Arnold Kling  

The Long-term Budget Outlook

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In testimony before the House Budget Committee, William Gale of the Brookings Institution says,


there is another big part of the problem: namely, the sunsets that are in the tax code. If all of those sunsets were removed, revenue would fall by 2.4 percent of GDP on a permanent basis. If, in addition, the alternative minimum tax is reduced so that only 3 percent of taxpayers stayed on it—about the current level—revenues would fall by about 2.7 percent of GDP.
...The notion that federal spending can be held to its post-WW II norm of about 18 or 19 percent of GDP seems virtually impossible to maintain without severely cutting the major entitlement programs or eliminating the rest of government. In future years, spending on Social Security, Medicare, and Medicaid alone is anticipated to exceed 19 percent of GDP. The unpleasant implication is that a long-term resolution of these issues that does not destroy the role of the federal government in American society will have to include significant increases in tax revenues as a share of the economy.

In an essay, I argue that whether the economy can grow fast enough to supply tax revenue for entitlements depends on the outcome of a contest between Moore's Law and Medicare.

I believe that if we have both Medicare reform and success with Moore's Law, then the economy will win its race with government decisively, leading to what I call Capitalist Utopia...
At the other extreme, if Moore's Law fails and Medicare is not reformed, then the tax burden on the working population will increase beyond anything that has been seen in a viable economy, which means that we could see an Economic Implosion. Many of the most creative, hard-working people will be driven out of the mainstream economy. Some may go abroad, to take advantage of low-tax havens. Others will work underground, in a growing black-market sector. This in turn will force the government to raise tax rates further, driving more productive workers away, in a vicious downward spiral. Health care is rationed, and its quality deteriorates for everyone.

For Discussion. Gale and I agree that existing programs imply a need to increase tax revenue in relation to GDP. He sees the increase as necessary. I see it as potentially catastrophic. What do you think?

Comments and Sharing


CATEGORIES: Social Security



COMMENTS (13 to date)
Eric Krieg writes:

The tax increases ain't gonna happen.

Quite frankly, the greedy geezer lobby has been living off of its history (survived the Depression, whupped the Nazis and the Japs, won the Cold War, turned America into the sole economic superpower, etc.) for some time. Social Security and Medicare have been seen as a reward for their good work.

But you are crazy if you think that we're going to double the payroll tax rate for guys whose only claim to fame was that they were at Woodstock. Pot smoking, free lovin', draft dodging , beemer driving rejects from the cast of the Big Chill are what the baby boomers are. Nobody is going to pay more for that.

Social Security and Medicare benefits will be significantly cut, especially for the middle and upper classes. Bill Gates will never see one dollar of his (substantial) payroll tax payments in the form of Social Security or Medicare benefits.

Bernard Yomtov writes:

I think the "sunset" provisions were blatantly dishonest. They were, to put it in plain terms, lies to make the tax cuts seem much smaller than they really were.

"Honor and dignity." What a joke.

Eric Krieg writes:

I guess that depends on your definition of...

Aw, forget it.

Mcwop writes:

Does anyone have direct evidence that the tax cuts (most of which just kicked in) are the major contributor to deficits versus the items that I listed below? I would like to see how this stuff stacks up.

Here is what I see being the main factors contributing to the deficit and current budget problems:
a) Increase in spending at a time where tax revenues declined. For example, federal expenditures were $2,278,804,000,000 in 2001 and $2,441,183,000,000 in 2002 for a 163 billion dollar increase (CBO outlay numbers $1,863 and 2,011 respectively). The biggest culprit was social spending – Social Security and Medicare. This accounted for most if not all the deficit during this timeframe.
b) Down stock market was and continues to be a major contributor to the decline in tax revenues. This has reduced capital gains tax collections, slowed the rate at which stock options are exercised (which creates a taxable event), and lowered people’s AGI that in turn limits dollars subject to higher rates. For example in California, revenues from stock options and capital gains was $17.6 billion (25% of CA’s general fund revenues) in 2000-01. In 2002-03 that revenue was $5.2 billion. That is a $12.4 billion difference or 30+% of their current deficit. It appears the rest of CA’s deficit was from increases in expenditures and their energy debacle.

Tax cut money in whatever amounts materialize stays in the economy. The people that get it either spend or invest it. These are activities that can create taxable income, a taxable event, or both.

Ted Harlan writes:

I really like this site and blog, and I think Arnold Kling's writing is often terse, lucid, and articulate.

I am humbled and dwarfed by the vast majority of the things I read on this website and blog.

But is the article written for TCS controversial or groundbreaking?

