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What Does the Budget Gap Mean? And What Should We Do About It?

The federal budget deficit is the elephant in the public policy bedroom—it is too big to ignore but what to do about it is a bit puzzling. Raising taxes and cutting spending in the middle of a recession would make a bad situation worse, but excessive delay in addressing a serious long term problem carries risks of its own, as the fates of fiscally prodigal nations have made all too clear.

To explore the meaning of the budget deficit and what should be done about it, the Journal of Policy Analysis and Management asked the Urban Institute’s Eugene Steuerle and me to write essays on when and how best to address the deficit, and we each also responded to the other’s piece.

In my essay, I argue that a combination of tax increases and spending cuts should be implemented as soon as economic recovery is well established and unemployment is heading toward an acceptable long-term level. I show that in the period during which deficits must be reduced—roughly over the next fifteen years—savings from cuts in Social Security and Medicare spending will be too small to be a significant factor in reducing the deficit, even if one thinks that such reductions are desirable in the long run.

Social Security can contribute little because Congress — rightly — is unwilling to impose benefit cuts on the currently retired or those soon to retire. That means that no savings will be possible for several years and that even then, most benefits will still be protected. Medicare spending cuts cannot become significant until after health reform is fully implemented, a process that will take close to a decade. If considered desirable, changes in these programs could contribute more significantly to lowering government spending in the longer term, but deficit reduction cannot wait that long. Because these cuts cannot take effect fast enough to prevent excessive growth of the public debt, most deficit reduction, like it or not, must come from tax increases.

For more on this subject, see the following: