Offset This

Max B. Sawicky

September 23, 2005

Max B. Sawicky is an economist at the  Economic Policy Institute. He can be reached at his blog, MaxSpeak, You Listen!

Politicians thrive on crisis rhetoric. When one claims credit for discovering a crisis, it gives that politician a chance to define it, or "frame" it, as they say these days. Subsequently, they get a leg up in proposing a remedy.  Discovering a crisis also relieves them of responsibility for neglecting a problem that was there all along. 

So it goes in the wake of Katrina with the presumption of a new budget crisis and the right-wing proposal dubbed “Operation Offset.”

Katrina and Rita will give rise to billions in extra federal spending. This is said by erstwhile budget hawks to require “offsets"—savings elsewhere in the federal budget. Republicans claim to favor spending cuts, while Democrats dwell on repealing Bush tax cuts that favored the wealthy. 

But let’s be perfectly clear: There is no new budget crisis, nor is there any particular need at this time for offsets. 

There is a long-term, fundamental, gross imbalance between projected spending and revenues. Over the next 75 years, anticipated growth in spending on Social Security, Medicare and Medicaid will require historically unprecedented tax increases in the neighborhood of eight percent of GDP.  In today’s terms, that’s roughly a trillion bucks—roughly the amount currently taken in under the individual income tax—per year.  A one-off outlay of two or three hundred billion for Katrina and Rita pales by comparison.

Now, the entirety of this revenue is not needed for some time, nor do taxes need to be increased all at once.  In any case, without effective cost containment in the U.S. health care system, we’re still looking at big revenue needs. Politicians are in a state of denial about this, so they bicker about offsets.

That denial is deep. Neither side can quite get themselves to pull the trigger for their respective root-canal remedies for high deficits.  Republican fealty to real-world limited government has been invisible: Federal discretionary spending has skyrocketed the last five years. Meanwhile, the 2001 tax cuts passed with significant Democratic support, and Democratic legislative proposals for tax increases have been muted. That being said, the greater share of the blame should fall on the party in power, possessing the means but lacking the will to be faithful to their own purported principles.

The fact is that Republicans have already raised taxes, big-time.  They have raised spending consistently since their accession to power, and they have ratified commitments to future spending growth as well, particularly under the Medicare prescription drug benefit.  All of this spending will have to be paid for sooner or later.  Borrowing merely delays the payment; it does not preclude it, even if the debt incurred is never repaid.  The reason is that paying interest on a debt indefinitely is tantamount to repaying the debt itself.

In short, the Bush tax cuts are an illusion. What we have instead is a shift in the tax burden, from predominantly well-off taxpayers in the present, to who-knows-who in the future.  Somebody has to pay in the end.

That same law of fiscal thermodynamics—the eternal conservation of government spending—applies to any conceivable economic benefit from tax cuts.  I happen to think there are none, but let's suppose there are for the sake of argument.

Since all spending on borrowed money is paid for eventually, a beneficial tax cut that postpones repayment merely postpones whatever harmful effects could be expected from a tax increase in the first place. Just remember, to spend is to tax. Not for nothing did the very, very conservative economist Milton Friedman once pen a column for the Wall Street Journal entitled “The Taxes Called Deficits.”  (April 26, 1984) 

One extreme economic theory in this context holds that taxpayers have perfect, limitless foresight. If you give them a tax cut, they don’t change their spending habits one whit, since they fully anticipate the taxes they will need to pay in the future to redeem the debt incurred by the tax cut.  By this logic, a spending increase in the present financed by borrowing is just as harmful as an immediate tax increase to finance said spending.

But Republicans don’t have to believe this to realize that even if tax cuts were helpful now, using taxes to pay back the borrowing has to be unhelpful.  And if a tax increase now is hurtful, a tax increase later to cover present spending plus accrued interest only makes things worse.

What needs to be done? From the standpoint of the mediocre labor market, we ought not to be in a great hurry to reduce budget deficits.  Weak wage growth signals persistent slack in the economy.  Tax increases and spending cuts alike, to offset the cost of Katrina and Rita, are not a priority.  They wouldn’t necessarily present a problem, but neither would they provide much benefit.

We do need a longer-term glide path to lower, sustainable deficits.  The sooner we start, the better, but it has little to do with hurricane relief.  A reasonable first step would be phasing out the lion’s share of tax cuts enacted after 2000.  There are also long-standing, wasteful spending programs and tax subsidies that can be tapped to facilitate this process.  But nobody should be deluded into thinking that future taxes borne by the population as a whole can be escaped by resort to pork-busting, defense cuts or taxing the rich.  There just isn’t enough money there.

There can be no opportunism in pointing to the burden of spending horses that are already out of the barn.  Our problem is not paying for Katrina.  It is paying for the public services we have already put into place, are not willing to reduce and are fated to expand.

The real chicanery lies in pretending these obligations can be kicked down the road indefinitely at some discount.  Tax cuts are not a free lunch.  The bill always comes due.  While the Congress chooses to distract itself with Katrina offsets, it neglects its responsibility to fashion a sustainable fiscal policy.