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The Fiscal Commission’s Moment of Truth

Posted By Alison Acosta Fraser On December 1, 2010 @ 10:59 am In Economics | Comments Disabled

The report of the President’s Fiscal Commission is due today. As a stalemate appears increasingly likely, what appears to be an updated “chairman’s mark” [1] to guide the commission’s discussions over the next several days was released. Like its predecessor [2], the report, puzzlingly titled “The Moment of Truth” (as if this will somehow garner enough votes), has some strong elements, both positive and negative.

Overall, this proposal does much the same as the previous report, though it would cut spending deeper and faster, bringing discretionary spending to 2008 levels (adjusted for inflation) and balancing the budget two years earlier by 2035. Rather than wait to phase in cuts, it would reduce spending by $50 billion immediately, by starting “at home” with congressional and federal workforce pay and other common-sense ways to reduce federal spending.

Yet, as if taxes and spending are somehow equal bookkeeping maneuvers, the tax hike is bigger and faster than the earlier version. The commissioners appear to have wasted their opportunity to be truly transformational, such as in health care, by resorting to “pilot” trials of the Rivlin–Ryan Medicare premium support proposal [3]. And notably, again, they leave Obamacare in place, save for one major improvement: the repeal or reform of the massively irresponsible long-term care benefits in the CLASS Act section of the law. Some specifics:

Defense. Again, the commission places an overwhelming burden on defense to reduce the deficit when the defense budget disproportionately represents only about 19 percent of the entire federal budget. Moreover, defense is not the cause of deficits today or in the future. Policymakers who believe strongly in accountability can and should help identify significant savings in defense, including the areas of logistics and personnel management reform [4].

However, by letting fiscal pressures alone determine what to do with the peacetime military budget is, as Secretary Gates recently said, “math, not strategy [5].” The reality is that what America has asked the military to do for the past 20 years [6] and for the foreseeable future requires any savings to be temporarily reinvested in the military in order to recapitalize a force largely built 25 years ago [7].

While the commission draft report is smart to exclude war funding from its security cap [8] and note that budget rules should not determine war policy, it should have done the same for the base defense budget [9] used to fund everything else the military does today. No commission should tie the hands of the Commander-in-Chief or Congress in determining the best way to pursue the protection of America’s vital national interests.

Social Security. The revised draft includes several very positive changes for Social Security, but it also includes two serious policy errors. On the plus side, the two chairmen retain the increase in the full retirement age to 69 and include a gradual rise in the early retirement age to 64. They also adjust both the benefit formula for upper-income retirees to focus scarce resources on those who need them the most, include a minimum benefit that will help keep lower-income workers out of poverty, and adjust the annual cost-of-living adjustment formula to a measure that more closely mirrors a retiree’s cost of living.

However, the chairmen also make the serious error of increasing over time the amount of income subject to the payroll tax from $106,800 to about $190,000. This rise would especially hit small business owners and reduce future growth in hiring by the companies that they own.

The chairmen also retain a mistaken provision that brings all newly hired state and local government employees into Social Security—a move that brings in revenue in the short run but increases costs over time.

Dropping these last two policy mistakes would greatly improve Social Security’s financial future without reducing job creation. Two additional positives are the call for a new disability benefit for those unable to work until the increased retirement ages and a call for bipartisan action to increase non–Social Security retirement savings.

Obamacare. While the proposal calls for the repeal of the CLASS Act (the horrible federal long-term insurance entitlement created under the unpopular Patient Protection and Affordable Care Act of 2010), the rest of the horrendous health law is left in place, thus locking in expanded federal spending.

Medicare. The recommendations fall short of the major structural reforms needed—the transformation of the program from a defined benefit to a premium support system. Nonetheless, the commission proposes a number of positive changes: the repeal of the Sustainable Growth Rate formula for updating Medicare physician payment in a fashion that is deficit neutral; changes to Medicare cost sharing rules, such as establishing a single deductible for hospital and physicians services and adding catastrophic protection; eliminating first-dollar coverage in Medicare supplemental insurance, thus solving a major cost problem in the program; and reducing excess payments to hospitals for medical education.

Medicaid. Once again, the recommendations fall far short of structural reform of the Medicaid program. The commission instead recommends improvements within the current Medicaid structure such as preventing state gaming to secure higher federal payments, putting Medicare/Medicaid dual-eligibles in managed care, a more flexible waiver process for so-called well-qualified states, and reducing Medicaid’s administrative costs. The recommendations to promote Medicaid pilot programs and fast track successful models could encourage much needed experimentation at the state level, but this approach does not ensure structural reform.

