A bipartisan economics panel examines America’s debt and deficit problems, identifying ways to solve the problem before it gets worse and threatens the country’s role in the world. Excerpt from the program on September 23, 2010.

DAVID WALKER, Former U.S. Comptroller General; President and CEO, The Peter G. Peterson Foundation

ROBERT L. BIXBY, Executive Director, The Concord Coalition

MICHAEL BOSKIN, Ph.D., Senior Fellow, Hoover Institution; Chairman, President George H.W. Bush’s Council of Economic Advisers

ISABEL SAWHILL, Senior Fellow, The Brookings Institution

TOM CAMPBELL, Visiting Professor of Economics and Law, Chapman University; Former Director of Finance, State of California – Moderator

 

TOM CAMPBELL: Describe the facts of this problem.

DAVID WALKER: While Americans are very concerned about today’s deficits and debt – $1.4 trillion and $13.4 trillion, respectively – they really don’t represent the threat to America’s future. The threat to America’s future are the deficits and debt levels that will occur in the future because of known demographic trends, rising health-care costs and a growing gap between revenues and expenses. Today’s deficits are largely temporary. They’re due to a weak economy. They’re due to temporary tax cuts. They’re due to two wars that are undeclared and unfinanced. They’re due to a range of unprecedented bailout and stimulus programs. These things will pass over time, but the structural deficits, the ones that exist because of the things that I mentioned before, they represent the threat to the ship of state.

You can’t grow your way out; it would take double-digit real GDP growth for decades. You can’t inflate your way out, because most of the problems are off-balance-sheet obligations: unfunded Medicare, Social Security and other obligations. You can’t tax your way out, because you’d have to double taxes over time to be able to deal with it. You can’t cut your way out solely, because you’d have to decimate social insurance programs, which are important for a safety net. So everything has to be on the table.

For the second time in the history of the United States, we have a debt that is over 60 percent of GDP. The only other time that we’ve ever had it was World War II. That doesn’t count the several trillion dollars that we owe to Social Security and Medicare. If you counted that, we’re at 91 percent of GDP. Furthermore, if you do honest accounting, federal, state and local debt held by the public, as a percentage of the economy, we’re already worse than Spain, we’re already worse than Portugal, we’re already worse than Ireland, we’re already worse than the United Kingdom. We’re within 10 years of being where Greece is, and if you count what we owe Social Security and Medicare, we’re within three years of Greece.

MICHAEL BOSKIN: There is a really serious intermediate-term deficit and debt crisis. [Walker] said, Don’t worry about the short term. I personally think he’s partly right. Part of the short-term deficit and debt has been aggravated by very ineffective programs designed to try to deal with the economy. Perhaps they were well intentioned, but they seem to have been, and most studies suggest, pretty ineffective. Most important, he’s very sanguine about all this stuff disappearing later. We keep seeing more and more stuff piled on, attempts to make more and more of it permanent, etc., so I’m very concerned that the spending will get entrenched.

It’s very important not just to deal with the long-term deficit and debt problem, but to deal with the intermediate-term problem quickly, so we’re on a path over the next two, three, four years – not just 20, 30 years to deal with the long-run problem, but deal with the intermediate problem to get us back to a sensible fiscal position. It undermines a lot of things in our country, and right now the seriousness is being masked by the fact that people are willing to hold lots of Treasury bonds at very low interest rates because of the great uncertainty in our financial system, and so on.

We are financing our debt unprecedentedly at the short end of the market. When interest rates rise and people want higher yields, we’ll have to go longer term and interest costs will explode. So we have a lot of problems that are embedded in the spending programs and other programs that have been promulgated in the last several years – and not just by the current administration but by previous ones – and those have to be unwound as well, in the intermediate term, or we’ll wind up further into the baby boomers’ retirement with a lot more problems already on our doorstep besides having to deal with future problems.

I would also make a couple of other points.

One is that it should not be a matter of indifference to us how we close this gap. If it was done overwhelmingly on the tax side, the probability is [almost certain] that it would do immense harm to our economy. We have responsibilities on the spending side, we need an effective government to be a successful society, from defense to a sensible safety net, etc., but it is important that we keep the tax burden in our society as low as we can, consistent with funding the necessary functions of government, and restructuring programs that are not targeted well and not effective enough to make them more effective, more conscious, and to enable us to afford the demographic surge that’s going to occur.

