Category Archives: Debt

Why We Have a Debt Problem, Part 23

By James Kwak

So, we have eleven aircraft carrier groups. No other country in the world has more than one. Everyone who has looked at the issue has agreed that we could do with fewer than eleven while still achieving our national security goals: Bush/Obama Defense Secretary Robert Gates, Obama Defense Secretary Chuck Hagel, and think tanks on the left and the right.

But apparently we can’t retire even one–even though we would save not just the annual operating costs, but most of the $4.7 billion it will cost to refurbish over the next five years. Instead, the Obama Administration has promised the Pentagon that it can simply have more money and not comply with the spending limits set in the 2011 debt ceiling agreement (and modified by Murray-Ryan).

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New “Debt for Beginners” Section

By James Kwak

I created a new “Debt for Beginners” page on the White House Burning website. It’s a collection of previous articles, mainly written for a general audience, on deficits, the national debt, government spending, taxes, and the politics thereof. It’s intended as a starting point for people who want to get up to speed on these issues.

Loyal readers are probably familiar with all the material already.

Correction to Long-Term Debt Projections

By James Kwak

Back in October, I wrote a post laying out my long-term projections for the national debt, which were basically an adjustment to existing CBO projections. Peter Berezin recently pointed out a misleading ambiguity in that post. There, I used the same long-term growth rate of tax revenues in both my extended-baseline scenario and in my “realistic” scenarios. I got that long-term growth rate from the CBO’s extended baseline scenario in its 2011 Long-Term Budget Outlook, which assumes that current law remains unchanged.

In my realistic scenarios, I assumed that the AMT would be adjusted through 2021 but that the long-term growth rate would apply thereafter. I didn’t say anything explicitly about the AMT after 2021, but by using the long-term growth rate from the extended baseline, I was implicitly assuming that the AMT would not be indexed after 2021.

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Can We Afford Medicare?

By James Kwak

The conventional wisdom, repeated endlessly by the so-called serious people, is that we can’t afford traditional Medicare and hence it has to be radically overhauled (see Ryan-Wyden for the latest round). But I’ve never seen a convincing argument for why we can’t afford traditional Medicare. Yes, costs are rising as a share of GDP. But in principle, to make the case that we have to reform the program, you would have to argue that revenues can’t rise enough to keep pace—which in most cases, just shows that you don’t want revenues to rise enough.

More specifically, you have to know how big the Medicare deficit is and how fast it is rising. By my calculations, relying mainly on the 2011 Medicare Trustee’s report, the deficit was 1.7% of GDP in 2010 and will be 3.0% of GDP in 2040. So the argument that we can’t afford traditional Medicare relies on the proposition that this 1.3% of GDP is the straw that will break America’s fiscal back. Needless to say, this is nonsense, especially since other tax revenues not related to Medicare will be rising over the same time period, at least under current law. For all the details and sources, see my latest Atlantic column.

Medicare has its problems. But we have choices.

Baseline Scenario Goes Glossy

By James Kwak

Simon and I wrote an article for the November issue of Vanity Fair about—well, about a lot of things. It’s about the eighteenth-century rivalry between Great Britain and France, the lessons of the American Revolutionary War, the Hamilton-Jefferson debates (again), and the War of 1812. It’s also about present-day fiscal policy and budgetary politics. The main question we take up is what the Founding Fathers (from the Constitutional Convention through their involvement in the War of 1812) thought about a strong central government, the national debt, and the taxes necessary to pay for them, and what that means for today. All that in less than 3,000 words, so there isn’t a lot of room for all the details.

You can read the article online here.

How Big Is the Long-Term Debt Problem?

By James Kwak

Articles about the deficits and the national debt generally talk about unsustainable long-term deficits that will drive the national debt up to a level where scary things happen. Sensible commentators usually acknowledge that our current deficits are a sideshow and the real problems happen in the 2020s and 2030s due to modestly increasing Social Security outlays and rapidly increasing health care spending. I admit that this has generally been my line as well; for example, in a previous post I said that the ten-year deficit problem is entirely a product of extending the Bush tax cuts, but that even if we let them expire things will get worse over the next two decades.

