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A Deficit in Fiscal Sanity

A generation from now, will our children and grandchildren have affordable health care? Will they have good schools? How high will their taxes be?

A lot is riding on the policies our government enacts today. Yet in the presidential campaigns, the tough choices are largely obscured in heated, sometimes misleading rhetoric. If you are searching for fiscal sanity, you have to listen very carefully.

Let’s start with the basics. This month the Treasury reported that the deficit for fiscal year 2004 was $413 billion. This marks the fourth consecutive year of budget deterioration. Not since World War II has the deficit risen for four straight years as a share of the economy.

Is this deficit the inevitable consequence of the recession? No. The recession officially ended in November 2001. In fact, this is the first time since before the Great Depression in the 1930s that the deficit has continued rising this far into a recovery.

The major cause of the deficit has been a stunning decline in tax income, rather than an explosion in government spending. Federal revenues this year are at their lowest level as a share of the economy since 1959.

Can we grow our way out of the deficit? Doubtful. The nonpartisan Congressional Budget Office reports that the deficit will be between $2.3 trillion and $4 trillion over the next 10 years, depending on whether the tax cuts enacted since 2001 are extended, as the Bush administration has proposed. After the end of the decade, the deficit will climb even higher as the baby-boom generation retires.

Both President Bush and Senator John Kerry say they will cut the deficit in half by 2009. Neither, though, has backed that up with specific changes that would do the trick.

Kerry recognizes that revenues are part of the problem; he proposes rolling back tax cuts for people with incomes of more than $200,000 and closing corporate loopholes, a move that would affect few job-creating small businesses. Kerry would use most of this money to reduce the ranks of the uninsured, lower health insurance costs and increase funding for education, although he has said he would scale back his domestic proposals if sufficient revenue isn’t available to cover the costs.

Bush proposes little new domestic spending; the costly proposals in his budget are a new round of tax cuts. These tax cuts would mushroom in cost around the time the baby boomers retire, in part because they would exempt a steadily increasing share of investment income from taxation. In addition, Bush’s proposal to partially privatize Social Security would require the funding of “transition” costs that would total $1-2 trillion over the next 10 years. Transition funding would be needed because workers would divert part of their payroll taxes to private accounts, which would leave Social Security with inadequate funds to pay current benefits.

Neither Kerry’s nor Bush’s plan is likely to cut the deficit in half in five years. Neither candidate has come clean on the sacrifices that shrinking the deficit substantially would entail. But there is one concrete, if far from glamorous, action that would represent an important first step toward restoring fiscal sanity.

If you listen hard, you will hear Kerry call for restoring something called “Pay-As-You-Go,” or “Paygo.” The Paygo rule was in effect during the 1990s and is widely accorded a significant share of the credit for the $236 billion annual budget surplus we enjoyed at that decade’s end.

The Paygo rule requires policymakers to hew to a simple tradeoff: Anyone who proposes new tax cuts or expansions of “entitlement” programs — such as Medicare, veterans’ benefits, food stamps or farm-price supports — must come up with a way to “pay for” the tax cuts or program expansions. To “pay for” means to raise revenue from a different source or to reduce the costs of another entitlement program. For example, one could close corporate loopholes and use the funds to expand Medicare or to cut tax rates.

The rule has a proven track record. According to the Congressional Budget Office, between 1991 and 1997 most tax and entitlement bills that became law were paid for and didn’t enlarge the deficit. It’s regarded by budget watchdog groups, as well as by Federal Reserve Chairman Alan Greenspan, as a fundamental step to help ensure that our children aren’t loaded down with federal debt.

Bush opposes reinstatement of the Paygo rule, and his administration worked against it on Capitol Hill this year. Kerry voted for the Paygo rule in 2002 and again this year; its reinstatement is an integral part of his budget plan.

Fiscal sanity requires not only deficit reduction, but also that government spending be efficient. The cheapest program is not always the most cost effective, and the most expensive one does not always get the best results. Two areas of debate in the campaign — health insurance and Social Security — illustrate these principles.

Bush proposes to give lower-income people a tax credit to purchase health insurance. This isn’t too expensive, in part because the credit would be too small to bring the cost of health insurance down to the level at which most low- and moderate-income families could afford it. This proposal wouldn’t make a large dent in the number of uninsured.

The Kerry proposal is more expensive and probably won’t be affordable if Congress doesn’t agree to scale back tax cuts for people who earn more than $200,000. But it would cover many more of the uninsured by reducing health insurance costs for employers — who would then be more likely to offer coverage — expanding programs that cover children, and allowing certain people to buy into federal insurance programs.

There are also large differences on Social Security. Bush implies that the Social Security situation is so dire that a radical partial-privatization approach is necessary. The Social Security Trustees, however, report that full Social Security benefits can be paid under current law until 2042, and the Congressional Budget Office puts the date at 2052. The Congressional Budget Office also estimates that 80% of benefits could be paid after 2052 — even if no changes are made.

Gradual, modest changes in Social Security are necessary to keep it solvent for the very long term, and Kerry ought to be more forthcoming about the changes he would make and not be so quick to rule out certain approaches. But the situation does not call for a radical restructuring of Social Security that subjects beneficiaries to the vicissitudes of the stock market and incurs trillions of dollars in transition costs.

Deficit spending means we are getting tax cuts and services from the government that we aren’t paying for, which makes it seem like we’re getting a bargain. But economists generally agree that large, persistent deficits ultimately reduce economic growth, which means fewer jobs and less income.

This can’t go on forever. What we pass from generation to generation — midor lador, as tradition says — should not be a legacy of massive debt.

Iris Lav is deputy director of the Center on Budget and Policy Priorities. The views expressed are her own.


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