Tuesday, February 15, 2011

A Fiscal Crisis or an Economic One?

After having backed a $800+ billion tax-cut/stimulus package last December, House Republicans are now looking for ways to trim $100 billion from federal budget. The new wonky cocktail party comment on the battle over Obama's new budget is that non-defense discretionary spending was merely 15% of the 2010 budget. Defense spending came out at about 20% and interest payments on the ballooning national debt were about 5%. The rest of the budget came from "mandatory" programs. Last year's deficit was about 40% of the federal budget, so, even if we were to reduce all discretionary spending to zero, we would still have a considerable deficit. Even reducing defense spending to zero might not erase the deficit.

So "mandatory" spending is the only thing left on the chopping block. The left likes to appeal to this "mandatory" spending as a device for arguing that taxes should be raised; the right likes to appeal to this "mandatory" spending percentage as an excuse for "entitlement reform." Both views may have some substance.

But what is "mandatory" spending? Despite what some media reports or pundits may imply, it's not just Social Security or Medicare. While both are part of "mandatory spending," plenty of other measures are as well. Indeed, if there will be an "entitlement crisis" for Social Security or Medicare, we probably haven't even hit it yet.

Many of these outstanding "mandatory" costs over the past few years can directly be traced to the nation's poor employment picture. Even the Obama administration forecasts the unemployment rate for 2012 to be 8.6%. That would mean nearly four years (at least) with unemployment rate above 8%. We have not seen that continuously high level of unemployment since the end of World War II. With the government safety net bearing more weight than it has in decades, it's no wonder that it is straining.

According to the Heritage Foundation, government spending on unemployment benefits jumped from about 30 billion in 2010 dollars in 2000 to about 194 billion in 2010. And unemployment benefits are only part of the picture. Section 8 housing benefits would grow 7.5% for the next year under the Obama budget proposal, from $26.6 billion to $28.6 billion. Foodstamps spending would grow from $68 billion to $80 billion. Spending for all these measures has been fed by economic stagnation.

This increase in unemployment has also hit tax receipts. Government revenue fell from a high of 2.7 trillion (in 2010 dollars) in 2007 to 2.1 trillion in 2010. If tax receipts reached 2007's levels, we would cut $600 billion from the deficit. A drop in the need for unemployment assistance could easily cut federal spending by at least $150 billion. That's already about half of last year's deficit taken care of without making a single cut to any program. (And those figures do not take into account other areas where unemployment has increased federal spending.)

The fastest, politically easiest way to reduce the deficit would be to restore the health of the labor market (which might be the same thing as saying that the fastest, easiest way to reduce the deficit would be to rub a lamp until a genie come out). This is not to say that there is not a cloud in the fiscal future of Medicare or Social Security, or that there is not waste in federal expenditures, or that making certain budget cuts would be a bad idea, or that taxes should not go up (it's worth noting that we have had nowhere near a balanced budget since the Bush tax cuts passed). This is not even to say that there are no hard choices that face us in dealing with mounting debts. But the focus should be less on trying to shave off a billion here or there and more on getting the nation's economic house in order so that it can get its fiscal house in order.

For the past few years, if not the past decade, the US has been in a period of economic stagnation. If the unemployment rate continues to hover around 9% and tax receipts do not go up through increased taxes, expect either more debt or a radically diminished standard of living or perhaps both. The government has been able to mask some of the effects of this stagnation through increased subsidies to the unemployed. We are borrowing to pay for that mask now. Perhaps the best strategy for the nation's immediate fiscal future would be to make that mask unnecessary.

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