IE 11 is not supported. For an optimal experience visit our site on another browser.

Budget begins colliding with demographic reality

Long-term demographic shifts and short-term budget needs have begun to collide — and the result is fiscal mayhem.

Many economists agree that the United States needs a short-term spark — call it “stimulus,” if you like — in the form of tax cuts and increased spending. But, the consensus also holds that the nation must control its deficits by reforming entitlement programs like Medicare and also by increasing tax revenues.

Yet the longer the economic slump goes on, the more the "short term" starts to look not so temporary, and the closer the "long term" becomes.

The need for short-term stimulants, such as cutting the Social Security payroll tax (seen last year as a one-shot tactic), now looks like something that will go on for a while.

In fact, President Barack Obama proposes to cut the payroll tax even further to 3.1 percent and to extend it to employers as well as employees. This would enlarge the deficit and add to future government debt.

Meanwhile an inevitable demographic fact — the retirement of the massive Baby Boomer generation and the costs of paying the Social Security and Medicare benefits promised to them — keeps inching closer.

Not waiting to collect entitlements
Some of those Baby Boomers aren’t waiting for their entitlements. Having lost their jobs and seeing little chance of working again, they are collecting their benefits early: getting declared disabled and qualifying for Social Security disability benefits and Medicare. This only adds to the budget strain.

The long term and the short term have begun to collide — and the result is fiscal mayhem.

As economic weakness persists, the political deadlock is reinforced since Washington is waiting to see the outcome of the 2012 election.

From now until Thanksgiving, attention will be on the Joint Select Committee on Deficit Reduction and whether it will agree on a plan to reduce deficits by $1.2 trillion over ten years.

Given Obama’s combative speech Monday in which he threatened to veto any committee plan that reduces future Medicare benefits without increasing taxes on “the wealthiest Americans or biggest corporations,” a fruitful outcome to the committee’s work seems doubtful.

Pessimism about 'supercommittee'
Even before Obama’s speech, former Congressional Budget Office director Dan Crippen was pessimistic about the committee and skeptical of the effect of the automatic spending cuts, or sequesters, that will occur if that panel doesn’t devise a plan, if Congress doesn’t pass it, or if Obama vetoes it.

The sequester is designed to prod Congress to enact a plan for fiscal solvency.

But Crippen said at a recent Business Roundtable panel, “It’s hard to make it into a big enough bogeyman, even on the defense side, I suspect, to have a lot of effect.” He explained that “there’ll be lots of time after the election to undo ‘bad’ defense cuts or ‘bad’ domestic cuts.”

Compared to the sequester, a roll call vote by a member of Congress for a specific plan to cut future spending on Medicare, for example, is a vote that can be used to defeat him or her in 2012. Just ask the Democrats bested in last year’s elections, slogged down by GOP accusations that they had voted to divert money from Medicare to fund “Obamacare.”

Alarm about the unwillingness of Congress and Obama to compromise and collaborate has spread to the International Monetary Fund. In its latest semiannual World Economic Outlook, published Tuesday, the IMF said, “Deep political divisions leave the course of U.S. policy highly uncertain.”

IMF's worst-of-both-worlds scenario
The IMF sketched a worst-of-both-worlds scenario: “There is a serious risk that hasty fiscal cutbacks will further weaken the (U.S. economic) outlook without providing the long-term reforms required to reduce debt to more sustainable levels.”

In testimony Tuesday to the Senate Budget Committee, former Congressional Budget Office director Alice Rivlin made the case for short-term stimulus combined with long-term deficit cutting.

“Rather than conflicting, these two sets of policies complement and reinforce each other. The faster we get people back to work, the easier it will be to move toward a sustainable budget,” she told the committee.

But what seems like a sensible policy mix to experts such as Rivlin and the IMF seems poison to Republican members of Congress.  They want no additional stimulus from spending — and only tax cuts, not tax increases.

Obama says his stimulus would be “paid for” — that is offset by spending cuts and tax increases so as to not add to next year’s budget deficit.

Need to 'get off their fixed position'
Senate Budget Committee Chairman Kent Conrad, D-N.D., who’s retiring next year after 25 years in the Senate, sounded dispirited by this impasse Tuesday: “We’re in a very stale debate around here between the two parties. It is not going to solve the problem to be stuck with a stale, tired, phony debate. At some point, we’ve got to get real. And getting real means both sides need to get off their fixed position.”

Phony as the debate may be, there are genuine problems of how to implement a deficit reduction plan that would take effect only in 2014, 2015, or beyond  — provided the economy has recovered.

Deficit committee member Sen. Pat Toomey, R-Pa., pointed this out at the panel's hearing last week, asking, “How willing will future Congresses be to abide by spending caps or other kinds of reductions or disciplines that we might try to impose? And, of course, we cannot tie the hands of future Congresses.”

Lack of jobs, lack of revenue
One scary scenario is that deficit reduction keeps getting postponed because the economy, even in 2014 or 2015, remains too feeble to withstand spending cuts or tax increases. In this scenario, Congress and the president keep resorting to supposedly “short-term” fixes such as the payroll tax cut or other tax incentives that they hope will create jobs.

And of course lack of jobs is fundamentally what ails both the economy and the federal budget: too few workers means too little federal revenue and too much spending, not only on Medicaid and unemployment insurance, but on Social Security as more workers file for Social Security Disability Insurance (SSDI) benefits.

MIT economist David Autor, an expert on the labor force, says in a report published last month that “Workers are disproportionately likely to apply for SSDI benefits when they involuntarily lose work—even if their job loss is unrelated to their health.”

Using disability as safety net
He said during the past three years, the Social Security administration has received more than 8 million applications for SSDI benefits, “representing more than 5 percent of the U.S. labor force.”

Most applicants will eventually receive benefits.

“But even those who are ultimately denied benefits will spend substantial time — typically one to three years — out of the labor force before they have exhausted all appeals,” he said. “At that point, their re-employment prospects may be substantially worse than they were at the time of initial application.” (SSDI rules in effect forbid workers from working during the application period.)

Once on SSDI, those declared disabled will also be able to get Medicare benefits after a two-year waiting period, further adding to the long-term liabilities of that program.

It’s tempting to imagine the nation could return to the halcyon days of the late 1990s — with a federal budget surplus, a 4 percent unemployment rate, and middle-aged Baby Boomers not yet eligible for Medicare.

Golden age will not return
But CBO director Doug Elmendorf, an economist who was working in the Clinton administration at that time, told the deficit committee last week that those days will not return.

“The past combination of policies cannot be repeated when it comes to the federal budget: The aging of the population and rising costs for health care have changed the backdrop for federal budget policy in a fundamental way,” he said.

Demography and the design of the entitlement programs mean that “spending for Social Security and the major health care programs will be much higher, and spending for all other federal programs and activities, except for net interest payments, will be much lower.”

So he said, “Citizens will either have to pay more for their government, accept less in government services and benefits, or both.”

Such hard-nosed realism is what a CBO chief owes to Congress and the American people. But "pay more and get less’"is not a message that anyone with the power to deliver in Washington has yet fully embraced.