But looking at the numbers, it’s not clear that the long-term picture is really that bad. Here I’ll lay out the numbers, and then, as they say on Fox News, you can decide. The summary is the chart above; the details are below.

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Should Social Security Be Progressive?

By James Kwak

My earlier rant on the Social Security wage base made me think of a more important question (actually, I was already thinking of it, hence the need to Google the earnings cap): Should Social Security be more progressive than it already is? The most common ways liberals want to make it more progressive are (a) eliminating the cap on taxable earnings altogether and (b) reducing benefits for high earners. For part of my brain the automatic answer is “yes,” but I think there is a reasonable argument for leaving things roughly the way they are.

First, there’s a straight-up political argument. Social Security is popular because people feel like they earn their benefits. If people thought it was a covert redistribution program, then the high earners would definitely be against it, and most of the middle class probably would be too because of the American allergy to welfare. In fact, there are certainly people who think it is “pure welfare”, like the author of the post I criticized last time around. But it isn’t:

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Confused?

By James Kwak

Some of the headline numbers for President Obama’s deficit reduction proposal that you hear are the following:

  • $3 trillion in deficit reduction over ten years—more than the $1.2–1.5 trillion expected from the Joint Select Committee (JSC)
  • $4 trillion in deficit reduction, including the discretionary spending caps in the Budget Control Act
  • $1.5 trillion in tax increases
  • $1 trillion in deficit reduction by capping spending on Iraq and Afghanistan

This didn’t make sense to me for a few reasons, notably that any deal that preserves any of the Bush tax cuts should be scored by the CBO as a tax cut, which increases the deficit. The actual numbers are rather more complicated.

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Ponzi Schemes for Beginners

By James Kwak

On the theory that the best defense is a good offense, Rick Perry has been insisting to anyone who will listen that Social Security is a Ponzi scheme. Probably hundreds of people have already explained why it isn’t, but I think it’s important to be clear about why Rick Perry thinks it is—or, rather, why his political advisers think he can get away with it.

A Ponzi scheme, classically, is one where you promise high returns to investors but you have no way of actually generating those returns; instead, you plan to pay off old investors by getting new money from new investors. Social Security is obviously not a Ponzi scheme for at least two basic reasons. First, there’s no fraud involved: all of Social Security’s finances are right out in the open for anyone who cares to look, in the annual report of the trustees of the Social Security trust funds. Second, a Ponzi scheme by construction cannot go on forever; no matter how long you can keep it going, at some point you will run out of potential new investors and the whole thing will collapse. I’m sure there are other obvious differences, but that’s enough for now.

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How Big Is the Deficit, Anyway?

By James Kwak

According to its CBO score, the Budget Control Act of 2011 (a.k.a. the debt ceiling agreement) initially reduced aggregate budget deficits over the next ten years (2012–2021) by $917 billion, with a provision that ensures that deficits will be reduced by another $1.2 trillion (either through an agreement in the joint committee that is ratified by Congress, or through automatic spending cuts). The chatter in Washington is that even with the $1.2 trillion, this is still too small, and there is still this massive deficit hanging over our heads. This is true to an extent, but not the way you are being led to believe.

The first question is this: How big is the deficit anyway? The answer is pretty complicated—complicated enough for S&P to mess up (although in my opinion they made a rookie mistake, as I’ll explain later). Warning: lots of numbers ahead, though the only math is addition and subtraction.

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Barack Obama and Harry Potter

By James Kwak

Helene Cooper of the New York Times wrote a “news analysis” story saying that the challenge for President Obama is this:

“Is he willing to try to administer the disagreeable medicine that could help the economy mend over the long term, even if that means damaging his chances for re-election?”

The problem, she goes on to say in the next paragraph, is that the economy is in bad shape:

“The Federal Reserve’s finding on Tuesday that there is little prospect for rapid economic growth over the next two years was the latest in a summer of bad economic news.”

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So What? Part Two

By James Kwak

So, Standard and Poor’s went ahead and downgraded the United States yesterday, apparently because we have a dysfunctional political system. Who knew?

