What the Budget Conference Can Accomplish

This post assesses the task facing the budget negotiators on Capitol Hill.  It concludes that those negotiators could achieve real progress by laying out a budget plan based on those fundamental issues on which the two parties should be able to agree.  So rather than trading mini-concessions that would have little long-term payoff, the two sides instead should build the framework of a plan that would have true ultimate beneficial impact.

 By Joe Minarik, SVP and Director of Research, Committee for Economic Development

With the debt limit / shutdown standoff now on temporary hold (thank goodness), attention has shifted to the newly appointed conference committee for the fiscal year 2014 budget resolution, whose formation was a part of the shutdown-settlement deal.  This conference committee is just a bit late – given that it was supposed to produce a resolution to be passed by both chambers of the Congress back on April 15, and the fiscal year already is more than three weeks underway; but better late than never.

In fact, the budget conference committee faces a formidable task.  Job one will be to find a way past the new deadlines of January 15 (when the continuing resolution for the annual appropriations expires, and also when the second round of the budget “sequester” kicks in), and February 7 (when the Treasury again hits the debt limit).  These deadlines might suggest a game of small-ball – finding a few dollars here and a few dollars there to justify another punt, like the one that was played a couple of weeks ago.

But small-ball far understates the occasion.  The last few months have been a disaster for the economy and for U.S. business.  Both businesses and households reacted to the uncertainty of the indefinite shutdown and the impending default by going into a freeze – businesses on hiring and investing, and households on spending.  Meanwhile, government employees who weren’t getting paid and government contractors who were in economic limbo were not engaging in much commerce either.  All of this scrubbed off some of what little momentum the already stumbling economy had.  Washington cannot revert to this self-destructive pattern barely a quarter of a year later, when appropriations could again expire, and the debt limit could again constrain the nation’s ability to pay its bills.  In fact, any hint now of a relapse into shutdown showdown and default deadlock could impose an even greater economic toll.  The nation – in the person of the budget conference committee – must find a better way.

The suggested game of small-ball would exchange a few dollars of entitlement (or “mandatory”) spending cuts for relief from a few dollars of appropriated (or “discretionary”) spending cuts that were mandated by the 2011 spending caps and the sequester.  But just about everyone understands that such a game of small-ball today would be a waste of time.  On the discretionary side of that transaction, the Congress could argue about the levels of the statutory caps on appropriations, but just about everyone agrees that the current cap levels are too low.  Why?  People differ, but many say that the defense levels are too low; others say that the non-defense numbers are too low, and still others say that both category caps are too low.  Taken together, these three groups almost certainly constitute a congressional majority.  And you can add to those a certain majority of economists who say that the constraint on appropriations meaningfully holds back an already weak economy.

The proof of all this?  The House could not pass appropriations bills at those caps.  In the months before the shutdown, the House and the Senate were in a battle over appropriations levels.  The House customarily acts first on appropriations, and it jealously guards that prerogative.  Nothing would have strengthened the House’s hand more than completing all of its bills.  Yet it could pass only the easiest four (Defense, Homeland Security, Veterans, and Energy & Water) of its 12 required bills.  When the time came just before the August recess to consider the first controversial bill – for the Departments of Transportation and Housing & Urban Development (THUD) – the process fell to a halt.  House Appropriations Committee Chairman Hal Rogers (R-KY) publicly acknowledged that the sequester was not viable.  So appropriations need to be higher than the sequester level to attain a majority in the Congress, and to fund levels of government services that the Congress perceives to be adequate.

And then on the entitlement side of that transaction, those small cuts, by definition, would not make even a dent in our large long-run budget problem.  What we really need instead – as is recognized on both sides of the aisle – is fundamental reform of at least the three major budget components: taxation, Medicare, and Social Security.  And if one purpose of eliminating the sequester cuts is to provide some stimulus for the economy, then offsetting that sequester relief with cuts elsewhere in the budget would precisely offset the stimulus, accomplishing a net nothing.  A sequester-for-entitlement trade might be a political “confidence builder,” but as small-ball it would build little confidence.  We have a big long-term problem which is not amenable to a quick small-ball solution.

But what more meaningful solution might possibly be achieved, given the hostility and mistrust that arose from the just-paused shutdown and debt-limit crisis?

Clearly, satisfaction cannot be guaranteed.  If there were some sure-fire political and substantive winner, it would have been adopted long ago.  Reducing the budget deficit means cutting spending or raising taxes (or both), and neither is fun.  And the conference committee has far too little time to achieve a “grand bargain.”

But let’s take a different approach toward this problem:  What are the elements of a solution on which the two sides agree?  Can the conference committee set down those elements, and thereby establish the minimum standards for the two sides to meet in the hard, time-consuming work that must follow over succeeding months and years?

Here is how such a process might work:

The budget conference committee should start (more steps follow) with a realistic level of the discretionary spending caps – approximately equal to turning off the fiscal 2014 and subsequent rounds of the sequester, and thereby writing new appropriations caps for the next 10 years at those levels.  A majority of the Congress clearly agrees that raising the caps is inevitable.  It certainly would remove a major roadblock to a final resolution of the 2014 budget dispute.  Responsible adults who want to achieve a successful agreement would acknowledge that broad consensus, just do it, and move on to resolve their other differences.