The second point is that until we make some of these changes, it will be very, very difficult to deal with some of those cost changes, especially the medical costs. In the current system, there is very little incentive to economize. There are many reasons for that; some of it’s government policy, some of it’s the way Medicare is funded, some of it’s third-party reimbursement. The people have very little skin in the game at the margin for their non-emergency, non-catastrophic services, and have little incentive to economize. If we don’t make some sensible changes – President Obama got his set in there, I personally think that they’re not very good, I would much prefer to replace many of them with things I think will be better – the fact of the matter is the arithmetic will be even worse. So it’s important that we not just think of it as an accounting exercise – as important as that is to give us a sense that the overall problem is tremendously large – because otherwise we’ll neglect the fact that we’re going to do things that could harm the economy.

CAMPBELL: The expansion of Medicare for pharmaceuticals under the previous administration would certainly be one of those open-ended additions, would it not?

BOSKIN: That’s exactly right. It should have been much more carefully focused on need and on catastrophic coverage. But in the modern day and age, as is typical, the government sets something up over a long time, people substitute away from it. So more and more medical coverage became pharmaceuticals rather than things that Medicare covered.

CAMPBELL: Is it a problem that we observe now? Is it something that’s long-term or is it immediate as well?

ISABEL SAWHILL: There’s something to be said on all fronts. On the history, it’s very clear that we’ve had many years of irresponsible fiscal policy. As has already been said, we finance two wars and a prescription drug benefit that you just mentioned. Just put them on the national credit card and didn’t make any effort to pay for them. We had surpluses at the end of the Clinton administration. They had evaporated very soon after the Bush administration came into office and we have very large tax cuts. If you look at how we went from a surplus in 2000 to the $1.3 trillion or $1.4 trillion deficit we have right now, about 40 percent of it, the analysis shows, was due to things that happened on Bush’s watch. About 20 percent is due to the current recession. About 16 percent is due to Obama’s policies and another chunk is due to some technical factors we don’t need to get into. There’s plenty of blame to go around for all kinds of recent administrations.

On the current situation, I agree with [Boskin] that once a spending program is in place, or once a tax cut is in place, it’s very hard to reverse it. Many of these tax cuts that Bush passed are supposed to expire at the end of this year, but nobody believes that they aren’t going to be extended. Similarly, some of the spending programs that were part of the recovery package are expected to possibly be extended as well. But I don’t agree with [Boskin] when he suggests that they have been ineffective. I believe that during a deep recession like we have now, you do need to reduce taxes and increase spending and deficits are not bad, and there is analysis that’s been done by Alan Blinder, former Fed vice chair, that found that 8.5 million jobs had been created by a combination of the financial bailout and the Recovery Act.

I also agree with [Walker] that the big problem is long-term and that it’s driven by rising health-care costs and the aging of the population.

CAMPBELL: Do we really need to act now? We’re in the worst recession since the Great Depression. Whatever the long-term problems are, let’s get through this first. What’s wrong with that advice?

BOSKIN: First of all, let’s be clear: We’re in a weak recovery, not a recession.

Times aren’t good, but there’s a big difference in the operation of policy. It’s a slow recovery. It’s painfully slow. It’s less than half of the speed of the recoveries from the previous two deep recessions. It’s likely to be weak for the next year.

CAMPBELL: So it is a weak recovery. Is it the right time or shouldn’t we do everything we can, get robust recovery and then deal with this?

ROBERT L. BIXBY: Again it’s important to distinguish short-term and long-term objectives here. It’s possible to do both at once. You can be cognizant of the weak recovery, which we’re now in, and at the same time be cognizant of the deficits that are projected for the future, so that a rational policy would continue to allow for, I don’t want to say more stimulus, but I don’t think you need to start a draconian deficit reduction regime immediately. I think you can have some flexibility there. The things that would address the long-term structural deficit, you can enact things like that now that would be phased in. Nobody is going to be cutting Social Security benefits right now; you could phase it in. Medicare changes would have to take a long time. The same thing is true with tax reform.