As I said before, I don’t think that S&P has added anything new to the world’s stock of information. In the short term, the most worrying thing about a downgrade is what I called the “legal-mechanical consequences”: the possibility that investors, who value their own opinions more than S&P’s anyway, might have to dump Treasuries because they are no longer AAA. Apparently, this is not going be a huge problem. Binyamin Appelbaum of the Times says that (a) many of the rules place Treasuries in a different category from other AAA securities to begin with and (b) since the downgrade only affects long-term debt, money-market mutual funds are safe.

Still, I think the whole thing is preposterous. S&P downgrading the United States is like Consumer Reports downgrading Coca-Cola. Consumer Reports is a great institution. For example, if you want to know how reliable a 2007 Ford Explorer is going to be, they have done more research than anyone to figure out the reliability history of every single vehicle. Those ratings are a real public service, since they add information to the world. But when it comes to Coke and Pepsi, everyone has an opinion already, and no one cares which one, according to Consumer Reports, “really” tastes better. When S&P rated some tranche of a CDO AAA back in 2006, it meant that some poor analyst had run some model fed to her by an investment bank and made sure that the rows and columns added up correctly, and the default probability percentage at the end was below some threshold. It might have been crappy information, but it was new information. When S&P rates long-term Treasuries AA+, it means . . . nothing. And if any serious buy-side investor were tempted to take S&P’s rating into account, she would be deterred by the fact that the analysis that produced the rating included a $2 trillion arithmetic error.

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A Few Thoughts on the Debt Ceiling Deal

By James Kwak

1. Obama still has his hostage—if he wants it. As far as I can tell, the Bush tax cuts are nowhere in the debt ceiling agreement, which means that at current course and speed they expire at the end of 2012. Extending the tax cuts would reduce revenue by about $3.5 trillion over the next decade. According to news reports, Obama was willing to extend the Bush tax cuts in exchange for $800-1,200 billion of additional tax revenue—in other words, he was willing to cut taxes by about $2.5 trillion relative to current law. Boehner and Cantor walked out because of some combination of (a) they couldn’t get their members to vote for that tax “increase” or (b) they think they will be able to extend all the tax cuts if they negotiate that deal separately. I wouldn’t be so sure about (b). Remember, gridlock means the tax cuts expire.

2. The next step of the deal is that a joint Congressional committee is supposed to come up with a plan to reduce deficits by $1.2-1.5 trillion over ten years. If they fail to come up with a plan, or their plan is rejected by Congress, then there will be major automatic cuts in discretionary spending, including defense. (There will also be cuts in Medicare reimbursement rates, but not in Social Security or Medicaid.) The idea on Obama’s side is that the prospect of major defense cuts will force Republicans to negotiate. But if they were willing to let the government default rather than increase taxes—even by closing tax loopholes—why do we think they will be afraid of some defense budget cuts? Traditional Republicans may have liked high defense spending, but not the new breed. Ron Paul is basically an isolationist; Grover Norquist thinks the defense budget should be reduced.

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Two Can Play

By James Kwak

Quick, what was the greatest conservative accomplishment of the George W. Bush presidency? It wasn’t Medicare Part D: that was a clever way to steal a Democratic issue and pass it in a form that was friendly to the pharmaceutical industry. It wasn’t Roberts and Alito: yes, they are young and conservative, but the majority is still only 5-4. It wasn’t Social Security privatization: that didn’t happen. Iraq? Getting political support to invade Iraq was a major coup, but everything went downhill from there.

The answer is obvious: the tax cuts of 2001 and 2003. Together, they were a wish list of conservative tax policy: a reduction in the top marginal income tax rate from 39.1 percent to 35 percent; a reduction in the top rates for capital gains and dividends to 15 percent; much higher contribution limits for tax-preferred retirement accounts (meaning that if you have enough money to save, you can shield more of it from taxes); and eventual elimination of the estate tax. In total, when fully phased in, the Bush-era tax cuts sliced almost 3 percent of GDP out of federal government revenues.*

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Understanding the Budget Deficits

By James Kwak

Today’s Atlantic column is a follow-up to last week’s on the size-of-government fallacy. In the column, I break down the projected 2021 deficit into three components: Social Security, Medicare, and Everything Else. (It’s important to use 2021, or some year out there, because most of the current spike in deficits will go away as the economy recovers.) I wanted to explain here how I came up with the numbers and talk a bit more about this approach.

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