An immediate counter-reaction from some would be to start a fight over the division of that appropriations relief between the defense and non-defense parts of the budget.  The conference committee should resist that impulse.  A fight over the split between defense and nondefense now would threaten all progress.  What the economy needs immediately is a step forward toward stability and predictability.  Continued wrangling over a decision that cannot be finalized in the short time between now and the end of the year would send a signal that would be 180 degrees wrong, and counterproductive.  The two parties should begin a process of reconciliation by formalizing their agreement where they do agree.  Beyond the legislation for the current fiscal year (2014), the fight over the defense share of total appropriations can be fought later.  For 2014, where a decision must be made to close out the appropriations process, the conference should simply accept the current-law defense vs. nondefense split, and move on to writing the most comprehensive appropriations bills possible at this late hour.

That first part of the budget conference agreement would settle the dispute for the short term.  The second part of the agreement (I will sneak in the third part below) should look to the truly crucial question, which is our long-term budget crisis.

Even the vast majority of those economists who are the most bearish on the immediate economic outlook acknowledge that the nation cannot go on indefinitely with a public debt that is growing faster than our collective public income – or in the accepted jargon, with a rising ratio of the federal debt to the gross domestic product (GDP).  One response to that debt threat is to bury your head in the sand.  You can take that approach to a leaky roof on your house, or to a leaky engine or transmission in your car – but I would not recommend it, and most Americans would not accept it from their “leaders.”  The obvious reason is that the damage continues to worsen as you procrastinate, and so the ultimate cost of the repair keeps going up.  The result for the federal budget is the same as for your home or your car.

It is certainly true that the members of the budget conference will not solve and resolve the massive and complex long-term budget problem between now and December 15.  But can’t they at least agree on the maximum acceptable path for the debt?

So step two of the agreement is simply to set down how much debt we are willing to tolerate.  Right now, the projections of the non-partisan Congressional Budget Office say that by 10 years from now, after a brief respite over the next few years, the debt will be in excess of 71 percent of the GDP, and it will be rising without limit.  The nation’s finances will be a heart attack waiting to happen.  The chart below shows one idea of an alternative path, a nomination for the maximum amount of debt that the nation should be willing to accept.  By 10 years from now under that alternative path, the debt will be only 65 percent of the GDP – much higher than in our best economic years, but lower than where we are heading now – and it will be falling, not rising, which is the key.  The falling trend will give us some margin for error in case there is some economic bad news in those next 10 years.

The trick here is that by setting down that maximum acceptable debt path, and having already chosen the spending caps for the annual appropriations, the budget conference will have determined the amount of budget savings necessary from the rest of the budget – everything not included in the annual appropriations bills.  This is part three of a potential agreement by the budget conference, based on simple issues where the two political parties should be able to come together.

The result, incidentally, will be much like the budget system that was agreed to by Republican President George H.W. Bush and a Democratic Congress in 1990 – and which was subsequently credited by many authorities, including former Federal Reserve Board Chairman Alan Greenspan, for leading to the balanced budgets of the late 1990s.  The only difference is that the 1990 budget process asked only for future budget action to be “deficit-neutral” – to “pay as you go,” which led to the shorthand name of “paygo.”  This new system would require future action actually to reduce the budget deficit, which might be called “save as you go,” or “savego.”

Again, facing this approach, there will be Washington players who reflexively will want to start a fight.  Should those budget savings come from tax increases, or entitlement benefit cuts?  So the budget conference will face a choice:  Do we want to go up in flames over a conflict that we cannot possibly resolve in less than two months; or do we want to agree where we can, and leave the toughest questions until they need to be resolved?

 Every American can make his or her choice of the better answer.  I will vote for option two.  There are those for whom “consensus” and “compromise” have come to be synonymous with “capitulation” or even “treason.”  But down that road lies only defeat and decline.  The debt problem truly is make-or-break for this nation.  If our debt continues to grow faster than our economy, then at some point, the world will begin to question our ability and our willingness to make good on our debts.  The shock at that moment will crack the American economy and harm every citizen.  We can avoid that moment merely by acknowledging the threat and laying down a plan, and sticking to it.

There are numerous technical questions behind such a budget plan.  Perhaps the most prominent would be:  How soon should the called-for budget savings begin?  The answer can be debated, but the numbers embodied in the chart above assume that the first gradually phased-in budget savings do not begin to arrive until fiscal year 2016 – by which time the Federal Reserve is widely expected to be withdrawing its highly accommodative monetary policy.  The Fed therefore could offset the macroeconomic impact of the budget tightening suggested here by tightening monetary conditions more slowly.

Sticking to this path will not be easy.  Achieving those long-term budget savings will require fundamental reforms.  But that is not news.  That is merely facing up to the stains on the upstairs ceiling or the puddle of oil on the garage floor, and taking on the problem before it gets even worse.

Each one of a million Americans would be willing to step forward with his or her own personal budget plan, and each of those Americans would he happiest if the debt were addressed his or her own way.  The problem is that we do not need one million different plans each supported by one American; we need one plan supported by a majority of Americans (or really, a majority of the Congress, and the President).  That one plan certainly will not make everyone happy.  But in all likelihood, the majority of American households and business leaders would be much more confident than they are today in making long-term economic commitments – like hiring, or investing, or buying new homes or automobiles –if they saw that a majority of the Members of Congress had set down their minimum standards for a budget solution, and thereby made a public commitment to meet those standards in the coming years.  It is the least on which a group of responsible adult leaders should be able to agree.