Redefining the Deficit
After all the analysis and argument of the last decade, we cannot see that the economic arguments for budget balance justify the losses in either government or private activity that would be imposed by spending cuts and tax hikes big enough to eliminate the deficit in a few years. The short-term economic evils ascribed to the deficit keep failing to appear. In the long term, the deficit is more a symptom than a cause of any dangerous trends. Since 1973 the entire industrialized West has been going through a painful period of adjustment; Americans have had deficits while Europeans have had unemployment. Many other things have been going on: the international debt crisis; declining prices for third world nations' commodities; the challenge of lower wages in newly industrializing countries to American and European basic industries; a monetary system beyond any government's control. We worry about productivity growth when we don't even know how to measure productivity in the expanding service sector of the economy. If the long-term health of our economy is our concern, we should be thinking far more about these problems and far less about the deficit.
All other things being equal, we would be better off without the deficit. National savings, and thus investment and eventually productivity, might be higher.[19] Foreign money managers might be less nervous—if they did not find something else to be nervous about. In this or any other world, however, we would also be better off with a stronger national defense, housing for the homeless, rebuilt bridges and roads and aqueducts and sewers. A balanced budget is just one of many desirable goals. The nation has lived with deficits for most of the postwar era, a time of unprecedented prosperity.
Therefore the real questions are whether there is a level of deficit with which we cannot live, and what we have to do to ensure that we stay below that level. Because the macroeconomics of the deficit are unclear, we turn to ordinary economics.
No household wants to be in a position where its debt feeds on itself, that is, where interest expenses consume a growing portion of household income. Each dollar for interest is a dollar foregone for some useful task. At the national level, a growing interest bill means that each year's tax dollar buys fewer and fewer new services, as more goes to pay for old government. Running deficits that promise growing interest payments later may be justified by a crisis, such as war or depression. In such times, keeping the nation alive to face future burdens is more vital than avoiding those burdens. But we are not in such a crisis now. Therefore, at a minimum, we believe the interest burden should be brought under control, and preferably set on a downward path.
By FY89, according to CBO's January 1989 report, net interest, at $169 billion, was bigger than the deficit itself ($155 billion). It would grow to $203 billion by FY93, while the deficit, if policy stuck to the baseline, would decline to $129 billion. These numbers show why interest is such a problem for the federal household. Even with this growth, however, interest would decline from 3.3 percent of GNP to 3.1 percent. The deficit itself would decline from 3.0 percent to 2.0 percent of GNP.[20] Thus given the mediocre economic performance incorporated into the CBO baseline, neither interest costs nor the deficit seem so horribly out of control.
So where's the problem? The difficulty is that all the uncertainties go the wrong way. The CBO baseline assumes no real growth in discretionary programs. Yet the nation is highly unlikely to go five years with both no real growth in defense and the same force structure and obligations; the dollars and structure don't fit. We don't know which will change—maybe peace will break out all over and maybe not—but we know the baseline won't work. When Republicans talk about "hundreds of underfunded" domestic programs and get elected by promising a "kinder and gentler" nation, we suspect the domestic discretionary baseline may also be tough to maintain. Further, the economic assumptions, while moderate, could still be optimistic. It is always possible that foreigners who have been lending in the United States will start demanding higher interest rates for their money.
Some deficit reduction, therefore, is worthwhile. It should be enough to maintain control of the deficit and interest costs under less favorable economic assumptions than CBO'S. If taken, this action might enable prediction of a balanced budget a few years beyond the Gramm-Rudman target, but it should be neither sold nor conceived in these term . Rather, it should be conceived as a way of preventing the worst when we don't know what is best. And it should be sold as balance, balance between our ability to pay and payments due .
In Chapter 21 we discussed the difficulty of a $100 billion deficit
reduction in FY90, a minimal definition of the policy cost of hitting the Gramm-Rudman targets. What would have happened, however, if we aimed for $50 billion in policy change, $30 billion in FY90, and $20 billion in FY91? We talk in terms of FY90 and FY91 but, at the rate things were going in May 1989, as we wrote, our readers could insert whatever the next two budget years might be. The details will change, but the major consequences should not.
We would phase in the reductions because many policies take time to put into effect and because it is desirable to minimize any fiscal shock to the economy. Assuming there was no such shock, so that the economy performed as projected by CBO at the beginning of 1989, our suggestion would cut the FY93 deficit in half, to just above $60 billion. That would be less than one percent of GNP, well below deficit levels in the 1970s and average for the 1960s. Interest costs, which depend more on old than new debt, would be affected less dramatically, but still would be about $10 billion lower in FY93.
These policy changes would be enough to more than compensate if growth were to be half a percent of GNP lower, per year, than CBO projected, beginning in January of 1989.[21] The deficit in FY93 would still be significantly less than 2 percent of GNP, that is, below the trend line in the CBO baseline. Therefore a $50 billion package would provide a substantial margin of error to protect against economic bad news.
This target will not satisfy those who believe budget deficits should be eliminated, no matter what. It certainly will not satisfy economists who want to run a surplus by balancing the federal funds budget, spending excluding social security. But if our proposal will not satisfy them, neither will anything else they have a snowball's chance in Hades of getting. Their standard would require about $230 billion in deficit reductions in FY93.[22] That is equivalent to 40 percent of all domestic and defense discretionary spending, or nearly a 40 percent increase in income tax receipts. That kind of policy change is impossible, short of revolution. Given reasonable economic assumptions, the federal funds budget cannot be balanced in the foreseeable future.
Some budget sophisticates say privately that the real point of such unrealistic targets is to get as much savings as possible. Deficit-reducers, like program advocates, use the tactic of the high bid. Then if the politicians meet them half way, they might be satisfied. Economists and budgeteers seem especially prone to that tactic these days, as they tend to believe the rhetoric that politicians always compromise the public interest on behalf of special interests. By this logic, politicians must be scared or bamboozled into doing enough.
We disagree. If we want our readers to remember one single thing from this book, it is that such an understanding of politics and politicians,
in deficit politics, has done far more harm than good. Politicians have tried very hard to eliminate the deficit. They have been stymied by legitimate disagreements about the national interest and by the overwhelming size of the task. But reductions also are made more difficult because, so long as only an impossible target is considered acceptable, there is no reward for doing less, even if it is real and helpful. As one senator asked, "Why should I go through all this pain and trouble to get the deficit from $175 billion to $150 billion?" Why, indeed? If a $25 billion cut in the deficit is a pittance, leaving us, by the extreme definition of responsibility, over $200 billion away from what is desired, why suffer the policy and political consequences of $25 billion worth of pain? It is better to "game" Gramm-Rudman, claiming to do more (for we are "on the track" of the Gramm-Rudman "plan") but actually doing less.
Centrist politicians have called for deficit reductions in which all parties paid their "fair share." Naturally all the affected interests have resisted, for the policy rewards of deficit reduction seemed too distant and dubious to be worth the immediate pain. Worse yet, giving in once could only be taken as a sign of weakness, making one's priorities a target in the next round. Thus President Reagan could figure that if he gave in on taxes one year, the deficit cutters would be back again the next year—as they were. Tip O'Neill knew the same about social security, Cap Weinberger about the defense budget, federal employees about their pensions, ad infinitum.
People are sometimes willing to end a battle, even on disadvantageous terms, because the struggle itself is so painful. Peace is its own reward. Yet so long as each year's battle has only been one round in a seemingly endless fight, compromise could not provide peace.