CAMPBELL: You said cutting Social Security benefits, [but] you meant capping the rate of growth of Social Security benefits, or am I putting words in your mouth?

BIXBY: You can phrase it any way you want to – slowing the growth from current projections.

SAWHILL: I think that’s an important distinction that you just made, Tom. I don’t think anyone is talking about cutting Social Security benefits from where they are now, nor are they talking about doing anything immediately. They’re talking about slowing the growth of benefits out in the future, probably in a way that would not affect anybody who is now over 55 years of age, and probably mostly for those who are most affluent.

WALKER: We’re also not talking about privatizing Social Security either, because Social Security is a very important foundation of our retirement income security. For lots of reasons it needs to save primarily a defined benefit problem. We need to make it solvent, sustainable, secure and more savings-oriented. But we do need to get our savings rate up so we may need to have some type of automatic savings vehicle on top.

BOSKIN: I agree with what [Walker] just said. Two points. Number one, it would be a good thing if we made serious structural reforms that had the effect of exempting people that are at retirement or close to retirement, and were structured so they gradually became more forceful as you moved through time, so that 20, 30, 40 years from now they would slow the growth a lot from projections but not a lot in the very short-term, so they wouldn’t have a big effect on people close to retirement. That I think everybody agrees makes sense. The problem is agreeing on what those are and enacting them now in advance.

It’s really important to have two facts in your head for the long-term. Number one, 55 percent of the increases and outlays in Social Security are due to rising real benefits per beneficiary, 45 percent to demography, to having more retirees per worker. In Medicare, it’s quite a bit more to demography and the interaction of demography and the fact that older people consume more health care; it’s more like 75-25. So it is possible to entirely eliminate – mathematically, it’s too difficult to do politically – the Social Security deficit without decreasing anybody’s real benefits one dime.

BIXBY: It makes it easier to have a short-term policy that accommodates a deficit if you have a long-term policy that reins in the structural deficit.

WALKER: From a practical standpoint, you don’t want to do anything that’s going to cause a double-dip recession. We need to do things to get unemployment down. At the same point in time, we need to be able to take steps on both fronts, short-term and medium-/longer-term. What we ought to be doing in 2011 is re-imposing tough statutory budget controls, pay-as-you-go rules that don’t have trillions of dollars of exemptions, that will be effective immediately, statutory spending caps that will take effect once unemployment gets to a stated level. We need to reform Social Security to make it solvent, sustainable, secure and more savings-oriented – not because of its immediate prices, not because it’s the biggest problem, it’s the biggest opportunity. We need to start re-base-lining government to make it future-focused and results-oriented. It’s going to take us 10 to 20 years to do that, but we need to get started in 2011.

CAMPBELL: Let’s talk about specific solutions. We know that there is the Alan Simpson [and] Erskine Bowles commission that President Obama appointed. They are going to come up with a series of recommendations in December. What should that commission be recommending?

SAWHILL: Both spending and revenues have to be on the table. On the revenue side, the most specific and most near-term thing that we need to do is not extend the so-called Bush tax cuts, because they cost something close to $4 trillion over the next decade. Remember that we have a $15-trillion gap; $4 trillion would help a lot. We cannot afford them and we should not be extending them permanently. There is an argument that can be made that they should be maintained in place temporarily, but that’s a different argument. Right now the president of the United States as well as most members of the Congress, both Democrats and Republicans, are trying to extend them, for the most part, permanently. So the first thing we should do is not do that. That is politically motivated. That is not good policy in my view.

Second, we do need to take on Social Security and I think we do need to take a second bite out of the health-care apple. The reform bill that was enacted this summer took a little nick out of the deficit over the next 10 years or over the next 20 years, but it’s only a nick. And there are political reasons to suspect that even those provisions may not be maintained. So we should be doing more on the health-care front.

BIXBY: If you’re starting on the spending side, we have said a lot about Social Security, but one of the things we have advocated over the years is a gradual increase in the eligibility age, it’s already going up to 67, but it might go up further. We may think about increasing the early retirement age, which would be more controversial but that would be a possibility. I think that raising the payroll tax cap is something that would bring more revenue into the system and adjusting benefits on a progressive basis is something that the Concord Coalition has always advocated.

