Max B. Sawicky

Up From Debt Reduction

"... The Democrats can argue -- and do -- that the tax cut has put the government back in a fiscal bind that threatens all manner of worthy undertakings, from adding a drug benefit to Medicare to building up the defense budget to increasing aid to education. But that turns out to be a greater constraint on them than on the president. They favor a generous drug benefit; Mr. Bush favors a narrower one. The tax cut having been granted, he can argue that only his is affordable."

"He proposes a defense increase; they say there isn't room in the budget unless other spending is cut. But do they really want to be the party that says no to defense, he asks. And it isn't clear the answer is yes. Last week President Bush threatened to veto, as a budget-buster, $2 billion in extra farm aid that Senate Democrats wanted to grant. It was they who blinked. He likes the tight budget the tax cut has helped create. They, having rightly argued that the tax cut was irresponsible, are now forced to choose between busting the budget themselves and abandoning pet projects. It's not clear who ends up winning this argument. ... " -- Editorial, Washington Post, August 5, 2001

The Democratic Senate takeover provides a bully pulpit from which to preach against Bush-o-nomics. But a sermon devoted to expiation of the Federal debt cannot exalt economic justice. It can only plunge us into the lower triangles of New-Democrat hell.

Right now the fiscal policy debate centers on the Medicare Trust Fund. Spending increases for both defense and non-defense programs are currently being decided in assorted Congressional appropriations committees. These increases would be financed in part by what Sen. Conrad and the Democrats describe as a "raid on the Trust Fund." Republican Sen. Pete Domenici responds, if you really feel this way, let's just cut appropriations across the board.

Surplus revenues to Medicare cannot be squirreled away. They are credited to the Trust Fund in the form of higher balances, but the cash must be loaned to the Federal government. Whatever happens to it then has no bearing on Trust Fund balances. The Democrats are demanding that the proceeds of Trust Fund loans be reserved for debt reduction. The Republicans would allow them to be used for spending.

In January of this year, the Federal budget surplus was projected at $5.6 trillion over the ensuing decade. Democrats insisted that a proposed tax cut of $1.6 trillion would be unaffordable. In principle, this meant that a spending increase of that amount would also be too big, even though Democrats advocated spending increases and tax cuts of their own nearly equal to Bush's tax plan.

How did we get to these milestones in role reversal and cognitive dissonance? In the days of Reagan and Bush, the Social Security Trust Fund surplus was used for spending in the same way, with no harm to the Trust Fund, and it was the Republicans who cried foul. Their remedy was to reduce spending. Now the Democratic remedy is to increase debt reduction, and Republicans are content to spend the Medicare surplus.

The Road to Wellville

In 1993, before anyone dreamed that debt reduction was conceivable, the Clinton Administration saw deficit reduction as a top priority. At considerable political cost, it forced through a budget that devoted significant resources to this end.

When the Democrats lost control of Congress in 1994, a second justification for emphasizing deficit reduction emerged. From the White House, President Clinton could fend off Republican-inspired tax cuts by invoking the virtues of fiscal restraint.

But faster economic growth convinced many Democrats that reduced interest rates attributable to deficit reduction are the magic elixir of economic policy. By 1997, what began as a tactic -- fiscal restraint as a bulwark against bad tax cuts -- became an end in itself. The Clinton administration signed off on a plan to balance the budget by Fiscal Year 2002 that included Republican-conceived tax cuts. Deficit reduction and tax cuts would be financed by cuts in Medicare spending.

After 1997, actual budget surpluses came into view and presented a new opportunity: to ease the future burden of Social Security and Medicare financing by eliminating the national debt.

Now the Democratic budget scripture reads that tax cuts and imminent spending increases are exhausting the budget surplus. Trust funds are being raided. Come 2016, tax increases will be required to make good on Social Security benefits. Budget trends jeopardize the elimination of the public debt, and imperil the solvency of the Federal government and the nationís economic growth. A recession would upset the benign calculations of projected budget surpluses. This is the refrain of Senate Budget Committee staff, the Center on Budget and Policy Priorities, and centrist economists at the Brookings Institution and Urban Institute. Their dogma commits the dual heresies of errancy and political inexpedience.

