Lawson for Congress

I have just read a policy brief submitted by the Congressional Budget Office (CBO) to Rep. Paul Ryan, the Ranking Member of the House Budget Committee. The brief, written by CBO Director Peter Orszag and prepared by his staff, discusses projects of our current fiscal path, its impact on our economy if left unresolved, the impact of slowing the growth of the deficit, and the impact of financing the deficit completely with tax increases. Here are some significant points in this very sobering brief.

On the rise of the amount of spending and the federal debt (not the total national debt) as a percentage of GDP:

In December 2007, the Congressional Budget Office (CBO) published The Long- Term Budget Outlook, which presented a long-term projection of the budget under an alternative fiscal scenario,” representing one interpretation of what continuing today’s underlying fiscal policy would mean. CBO projected that, under that scenario, spending on Medicare, Medicaid, and Social Security would rise rapidly, and federal outlays excluding interest (primary spending) would climb from about 18 percent of GDP in 2007 to 28 percent in 2050 and to 35 percent in 2082 (see Table 1).2 Because the scenario also assumes that revenues as a share of GDP would not increase much over the 75-year period, CBO projected that the federal budget deficit and federal debt held by the public would rise sharply. By CBO’s reckoning, federal debt under that scenario would climb from about 37 percent of GDP in fiscal year 2007 to more than 290 percent in 2050—a large figure by any standard (see Figure 1). Since the founding of the United States, federal debt surpassed 100 percent of GDP only for a brief period during and just after World War II (see Figure 2 on page 4).

On the economic impact of staying this course:

According to CBO’s simulations using that model, the rising federal budget deficits under this scenario would cause real gross national product (GNP) per person to stop growing and then to begin to contract in the late 2040s (see Figure 3).4 By 2060, real GNP per person would be about 17 percent below its peak in the late 2040s and would be declining at a rapid pace. Beyond 2060, projected deficits would become so large and unsustainable that the model cannot calculate their effects.

Despite the substantial economic costs generated by deficits under this model, such estimates greatly understate the potential loss to economic growth under this scenario. In particular, they are based on a model in which people do not anticipate future changes in debt; as a result, the model predicts a gradual change in the economy as federal debt rises. In reality, the economic effects of rapidly growing debt would probably be much more disorderly and could occur well before the time frame indicated in the scenario. If foreign investors began to expect a crisis, they might significantly reduce their purchases of U.S. securities, causing the exchange value of the dollar to plunge, interest rates to climb, consumer prices to shoot up, and the economy to contract sharply. Amid the anticipation of declining profits and rising inflation and interest rates, stock prices might fall and consumers might sharply reduce their purchases. In such circumstances, the economic problems in this country would probably spill over to the rest of the world and seriously weaken the economies of the United States’ trading partners.

On slowing the growth of the deficit:

Under the target path, federal outlays excluding interest (that is, primary spending) would rise from 18 percent of GDP in 2007 to 20 percent in 2030 and then decline to 19 percent in 2050 and 13 percent in 2082. For almost all years, revenues would remain at 18.5 percent of GDP. Under those assumptions, the budget deficit would gradually increase to about 6 percent of GDP in 2040 but then would decline to almost zero in 2075. By 2082, the target path would generate a budget surplus of about 2 percent of GDP. The primary budget (that is, the budget excluding interest on the public debt) would reach balance around 2050. With possible economic feedbacks not included, federal debt held by the public would increase to a peak of 120 percent of GDP around 2060 and then would decline to 64 percent in 2082. Thus, compared with the alternative fiscal scenario, the target path would substantially reduce future budget deficits and federal debt.

The target path provided by the Committee staff would be economically sustainable. Under that target, real GNP per person (in 2007 dollars) would continue to grow over the entire projection period, rising from about $45,000 in 2007 to about $165,000 in 2082 (see Figure 4). The economy would be considerably stronger under the target path than it would be under the alternative fiscal scenario. By 2060 (the last year for which it is possible to simulate the effects of the alternative fiscal policy using the textbook growth model), real GNP per person under the target path would be about 85 percent higher than that under the alternative fiscal scenario.

On the impact of raising taxes to finance all projected spending:

… tax rates would have to be raised by substantial amounts to finance the level of spending projected for 2082 under CBO’s alternative fiscal scenario. With no economic feedbacks taken into account and under an assumption that raising marginal tax rates was the only mechanism used to balance the budget, tax rates would have to more than double. The tax rate for the lowest tax bracket would have to be increased from 10 percent to 25 percent; the tax rate on incomes in the current 25 percent bracket would have to be increased to 63 percent; and the tax rate of the highest bracket would have to be raised from 35 percent to 88 percent. The top corporate income tax rate would also increase from 35 percent to 88 percent. Such tax rates would significantly reduce economic activity and would create serious problems with tax avoidance and tax evasion. Revenues would probably fall significantly short of the amount needed to finance the growth of spending; therefore, tax rates at such levels would probably not be economically feasible.

If federal outlays excluding interest did not rise to their 2082 share of GDP (35 percent), but instead were stabilized at the share of GDP projected for 2050 (28 percent), simulations can provide some guidance about the possible economic effects of financing additional spending with a proportional across-the-board increase in all personal and corporate tax rates.6 (The increase would apply to the regular rate schedule, the rates under the alternative minimum tax, and the preferential tax rates on dividends and capital gains.) To carry out the analysis, CBO used two different models of economic behavior—the textbook growth model and what is termed a stochastic overlapping generations model—to reflect the range of opinion among economists about how people respond to taxes. Both models take into account the dynamic effects of
higher tax rates on the economy and how those changes in the economy would in turn affect revenues. However, both models are simplified representations of the economy and therefore provide only a rough guide to the potential effects of the tax scenarios on the economy.

