subsidies that are put into the tax code.
Given that the American Tax Relief Act increased tax rates just last month, neither party is suggesting higher taxes. The debate now is over the tax base. Republican, Democratic, and independent economists all agree that subsidies in the tax code can be made to look just like direct spending. Therefore, any reasonable debate should be over whether all subsidies and spending programs work well and are worth every dime they cost, or whether they should be reformed—not on which side of the ledger they sit.
For Republicans, the subtext is that direct spending also needs to be tackled, and much of that direct spending lies in so-called mandatory or entitlement spending, which occurs automatically with no new vote required by Congress. The push to enact yet more “tax increases,” just after tax rate were raised, they consider unfair and imbalanced.
For Democrats, the subtext is that the rich have made out quite well in recent decades, so they should bear a significant portion of any deficit reduction. Excluding tax subsidies, which tend to be a bit more top-heavy and favor taxpayers with above-average incomes, they consider unfair and imbalanced.
As I noted, to an economist of any stripe, deciding which programs to fix according to the label we place on them—direct spending or tax subsidy—is silly. But this logic belies a long history where both Democrats and Republicans were quite happy increasing tax subsidies since they could then claim smaller government (through lower taxes) when they were actually increasing the scope of government activity (through more interference, along with deficits or higher tax rates to support the subsidies). Now that we have to cut back on automatic growth in direct spending, or tax subsidies, or (most likely) both, it’s harder to change the terms of the debate.
In truth, Republicans should be just as happy cutting back on tax subsidies as on direct spending, as both mean less government interference in the economy. By the same token, Democrats should be just as happy with direct spending cuts as with cuts in tax subsidies. Since Democrats, too, end up with smaller government either way, they should focus on progressivity, not the more semantic debate over cuts in tax subsidies versus direct subsidies.
That’s where my compromise proposals come in. If Republicans would simply empower the president to reallocate the spending cuts, then the bluntness of the sequester would be eliminated. Yes, they would be giving up some power, but come on, they control only one house of Congress. Look how they came out of the last debate, with only tax rate increases and a bloody nose to boot. Forcing the president to choose also enables Republicans to run later on how they would have chosen better. And if the president really cares about progressivity, he should want to extend those cuts to entitlements, many of which also provide more benefits to the rich than the poor.
As for Democrats, why not aim their sights at their real target: progressivity? If the Republicans would allocate spending cuts as progressively as the Democrats could ever expect tax base increases to come out, then they, too, will have achieved their principal objective. Moreover, if Republicans couldn’t balance the burden of deficit reduction with spending cuts alone, they would be forced to admit that they have to go to the tax code to search for additional options, including tax subsidies.
A similar type of compromise might also be used to change the timing of the sequester, an issue beyond the scope of this brief column.
Simply put, to move beyond budgetary impasses, each party must figure out what it can give up to get what it really wants, while putting the other party on the spot for not responding to a reasonable offer of compromise. Neither of my suggestions is perfect, by any means, but I think either one or both could remove the bluntness of the sequestration.