Quick Hits: Debt Crisis Conference Follow-Up

Image credit: Salvatore Vuono

On Tuesday, the Committee for a Responsible Federal Budget convened a major conference to discuss the nation’s long-term fiscal crisis. Key players like Ben Bernanke, Gene Sperling, Alan Simpson, and Paul Ryan were in attendance. You can read my recap of the event here; below is some follow-up on a few things I wrote about earlier.

(1) Most of the coverage of the conference has focused on Fed Chair Ben Bernanke’s warning to politicians not to mess around with the debt ceiling or treat it as a political game. As I pointed out, many others at the conference, including Gene Sperling and Neel Kashkari, gave the same warning. Hopefully it will be heard.

(2) Two additional perspectives on what level of economic growth the U.S. can realistically achieve in the coming years: Stanford economist and Hoover Institution Fellow John B. Taylor says we can reach 5% with the right policies in place. Donald Marron of the Urban/Brookings Tax Policy Center argues that reaching that level of growth and sustaining it over several years is highly unlikely.

(3) I posted earlier today about Larry Lindsey’s discussion of three ways we are underestimating the size of the coming debt crisis. One of his assertions was that we are underestimating the costs of the Affordable Care Act, a claim he based on a recent study from McKinsey. I pointed out that he was citing the McKinsey report incorrectly and that the study’s findings aren’t in line with previous estimates. I looked into it further today and found that a lot of people have been questioning the validity of this research.

Depite the weaknesses of the latest study, I think what I wrote in my earlier post is still valid – that we are likely misestimating (it could be under- or over-estimating) the costs of healthcare reform because there are so many unknowns about the impact it will have.

Three Ways We Underestimate The Size Of The Debt Crisis

At yesterday’s CRFB debt crisis conference, Larry Lindsey, a top economic advisor to President Bush, outlined three ways we are underestimating the size of our future debt. You might remember Lindsey as the NEC Director who was ousted for claiming the Iraq War would cost $100 to $200 billion, which other Bush administration officials claimed was far too high (we now know that the true cost is in the trillions).

Yesterday, Lindsey argued that the Obama Administration, the Bowles-Simpson Commission, and the House Republicans led by Paul Ryan are all making the following mistakes:

1. Underestimating interest rates

The Error: The current rate the government is borrowing at, 2.5%, represents a historic low. The average normalized rate over the past 20 years has been 5.7%.

The Cost: If rates normalize in 2013, we’ll owe an extra $5.4 trillion over 10 years in added interest costs. Lindsey suggested we won’t actually face these costs because the Fed won’t let interest rates normalize. But this will not please the markets.

2. Overestimating economic growth

The Error: The President’s budget estimates 4 to 4.5% annual growth over the next three years. But Lindsey and several others at today’s conference argued that the true rate is likely to stay around 2 to 3% for a while.

The Cost: The administration has calculated a cost of $755 billion over ten years for every 1 percentage point by which the actual growth rate fails to meet its projections. If we grow at 2.5% over the next three years instead of the 4 to 4.5% estimated by the administration, it will add $2 trillion to the deficit in the next ten years.

3. Misestimating the impact of healthcare reform

The Error: The CBO estimates that when the Affordable Care Act goes into effect in 2014, 9 to 10 million people (7% of employees) will lose their employer-sponsored health insurance and end up in the government-subsidized markets. The cost to the government for these people will outweigh the penalties paid by employers for not offering coverage. A recent study from McKinsey finds that 30% of employers say they will stop offering insurance after 2014, suggesting a higher number of people will be dropped onto the subsidized markets than previously thought.

The Cost: Lindsey seems to have misread the McKinsey study, because he stated that 30% of employees would be dropped and based his calculations on that incorrect assumption. Also, the authors of the McKinsey report admit that the 30% finding is higher than previous studies and their survey methodology may have something to do with this difference.

While Lindsey got the numbers wrong on the McKinsey report, I think he does raise an important issue: noone really knows what the short- or long-term impacts of healthcare reform will be on the government deficit, national healthcare costs, or the economy as a whole. How employers, individuals, insurance companies and other actors will respond to the reforms is still being hotly debated and, as the McKinsey report outlines, the predictions are likely to change as more people become aware of the reform provisions and their options under the new system.

The Debt Ceiling, Fiscal Plans, and Market Jitters: Where Do We Go From Here?
Committee for a Responsible Federal Budget // Roundtable // June 14, 2011
(Lindsey’s remarks start at the 38:35 mark)

How US health care reform will affect employee benefits
McKinsey Quarterly // Shubham Singhal, Jeris Stueland, & Drew Ungerman // June 2011

Bush Tax Cuts Turn 10, Having Added $2.6 Trillion to Our Debt

In honor of the tenth anniversary of the passage of the first Bush-era tax cuts next week, the Economic Policy Institute has released a report summarizing their impact. Perhaps I should say, “in dishonor of the anniversary”, as it is pretty clear where the authors stand on the cuts: “[T]he Bush tax cuts have exacerbated the trend of widening income inequality, accompanied the worst economic expansion since World War II, and turned budget surpluses into deficits.”

While much of their report summarizes existing research, it’s interesting to consider in light of current debates about the deficit and our long-term budget crisis. According to EPI, the Bush-era tax cuts added $2.6 trillion to the national debt, almost half of the new debt we accumulated over the past decade, and have already cost $400 billion in increased interest payments. This recent graph from the Center on Budget and Policy Priorities shows that the cuts added more to our debt than the Iraq and Afghanistan wars, the recession, or the economic stimulus measures implemented under Obama.

The authors of the EPI report also remind us that the tax cuts were originally designed as a response to the 2001 recession, but they suggest the cuts were/are a less effective form of economic stimulus than the tax credits that were included in the 2009 recovery package:

“Moody’s Analytics Chief Economist Mark Zandi estimates that making the Bush income tax cuts permanent would currently generate only 35 cents in economic activity for every dollar in forgone revenue. Targeted refundable tax credits included in the American Recovery and Reinvestment Act, on the other hand, are estimated to generate much more bang-per-buck, ranging from $1.17 for the Making Work Pay Credit to $1.38 for the Child Tax Credit.”

When you think about it in terms of the national debt, which affects everyone, the inequality in the benefit of the tax cuts is quite startling. During the 2010 tax year, 38% of the Bush-era cuts went to those with incomes in the top 1% (over $645,000) and 55% went to those with incomes in the top 10% (over $170,000). Only 1% of the cuts went to families with incomes in the bottom 20%.

I’ll have another post soon on how much letting the cuts expire at the end of 2012 might help our debt crisis.

Tenth Anniversary of The Bush-era Tax Cuts: A decade later, the Bush tax cuts remain expensive, ineffective, and unfair.
Economic Policy Institute // Andrew Fieldhouse and Ethan Pollack // June 1, 2011