Why Deficit Hawks and Doves are Wrong, and Right

Every six months, the Congressional Budget Office issues a revised estimate of federal budget prospects for the next decade. A cacophony of claims and counterclaims promptly ensues about what those projections really say and mean. Regardless of exactly what CBO says, two groups reflexively find support for its own pet policy positions. On one side are the ‘hair-on-fire’ deficit doom-sayers who claim that disaster impends unless policymakers immediately cut budget deficits. They usually call for spending cuts, rarely for tax increases. On the other side are a clutch of ‘what me worry?’ analysts who deny that deficits are or ever will be a problem. My message here is that each is wrong, and each is right, although not equally.

For starters, what is CBO saying these days?

First, current budget deficits are likely to grow at about the same rate as national income for a few years, but then much faster.

Second, the ratio of debt to GDP, the best metric for measuring whether the budget is under control, will remain roughly constant for the next decade. That ratio is currently higher than in the recent past, mostly because of the large tax cuts enacted early in the administration of George W. Bush, the great recession, and the costs of wars in Iraq and Afghanistan.

Third, current deficits and those of the past several years have done vastly more good than harm.  They have boosted future debt service costs.  But they helped prevent what is certainly the worst financial crisis since the 1930s—and possibly the worst in history according to former Federal Reserve Board chairman, Ben Bernanke—from producing a world-wide economic catastrophe. Immediate deficit reduction would slow and might abort the current economic recovery. That is exactly what budget austerity is doing to many European countries.

Fourth, as baby-boomers retire, rising spending on pensions and health care appear likely to increase deficits.  If these deficits materialize and nothing is done to lower them, they could eventually cause serious economic damage. The diversion of private saving from productive investments to cover deficits could slow economic growth. And as debt service burdens grow, fear of default could eventually drive up interest rates, threatening insupportable increases in interest costs.

The final point is that projections are wildly uncertain. CBO devoted a large part of its most recent long-term projection to detailing the sources of that uncertainty. Economic forecasts may err (don’t they always?!).  CBO’s projections depend sensitively on guesses about what Congress will or will not do.  Staff at CBO know even better than do the rest of us that such guesses have been, and almost certainly will be, hugely wide of the mark.  Low interest rates on long-term bonds show that financial markets don’t believe that huge deficits will ever actually materialize.  But those wedded to the idea that the deficits are the nation’s number one public problem insist on taking these projections as concrete reality and on proclaiming the dire consequences that will ensue if the deficit is not cut immediately.

CBO’s projections also contain some hopeful news about the longer run. The growth of health care spending has slowed dramatically.  In the fast four years, CBO has shaved $1 trillion off its projections of how much the federal government will spend on health care benefits over the next decade. Whether this slowdown continues is quite uncertain.  But if it does, more good news is in the offing, as CBO is still projecting faster spending growth than some experts anticipate. The nation is embarked on a great national experiment—the Affordable Care Act—to see whether legislation, backing up private sector efforts to improve efficiency in the delivery of health care, can end excessive growth of health care spending.  Success in that effort would ameliorate the larger budget deficits that CBO and others anticipate beyond the next decade.

So, here is the picture.  Right now the United States faces several daunting domestic challenges: restoring the nation to full employment, maintaining and improving the nation’s infrastructure, improving educational attainment, supporting scientific preeminence, and preventing further increases in economic inequality.  None of these problems will be solved by spending cuts. Building roads, airports, ports, mass transit, and other forms of public capital costs requires added spending, not less. To get better schools, more money isn’t enough, but it will help. Laboratories and scientific personnel cost more money not less. Cutting spending on the social safety net—social security, Medicare, Medicaid, food assistance, grants to attend college—would increase not lower income inequality.

Right now, today, the nation should recognize that addressing the serious problems it currently faces requires more spending, not less. Over the longer haul, it is likely, although not certain, that growing deficits will force spending cuts or tax increases. But the projected growth of deficits is just that—a projection, not yet a reality—and the accuracy of projections is laughably bad. There is no escaping the fact that Americans disagree rancorously on how best to deal with insupportable deficits should they materialize—whether to cut spending and, if so, what spending to cut; or to raise taxes and, if so, which taxes to increase. This is a fundamental debate about the proper scope and role of government. That debate is as old as our republic.  But it should not be used to prevent solutions to the very real and palpable problems that our nation faces today and the solution of which will shape its future.