With the United States on track to breach the federal debt ceiling later this year, budget negotiations are heating up between congressional Republicans and the Biden administration. But as the red ink continues to flow in Washington, is either party prepared to make the compromises necessary to dramatically slow the growth of the federal deficit? We spoke with Linda Bilmes, the Daniel Patrick Moynihan Senior Lecturer in Public Policy and an expert on the federal government’s budget process, to discuss what has driven the federal deficits in recent years and whether she thinks policymakers are prepared to find compromises to effectively tackle the country’s debt problem.
Q: With negotiations to raise the federal government’s debt limit in full swing, House Speaker Kevin McCarthy recently argued that “we must return Washington to a basic truth: debt matters.” But does it? Except for only a few brief periods over the last century, the federal government has run deficits under Republican and Democratic administrations alike. Is the federal government’s debt an inherently bad thing?
Most economists agree that governments should reduce public debt during periods of prosperity and run deficits to assist people when the economy is weak. The federal government’s borrowing capacity is a tool that should be used to improve people’s lives when necessary. The government is supposed to borrow during downturns, for example during the pandemic. The challenge is that we have relied on debt too much for other purposes—for example, to pay for 20 years of war in Afghanistan and Iraq. This was the first time in U.S. history that we financed wars entirely through debt. In previous wars, we raised taxes and cut non-war related spending to help pay for the wars, but during the post 9/11 conflicts we cut taxes three times.
Q: What have been the primary drivers of federal deficits in recent years?
The annual deficit is a simply a function of how much revenue we raise, and how much we spend, both directly and through “tax expenditures” (tax policies which decrease revenues) in a given year. The debt is the cumulative sum of these deficits. The primary drivers of deficits over the past two decades have been a reduction in revenues due to tax cuts, and vast spending in response to the 2008 financial crisis and the COVID-19 pandemic, in addition to paying for expensive wars in Iraq and Afghanistan. The annual deficit is actually lower this year than last year because the economy reopened and federal spending related to the pandemic decreased.
Q: How does the federal government’s current debt levels as a percentage of our overall economy compare to previous administrations, and are they sustainable?
We have the highest debt to GDP ratio since World War II. To some extent, the sustainability of these debt levels depends on factors such as how fast the economy grows, interest rates, and whether the country experiences another crisis that requires more assistance to local governments. There are other influences on sustainability, such as whether the United States continues to be the world’s reserve currency and whether the world continues to have a strong appetite to buy U.S. Treasuries. But most experts agree that over the long-term, the size of debt relative to the economy is trending in the wrong direction.
“The only paths to reducing the debt in a responsible way require politically unpalatable choices.”
Q: For Republicans, what are some of the political shibboleths that would have to be addressed in order to come to a meaningful debt compromise with congressional Democrats and President Biden?
Some Republicans overlook the basic arithmetic which is that the deficit stems from revenue minus expenditures. They argue that you can reduce deficits simply by cutting spending and without increasing revenues. That’s just not realistic. First, about two-thirds of federal expenditures go towards programs like Social Security, Medicare, veterans’ disability benefits, and paying interest on existing debt. Second, the Republicans want to do things that worsen the deficit, like growing the Pentagon budget. In fact, if we take entitlements plus military spending off the table, which is what the Republican leadership is suggesting, that’s 85% of all government spending. Without tackling revenues, it would require draconian cuts in transportation, scientific research, education, weather forecasting, national parks, and everything else the government does.
Q: Likewise, for Democrats, what are some of the compromises that the party would have to make on non-discretionary social programs, such as Social Security and Medicare, to strike a grand bargain with the House GOP?
Neither party is likely to succeed in changing the formulas that determine entitlements like Social Security without a bipartisan process. But that requires leaders in both parties to come together with a serious effort to protect the solvency of these programs for the future, not just to score political points against the other party for the next election.
Q: You served in the Clinton administration when the federal government last ran a budget surplus. Do you think that similar political conditions exist today that might lead to a grand bargain between both parties to significantly lower or ultimately eliminate federal budget deficits in a decade?
We had a different environment during the Clinton years. The economy was in a tech boom and we were also able to deliver a “peace dividend” from the end of the Cold War, which made it easier to cut the military budget. In addition, President Clinton (who campaigned on a platform of reducing the deficit) had the courage to raise taxes on the wealthy (including top personal income tax rates and corporate taxes), raise the gas tax by 4.3 cents per gallon, and eliminate or scale back some tax reductions. He took a shellacking on this in the midterm elections, which brought Newt Gingrich to power as the speaker of the House. There was a lot of fighting, which culminated in a government shutdown, but eventually Democrats and Republicans agreed on a budget deal that maintained these higher tax rates, while holding the line on spending, and making some modest reductions. This enabled both parties to take some credit for the four years of budget surpluses we enjoyed from 1998 to 2001, and we were able to pay down the debt.
Unfortunately, Congress shows limited appetite to tackle such issues today. In June, the Republican Study Committee, a bloc of more than 160 conservative lawmakers, called for higher military spending and further tax cuts, at the same time it called for major cuts in domestic spending. This would cause draconian cuts to core safety net programs. The only paths to reducing the debt in a responsible way require politically unpalatable choices, such as rolling back some or all of the last three tax cuts, eliminating or reducing tax loopholes, trimming nonessential military spending, adopting a consumption-based value-added tax or a carbon tax, as well as creating a bipartisan consensus around fundamental reforms to entitlement programs.
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