In the textbook growth model, economic output depends on the number of hours of work supplied by workers, the size of the capital stock, and total factor productivity (in simple terms, the state of technological know-how). The labor supply response is projected by CBO’s tax microsimulation model, which, for a sample of taxpayers, provides a detailed representation of individual income taxes. The textbook growth model assumes that households do not explicitly consider expected future policies when they make plans—that is, the model incorporates no forward-looking behavior. Moreover, the model does not account for the way that changes in marginal tax rates on capital income might influence investment, though it does account for the effects of budget deficits on investment.

In the stochastic overlapping generations model, households are forward-looking and their members decide how much to work and save in order to make themselves as well off as possible over their lifetime.9 They face uncertainty about future wages and the length of their life and may be subject to borrowing constraints.

Before accounting for economic feedbacks through the models, CBO estimates that individual income tax rates would have to be raised by about 90 percent to finance the projected increase in spending between 2007 and 2050. The lowest tax rate on individual income would have to be increased from 10 percent to 19 percent; the tax rate on incomes in the current 25 percent bracket would have to be increased to 47 percent; and the highest statutory rate would have to be raised from 35 percent to 66 percent. The top corporate income tax rate would also have to increase from 35 percent to 66 percent. Those estimates of tax rate changes are meant to be illustrative; official estimates of tax rate and revenue changes for any specific proposal would be prepared by the Joint Committee on Taxation.

Under this scenario, real GNP per person in 2050 could be between 5 percent and 20 percent less than what it would be if revenues and spending in 2050 were the same shares of GDP as in 2007. Those economic effects could be substantially reduced if the tax policies used to finance the additional spending did not distort economic behavior as much as increases in income tax rates would. In particular, tax policies that relied less on proportional increases in marginal income tax rates could have substantially smaller effects on the economy. For example, raising revenues by broadening the income tax base and eliminating various tax preferences (such as the deductions for mortgage interest, state and local taxes, and health insurance) would have a smaller effect on real GNP than would a proportional increase in tax rates.

This is a very sobering account of our nation’s financial status prepared by one of the most well-respected public finance economists around in Orszag, who could hardly be considered a free market libertarian/conservative alarmist given his previous history with the Brookings Institute, a left-leaning think tank. While Dr. Orszag implores that we must slow the growth of deficits, which is surely true, he also states that the damage due to deficits is likely underestimated because the model used does not account for forward-looking and panicky behavior of agents that is unquantifiable and would likely lead to more disastrous consequences. As Orszag’s report demonstrates, we cannot simply tax our way out of this problem, as the tax increases necessary to fund these increases in spending will certainly cause disastrous economic effects and likely wouldn’t even generate enough revenue to fund th spending, given the negative revenue impacts of the economic crash that apparently are not dealt with by the model.

For an additional sobering account of our nation’s long-term finances, I invite all of you to view these two videos by David Walker, the just recently retired Comptroller of the Currency.

As an economics and math major at UNC, and someone with an interest in, well, working and making money in the future, these assessments by respected financial analysts scare me. The bottom line is that if we want to ensure that this absolutely crushing financial burden of our government does not come to pass, we must do the work now to cut spending, eliminate the deficits quickly, and greatly restrain the long-term growth of entitlement programs. We cannot tax our way out, and we cannot grow our way out.

To do this work, we need to have a responsible Representative of the 4th District in Washington who demonstrates a thorough concern for and understanding of this problem and who will is willing to exercise courage in telling the truth about an issue when it may not be politically expedient to do so. Voting for a Concurrent Budget Resolution that plans to add $2 trillion in debt over the next five fiscal years, and then calls the Resolution “fiscally responsible,” does not demonstrate the type of responsible representation that is needed to tackle this problem. Clearly, based on this alone, David Price cannot be trusted in representing our district to address this issue.

It is time for a true Revolution. It is time for a change in Washington and in the seat held by the people of the 4th District of North Carolina. To address this issue, we need a Representative who has the experience of starting, owning, and operating a business from scratch and growing it into a financial success that allowed he and his family to emerge out of their own hefty burden of debt. We need a doctor who has made a career in the medical sector who understands why costs in health care, a major contributor to the projected financial burden of the federal government, are increasing so sharply and how we can abate them. If we as a district want to tackle this grand challenge head on and preserve a bright economic future for our country and for future generations, we must elect Dr. William “B.J.” Lawson to be the next Representative of the 4th U.S. House District of North Carolina.

For more insight into our nation’s fiscal troubles, I would like to recommend two books to all of you. The first is Running on Empty by Pete Peterson, a former U.S. Secretary of Commerce and co-founder of the Concord Coalition, an organization advocating fiscal responsibility and spending restraint in Washington. This is the book I read that really opened my eyes to how bad our fiscal situation, explaining well we got into the mess, the consequences of maintaining the course, and why both Democrats and Republicans are to blame.

The second book is The Coming Generational Storm by Lawrence Kotlikoff, a very well-renowned and respected public finance economist at Boston University. This book is newer and a bit more updated, and the tone is more academic, but it is equally as sobering and powerful.

This entry was posted on Tuesday, June 10th, 2008 at 6:23 pm and is filed under debt, economic freedom, free market, good government, restore liberty. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.