Greg Ip

Articles by The Economist’s U.S. Economics Editor

Archive for the ‘Social security’ Category

America’s deficit: Confronting the monster

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At last, plans are appearing to cut America’s deficit. But will politicians and the public embrace them?

Nov 18th 2010 | Washington, dc

[Greg Ip] BARACK OBAMA and his Republican opponents have spent much of the past month sniping at each other, but on November 15th they suddenly found themselves agreeing. Mitch McConnell, the leader of the Senate Republicans, called for a ban on earmarks, the pet projects politicians like to pop into spending bills. Mr Obama, who also wants a curb on them, quickly applauded.

A cynic would say that such agreement was easy, since the stakes are so low. Earmarks attract plenty of bad press, but the money is trivial—less than 0.5% of federal spending. On the more pressing question of how to close America’s gaping deficits, Democrats and Republicans remain far apart. Only a week before, the chairmen of a bipartisan commission set up by Mr Obama in February to find ways to get the deficit down floated a proposal focused on cutting spending. Republicans liked this, but Nancy Pelosi, the Democrats’ leader in the House of Representatives, called the idea “simply unacceptable”.

This sound and fury, however, may signify something important. The two sides are no longer arguing over whose taxes to cut or which entitlements to expand, but whose taxes will rise and which entitlements will shrink. It may all come to naught; or it may signal the dawn of a new age of austerity, similar to the era of tax increases and entitlement cuts that prevailed from 1982 to 1997.

America’s budget deficit in the fiscal year that ended on September 30th stood at $1.3 trillion; at 9% of GDP, the second-largest since the second world war. (Fiscal 2009 was the biggest.) That figure reflects the effects of the recession and the temporary stimulus, both of which will fade. The real problem is the future. On current policies the Congressional Budget Office (CBO) reckons that the federal debt, now 62% of GDP, will hit 87% by 2020. Add in state and local-government borrowing, and the total approaches 110%.

According to the IMF, America’s structural deficit and the growth in its debt over the medium term are among the worst in the rich world. The United States also stands out for its lack of any plan to deal with this. Germany has passed a balanced-budget constitutional amendment. Britain’s coalition government has launched an ambitious four-year plan to slash its massive deficit. Nicolas Sarkozy, France’s president, has finally triumphed in a bruising battle to raise the pension age.

America has a good and a bad excuse for its inaction. The good one is that the economy isn’t ready. Economic growth in the second half of this year has been a painful 2% at an annual rate. The unemployment rate, at 9.6%, remains near its peak. The effects of the stimulus are wearing off, so fiscal policy now veers towards contraction. If taxes rise or spending falls immediately, the economy could slide back into recession, as happened in Japan in 1997.

Giveaway and takeaway

But there is also a bad reason for delay: America’s political culture is unused to austerity. The country’s fiscal policy alternates between “giveaway” and “takeaway”, says Gene Steuerle, a Treasury official in the 1970s and 1980s and now a scholar at the Urban Institute, a think-tank. From 1946 to 1981 was an era of giveaway: entitlements expanded, most notably with Medicare and Medicaid in 1965, and taxes were cut, most famously in Ronald Reagan’s first year in office, in 1981. In 1982, however, fiscal policy flipped to takeaway. Mr Reagan’s tax cuts and defence build-up, compounded by the 1981-82 recession and sky-high real interest rates, produced record structural deficits. Pete Domenici, then a junior Republican senator, remembers going to the White House with other Republicans in 1982 to talk to Reagan about the deficit. He recalls the president’s stunned disbelief when he told him that he could run up more debt than all his predecessors combined.

The full article is linked here.


Written by gregip

November 18, 2010 at 4:18 pm

The deficit problem: Dealing with America’s fiscal hole

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Nov 19th 2009
From The Economist print edition

Don’t cut the deficit now—but explain how, eventually, you will

Jon Berkeley
Jon Berkeley


FOR years America’s fiscal problems had a surreal quality. No one disputed that an ageing population and health-care inflation could bust the budget, but that prospect was decades away and procrastination seemed painless. No longer. A giant hole has opened in the budget because of stimulus, bail-outs and a recession that has savaged economic growth and tax revenue. On current policies the publicly held federal debt, 41% of GDP last year, will double in the next decade (see article). Total government debt will move well above the G20 average. In a few years the AAA rating of Treasury bonds, the world’s most important security, could be in jeopardy. Read the rest of this entry »

Written by gregip

November 19, 2009 at 11:00 pm

America’s fiscal deficit: Stemming the tide

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Nov 19th 2009 | WASHINGTON, DC
From The Economist print edition


Unprecedented levels of government debt may require radical solutions

Illustration by Bill Butcher
Illustration by Bill Butcher

[Greg Ip] STUDENTS at National Defence University in Washington, DC, were recently given a model of the economy and told to fix the budget. To get the federal debt down, they jacked up taxes and slashed spending. The economy promptly tanked, sending the debt to higher levels than before. The lesson: “You’ll never get re-elected and you may do more harm than good,” concluded Eric Bee, an air-force colonel who took part in the exercise.

