Image: Barack Obama, Bill Clinton,
Ron Edmonds  /  AP
During Bill Clinton's presidency, budget deficits turned to a surplus. President Obama faces a much bigger deficit reduction task.
By Tom Curry National affairs writer
msnbc.com
updated 4/14/2011 12:20:10 PM ET 2011-04-14T16:20:10

We've seen this storyline before: In a nation drowning in red ink, a political movement is born that the powerful cannot ignore. There are tough choices, tougher actions and, finally, a happy ending. It's happened before ... but can it happen again?

In 1992, Ross Perot — a maverick candidate who’d never held public office — soared to fame by sounding the alarm over federal deficits and the national debt.

“We have so mismanaged our country over the years, and it is now time to pay the fiddler,” he said in his first presidential debate with Bill Clinton and George H.W. Bush.

“Nobody steps up to the plate and accepts responsibility for anything — including the $4 trillion debt,” he griped in one of his 1992 TV infomercials.

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Seemingly overnight, a new political party was born. Perot won nearly one-fifth of the popular vote, the best showing by a third party presidential candidate since Theodore Roosevelt ran in 1912. By making the deficit and debt defining campaign issues, Perot helped feed the public appetite for a deficit reduction plan, which Congress enacted in 1993.

As he took office, Clinton faced a forecast from the Congressional Budget Office that the deficit in 1998 would be 4.5 percent of gross domestic product.

Video: Obama: Tax the rich to help the budget (on this page)

But in the end, it was just 0.3 percent of GDP, and on the day Clinton left the White House, the government was running a surplus.

So, how did that deficit reduction happen? And why does today’s deficit dilemma seem so much tougher to solve?

The elements of this 90s success story included:

  • Increased productivity
  • Bipartisan tax increases
  • Soaring revenues
  • Relatively inexpensive military operations
  • No bailouts

Consider productivity first because many analysts see that as the primary factor in the boom.

Economists Ellen McGrattan and Edward Prescott, explaining what they call the “puzzling” boom of the 90s, cite “abnormally high” levels of “intangible investment” (investment not measured in the GDP data), such as investments in research and development and advertising.

Some of this investment was “sweat-equity financed by worker-owners” who put their time and effort into their firms, forgoing higher pay, but reaping profits when they sold their businesses.

Video: Obama: Tax the rich to help the budget (on this page)

Looking back on the 90s from the vantage point of 2003, Robert Rubin, who’d served as Clinton’s economic advisor and then as Treasury secretary, saw productivity growth as the elixir. “Productivity increases work wonders on an economy, allowing faster growth without inflation,” he said.

Between 1990 and 2000, investment in business equipment and software increased at an average rate of more than 10 percent a year in real terms.

This helped labor productivity increase in the late 90s at a pace nearly twice as fast as productivity had grown between 1975 and 1995, according to economists Douglas Elmendorf (now CBO director), Jeffrey Liebman and David Wilcox, all of whom served in the Clinton administration.

“In my view, a critical factor in the return of productivity growth was the restoration of sound fiscal policy,” Rubin said in his memoirs.

Bipartisan tax increases
Bush lost the 1992 presidential election partly because he angered Republican voters by breaking his 1988 “read my lips” pledge and signing the 1990 tax increase into law.

Bush did Clinton a favor by signing that bill: it cut the deficit by nearly $500 billion over five years, helping put budgets on a trajectory toward smaller deficits.

Video: Obama draws budget lines in sand

According to Elmendorf, Liebman and Wilcox, “This accomplishment had an important effect on the fiscal outcomes of the 1990s and on the fiscal situation faced by the incoming Clinton administration several years later.”

Clinton then signed the 1993 tax increase, which according to Rubin, helped convince financial markets that the government was getting its finances in order.

The 1993 tax bill raised the top income tax rate from 31 percent to 39.6 percent, raised the gasoline tax by 4.3 cents per gallon, and imposed other tax increases.  

Video: Budget passage tees up debt battle (on this page)

“In important ways the deficit had become a symbol of the government’s inability to manage its own affairs,” he said. In 1992, purchasers of Treasury bonds, Rubin said, were demanding a higher return based on the risk that “our political system would attempt to shrink the real value of the debt through inflation.”

After 1993, he said, “the view that fiscal discipline was being restored contributed to lower interest rates and increased confidence and that led to more spending and investment, which in turn led to job creation, lower unemployment rates, and increased productivity.”

But Nobel Prize winning economist Joseph Stiglitz, who served as the chairman of Clinton’s Council of Economic Advisors, disputes Rubin’s view. Deficit reduction didn’t cause the recovery of the 1990s, Stiglitz said in 2003.

Interest rates “were falling even before Clinton became president,” he said, adding that technological innovations and globalization “were proceeding before Clinton took office.” He said, “it was these real changes in the economy, combined with restrained wage growth” that led to the boom of the 90s, not restored investor confidence from deficit cutting.

Increasing tax revenue — even with no tax increases
Elmendorf, Liebman and Wilcox note that individual income tax revenue rose from 8.1 percent of GDP in 1995 to 10.2 percent in 2000, even though no significant tax increases were enacted between those years.

In fact, taxes were cut by $95 billion as part of the 1997 budget accord between Clinton and House Republicans.

From 1995 to 2000, federal revenues grew at an average rate of 9 percent a year — far faster the economy itself was growing. The CBO said in 2000 this was partly due to an increase in the share of income received by people in the highest tax brackets and a surge in capital gains income from the exuberant stock market of the late 1990's.

Meanwhile, Republican majorities in Congress were able to hold partly in check Democrats’ desire for more spending.

The peace dividend
Freed from the pressures of the Cold War, Clinton’s presidency featured what were, by today’s standards, relatively inexpensive military operations in Bosnia, Kosovo, and Haiti.

