Getting the federal debt under control will be very painful

  • 25 October 2018
  • NormanL

With talk in Republican circles about an additional push for tax cuts, there is still little to no official interest in addressing Washington's very big problem: spending. The most recent federal fiscal year showed the deficit totalling more than $750 billion. They will only get larger in the years ahead.

To get an idea of what would be required to keep the red ink below the critical 100 percent of GDP level, the Manhattan Institute's Brian Riedl ran the numbers. The results were staggering. On our present course, federal debt will reach almost 200 percent fo GDP. Riedl's plan seeks to avoid that, for a good reason:

...the plan to stabilize the debt at 95 percent of GDP...means cutting [the current debt growth rate] roughly in half from what it would otherwise be 30 years from now. Even then, we would run a deficit every year, but the debt would grow at the same rate as GDP, maintaining a constant ratio. (Spending is stabilized at 23.3 percent of GDP while taxes are stabilized at 20.1 percent.)

No one knows exactly what happens if we simply maintain the status quo instead, but at some point it will certainly become untenable. As the debt accumulates, our interest payments will become more difficult to manage — they’ll eat up 40 percent of all our tax revenues in 2048 — and interest rates themselves may rise. Eventually investors will stop lending us money at rates we can afford, and we’re looking at a debt crisis.

Forty percent of all federal revenues going to debt payments -- if no changes are made. That means less money for everything else the government does, from defense to Social Security.

So what does Riedl propose to cut? Entitlements are on the block. Social Security, for example:

The retirement age climbs from 67 to 69, reflecting the fact that lifespans have increased. As for benefits, the bottom 40 percent of income earners are held harmless, as are current retirees — but middle- and higher-earning future retirees lose out. “For a couple turning 65 in 2030 with median lifetime earnings,” Riedl writes, the plan’s reforms “mean approximately $2,500 less in annual benefits adjusted for inflation”; the damage for the top 20 percent is $8,600. Riedl points out that these “cuts” are relative to the current formulas, in which benefits grow faster than inflation, so most people would still be treated at least as well as today’s retirees are. But even with that in mind, the top 20 percent see cuts, and the top 10 percent see “a significant drop in inflation-adjusted benefits relative to 2018 levels.”

Other reductions -- in Medicare, Medicaid, and a host of government programs, will also be necessary to cut the debt's rapid growth. And if Riedl's plan hasn't angried enough people, he says tax hikes will also be necessary:

So far we have Social Security cuts, a total revamping of Medicare, and Medicaid reforms that will hammer state budgets. But even all that won’t let members of Congress keep their pledges not to hike taxes. The payroll taxes for Social Security and Medicare increase by one percentage point each, with a surcharge covering folks who earn above the threshold where the Social Security tax currently maxes out; the tax exclusion for employer-provided health care is also trimmed back. These and some smaller tweaks raise the final 1.5 percent of GDP.

In short: there's a lot of pain, and anger, to go around.

Not that this scenario is guaranteed. Congress and the White House could begin reeling in spending with the next budget, hopefully along the lines the president has already suggested. This would be a start. It may not be enough, but even a modest start is better than continuing to spend like there were no consequences.

Because consequences are inevitable. We can either begin the hard, painful, and politcally dangerous work of reducing spending now...or we can have the debt market do the cutting for us on its terms and timeline.

 

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