Veteran budget experts said Tuesday that it may require a U.S. sovereign debt crisis to finally force President Barack Obama -- or some future president -- and Congress to agree on truly fundamental changes in fiscal policy.
Last week’s overwhelming bipartisan agreement between Obama and Congress enacted modest income tax increases for most workers (an average tax hike of about $364 in 2013, according to the Tax Policy Center), a return to the full 6.2 percent Social Security payroll tax, and a two-month postponement of the “sequester,” the mandatory spending cuts required by the Budget Control Act. The deal made no changes in long-term spending or in the design of the entitlement programs such as Medicare.
Back in 2011, Obama signed the BCA into law in return for Congress agreeing to a higher federal borrowing limit. The law’s automatic spending cuts were designed to be the ultimate “action-forcing event” that would nudge Obama and Congress into clinching a historic bargain: entitlement reform and spending curbs combined with tax increases.
But three former Congressional Budget Office directors who assembled at a panel discussion Tuesday at the Urban Institute agreed that Congress’s attempt to design an action-forcing mechanism had failed. “I’m really at a loss for what kind of thing might cause the Congress to act in a sensible way,” said former CBO director Rudolph Penner. “We’ve reduced the credibility of something like a sequester. It’s just hard to come up with artificial crises of that sort.”
The BCA itself was supposed to be the action-forcing device – and it resulted only in postponing significant deficit reduction, not forcing it. According to the Congressional Budget Office, the deal Obama signed last week will increase spending and reduce tax revenues by nearly $4 trillion between now and 2022, compared to what would have happened if he and Congress had done nothing.
Another deadline – or another occasion for postponing action -- comes when the Treasury hits the government’s borrowing limit in late February or early March. Then at the end of March, an interim spending resolution expires. If Congress takes no action before that happens, parts of the government may shut down and federal employees could be furloughed for one day a month.
Penner said Tuesday that “those old warriors” – Vice President Joe Biden and Senate Republican Leader Sen. Mitch McConnell – might once again devise a stopgap, perhaps again postponing spending cuts and raising the borrowing limit.
Penner said he saw no reason to change the forecast he has been making for a long time: “It’s going to take a sovereign debt crisis to get our leaders to act responsibly. If that does happen, I think groups like the AARP -- who have adamantly opposed even the tiniest of reforms of entitlement spending – will see that they have been very short-sighted. Their constituents will be hurt mightily” in a U.S. sovereign debt crisis by seeing their retirement savings evaporate amid a market crash.
A sovereign debt crisis would arrive if bond market investors concluded that the ratio of federal debt to U.S. national income was so high that it created doubts about full and timely repayment of money lent to the Treasury. Investors would force interest rates sharply higher to compensate for the perceived increase in risk.
Sovereign debt crises, or near-approaches to them, in Greece and other countries have resulted in dramatic cuts in government benefits without much advance warning, Penner said.
He said he was puzzled that financial markets didn’t show a bigger reaction to the fiscal uncertainty in the run-up to last week’s accord, but he cautioned “markets tend to remain very, very calm as the budget situation deteriorates – until one day they don’t (remain calm). It’s not a gradual process…. These things are essentially impossible to predict, they can be set off by a bit of bad budget news on an otherwise slow news day.”
But former CBO acting director Donald Marron said his view was that “the hypothetical fiscal crisis for the United States is still many years in the future.”
Former CBO director Robert Reischauer warned that the Federal Reserve’s policy of keeping short term rates ultra-low “has eliminated one of the signals that the public and markets and (political) leaders look to in forcing action” on budgets. With such low interest rates, the federal government’s borrowing costs are not painful.
The CBO reported Tuesday that there were signs of modest improvement in the budget picture in the short term: total tax receipts increased by 11 percent in the first quarter of fiscal year 2013 – and that came even before the tax increase that Obama signed into law last week. The 2013 fiscal year began on Oct. 1, 2012.
Spending was about the same in the first quarter of 2013 as it was during that period in 2012, when adjusted for shifts in the timing of certain payments due to weekends and holidays. Defense outlays were $9 billion (or 5 percent) less than in the same period last year.
But the bad news was that interest payments are already edging up, even without a sovereign debt crisis or a spike in interest rates. The CBO said outlays for interest on the public debt were 7 percent greater than in the same period a year earlier, reflecting in part the growing debt held by the public.
For some Democrats, a lingering regret from last week’s deal is that Obama did not extract higher tax revenues; they worry that having agreed to income tax increases that largely fall on the top one percent of earners, the president won’t be able to persuade Congress to enact more tax increases this year or in 2014.
Larry Downing / Reuters
The Capitol Dome is seen on Capitol Hill, Nov. 9, 2012. To the left is the House of Representatives.
“The amount of revenue that was generated by the deal was far lower than the president and the Democrats had hoped for, and even lower than the amount the Republicans seemed willing at various times to put on the table,” noted Reischauer.
He added that last week’s deal will create the impression that higher income tax rates “are off the table in the future” – which he said was “very damaging” since higher federal revenues will be needed over the next few decades. He added that in order to provide the services and benefits Americans expect and to keep deficits and debt at sustainable levels, “we’re going to have to increase taxes on not (only) the (top) 1 percent, not the 2 percent, probably not the 20 percent, but the 30 or 40 percent of Americans. The sooner we face up to that, the sooner we can get on to other important issues that the government should be addressing.”
Noting that Obama had campaigned on sparing the middle class from having to pay any tax increases, Penner noted that that left the very high earners as the only source of more revenue. But, he said, “The arithmetic clearly shows that you can’t solve this long-run budget problem without the middle class making a contribution. The problem with rich people is that there just aren’t enough of them.”