Democrats and Republicans in Washington agree: It would be a disaster if the “sequester,” with its more than $1 trillion of cuts to defense and domestic spending, takes effect March 1, as scheduled.
Defense Secretary Leon Panetta says the reductions to his budget would undermine national security; the cuts to already pared-down domestic spending will set back critical needs such as cancer research, the Head Start federal preschool program for young children and funding for the Border Patrol. The economic recovery would be impeded, at a cost of as many as 750,000 jobs.
President Barack Obama says the cuts “are a really bad idea.” In a rare display of accord, House Speaker John Boehner says the “meat axe” approach would “weaken” the nation’s defense. Obama and Boehner were two of the authors of the 2011 sequester agreement, figuring a sensible alternative would have emerged by now.
It hasn’t, and the sequester could kick in, even if only temporarily. It’s a textbook case of Washington dysfunction.
Both sides created this debacle, but there is no equivalency of blame today. Any alternative must emphasize reductions in mandatory entitlement programs and add revenue. Obama, publicly and privately, has left no doubt he will surrender the Democrats’ political trump card and accept cuts in programs such as Medicare. Republican leaders insist they won’t give ground on new revenue, without which there can be no deal.
An impasse will be unsettling to markets and the economy in the long run, even if deficit hawks exaggerate the severity of the crisis.
“The 10-year budget outlook remains tenuous,” says Bill Gale, director of economic studies at the Brookings Institution. “Even if seemingly everything goes right — in economic terms and political terms — we are still on the edge of dangerously high debt and deficit levels.”
It isn’t hard to devise a feasible alternative, if the irrational politics are put aside. First, any deficit-reduction plan should wait two years. That’s because the deficit has already been narrowed by almost $2.5 trillion over the next decade. In the short term, the government needs to bolster the shaky recovery by spending more on infrastructure and other projects.
Then, it should put in place a long-term $1 trillion deficit-reduction package, half of which is achieved through entitlement cuts, one-third through tax increases and the rest by shrinking discretionary programs, chiefly defense, which are funded through annual appropriations from Congress. That would send an encouraging sign to markets and help the economy, but only if it’s a long-term plan, rather than the one-year fix that Senate and House Democrats are proposing.
Entitlements or mandatory programs such as Medicare and Social Security make up almost 60 percent of the federal budget, and are the engine of chronic deficits. Getting $500 billion over 10 years wouldn’t be pain-free, though it doesn’t have to hurt those who can least afford to sacrifice.
The president has said he would go along with the scope of the Bowles-Simpson deficit commission’s proposed cuts to Medicare. That’s about $350 billion. It wouldn’t require cuts for the most needy, but would contain a means test for more affluent senior citizens. A sensible deal wouldn’t increase the eligibility age and would introduce more stringent cost controls and hit up drug companies for a little more.
Half the remaining savings could come from changing the formula for the cost-of-living increases for Social Security and other inflation-adjusted entitlements. That’s a realistic proposal if protections are carved out for the very poor and the very elderly. The Center for American Progress has offered workable specifics. The rest could come from cutting agricultural subsidies and other entitlement programs.
The White House would buy this; and it has been the dream of Republicans for years.
On taxes, Republicans contend that the fiscal cliff deal in January, which raised taxes on the wealthy by $600 billion, means any further revenue-raisers are off the table. A number of party leaders also pay lip service to the Bowles-Simpson recommendations, which proposed $1 of revenue for every $2 of spending cuts, after eliminating former President George W. Bush’s high-end tax cuts. If these Republicans have their way and the sequester or any alternative to it is exclusively spending cuts, that ratio would be more than 4 to 1.
The easiest way to get that revenue would be a plan resembling the administration’s proposal to limit deductions to the 28 percent rate, and then exclude charitable deductions from that cap. That would raise more than $300 billion.
The other Republican argument is that any tax changes should await broad tax reform. But limiting deductions wouldn’t narrow their options or dash their hopes of using reform as a vehicle for lowering rates. There are endless possibilities for curbing tax breaks in a revenue-neutral measure that also lowers rates, including scaling back big-ticket items such as the home-mortgage deduction or health care exclusion or the preferential treatment for capital gains. Other changes are politically appealing, such as ending the carried-interest loophole for rich investors or the tax breaks for the oil and gas industries.
What shouldn’t be cut is non-defense discretionary spending, such as veterans’ programs, medical and scientific research and education. Even without the sequester, these programs are headed toward their lowest level, as a percentage of the economy, since the Eisenhower administration.
An entitlements and revenue-based deal, however, would approximate the Bowles-Simpson targets, and engender confidence in markets and businesses. The politicians could then turn to tax reform, immigration, gun violence, maybe a modest climate change measure, and substantive oversight.
As a bonus, a successful deal might also lessen public cynicism about Washington.
Hunt is a Bloomberg View columnist.