On the tax sides, there’s a trillion dollars worth on an annual basis of exemptions, credits, deductions. We really need to go through those and pare them back so that we have a more efficient revenue system. I would agree with [Sawhill] that we need to take another whack at health care.

Also, let me say, defense has got to be on the table. The defense budget has grown dramatically in recent years, so there is going to have to be some paring back on that front.

CAMPBELL: You do not support continuing all of the tax cuts of the President George W. Bush administration?

BIXBY: No, we do not. We thought that they were imprudent at the time, but I think that they should not be made permanent.

BOSKIN: About the stupidest thing you could do would be to raise taxes in a very weak economy. It’s clear that the best thing you could do to avoid this issue of a double-dip would be to take tax increases off the table right now.

Second, I happen to be in favor of a broader tax base and the lowest possible rates. So I’m sympathetic, not necessarily to just raising revenue, but to use the broader base and lower rates to generate more economic activity, which would generate more revenue.

On Social Security, I would strongly favor price rather than wage indexing of initial benefits, which would keep the level adjusted for inflation. Rising through time, it would maintain a strong, defined-benefit system. The benefit structure of Social Security is highly progressive, so that would work. I personally would agree that it’s a good idea to gradually have a small increase, somewhat in the future, in the retirement age. But I personally favor strongly retaining a strong early retirement option; I’m very cognizant as a professor that there are people in physically demanding and dangerous jobs who aren’t going to be able to do them very well when they’re my age.

We really have to re-think Medicare. It’s an important program, but it’s poorly designed to deal with changes in demography. It’s very poorly designed to empower people to control their spending and costs and to be effective. We need to reform Medicare in the sense of giving people the ability to have higher co-pay, lower monthly payment premiums, to have policies that focus more on catastrophic coverage, etc. Allowing competition into the system would help reduce costs and help give people more opportunities to incorporate the consumer of the health-care services on our side to try to help curb costs, rather than trying to impose it above, by the Congress imposing all of these rules and regulations that wind up then getting imposed by special panels that are so unpopular.

WALKER: With regard to the Bush tax cuts, I don’t believe that any of the income tax rate reductions should be made permanent. A strong case could be made that you should extend temporarily the ones that deal with middle-income [taxpayers]. Politically, they may end up doing it for upper-income. But as a certified public accountant, among other things, a lot of things that people don’t realize is that even if you end up going back to the prior marginal tax rates, a lot of people won’t pay higher taxes because of something called alternative minimum tax. So people haven’t really focused on that.

In addition, we need to make the R&D tax credit permanent. We need to come up with a long-term solution to the estate tax. I think there should be an estate tax, but with a higher exemption than historically we had and with a lower tax rate than we historically had. As far as the retirement age, it needs to go up with an exception for certain occupations where there’s heavy manual labor. Both my grandfathers were in that case. One was a mine worker, one was a steel worker. A vast majority of the population is not in that case. You design policy for a vast majority of the population, not a shrinking minority of the population. On health care, this last health-care bill increased health-care costs as a percentage of the economy. It really didn’t do much to slow health-care costs at all. If there’s one thing that would bankrupt the country, it’s health-care costs. We need to start making some tough decisions on health-care costs, on what level of coverage is appropriate, affordable and sustainable. We need a budget on health care; we’ve got to move away from fee-for-service. We’ve go to do real malpractice reform. We’ve got to actually start getting serious rather than playing in politics.

SAWHILL: It’s interesting to make this comparison to other countries. Other countries do have higher overall tax burdens than the U.S., no question. Most people don’t know that Europeans rely much less heavily on income taxes than we do. They tax consumption, they do it with a value-added tax, which is essentially a sales tax. That discourages consumption, encourages saving and encourages growth. I believe that it would be a good idea in the U.S. if we moved in that direction. There are many ways to raise revenues that don’t affect income tax rates. Broadening the base, getting rid of the exemptions and deductions, taxing consumption, taxing energy. We have a problem with climate change.

BOSKIN: Economic review studies reveal that the size of government has the largest impact on living standards. The worst thing you can do is have a much larger government share of the economy and crowd out the private sector.

WALKER: The problem is primarily a spending problem. But you’re not going to close [a] $62 trillion hole in a way that can preserve the social safety net without additional revenues. There’s a new four-letter word in Washington, its called math.