The two presidential candidates have distinct policy differences, but neither is facing up to the US’s fiscal challenges. Whoever wins on 6 November will need to address this issue seriously to avoid a financial crisis
With the debate season over in advance of the US elections, little further substance is likely to emerge before 6 November. But little true substance has actually arisen during the campaign on addressing the long-run fiscal challenges confronting the nation.
The US does not face an imminent Southern-Europe-style fiscal crisis. The borrowing costs of the Federal government are at historical lows and financial markets appear to have an insatiable appetite for US Treasuries.
But complacency is ill advised. Over the upcoming decades the Federal government will face enormous fiscal strain. As my colleagues and I point out in our analyses for the Centre for Economic Performance, central to these are costs arising from public health insurance. With US medical costs higher and growing far faster than in other OECD country, the retirement of the ‘baby boom’ generation and increased demand for medical services, the cost of medical provision will soon outstrip all other uses of public spending combined.
The Congressional Budget Office estimates that spending on medical insurance for the elderly – Medicare – will almost double in the upcoming decade alone. While speculative, estimates for the following decades are even more concerning.
It does not require a budgetary expert to understand that there are only two ways to address this problem without allowing the public debt to explode: tax increases or benefit cuts. In President Barack Obama’s proposed budget, tax increases for high-income households (with income exceeding $250,000) have been proposed as well as caps on deductions for higher income earners. The President also proposes to allow the Bush tax cuts to expire for high-income households.
But these reforms will raise an estimated $150bn a year – not nearly enough to address the country’s long-term fiscal needs – and come on top of extending the Bush tax cuts for most households, at a cost of $350bn a year.
On the expenditure side, the President’s Affordable Care Act contains some provisions to cap Medicare payments for physicians. While laudable, these measures will reduce the deficit by only $100bn in the upcoming decade, if they are implemented: Congress has shown creativity in avoiding cuts in physician payments in the past.
The Democrats have not put forth a serious plan to address the long-run growth of entitlement spending, instead jumping on the austerity bandwagon and conceding to severe and immediate cuts in discretionary spending. These have contributed to the ‘fiscal cliff’, changes in tax and expenditure policy scheduled for 2013 that will likely cause a US recession in the absence of new legislation.
But the proposed spending cuts do not even address the root causes of US fiscal difficulties. As we show in our analysis, discretionary spending has been stable for the past five decades and is not the source of the increasing debt burden.
Despite their fiscally-conservative rhetoric, the Mitt Romney-Paul Ryan ticket, and the Republican Party as a whole, has been no more serious about tackling the long-run fiscal challenge. Increasing revenues – a necessity if US social programmes are not to unravel entirely – have become heresy within the American ‘conservative’ party. The Romney campaign does not even challenge the assertion that its proposed tax policy would do nothing to reduce the deficit – it is only a question of how much tax revenue will be lost.
The $5trn price tag placed on the Romney tax cuts by some analysts may overstate their full cost – these estimates do not take into account the growth effects of tax cuts nor allow for the possibility that the Governor is sincere in his intention to close loopholes. But the Republican assertion that taxes can be cut by 20% across the board with no fiscal cost is based on wishful thinking. It is predicated on a best-case-scenario of the effects of tax policy on growth. Even worse, it willfully ignores political reality.
Any observer of American politics knows exactly what will happen when, as vice-Presidential candidate Paul Ryan suggests, Congress is allowed to determine which loopholes to close through ‘public participation’. The tax-cut candy will be devoured, the loophole-closing-medicine will be ignored, and the public debt will continue to grow.
Even more disappointingly, the Republicans have shown little backbone in proposing entitlement reform. Social security reform has barely been mentioned and Governor Romney has taken to attacking Obama from the left for the limited cost-saving measures the president has proposed. Attempts to find savings though rationalising end-of-life care were decried as ‘death panels’. Congressman Ryan’s Medicare reform proposal may contain Medicare costs without rationing coverage based on income, but only under the unlikely supposition that medical inflation has been driven by lack of private competition.
The candidates are correct in pointing out that the American public faces a clear choice. The policy differences between the two candidates have been articulated more sharply than in any US election in recent memory. This reflects public demand for a mature policy discussion. We can only hope that this maturity will translate – after the electioneering is over – into a serious effort to address the country’s true long-run fiscal challenges. Or perhaps this is just wishful thinking.
Ethan Ilzetzki is assistant professor in economics at the London School of Economics. He is one of the contributors to a series of US Election Analyses published by the Centre for Economic Performance
