Posted by: Patrick | October 11, 2009

Forbes.com: It’s Time For Deficit Reduction

Forbes.com

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It’s Time For Deficit Reduction
Bruce Bartlett, 10.09.09, 12:00 AM ET

Few people on the right or left deny the necessity of deficit reduction. The deficit figures projected were unsustainable even before the recession collapsed tax revenues and necessitated an expansion of spending. Nor do the left and right disagree on when deficit reduction should take place: Both say, not now. It’s something we can do later, after the crisis is past; any effort to cut spending now would be strenuously opposed by the left, and any effort to raise taxes would be equally strenuously opposed by the right.

Of course, they are both right in the sense that we don’t want to impose spending cuts or tax increases that would take effect until we are past the crisis. But that doesn’t mean that we can’t start planning now for deficit reduction or put in place policies that wouldn’t take effect for several years. If we wait until another crisis is upon us that demands deficit reduction, many options that are available today will be foreclosed by the necessity of acting quickly.

For example, every budget expert knows that entitlement programs need to be reigned in. These are programs like Social Security and Medicare for which spending is automatic; Congress can’t cut spending for them just by appropriating less money, as is the case with so-called discretionary programs.

Since entitlement programs can only be controlled by changing the law regarding eligibility or changing benefit formulas, it is very hard to cut spending for them. Just look at how difficult it has been for Democrats to enact health reform, even when expanding health insurance coverage is popular and they control both houses of Congress by large margins. It will be vastly more difficult to sharply cut Medicare when the goal is deficit reduction.

It will be doubly difficult if Congress is under pressure to achieve budgetary savings right away in response to a crisis resulting from runaway inflation, a crashing dollar or sky-high interest rates. That is because the only means of cutting entitlements in the short run are extraordinarily difficult to achieve, politically, and don’t even achieve lasting savings. But those that are easier to achieve and have long-term effects necessarily require a considerable amount of time to take effect.

Regarding Social Security, it is simply impossible to cut benefits in the near term. Beneficiaries believe, rightly or wrongly, that they have earned every penny they receive and will ferociously fight any effort to cut them as strenuously as a mother bear would fight to protect her cubs.

Historically, the most that Congress has been able to do is delay paying the cost of living adjustments, which does almost nothing to reduce the trajectory of spending. Yet it has taken extraordinary political effort to achieve even that because the entitlement mentality among the elderly is so great that they expect a COLA even when there is no inflation.

(See Bruce Bartlett’s column from last week for more on COLA.)

Indeed, there is an effort underway in Congress right now to pay a Social Security COLA in January even though there has actually been deflation–a falling price level–over the past year. Between August 2008 and August 2009, the Consumer Price Index fell 1.5%. Yet because of the power of the elderly on Capitol Hill, there is a good chance that they will get what they want, because they always get what they want.

Cutting Medicare is a little easier, but not much. Historically, short-run savings have been achieved largely by paying doctors and hospitals less. This just leads to more and more doctors refusing to treat Medicare patients or loading them up with unnecessary tests and procedures in order to achieve a reasonable compensation.

The easiest and best way to cut both Social Security and Medicare is to raise the age of eligibility. This was proved in 1983 when Democrats negotiated a deal with Ronald Reagan to fix Social Security by raising the payroll tax rate and doing nothing to reduce benefits.

When this legislation came up in Congress, however, Rep. Jake Pickle, D-Texas, chairman of the Social Security Subcommittee, thought it was irresponsible not to do anything to restrain the program’s costs. On his own, he offered an amendment to the bailout legislation that would raise the normal retirement age to 67 from 65.

Pickle argued, quite correctly, that longevity had increased a great deal over the previous 50 years and thus people were drawing Social Security much longer than anticipated. Furthermore, the retirement age was intentionally set at a relatively low level in the first place in order to encourage seniors to retire and thereby open up jobs.

But the most important thing about Pickle’s amendment was that it wouldn’t take effect for a long time and therefore would not affect anyone in retirement or anywhere near retirement, and those affected had many years to prepare and adapt.

The Pickle amendment was accepted by both the House and Senate and was the only significant spending cut in the final legislation. It mandated that beginning in 2000–17 years after enactment–the normal retirement age would begin to rise by two months per year.

This year, one will need to be age 66 before drawing full Social Security benefits. This will rise to 67 in the year 2022. Thus it will take almost 40 years for the rise in the retirement age to become fully effective. People may still retire at age 62 with much reduced benefits–benefits that are permanently reduced and do not rise when one reaches age 66. Early retirees are also severely penalized for working by having their benefits reduced if they earn over a small amount.

Unfortunately, Congress made two mistakes. First, the age of eligibility for Medicare was kept at 65, so people can now qualify for it a year before they can draw full Social Security benefits. Long ago, the age to qualify for Medicare should have been raised to the same age to qualify for Social Security.

The second mistake is that Congress didn’t increase the retirement age nearly enough. Just since 1980, life expectancy for men at age 65 has increased by almost three years, from 14 years to 16.9 years. For women, the increase has been from 18.4 years to 19.3 years past the age of 65. Social Security’s actuaries predict that longevity will continue to rise. By 2050, men are expected to live another 19.6 years beyond age 65 and women will live another 21.7 years.

Giving people the same number of years on Social Security that they received in 1940 would require a normal retirement age of at least 70 right now. With the anticipated growth in longevity, we would need a retirement age of 73 by the year 2050.

I am not necessarily advocating a particular retirement age. I’m only pointing out that there is ample justification for taking an action today that would not take effect for many years and that would achieve significant savings in entitlement spending that might be doable, politically.

But precisely because an increase in the retirement age would have to be phased in over many years, it would necessarily be off the table in the event of a fiscal crisis requiring cuts in spending immediately and in the very near future.

Given the limited opportunities for cutting spending in the very near term and the fact that entitlements are effectively off limits owing to their nature, it has long been the case that tax increases were the fastest way of cutting deficits when Congress has been moved to act. Indeed, almost all of the real deficit reduction of the 1980s and 1990s budget deals came from higher taxes.

Therefore, those who wish to prevent tax increases in the future should be doing everything in their power to enact changes in entitlement programs today, before the crunch hits. Though they may imagine that a fiscal crisis will provide cover for massive spending cuts, in fact, that is a pipe dream. When push comes to shove, higher taxes will be the principal means of closing a budget gap when action is forced by a crisis.

Bruce Bartlett is a former Treasury Department economist and the author of Reaganomics: Supply-Side Economics in Action and Impostor: How George W. Bush Bankrupted America and Betrayed the Reagan Legacy. Bruce Bartlett’s new book is available for pre-order: The New American Economy: The Failure of Reaganomics and a New Way Forward. He writes a weekly column for Forbes.com.

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