Military spending dropped from 24 percent of total federal spending in 1990 to 16 percent in 2000; in dollar terms, military outlays were nearly $5 billion lower in 2000 than they had been ten years earlier.

And a final factor: no bailouts.

George H. W. Bush’s budgets were burdened with the $124 billion cost of the bailout of the savings and loan industry. That helped drive up deficits in his presidency, but the bailout was mostly done by the time Clinton succeeded Bush.

Why does today’s deficit dilemma seem so much worse than what the elder Bush and Clinton had to face?

Partly because it really is so much worse: the deficit in fiscal year 2010 was nearly 10 percent of GDP, way bigger than any president since Harry Truman has faced. Likewise the federal debt has hit levels not seen since right after World War II.

A different kind of crisis today
What makes today's debt problem different from the 90s is the aftermath of the greatest financial crisis since the 1930s. It has slammed the budget in two ways: First, high unemployment and loss of wealth caused a staggering collapse in tax revenues. According to CBO, revenues in fiscal year 2010 were “16 percent below the peak amount reached in fiscal year 2007” and revenues in both 2009 and 2010 were 14.9 percent of GDP, the lowest level since Truman was president.

And the recession led Congress to spend vast amounts on aid to banks, home buyers, the unemployed, and those without health insurance. Spending soared to 25 percent of GDP in 2009, the highest level since 1946.

Although some of the costs of the Troubled Asset Relief Program were recouped, the debt incurred to pay for TARP still had to be serviced.

And as both CBO analysts and economists at Wall Street firm J.P. Morgan have warned, the cost of servicing the debt is relatively low right now due to abnormally low interest rates. But Morgan said in its analysis, “government borrowing rates will most likely be moving higher in coming years, reversing a 15-year downtrend.”

This will “add further pressure for greater fiscal consolidation” — that is, tax increases and curbs on growth in spending — “to control the rise in debt stemming from higher interest costs.”

The cost of war: about $1.2 trillion
And unlike the Clinton era, war since Sept. 11, 2001 has been extremely expensive. CBO estimated the combined cost of Afghanistan and Iraq operations at about $1.2 trillion from 2001 to 2011.

And the pressure on budgets comes not just from hundreds of billions of dollars for F-22 fighters and Predator drones, but from the increased cost of soldiers and other military personnel.

Due to pay increases and higher housing allowances, the cost of an active-duty military service member increased by 45 percent, in inflation-adjusted terms between 1998 and 2009, Congressional Research Service analyst Stephen Daggett told Congress in 2009.

This doesn’t include the increases in TRICARE, the military’s health care plan. Defense Secretary Robert Gates has said that military health care costs are "eating us alive."

Military spending jumped from 16 of total outlays in 2000 to 20 percent of total outlays in 2010; if you add spending on homeland security, it adds up to 24 percent of total outlays.

Tax cuts and demographics
At the same time, the lower tax rates of 2001 and 2003 reduced revenues. Syracuse University economist Len Burman estimated that if the 2001/2003 George W. Bush-era tax cuts hadn’t been enacted, federal debt by the end of 2009 would have been reduced by almost a third.

But above all, what makes 2011 fiscally uglier than 1993 are demographics.

The large cohorts born in the late 1940s and 1950s are reaching the age when they’re eligible for the benefit of younger taxpayers paying many of their bills, especially for medical care.

The giant income transfer systems known as Medicare, Medicaid and Social Security are taking money from relatively fewer workers to pay for more and more retirees. The ratio of workers to beneficiaries was 3.3 workers for every beneficiary during the Clinton era. It’s sinking to 2-to-1 by 2030.

The deficit/debt debate of 2011 is focused on the next several decades, not on achieving one brief shining moment of a balanced budget.

As the CBO said last year, “Looking beyond the next decade, the fiscal outlook worsens further ...” To pay for benefits promised to Baby Boomers, “federal revenues would increase to significantly higher levels under current law than have ever been seen in the United States, but they would still fall short of spending ...”

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Video: Budget passage tees up debt battle

  1. Closed captioning of: Budget passage tees up debt battle

    >>> to washington today, on capitol hill . no frommy like last friday night when the possible government shutdown was looming, hanging over everyone pftsz head. today, just a vote to pass there budget. now we transition nicely into the next fight, even bigger, over the national debt . kelly o'donnell has the story from the hill. good evening.

    >> reporter: hi, there, brian. the house and senate wrote the check to get the government going this year, but john boehner had to sell hard to try to keep conservatives who want bigger cuts on board.

    >> the house will be in order.

    >> reporter: defending the knujt deal that kept the government open, pespeake eer boehner knew dozens of problems would bolt, and they did.

    >> is it perfect, no? but welcome to divided government .

    >> most democrats rejected the plan, but without enough republicans to pass it, democrat support made the difference.

    >> the yeas are 260. the nays are 267.

    >> it eliminates more than $38 billion over the next six months. that includes money that would not have been spent skna. budgeted for things like earmarks.

    >> these are real spending cuts.

    >> a charge boehner took on himself.

    >> every dime in this bill that is cut is a dime that washington will spend if we leave it on the table wrarb.

    >> the budget deal came with strings. congress had agreed to take separate votes on two hot-button issues that republicans demanding. defunding the president's law, and funding for planned parenthood .

    >> it would have a devastating impact on women pfts health across the country.

    >> an even bigger fight issoever here over raising the country's borrowing limit and how to get control over the $14 trillion deficit.

    >> the debate ahead of us is more than spending levels. it's about the role of government itself.

    >> looking inside the house vote, unusual agreement from two indz of the spectrum. nancy pelosi and michelle bachman voted no on the deal, suggesting both parties got some and gave some to get the government going.

    >> kelly, thanks.

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