Larry Summers is playing economic Jeopardy
Editor’s note:Â This op-ed was originally published at the Financial Times in response to theÂ recent piece by Lawrence Summers for Reuters. It has been republished, verbatim, with the FT‘s permission.
Larry Summersâ considerable intellect suggests that he would be an excellent contestant on the popular game show Jeopardy. Of course, on the show, the question offered by the contestant must match the answer on the board. Summers and I disagree on the answer that matches the question âWhat is President Obamaâs budget?â Letâs see why.
I asked two questions in anÂ op-ed in WednesdayâsÂ Wall Street Journal. (Neither question was addressed by Mr Summers, or in the simultaneous parallel critiques offered on the airwavesÂ by US Treasury Secretary Timothy Geithner andÂ former Council of Economic Advisers Chairman Austan Goolsbee). The first question was whether the tax increases on high-income individuals proposed by President Obama (the Buffett rule, higher taxes on dividends and capital gains, a higher top marginal rate, and so on) raised enough revenue to materially offset the countryâs large budget gap or higher federal spending under President Obama. The answer, using revenue estimates from the Treasury Department and spending estimates from the Presidentâs budget is âNoâ. The second question was what that spending growth implied for future tax rates. That is, if federal spending as a share of gross domestic product was to increase permanently as the president proposes, by how much would taxes need to rise? Answer: a lot and for everyone. This simple thought experiment presumes that we will not ratify permanently larger deficits.
Without addressing these questions, Mr SummersÂ proposes a different one. President Obamaâs budget is supposedlyÂ fiscally sound because the Congressional Budget Office (CBO) has estimated that the budget would stabilise federal debt as a share of GDP for a short while. Yet, letâs look at whatÂ the CBO said. First, while the CBO shows the debt-to-GDP ratio stabilizing for a period of time â at an uncomfortably high level â in the budget window, it is not stable in the long run. Second and more importantly, in its April 20, 2012 report, the same CBO that Summers cites so selectively observed that the permanent deficits in the Presidentâs budget would reduce the level of economic activity. By CBOâs estimate, under the Presidentâs proposals, the CBO estimates for the 2018-2022 period, that the nationâs real output would be between 0.5 and 2.2 per cent lower compared to what would occur under current law. This adverse effect would grow in the future, as deficits continue to mount.
The Presidentâs budget has met with little success in Congress. The 2013 budget was voted down in the House of Representatives, 414-0. The Senate did not bring the 2013 budget to the floor, though the 2012 budget was voted down in the Senate, 97-0.
And Mr Romney? The Romney budget proposes to reduce federal spending as a share of GDP to 20 per cent (its pre-financial-crisis, long-term average level) by 2016. It is ironic that the administration has criticised Mr Romney for specific cuts (for example, block granting the Medicaid program), while Mr Summers now argues the plan is not specific. Mr Romney is also the first candidate to propose specific ways of slowing the growth of Social Security and Medicare, a subject not mentioned by the president. And Mr Romneyâs call for fundamental tax reform â reducing marginal tax rates accompanied by reducing tax expenditures to beÂ revenue-neutral andÂ distributionally-neutralcaptures the spirit of the bipartisan Bowles-Simpson commission, which was both appointed and ignored by President Obama.
In a âFinal Jeopardyâ round, if the answer is long-term fiscal sustainability without large, across-the-board tax increases, the question cannot be âWhat is President Obamaâs budget?â. There are important debates to be had over policy â Mr Summers is right that this is a âvery consequential electionâ. But we first must make sure that we agree on math. Fortunately, the concept that permanently higher spending eventually requires taxes to match is not a controversial one to most Americans. And, at the levels of higher spending proposed by President Obama, higher taxes on the well-to-do wonât fix the gap.
Budgets are statements of national priorities and require economic leadership. Mr Romney has made tough calls in his budget â there will rightly be a debate over whether they are the right ones. That debate will be more illuminating for voters than Secretary Geithnerâs statement to the Congress: âWeâre not coming before you to say we have a definitive solution to the long-term problem. What we do know is we donât like yours.â