Our New Look at the Long-Term Budget Picture: #2

As we explained earlier today, the long-term budget outlook remains challenging, but recent legislation and other developments have made it more manageable.  In our major new report on the long-term budget picture, we also discussed the difficult policy choices that are still needed to ensure long-term stability.  Here’s some of what we wrote:

Although the long-term budget problem appears significantly more manageable than in previous projections, policymakers still face difficult choices to put the budget on a more sustainable path for the long term.  We have long maintained that stabilizing the debt-to-GDP ratio over the coming decade (with deficit reduction measures phased in after the economy has recovered more fully) is a minimum appropriate budget course. Deficits are not a problem when the economy is operating well below its potential, as it has been since 2008.  But a persistently rising debt-to-GDP ratio in good times and bad alike reflects an unsustainable budget policy that ultimately poses threats to financial stability and long-term growth. That’s why the debt ratio should not rise when the economy is at or near full employment.  In addition, a falling debt-to-GDP ratio would give policymakers more flexibility to address future economic or financial crises.

Projected debt-to-GDP ratios should be reduced through carefully designed policies that strengthen (rather than weaken) the slow economic recovery and job creation in the near term, while putting in place fair and balanced deficit reduction that grows in size over time.  (Job creation is essential; it has little chance of passing either house of Congress, however, unless it is part of a broader fiscal policy package.)  Replacing sequestration with a more sensible set of savings measures that end the immediate austerity which sequestration is imposing and replace it with larger savings later in the decade could both benefit the economy in the short term and produce somewhat lower debt ratios in the long term.  That echoes the recent recommendations of the International Monetary Fund, which called the automatic spending cuts “indiscriminate” and instead urged U.S. lawmakers to “[repeal] the sequester and [adopt] a more balanced and gradual pace of fiscal consolidation in the short term; expeditiously [raise] the debt ceiling to avoid a severe shock to the U.S. and the global economy; and [implement] a comprehensive and back-loaded set of measures to restore long-run fiscal sustainability.”

Based on CBO’s February 2013 projections, CBPP previously estimated that $1.5 trillion in additional deficit reduction (including interest savings) would stabilize the debt at 73 percent of GDP over the coming decade (relative to a baseline that, as noted, makes a different assumption about certain expiring tax cuts). Because CBO’s May baseline projections reduced projected deficits by more than $800 billion through 2023, the deficit reduction required to stabilize the debt will now be somewhat less.  In a future paper, we will analyze how various deficit-reduction paths, including paths that combine some near-term, temporary measures to accelerate job creation with permanent deficit-reduction measures that kick in after the economy has fully recovered, would affect the debt-to-GDP ratio.

Even if the President and Congress agreed on enough deficit reduction to stabilize the debt over the coming decade, the debt-to-GDP ratio would still very likely rise somewhat for a number of years after 2023 (before slowing down) and remain well above the level of the previous 60 years.  In particular, the aging of America’s population and projected increases in per-capita health care costs will continue to put considerable pressure on federal health and retirement programs and on the budget as a whole.  Stabilizing the debt ratio over the coming decade — while not sufficient to solve our long-term fiscal problems — would give policymakers time to identify, by later in the decade, further steps needed to keep the debt ratio from rising again in future decades and make more progress on these long-run budget challenges.

As we have written, going further and enacting more significant deficit reduction now that puts the debt ratio on a modest downward path after the economy has recovered would bring additional advantages — if policymakers can achieve it without slowing the recovery, shortchanging important investments for the future, increasing poverty and inequality, or sacrificing health care quality.  Unfortunately, this seems a tall order in the current political environment.

There are major unknowns in the health care arena, and policymakers should approach this area with appropriate caution.  The growth of both public and private health costs has slowed appreciably in the past few years, but experts do not agree on how much of this slowdown is likely to continue over the long term.  As our pessimistic and optimistic paths demonstrate, the answer affects the size of the long-term fiscal problem and the magnitude of the measures that will be needed to further slow health-care cost growth (beyond modest steps that can be taken now).  More fundamentally, we currently lack needed information on how to slow health cost growth substantially without reducing health care quality or impeding access to necessary care.  Demonstration projects and other experiments to find ways to do so are now starting and should generate important lessons.  By later in the decade, we will know more about what works and what doesn’t, and whether we can build upon and spread the changes already starting to occur to slow health cost growth.

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