August 22, 2014

Simpson-Bowles Plan Could Play Vital Role in Moving Towards Compromise

The new budget plan released recently by Alan Simpson and Erskine Bowles once again demonstrates that it is possible to bring the deficit under control using a mix of spending cuts and revenue increases without harming the near-term economy.

It is not a plan for partisan purists, and that is why it could play a vital role in the coming months as Democrats and Republicans struggle to find a way forward on a budget compromise.

Unlike the original Simpson-Bowles plan, which was presented when the two men co-chaired the bipartisan National Commission on Fiscal Responsibility and Reform, this plan picks up where negotiations broke off last December between President Obama and House Speaker John Boehner.

“The plan we have put forward here is not our ideal plan, it is not the perfect plan, and it is certainly not the only plan,” they wrote. “It is an effort to show both sides that a deal is possible; a deal where neither side compromises their principles but instead relies on principled compromise. Such a deal would invigorate our economy and demonstrate to the public that Washington can solve problems, and leave a better future for our grandchildren.”

Simpson and Bowles acknowledge that some progress has been made since their original proposal in December 2010, primarily from tight spending caps on appropriations and a tax rate increase for upper-income households. They refer to this as Step One and Step Two of a four-step process.

Like The Concord Coalition has argued, Simpson and Bowles say that these actions (Steps One and Two) have not done nearly enough to change the long-term trajectory of the growing debt.  

To remedy that, Simpson and Bowles propose Step Three -- $2.15 trillion of savings from policy changes over the next 10 years. That would reduce interest costs by another $350 billion, for a deficit reduction total of $2.5 trillion.

The major categories of savings include $585 billion from Medicare and Medicaid, and $585 billion in higher revenue from tax reform. However, all parts of the budget are subject to scrutiny. Simpson and Bowles find another $266 billion from other mandatory spending programs such as farm subsidies ($40 billion), education subsidies ($35 billion), and government employee benefits for health care and retirement ($100 billion). Discretionary spending, including defense, would be reduced by $385 billion although the indiscriminate across-the-board cuts imposed by the current “sequester” would be replaced.

In addition to specific programmatic reforms, the plan would adopt a new government-wide measure of inflation (chained CPI) thought by many economists to be more accurate. The switch would also save an estimated $340 billion through 2023. However, the plan would set aside $60 billion of this to protect low-income and elderly individuals, including a flat dollar increase for beneficiaries of Social Security, Supplemental Security Income (SSI), and veterans benefits who have been receiving benefits for 20 years. The net 10-year saving would thus be $280 billion.

When all is said and done, the main criteria for assessing the seriousness of this or any other deficit reduction plan are not the claimed savings in dollar terms, which depend on the starting baseline, but where things come out as a percentage of the economy. 

As the authors note, “There are many different ways to calculate the amount of savings that a plan would achieve but what matters is the end result of the trajectory of debt as a percentage of GDP, not how much savings are claimed.”

Simpson and Bowles estimate that their plan would reduce the debt-to-GDP ratio to 69 percent by 2023, down from 77 percent in 2013. Spending would decline to 21.6 percent of GDP (from 22.4 percent in 2013) and revenues would rise to 19.7 percent of GDP (from 16.9 percent in 2013). The deficit would be 1.9 percent of GDP by 2023, down from 5.5 percent this year.

Longer-term projections are subject to much more uncertainty, but Simpson and Bowles estimate that their plan would continue to reduce the debt as a share of the economy beyond the 10-year budget window.

This would be aided by an additional package of reforms (Step Four) that includes an illustrative Social Security solvency plan and an ambitious (perhaps too ambitious) cap on federal per-beneficiary health care commitments -- holding their growth only at the same level as economic growth beginning in 2018.  

A noteworthy feature of this plan is that it is not a random catalogue of spending cuts and tax increases designed solely to reduce the deficit. The recommended policies are aimed at improving the efficiency and effectiveness of government programs, including health care delivery and provisions of the tax code.

For example, they seek to move Medicare further away from fee-for-service delivery, which currently promotes volume of service over quality of care. They would also discourage wasteful first-dollar coverage to promote cost-consciousness and reduce premium subsidies for upper-income beneficiaries.

The tax code would be scrubbed of the trillion dollars of annual credits, deductions, exemptions and exclusions (i.e., “tax expenditures”) that distort economic choices, drain revenues and complicate the tax code. In return, rates could be lowered while still bringing in more revenues. Tax expenditures that are retained would have to be paid for with higher rates.

At the same time, changes would mostly be phased-in to avoid a sharp economic contraction. Simpson and Bowles estimate that 95 percent the deficit reduction would occur in 2016 and beyond.

Anyone reading the plan will no doubt find elements that they disagree with. However, any serious deficit reduction plan will involve difficult trade-offs.

The question for policymakers and the public is whether they are willing to accept some elements they dislike to achieve other goals they agree with and have it all come out with a more sustainable fiscal outlook for the nation.