A Deficit of Clear Thinking
David Levine and Brad DeLong
The President and Congress are now both committed to "balancing the
budget" in seven years. Disagreements over the details as to exactly
how, and under just what economic and program-cost assumptions,
budget projections are to show balance in fiscal 2002 have closed
down large parts of the government twice in two months.
The "closure" of the government is not entirely a theatrical
exercise: we as a nation lose between $100,000,000 and $300,000,000
every working day from even the "limited" shutdown now under
way, in that ultimately we are going to have to pay people those
extra dollars to do what the government was supposed to do during its
shutdown. What will the total loss to the country be when it is all
added up after this is over? The members of the House, the Senators,
and the President could return their salaries to the Treasury for the
next 100 years--and it still would not make up the loss.
In their political brinksmanship both the White House and the
Republican leaders emphasize differences, and downplay areas of
agreement. This emphasis is unfortunate: their areas of agreement are
very large; their area of disagreement is largely confined to the
question of which party the press will call the "loser" and accuse of
having made more "concessions."
This emphasis is unfortunate because their agreed-upon
goal--balancing the budget in seven years--is stupid. The bottom-line
number in deficit discussions bears no resemblance to the bottom-line
number that would be generated by any useful accounting system.
Before we decide to balance anything, we should first figure out what
is worth balancing--what concept of "balance" would mean that the
United States had a sensible fiscal policy.
The good news is that sensible measures of the deficit show that
today's budget is almost in balance. Thus, better measurement reduces
the belief that massive short-run cuts are called for today
because today's revenues are insufficient to support today's
The bad news is that sensible measures show that the budget is headed
for crisis ten to twenty years from now as the baby boom retires. A
sensible accounting system would focus our attention on the long-run
funding gap in Social Security and Medicare that has emerged because
the rate of U.S. produtivity and income growth collapsed in the 1970s
and the 1980s--not on the particular gimmicks and cuts necessary to
get you to temporary and ephemeral balance in 2002 only.
One problem with our current deficit measure is that it declines if
the government sells a building and immediately leases it back from
the new owners. Just as bad, our current deficit gets worse if the
government invests in a computer system that will greatly reduce tax
fraud. The most immediately necessary improvement in measuring the
federal deficit must be to correctly account for investments. Suppose
the CEO of a major corporation were to stand up and say that, even
though revenues were $1 billion more than the cost of goods sold last
year, the firm lost $500 million because it spent $1.5 billion making
new net investments for the future? We would think that such a CEO
was insane. Yet that is what the President and every member of
Congress does when they stand up and decry the deficit.
After centuries of experience in the private sector we know how to
account for investments pretty well. We also know how to correct for
the illusions inflation introduces into conventional accounting: we
would think a CEO was equally insane if he claimed that his company
had a good year if all the profit was generated because inflation had
led the firm to mark up the dollar value of its of inventory. Thus a
second necessary revision is to correct the federal budget for the
effects of inflation.
At current inflation rates, the first $120 billion or so of the
measured deficit simply compensates bondholders for how inflation has
reduced the real value of their bonds. Another $50 billion or so of
the measured deficit is the federal government's net
investment--expenditures that increase the government's ability to do
its job in the future, and that no private-sector firm would ever
consider a "cost".
There is a third necessary revision: when the economy goes into a
recession, the government pays more for unemployment insurance,
collects less in taxes, and so runs a "cyclical" deficit. A goal of
year-by-year balance would mean that each time the nation entered a
recession, the government would be forced to raise taxes or cut
spending--making the recession worse. Take a longer-term view.
Balance the (sensibly measured) budget, but only over the span of an
entire business cycle.
What if we make these corrections, and look at America's fiscal
balance in the way that an accounting system that focused on reality
would do? We find that we have a balanced budget this year--or
that we are so close that our true "deficit" is measured in
thousandths of our national product.
We also find that the future looks pretty grim. The baby boom
generation is going to retire in a generation. The baby-boom
generation has been promised benefits--Social Security and
Medicare--that make sense only if the American economy grows
significantly faster than anyone now projects or if the federal tax
burden is a share of income is going to significantly rise. We as a
country need to decide how we are going to bridge the fiscal gap we
can see emerging not in this decade but in the late 2000s, the 2010s,
and the 2020s. Are the rest of us going to renege on the Social
Security and Medicare benefits promised baby boomers? Are we going to
boost taxes as a share of incomes? Are we going to change how we
behave and boost private saving and public investment--in scientific
research in our children's health, in our children's education--to
make the economy grow faster?
A well-functioning government and political system would now be
having a debate to educate the public and think through some of the
big issues of how America's public finances should be handled over
the next generation or two. Such a well-functioning political system
might emerge if we had political leaders who carried the weight of
their responsibilities to the country, and political journalists who
educated themselves about substantive issues and kept asking
politicians just why their announced goals were worth pursuing and
how their polices tied into the big picture.
But looking back at 1995--looking at both government shutdowns--we
seem to have political leaders obsessed with getting a "zero" in the
"2002" column of some spreadsheet of projections, and a press whose
only interest is in figuring out what the rest of the press will say
about which politician "won" the struggle over the budget.
It's not clear who the press will conclude has "won" after all this
is over. But it is clear who has lost: all of us.
David Levine teaches in the Haas School of Business, University of
Brad DeLong teaches in the Department of Economics, University of