This is the ugly arithmetic of America’s public finances. Recession and aggressive fiscal stimulus have hugely swollen the federal deficit. Stimulus was essential to cushion a collapse in private demand. In spite of that, the economy has barely emerged from recession and unemployment is still rising, feeding speculation that more stimulus is needed. Yet at the same time voters are growing alarmed at the tide of red ink, and it may be only a matter of time before markets do, too. Read the rest of this entry »

Written by gregip

November 19, 2009 at 10:00 pm

The federal budget: Phoney war

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The original story is linked here.


May 14th 2009 | WASHINGTON, DC
From The Economist print edition

The real battle, over health care, is just beginning


THE first hundred days were busy, Barack Obama noted, but the pace would be just as hectic in the second hundred: they would be spent building “a library dedicated to my first hundred days”. The president delivered the joke at the White House press corps’ annual shindig, but it makes an apt metaphor for the past week. He and his officials have released a blizzard of tax and health-care proposals that largely repackage, or add detail to, the ambitious draft budget he released in February. Read the rest of this entry »

Written by gregip

May 14, 2009 at 9:17 pm

Obama must not repeat Bush’s fiscal mistakes

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After the recession, the deluge

Barack Obama must couple short-term stimulus with long-term fiscal reform


Jan 8th 2009
From The Economist print edition



FOR all his talk of change, Barack Obama will start his presidency much as George Bush did: with a huge fiscal stimulus aimed at boosting an ailing economy and promoting some pet objectives. The need for stimulus is far greater than in 2001. America is in what could be its deepest recession since the Depression. With interest rates close to zero, the Federal Reserve is out of conventional monetary ammunition, so fiscal policy must do the lion’s share.

The problem with this is that higher spending and tax cuts will only make a big budget deficit even bigger. This danger does not justify penny-pinching now: that could merely prompt a bigger collapse in economic activity and even larger deficits. But Mr Obama should do what Mr Bush never did—and link the upcoming splurge to long-term fiscal reform.

The hole in America’s balance sheet is clearly partly Mr Bush’s fault. Even if you strip out the cyclical economic effects, the 1% surplus he inherited had become a deficit of more than 2% of GDP last year. But other things are at work. The collapse of the credit bubble will reduce tax revenues. The government has taken on big liabilities in its efforts to prop up the banking system. Above all, the first baby-boomers retired last year: as their numbers grow, the cost of the two big retirement programmes, Social Security (pensions) and Medicare, will soar.


The Congressional Budget Office says that, even without Mr Obama’s stimulus plans, America’s publicly held debt could rise from a perfectly reasonable 41% of GDP in 2008 to 54% in 2010, a 55-year high (see article). Under current tax and spending policies it is headed towards 400% by mid-century. Investors, fearing America will have to inflate its way out of such debt, could push the dollar down and interest rates up.

Mr Bush and the Republicans in Congress repeatedly gave voters goodies without paying for them: tax cuts without tax reform, subsidised prescription drugs without Medicare reform, and so on. Mr Obama must not make the same mistake. His stimulus plans may include cherished giveaways such as tax credits for low-paid workers, expanded unemployment insurance benefits, and investments in alternative energy. All have their merits; all will also increase the hole in the books. Despite some earnest waffle about addressing the long-term fiscal challenge, Mr Obama has been short on specifics.

The expiration of Mr Bush’s tax cuts at the end of next year imposes a deadline for dealing with the tax code. There is a powerful case for a grand bargain that overhauls the tax system, Social Security and Medicare all at once. The three are interconnected. Subsidised health insurance for the working poor, for example, could be paid for by eliminating the tax deduction for employer-provided insurance. The tax code could be made more progressive by reducing the payroll tax for low-income workers, but that would make it essential to rein in benefits, starting with a higher retirement age. Almost everyone would feel some pain. But in return Americans would get a tax system and budget that would be good for future growth.


Hard but not impossible

If the economics of such a grand bargain are compelling, the politics are daunting. Armies of entrenched interests ring the tax system, Social Security and Medicare. Yet there may be no time like the present. Mr Obama has political capital and his party comfortably controls both houses of Congress (see article). He would also find some allies. Kent Conrad and Judd Gregg, the leading Democrat and Republican respectively on the Senate budget panel, have helpfully proposed a bipartisan task-force of congressmen and administration officials. It would come up with a single proposal that Congress could accept or reject but not amend, sidestepping the objections that would surely derail piecemeal reform.

Mr Obama does not need to produce a detailed solution right now. But by committing himself to a process that leads to such a solution, he could reassure investors that the grisly fiscal scenarios painted by the CBO will not come to pass.

A fiscal nightmare and opportunity for Obama

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Waiting for God-only-knows-what

Jan 8th 2009 | WASHINGTON, DC
From The Economist print edition0209us4


Rex Features

America’s grim fiscal outlook could either be a nightmare or an opportunity for Barack Obama

DURING one of his debates with Barack Obama, John McCain, the Republican candidate, kept referring to the “fiscal crisis” when he meant “financial crisis”. Perhaps he was on to something.

