(Bloomberg View) -- A quintet of notable Republican economists (one of them a former secretary of both Treasury and State) has a warning for our nation. For years, big, chronic federal deficits have loomed in the country's future. Now, Michael J. Boskin, John H. Cochrane, John F. Cogan, George P. Shultz and John B. Taylor write in the Washington Post:
That future is on our doorstep. From this point forward, even if economic growth continues uninterrupted, current tax and spending patterns imply that annual deficits will steadily increase, approaching the $1 trillion mark in two years and steadily rising thereafter as far as the eye can see.
A few paragraphs later, the five -- all senior fellows at Stanford University's Hoover Institution -- add:
As is well-known, our deficit and debt problems stem from sharply rising entitlement spending.
They're right that such spending is rising! Just look, for example, at what's happening to the relationship between Social Security payroll tax revenue and benefit payments (the projections from 2017 onward are from the intermediate scenario in the 2017 Social Security trustees' annual report):
Technically there are trust funds in which past surpluses have been invested and that pay interest into the programs, and they're currently financing the shortfall -- although the Disability Insurance Fund is projected to run out in 2028 and the Old-Age and Survivors' Insurance Fund in 2035. But in the meantime, the simple fact that payroll tax revenues have fallen below costs means that Social Security has gone from being the boost to the federal budget that it was from 1984 through 2009 to a drag.
Forecasting Medicare costs is harder, because it involves projecting how rapidly health-care costs will rise. The 2016-2017 Medicare trustees' report projects only a modest deficit going forward but warns that the program could cost much more than estimated. Put the current intermediate estimates for both Social Security and Medicare together, and you get a funding deficit that rises from 0.1 percent of gross domestic product in 2017 to 1.7 percent in 2035 and fluctuates between 1.6 percent and 1.8 percent for the rest of the century.
Meanwhile, the federal budget deficit in fiscal-year 2017 already amounted to 3.5 percent of gross domestic product, and Congress passed and President Donald Trump signed a tax cut in December that, according to Congress's Joint Committee on Taxation, will add about 0.7 percent of GDP to the deficit this fiscal year and more than 1.3 percent in fiscal 2019 (with the economic growth effects projected by the committee factored in, those drop to 0.5 percent and 1.2 percent).
What do the Hoover Five have to say about the impact of the Tax Cuts and Jobs Act on the deficit?
The recently enacted corporate-tax-reform plan is a good first step, as it sharply increases the incentive to invest and grow businesses, which will increase incomes. The revenue loss, which amounts to about 0.4 percent of gross-domestic product in 2025, is not by itself a budget buster, considering both the offsetting revenue reflow from higher incomes and the far larger long-run entitlement explosion. Moreover, over the next decade, the tax plan maintains or increases the federal tax claim on GDP compared with recent levels.
It's curious that they picked 2025, given that most of the individual tax cuts in the Tax Cuts and Jobs Act are set to expire that year and several other major provisions (such as full expensing for business equipment) are supposed to disappear before then. Republicans in Congress are already pushing to make the temporary individual tax cuts permanent, and relying on revenue estimates more than five years out seems suspect in any case. The Treasury Department's estimates of the revenue effects of past tax bills, for example, all stop in the fourth year after the legislation is passed.
Following Treasury's example, I estimate that the tax bill passed in December will cut revenue by an average of 1.1 percent of GDP over the coming four years (between 0.8 percent and 0.9 percent if you factor in the growth effects projected by the Joint Committee on Taxation). That's less than the 1.7 percent of GDP that Social Security and Medicare are projected to add to the deficit in a couple of decades, but (1) it's not of a different order of magnitude and (2) it's happening now rather than two decades in the future. So I'm a little unclear on why one is an "entitlement explosion" while the other is "not by itself a budget buster."
It's true that these Social Security and Medicare projections are just the intermediate ones: In the high-cost scenario, the negative budget impact of the programs would pass 6 percent of GDP in the 2070s. Then again, in the low-cost scenario, the deficits would be intermittent and tiny over the next two decades and disappear after 2040. There's a lot of uncertainty in these projections!
It's also true that Social Security and Medicare aren't the only federal entitlement programs (social insurance programs, if you prefer), although only Medicaid, the health-care program for those with low incomes, approaches those two in cost.
Of these entitlements, it's generally only the ones related to retirement and health care that are growing as a share of GDP, so Social Security and Medicare actually make pretty good proxies for the lot. These programs undeniably face funding challenges due to the retirement of the baby boomers, the last of whom will turn 67 (the new full retirement age that Social Security is set to transition to) in 2031, and the longer lifespans and lower birth rates that appear likely to keep the share of 67-plussers in the population high even after the boomers are gone. Social Security should probably be adapted to the reality that, at least for those at the upper end of the income spectrum, working past 67 is becoming a perfectly reasonable and even attractive prospect. And yes, this country sure could use a less expensive health-care system!