Transformational Reform. A particularly attractive proposal is changing the defined contribution payment formula for the Federal Employees Health Benefits Program into a straight premium support system, with the annual government contribution indexed to the growth of the Gross Domestic Product (GDP) plus 1 percent. This is proposed as a forerunner for Medicare reform.

The commission also recommends the application of the GDP-plus-1-percent formula as the global budget target for all federal health care spending. This would restrain federal spending, but such a cap should be accompanied by safety valves to ensure patient access, such as the right of doctors and patients to contract privately for medical services outside of Medicare and the elimination of balanced billing restrictions in Medicare and elsewhere.

Taxes. Just as in the co-chairs’ original proposal, the commission’s report represents a massive tax hike on American families and businesses. The tax code historically raises 18 percent of GDP in revenue. The commission’s proposal surpasses President Obama’s tax hike of 19.8 percent and would take taxes to 21 percent of GDP, shattering the all-time record high tax level.

The proposal obscures the massive tax hike by cloaking it in the form of fundamental tax reform. On the positive side, the proposal lowers the top marginal income tax rate and the top corporate income tax rate and moves the corporate tax to a territorial system. It also eliminates a host of deductions and credits that complicate the tax code and slow economic growth and eliminates the dreaded Alternative Minimum Tax.

On the negative side, the corporate tax rate offered is still too high because it remains above the average of other industrialized nations. Taxes on capital are also too high. In fact the proposal raises the rates on capital gains and dividends above their current levels. To rectify this, the commission should build upon the proposal by lowering tax rates even further to enhance incentives to generate income, form capital, and increase global competitiveness.

Most disturbingly, the proposal also includes a tax hike trigger that would automatically raise taxes if Congress does not enact tax reform. Such a device would inject too much uncertainty into the economy, just like the uncertainty about tax rates next year is affecting markets now. Moreover tax reform—e.g., the tax hike—is supposed to come first out of the pipeline in 2013. Spending, not revenues, is the problem, and we’ve been down this road before: immediate tax hikes accompanied by promises of spending cuts in the future. This is unacceptable.

Will the commission fail, as many have said from the start? We’ll know soon. Even if it does, its good policies should continue to be discussed by the nation and advanced by the new Congress. And the bad ones? Toss them.

Co-authored by Curtis Dubay, Mackenzie Eaglen, David John, and Bob Moffit.


Article printed from The Foundry: Conservative Policy News from The Heritage Foundation: http://blog.heritage.org

URL to article: http://blog.heritage.org/2010/12/01/the-fiscal-commission%e2%80%99s-moment-of-truth/

URLs in this post:

[1] updated “chairman’s mark”: http://www.fiscalcommission.gov/news/moment-truth-report-national-commission-fiscal-responsibility-and-reform

[2] predecessor: http://www.heritage.org/Research/Reports/2010/11/Bowles-Simpson-Commission-Co-Chair-Report-A-Good-and-Welcome-First-Step

[3] Rivlin–Ryan Medicare premium support proposal: http://blog.heritage.org../?p=47058

[4] logistics and personnel management reform: https://email.heritage.org/exchweb/bin/redir.asp?URL=http://www.heritage.org/Research/Reports/2010/05/Performance-Based-Logistics-Making-the-Military-More-Efficient

[5] math, not strategy: https://email.heritage.org/exchweb/bin/redir.asp?URL=http://www.bloomberg.com/news/2010-11-16/gates-criticizes-deficit-panel-s-proposed-cuts-in-u-s-defense.html

[6] what America has asked the military to do for the past 20 years: https://email.heritage.org/exchweb/bin/redir.asp?URL=http://www.heritage.org/Research/Reports/2010/11/Shaping-the-Future-The-Urgent-Need-to-Match-Military-Modernization-to-National-Commitments

[7] recapitalize a force largely built 25 years ago: https://email.heritage.org/exchweb/bin/redir.asp?URL=http://s3.amazonaws.com/thf_media/2010/pdf/Military_chartbook.pdf

[8] smart to exclude war funding from its security cap: https://email.heritage.org/exchweb/bin/redir.asp?URL=http://www.heritage.org/Research/Reports/2008/09/Time-to-Move-Iraq-and-Afghanistan-Funding-into-the-Regular-Budget-Process

[9] the base defense budget: https://email.heritage.org/exchweb/bin/redir.asp?URL=http://www.heritage.org/Research/Reports/2010/06/US-Defense-Spending-The-Mismatch-Between-Plans-and-Resources

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