Let me sum it up. "In the future, Medicare entitlement payments will consume a great deal of the US economy. If technology makes health care more 'affordable', or we reduce the size of the entitlement, it probably won't be a big deal. But if health care doesn't get 'cheaper', and we don't reform Medicare, the economy will be pretty screwed."

If my summary is correct, I would imagine that this has occurred to just about everyone who has spent three minutes thinking about it.

Boonton writes:

At this point I think it should be mentioned the folly of squandering the opportunity to pay off a significant portion of the national debt. Assuming that little changes from the projections, reducing debt today would allow one to have more breathing room in the future. If the economy could absorb $5T in borrowing today then no doubt it would be able to do so in 2040. One would expect the economy to be even larger then so borrowing more would be less of a problem.

Eric Krieg writes:

>>Does anyone have direct evidence that the tax cuts (most of which just kicked in) are the major contributor to deficits versus the items that I listed below?

Arnold Kling writes:

Here is one breakdown of the cause of the current deficit: http://jec.senate.gov/economy/charts/JECWhereSurplusWent.pdf

However, I am more interested in the long-term budget outlook. There, I am quite convinced that the main problem is Medicare.

Mcwop writes:

Thanks for the breakdown Arnold. That was the key info I needed to even guess at what the future holds. I would have to agree in the near term Medicare is a problem. Add the new drug benefit and it becomes a nightmare. It does not seem that the tax cuts or sunset provisions will be a major factor. A strong economy and wise fiscal spending policies are key. Social Security is a factor where the increasing payouts mean the general buget will have less cash flow to work with.

David Thomson writes:

Let’s get to the nitty-gritty---far too many Americans like to pretend that somehow they can avoid paying for their own health needs. It’s really that simple. We do not need to overcomplicate the matter. They conveniently overlook the fact that employers simply pay them less wages if compelled to fund their health insurance. As for the government, it merely uses our own tax dollars. Every American adult should repeatedly say to themselves:

“There’s nothing free in life. I am going to pay for my own health needs one way or another. Deluding myself to the contrary is an indulgence in gross stupidity.”

“There’s nothing free in life. I am going to pay for my own health needs one way or another. Deluding myself to the contrary is an indulgence in gross stupidity.”

“There’s nothing free in life. I am going to pay for my own health needs one way or another. Deluding myself to the contrary is an indulgence in gross stupidity.”

“There’s nothing free in life. I am going to pay for my own health needs one way or another. Deluding myself to the contrary is an indulgence in gross stupidity.”

“There’s nothing free in life. I am going to pay for my own health needs one way or another. Deluding myself to the contrary is an indulgence in gross stupidity.”

“There’s nothing free in life. I am going to pay for my own health needs one way or another. Deluding myself to the contrary is an indulgence in gross stupidity.”

Eric Krieg writes:

Once again my memory isn't so bad. Over 50% due to the poor economy, 24% due to spending, and the rest the various tax cuts.

Also, don't just assume that defecits are bad in the short term. We saw in the second quarter that the government CAN juice up GDP. NO ONE expected 2.4% growth. But there it was, almost entirely due to government spending.

Defecits during a recession shouldn't bother anybody.

Brian writes:

Most of the power afforded by Moore's Law is eaten up by graphical interfaces and bloated protocols and bloated software. I think it was a TI scientist who said "I can't type at 100 MegaHertz". I don't think it's Moore's Law that explains any increase in productivity as much as the ubiquity of computers, ease of use and the influence in the workforce of more younger people comfortable with computers, and of course that 1960s innovation of the internet. I view this as almost like a mid-1990's step change (or several smaller irregular steps) rather than a constant growth curve such as Moore's. To have what would have been considered a supercomputer 10 years ago on every desk today isn't going to solve the genomics and fluid modelling problems any sooner because most of us don't work in those areas.

If we want big productivity and standards of living increases why don't we teach more economics to children (and adults)? Change the main management incentive from options to long-term restricted stock.

Matt Young writes:

Too late.

Here in Silicon Valley we are shutting business down as fast a possible. GenX has a looming tax burden, and there is no way we can plan long term with both the Davis fiasco and the entitlement bubble.

If you are over 50, and not working, don't bother. Sell out now, grab your piece of the retirement home and plan on accasional part time work.

If you are under 20, don't bother with that first job, spend the next 6 years in school until this thing settles out.

If you are between 20 and 50, work, but cheat on taxes as much as possible and squirrel away your money.

And, whenever some Republican Communist wants $300 billion of your taxes in a Trotskyite adventure, just say no.

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