LAWRENCE SUMMERS published an article recently in the
Financial Times asserting that U.S. federal spending will
continue to grow both in real terms and as a share of the economy
regardless of whether Barack Obama or Mitt Romney is elected in
November. As one of the nation’s eminent economists and a former
Treasury Secretary, Mr. Summers is someone whose judgments deserve
careful attention. Readers may safely assume that his article
reflects high-level thinking in Democratic circles in Washington.
Nevertheless, his case is flawed on several counts.
Mr. Summers is certainly correct on one point: Pressure for more
spending will continue to grow over the next decade. Baby Boomers
are beginning to retire in large numbers, putting increased strain
on Social Security and Medicare. Interest costs on public debt are
certain to rise as a share of federal spending and GDP. The costs
of goods and services purchased by government in health and
education will grow more rapidly than those purchased in the
private sector. At the same time, governments at all levels are
running out of short-term gimmicks to cover or disguise their
spending. Mr. Summers argues the problems are such that spending
will grow and taxes will increase no matter which party controls
the government.
In fact, the likely outcome is very nearly the reverse: Spending
will have to be cut, and cut drastically from current trend lines.
That is a near certainty. But when we will begin to
address our spending problems is a vital question. The longer we
wait, the deeper the fiscal hole we will dig for ourselves. On this
point, it will matter a great deal which party wins this
election.
Mr. Summers understates the true magnitude of the problem, in
part because he misstates some facts about current levels of
federal spending. For example, he writes that U.S. public debt
(that is, debt owed to the public, rather than debt one part of the
government owes to another) will reach 65 percent of GDP by the
year 2020. It is not clear where he gets this figure. U.S. public
debt now stands at about $10 trillion, out of a total debt of $16
trillion, while GDP in 2012 is expected to be about $15.5 trillion.
Thus, publicly owed debt is already over 60 percent of GDP and is
climbing by 10 percent or so every year. At these rates, publicly
owed debt will probably exceed 100 percent of GDP long before the
year 2020. Total debt, including IOUs the government has written to
itself, already exceeds that figure.
He also tells us that federal entitlement programs, mainly
Social Security, Medicare, and Medicaid, take up about 32 percent
of the federal budget, or 7.7 percent of GDP. In fact, the U.S.
government is on track to spend about $1.7 trillion in 2012 on
these three items, about 40 percent of total anticipated
expenditures of $3.8 trillion, or 11 percent of GDP. These
expenditures will grow rapidly over the next decade or so as Baby
Boomers become eligible for old-age programs.
Mr. Summers reports that the ratio of Americans over 65 to those
of working age will increase from 1 in 4.6 now to 1 in 2.7 over the
next generation, implying that by roughly 2030 there will be almost
three workers supporting each beneficiary. But a more telling ratio
to consider is that between the number of program beneficiaries and
the number of people in the workforce paying taxes to support them.
Here the picture is more foreboding.
There are currently about 55 million Americans receiving Social
Security benefits and 50 million on Medicare, of which about 42
million are retired persons and their dependents (others receive
disability or survivors benefits). These populations overlap so
that most people are receiving benefits from both programs.
According to the Bureau of Labor Statistics, the U.S. labor force
consists of 158 million adults, giving us a current ratio between
beneficiaries and workers of about 1 to 3. But given the
unemployment rate, only 142 million people currently have jobs,
and, of these, about 26 million hold parttime jobs. This leaves us
with about 115 million people paying the full schedule of payroll
and income taxes against 50 or 55 million people receiving
benefits. That gives us a ratio of about 1 to 2, which will improve
only on the margins if or when the unemployment rate declines.
According to the 2010 census, there are an estimated 80 million
Americans in the “Baby Boom” generation, defined as those born
between the years 1946 and 1964, whose leading edge reached age 65
in 2011. Over the next 15 years, the U.S. may add 3 to 4 million
people per year to the Social Security and Medicare systems.
Adjusting for deaths, this trend could leave us with 80 million
people eligible for benefits by 2025 or 2026. Given the increasing
life expectancy of our population, it could easily be more.
At the same time, the U.S. labor force is expected to grow by
just 0.6 percent annually between now and 2030, an increase of
about 1 million per year on a current work force of 158 million. If
these projections hold true, the workforce will grow to 171 million
or so by 2025. Assuming that only a portion of these new entrants
find full time jobs (a reasonable assumption), we will have perhaps
130 or 140 million full time workers supporting 80 million (or
more) beneficiaries. Long before we reach this point, workers will
undoubtedly revolt against the payroll taxes required to sustain
these programs, while at the same time beneficiaries will revolt
against the cuts in benefits they will be forced to absorb.
NEITHER MR. SUMMERS nor President Obama has faced up to the
difficulty of the developing problem, perhaps in the hope that
something will turn up to fix it or in the belief that nothing can
be done anyway. There are few realistic options available. We have
already borrowed ourselves to the hilt. Many think that we can grow
ourselves out of the problem, as we did with the deficits of the
1980s. But at that time we were not looking down the barrel of an
entitlement crisis. Federal spending has grown by 7 or 8 percent
per annum over the past several years, a rate that (according to
Mr. Summers) will continue or even increase between now and
2020.
It is hard to see how this can be sustained, since economic
growth has averaged a feeble 2 percent per year since 2008, and new
projections from the Congressional Budget Office (CBO) suggest that
economic growth in 2013 and 2014 will fall short of even this
figure. Given the recession in Europe and the looming “fiscal
cliff” in the United States, the CBO warns that there is a real
risk that the U.S. economy will slip into recession in 2013. At 2
percent growth per year, GDP expands by about $300 billion, of
which the federal share in taxes might be 20 percent, or $60
billion. Those proceeds are not going to close a $1 trillion
deficit or provide the revenues to sustain the spending that Mr.
Summers and others envision.
A stagnant economy, growing at rates of 2 percent or less per
year, perhaps with a recession thrown in, will render the above
problems far more difficult to address. Even a modestly expanding
economy will not come close to providing the revenues needed to
close the deficit or cover the exploding costs of entitlements. One
thing is certain: Spending is going to slow down for one reason or
another, either because we will not have the resources or cannot
continue to borrow the funds to pay for it.
Mr. Summers (and President Obama) suggests that the budget can
be brought under control by incremental measures like tax hikes on
the wealthy and gradual increases in the age of eligibility for
entitlement programs. These are Band-Aids at best; at worst, they
indulge the fantasy that nothing painful or difficult needs to be
done. Governor Romney and his vice presidential candidate Paul Ryan
propose several fundamental reforms in entitlement programs and the
tax system more commensurate with the magnitude of the challenges.
To be sure, these may fall short of what will be needed to bring
expenditures and revenues into a semblance of balance. But their
approach takes the problem seriously—and, more importantly, permits
us to start now to attack a problem that, if we wait to address it,
will in a few years impose spending cuts of a kind that few dare to
contemplate today.