Disappearing Acts

How to shelter surpluses for purposes of debt reduction? Shrink the amount of surplus in prospect by redefining it. First deduct unused cash receipts of the Social Security Trust Fund. Then we hear, "If you subtract Social Security, you should also subtract the Medicare surplus." Indeed you should, but why subtract either? In-go that exceeds out-go is surplus. In consideration of spending increases or tax cuts, this money is up for grabs. There is nowhere else for it to go except debt reduction. Money available for debt reduction is surplus and can be diverted to other purposes.

Another bite out of the surplus is founded on reasoning that discretionary spending will increase above the inflation-adjusted levels upon which the projections are based. As an imprecation against spending, the logic is odd: We cannot assume that money is available for spending because we will spend it. To the contrary, a projected surplus means the future availability of revenues in excess of the inflation-adjusted baseline. It means you can plan on having extra money for spending or other purposes.

The amount involved here is not daunting. If real non-defense discretionary spending increased at the same rate as population, the reduction (including interest) in the total surplus would be about $250 billion (see Richard Kogan, Robert Greenstein, and Joel Friedman, "How Much of the Surplus Remains After the Tax Cut?," Center on Budget and Policy Priorities, June 27, 2001). We note that the cost of carrying an extra $250 billion in debt is $15 billion annually, in a Federal budget now in excess of $1,900 billion. Or we could weigh the importance of $250 billion against up-to-date surplus projections.

What's Left?

As this is being written, new budget numbers will not be released for a couple of weeks -- the end of August. We do have some fuel for speculation from the Congressional Budget Office (CBO) analysis of President Bush's budget.

We have been hearing nothing but bad economic news all year. Unemployment is rising, earnings reports are lackluster, the trade deficit is surging, the stock market has fallen and it can't get up. Nevertheless, surplus projections in May actually grew a bit. Only now are there indications that the current Fiscal Year surplus will be reduced by about $50 billion because of slow economic growth.

Contrary to popular commentary, the official projections include assumptions of a recession at some point in the 10-year period. The 10-year surplus projections will not melt away in the face of the current downturn, nor an actual recession. Near-term declines in the surplus will be offset by subsequent recoveries.

The May report included a surplus estimate in the event the president's super-sized tax cut was passed. The cut actually enacted is smaller than the president's. Surpluses under the president's budget were projected at $3.2 trillion (see Congressional Budget Office, "An Analysis of the President's Budgetary Proposals for Fiscal year 2002.).

A third tidbit in the CBO projections is the fate of public debt after Bush's tax cut. By 2011, public debt with or without the tax cut is still as low as thought possible. How could this be? Because the post-tax cut surplus is still big enough to eliminate all Federal debt.

Meanwhile, Democrats regale us with a dark, post-tax cut future. The Senate Budget Committee (2001) projects "deficits" of $10, $14, and $13 billion for FY2003-2005. These amounts are neither significant nor credible.

Not significant because a very slight change in circumstance or accounting practice can turn a $15 billion "deficit" into a surplus. In fact, the Bush administration gave us a demonstration in August of how easy this is by using an accounting gimmick to increase the surplus in the Fiscal Year 2001 budget. The deficit predictions are not credible because these deficits follow from the downsized definition noted above, on top of expectations that Democrats will (should?) roll over for defense spending increases.

The next crisis is foreseen in 2016, when Trust Fund outlays could exceed cash receipts. At that point the overall budget will probably still be in surplus. The Trust Fund will have high balances -- money owed to it by the Federal government. In March, the Office of Management and Budget projected budget surpluses through the year 2070. In light of the tax cut, new projections will move this date forward, but nowhere near 2016. Surplus general revenue to redeem debts to Social Security will be in the pipeline for decades.

Grasshoppers, Ants and Slugs

The future insolvency of Social Security and Medicare is often attributed to insufficient national saving. Whether surpluses or deficits are large or small is supposed to have great import for economic growth, and therefore, on the future fiscal capacity of the Federal government. But the government's own economic models disagree.

Given a choice between big surplus, smaller surplus, balanced budget, or moderately growing deficit, according to the General Accounting Office and the Congressional Budget Office, the differences for economic growth are small. All of these policies are sustainable in the long run.