Nonetheless, it does seem like the U.S. also ought to expect federal spending, which has averaged 19.5 percent of GDP since 1950 and was 20.8 percent in fiscal 2017, to rise a bit as the population grays. Keeping Americans who are too old to work out of poverty and health-related misery is the decent thing to do, and government's share of the economy is still pretty low in the U.S. relative to other wealthy countries where per-capita GDP is growing just as fast or faster than it is here, so it's wrong to say we can't manage the added cost.
Yet federal revenue, which has averaged 17.3 percent of GDP since 1950 and also happens to have been 17.3 percent of GDP in fiscal 2017, is projected by the White House Office of Management and Budget to decline to an average of 16.5 percent of GDP over the next four years, and given the many loopholes and outright mistakes people have been finding in the hastily written tax legislation, I wouldn't be shocked if it went lower than that. If there's a recession in the next four years, it will go much lower.
Now, if you see the world like economist Stephanie Kelton, who made her debut as a Bloomberg View contributor earlier this month and believes that the U.S. can easily manage a growing debt burden, none of this is a problem. But the Hoover Five clearly do consider rising deficits to be an economic threat, which makes their blitheness on the revenue front extremely suspect.
While working on a story about taxes for Bloomberg Businessweek last fall, I consulted three smart books published over the past decade on the need to revamp the U.S. tax system: Michael J. Graetz's "100 Million Unnecessary Returns," Bruce Bartlett's "The Benefit and the Burden" and T.R. Reid's "A Fine Mess." Each author assumed that the federal tax burden would have to rise somewhat with the retirement of the baby boomers, and they proposed that the most economically efficient way to do so would be to join every other wealthy nation on the planet and add a value-added consumption tax to the federal government's sources of revenue. When I went up to Columbia Business School to run these recommendations by Dean Glenn Hubbard, another notable Republican economist and occasional co-author of the Hoover Five, he blurted this out before I had really said anything:
We don't seem as a society to be willing to bring down spending as much as I would like to, and the corporate and personal income tax can't be raised enough to cover the difference. If we're going to have a higher level of government spending, you have to pay for it, and the most effective way to pay for it is through a tax on consumption, such as a value-added tax.
So ... why didn't the Hoover Five bring up this need for more revenue, as well as suggestions for how to provide it? I guess it's partly because they really wish entitlement spending were lower. By acting as if tax cuts aren't partly responsible for the "string of perpetually rising trillion-dollar-plus deficits" that they warn about, though, they both undercut their own credibility with informed readers and join in the long-running Republican disingenuousness on taxes that I think has made it much harder for this country to implement intelligent conservative tax and spending policies. Yes, I'm probably expending way too much time and energy on what is, after all, just an op-ed piece in the Washington Post. But it seems indicative of the dead end that respectable conservative economic thought has found itself in when four elder-statesmen economists and a somewhat younger one (Cochrane) who styles himself (and often is) a plain-spoken truth-teller can't even bring themselves to write frankly about the nation's fiscal situation.
This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
Justin Fox is a Bloomberg View columnist. He was the editorial director of Harvard Business Review and wrote for Time, Fortune and American Banker. He is the author of “The Myth of the Rational Market.”
George Shultz was also president of the giant construction company Bechtel Group Inc., where my father worked for several decades. The man helped put food on my family's dinner table, in other words. Or maybe my dad helped put food on the Shultz family's dinner table. Or maybe both! In any case, I thought I should disclose the connection.
Full name: Annual Report of the Board of Trustees of the Federal Old-Age and Survivors Insurance and Federal Disability Insurance Trust Funds.
Full name: 2017 Annual Report of the Boards of Trustees of the Federal Supplementary Medical Insurance Trust Funds.
The OASDI and Medicare trustees report all these estimates to a second digit after the decimal point, but that strikes me as misleadingly precise so I've rounded everything off in the text.
I've stuck with the Office of Management and Budget's wording for all the categories in the chart except Affordable Care Act tax credit and subsidies, which in OMB lingo is "Refundable Premium Tax Credit and Cost Sharing Reductions."
Interestingly, federal employee retirement and disability spending has been shrinking as a share of GDP since the 1980s, thanks to pension reforms enacted by Congress in 1986 and a decline in the federal workforce that began in the 1990s.
By which I mean economists aged older who presumably no longer are angling for jobs in Republican administrations, although perhaps I am presuming too much. At least Shultz, whose idea the piece was and who wrote the first draft, according to Cochrane , should at age be exempt from such suspicions.
To contact the editor responsible for this story: Brooke Sample at bsample1@bloomberg.net.
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