On January 7th the Congressional Budget Office (CBO), a non-partisan outfit, released projections that show the financial crash and the resulting recession are already wreaking havoc with America’s finances. It reckons that the budget deficit will soar from $455 billion in fiscal 2008 (which ended last September 30th) to an astonishing $1.2 trillion in the current year. At 8.3% that would be the most as a share of gross domestic product since the second world war. (The CBO does, however, see it dropping to 1.1% of GDP by 2019.)


The reality is both better and worse than these numbers imply. Of this year’s total, $420 billion represents the one-off subsidy implicit in the Treasury’s planned $700 billion of injections of capital and loan guarantees into the financial system and its “effective” guarantees of the two big mortgage agencies, Fannie Mae and Freddie Mac. Neither is a cash outlay in the usual sense.

But the underlying picture is worse for several reasons. First, it does not include any estimate of the cost of Mr Obama’s planned fiscal stimulus, which he will seek from Congress soon after being inaugurated. Second, the CBO assumes all of George Bush’s tax cuts will expire as scheduled at the end of next year and that the Alternative Minimum Tax, a parallel levy aimed at the wealthy, is allowed to ensnare a growing share of the middle class each year. True, that is what current law, as opposed to current practice, lays down; but neither is at all likely to happen. (The AMT has repeatedly been “patched” to lessen its baleful effects, and surely will be again.)

But the real problem is that the first baby-boomers retired last year. In coming decades spending on entitlements—the three main ones being Social Security (pensions), Medicare (health care for the elderly) and Medicaid (health care for the poor)—will drive deficits and so debt up sharply. Publicly held debt will climb from 41% of GDP last year to 54% next year, the CBO predicts, then decline (on the assumption that the recession will start to come to an end). But the CBO has previously said that, as America ages and if current policies continue, it could theoretically hit an otherworldly 400% by mid-century.

The situation sounds like a nightmare for Barack Obama. The figures hang over his negotiations with Congress on a fiscal stimulus plan. As currently envisioned, it would include business and individual tax cuts and, for those who pay little or no tax, tax credits. That would include a $500 per worker or $1,000 per household credit that was a centrepiece of Mr Obama’s campaign. It would include substantial funds for public works spending, additional Medicaid funds and other aid for cash-strapped states, and money to broaden the availability of unemployment insurance and provide health benefits to the unemployed. On January 7th Mr Obama said the package would be at the high end of estimates—which his team had previously pegged at $675 billion to $775 billion over two years—but not as high as some economists have urged.

Mr Obama faces three sceptical constituencies: Republicans, fiscal conservatives in his own party, and the markets. The addition of so many tax breaks to the package appears to have won over the co-operation of Republican leaders, although lengthy negotiations remain.


Fiscal conservatives are resigned to a big expansion of deficits in the short term but they want an early commitment to deal with entitlements as well. This is where the confluence of the economic and budgetary crises creates an opportunity. Since Mr Bush’s tax cuts expire at the end of next year, Mr Obama could try to reform the tax and entitlement systems simultaneously, which makes economic sense since so many aspects of health care and retirement impact the tax code.

Politically, a reform that antagonises so many constituencies is hardly appetising. “When you start making choices, you start losing friends,” says Kent Conrad, the Democratic Senate Budget Committee chairman and a leading fiscal hawk. He argues the job should be handed over to a bipartisan task force. But Thomas Kahn, the top staffer on the House Budget Committee, notes that some legislators worry that such mechanisms undermine the democratic process by limiting the opportunity for amendment and debate.

For his part, Mr Obama has acknowledged the urgency of addressing entitlements, but said more specifics would have to await his draft budget proposal, due for submission in mid-February. He has aimed his anti-deficit rhetoric, both before the election and since, principally at waste and earmarks, the pet projects legislators insert into spending bills. But as Maya MacGuineas of the Committee for a Responsible Federal Budget, a watchdog group, notes, such spending is at most $30 billion a year, or 1% of total expenditures. By contrast, entitlements amount to $1.2 trillion, or 41% of the whole; and, left unreformed, will grow to 60% by 2030.

Still, Ms MacGuineas thinks Mr Obama has to start with waste and earmarks to build the necessary credibility for bigger steps. “Before you say, ‘Ladies and gentlemen, your Social Security and Medicare benefits are going down and your taxes are going up,’ they want to know there are no more bridges to nowhere.”

Will the markets co-operate? Since November stock and credit markets have rallied partly as previous initiatives gain traction and partly in anticipation of more aggressive actions by the incoming administration. Record deficit projections have not spooked investors: the dollar has strengthened as the overseas outlook turns grimmer, and deflation worries have driven Treasury yields to their lowest in over half a century. But as financial panic subsides, the prospect of huge current deficits combined with the coming entitlements crunch could cause investors to worry America will one day inflate its way out of the debt or even, in the extreme, default. The resulting higher interest rates would elevate the cost of servicing the federal debt, further aggravating the deficit. The threat of such dangerous debt dynamics is ample incentive for Mr Obama to hurry up and explain how he will tame the deficit once the recession is over.