The lever with which debt reduction moves the world is supposed to be reduced interest rates. One would think that wholesale elimination of the public debt would have a large effect on rates, but models of the OMB and CBO predict that interest rates increase when the debt is eliminated. Rudy Penner, Republican mandarin of fiscal rectitude, suggests that eliminating $2 trillion in debt increases the annual growth rate by less than one-tenth of a percent (in the Urban Institute's 12th Annual Roundtable on the President's Budget and the Economy, March 6, 2001).

Bad Policy Is Bad Politics

Coming into 2001, there was no reason on the merits to deny the huge extent of fiscal slack. As it turned out, there was no good political reason either. In both houses of Congress, the tax cut passed by comfortable margins.

Democrats dig their own fiscal grave by proclaiming that if the tax cut stands, there is nothing left for other purposes. From Mondale to Gore, playing the fiscal card has not been a winning tactic for Democrats.

Even with the new tax law, a $3 trillion surplus presents more fiscal flexibility than the dreamiest liberal would have imagined five years ago. But according to Democratic doctrine, "it isn't real." Is this the best way to launch the maiden voyage of Speaker of the House Richard Gephardt in 2003?

The defense of Social Security is also crippled. Cries of Trust Fund insolvency bolster the privatization campaign. The fact that privatization heightens insolvency doesn't seem to sink in. Moreover, liberal defense of the Trust Fund raises its own problem of logical consistency.

For the Trust Fund to be solvent in 2016, notwithstanding its cash deficit, the Federal government must be able to redeem bonds held by the Trust Fund. The Fund is solvent because its one and only debtor, the Federal government, is in no danger of defaulting on its obligations. Any such danger is minimized if the unified budget is in surplus, which projections indicate will be the case. Otherwise spending cuts, tax increases, or borrowing would be necessary to pay back the Fund, eliminate the Fund's cash shortfall, and finance all benefits currently provided by law. But if the surpluses aren't real, then a fiscal adjustment could indeed be necessary in 2016.

Updated long-run budget projections will show a fiscal problem some 30 or 40 years hence, but it is not possible to solve this problem with growth policies or debt reduction.

Growth is not susceptible to the fiscal policy changes or privatization schemes that are being debated because nobody is sure of how to boost growth rates. As noted above, debt reduction doesn't do it. Even with higher growth rates, higher real wages would lead to higher benefits and might only postpone a crunch, albeit beyond 2075.

Failure to pay off a trillion in debt costs the government about $60 billion annually, now or 30 years from now. Survival of Social Security and Medicare will not hinge on amounts of this size. A bigger factor in long-run government solvency is the extent to which surpluses might be used to buy private-sector financial assets. Returns to these assets could preclude the need for tax increases to fund Social Security or Medicare for a good number of years.

The most important policy issue under the mainstream crisis scenario is changing the balance of benefits versus contributions (see Eugene Steuerle, "The Simple Arithmetic Driving Social Security Reform," April 20, 1998, at []). A logical remedy is to raise payroll tax contributions because present generations of workers will be living longer and receiving higher benefits in retirement. Or the doomsday scenario could be wrong, as Dean Baker and Mark Weisbrot argue in Social Security: The Phony Crisis [University of Chicago Press, 1999].


Presently, Federal debt held by the public is 31% of Gross Domestic Product, less than any year since 1982. Released from Reagan's debtors' prison, we are blinded by the sun. We balk at policy initiatives that could entail modest fiscal adjustments. In the past, such reluctance would have precluded the inauguration of social programs we have come to take for granted.

Public sector expansion to solve neglected national problems has always depended on income growth. Failure to exploit growth over the past eight years was an epochal, botched opportunity. Nor was it hard-headed, since we have foregone public investments in infrastructure, workforce development, and R&D that can increase economic growth. Describing such a period as a triumph of national policy, as Clinton Administration alumni are wont to do, only adds insult to injury. Continuing to put debt-reduction first is a fundamental abandonment of big-D Democratic values.

Max Sawicky is a senior economist at the Economic Policy Institute, 1660 L Street NW Ste 1200, Washington, DC 20036; phone (202) 775-8810; email; The author would like to thank Eileen Appelbaum, Dean Baker, Mark Weisbrot and Rob Scott for helpful comments.

Home Page

News | Current Issue | Back Issues | Essays | Links

About the Progressive Populist | How to Subscribe | How to Contact Us

Copyright © 2001 The Progressive Populist