“Solving America’s Debt Crisis”

That’s the title of a piece my colleague Andrew Reschovsky has in the Fall La Follette Policy Report. With the admission of failure by the Supercommittee, it’s important to recall the basic choices facing the Nation.

In principle, solving the nation’s debt problems is easy. Almost all experts agree that a combination of reduced spending and increased tax revenues is needed. Cuts in spending and increases in tax revenues equal to about 5 percent of GDP are required to prevent an increase in the debt-to-GDP ratio. If a constant debt-to-GDP ratio were achieved with spending cuts alone, annual non-interest government spending would have to be reduced by about 20 percent. Alternatively, if a constant debt-to-GDP ratio were achieved by relying solely on increased tax revenues, taxes would have to be raised by about 33 percent. It is impossible to imagine that Congress would ever adopt spending cuts or tax increases of these magnitudes.

The logical conclusion is that only a balanced approach to solving our debt crisis, one that includes both spending cuts and increased taxes, is feasible. That being said, neither spending
cuts nor tax increases will be politically easy to enact.
Last fiscal year, federal government spending was $3.5 trillion.
Figure 2 illustrates the major spending categories. Social Security, Medicare, and Medicaid made up 41 percent of the budget. Another 15 percent was allocated to other mandated programs, and 6 percent to interest payments on the nation’s debt. The remaining 38 percent of the budget went to a wide array of discretionary programs, with nearly two-thirds going to defense and homeland security.

 

The current budget (fiscal year 2011 started October 1, 2010) contained tax reductions and substantial cuts in non-security discretionary programs. For the fiscal 2012 budget, the House has called for additional and controversial cuts in the same programs, but the Senate is likely to disagree. However,
even if the House version were adopted, large deficits would continue and the debt-to-GDP ratio would continue to grow. The reason is the projected growth in entitlement programs, due to rising health-care costs and an aging population.
As Figure 3 illustrates, after 2030 the cost of Social Security levels off at about 6 percent of GDP. The story is quite different for Medicare. Costs rise faster than GDP far into the future and are forecast to reach 10 percent of GDP in 2050. Proposals to restructure Medicare and Social Security benefits are controversial, partisan, and divisive.
The alternative route to deficit reduction is to raise government
revenues. However, Congress seems to oppose tax increases even more than spending cuts. Congress has repeatedly
reduced taxes by enacting rate reductions or by adding exemptions, deductions, and credits. As a result, federal tax revenues last year were 14.9 percent of GDP, their lowest level in the past 60 years. Not only have tax revenues been growing less slowly than the economy, they are substantially lower than taxes in most other developed nations. …

Here is Figure 4 from the article:
reschfig4.gif

Reschovsky concludes:

…Government austerity before the country is fully recovered from the recession
raises the chance that the economy will be pushed into another recession. Slower economic
growth lowers tax revenues
and may well raise, rather than lower, the nation’s debt to GDP ratio.

While the case for delaying the implementation of debt-reduction policies until the economy gets back on track seems strong, Congress should not delay the adoption of a framework
for reducing the federal government debt.

Or, as Jeffry Frieden and I conclude in our book, Lost Decades:

America’s prosperity requires fiscal responsibility. The phrase
“fiscal responsibility” has been used so much that it is something
between an obligatory buzzword and a code word for cutting government
spending. In our view, true fiscal responsibility involves
a willingness to raise sufficient tax revenue, over the longer term,
to pay for the programs the government implements. Fiscal responsibility should not be equated with a small government, but rather
with a commitment to pay for the government services provided. If
the nation affirms that enhancing national defense and improving
health care for the poor are legitimate goals, fiscal responsibility
entails raising the revenue to fund these programs, rather than borrowing
for them.

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34 thoughts on ““Solving America’s Debt Crisis”

  1. CoRev

    Menzie, from this comment: “Fiscal responsibility should not be equated with a small government, but rather with a commitment to pay for the government services provided. If the nation affirms that enhancing national defense and improving health care for the poor are legitimate goals, fiscal responsibility entails raising the revenue to fund these programs, rather than borrowing for them.” you would accept and support a balanced budget amendment?
    Amazingly, your emphasis on raising revenues without even mentioning spending cuts on other programs is exactly the federal fiscal problem we have today. We’re Taxed Enough Already, until we control our spending. Increasingly spending other peoples’ money without recourse must end.

  2. Steven Kopits

    But one might have added:
    “The overly generous pay and pensions of public sector employees, resulting from principal-agent problems at the governance level, have and will significantly affect government’s ability to provide services today and over the longer run.
    “Further, with an aging population, advanced-country governments will have to decide whether retirees will enjoy first call on the productive resources of society. Will the productive sector of the economy be employed primarily to provide social security and Medicare to those no longer in the workforce?
    “With a continuing fiscal crisis and persistently high commodity prices, the advanced economies may not be able to count on growth to fund such programs.
    “Thus, the advanced economies seem poised on the banks of their economic Rubicons, where the promises of the last three generations may no longer be viable.”

  3. Anonymous

    You obscure the issue by looking at total federal revenues; looking at income taxes only makes a far more telling story. From 1945 to 1980 income taxes averaged near 12% of GDP. Reagan reduced marginal tax rates so much that they fell close to 9%. Clinton increase them back to 12%; and Bush/Obama reduced them again to 9 %(and below). However, on budget expenses have remained 12%(+/-1%)) of normalized GDP throughout. The deficit in income taxes has been financed by borrowing, largely from the Social Security trust fund. But, not only can we no longer continue to borrow from the trust funds, we have to start paying money back as beneficiaries start relying on the trust funds. In the short term, we have to raise income taxes to 12%, simply to cover on budget expenses. In the long term, income taxes must rise above 12% in order to pay back the trust funds.

  4. 2slugbaits

    Menzie In your book Lost Decades you somewhat casually mention the need to address Social Security, but I have to say that I didn’t quite fully understand your argument here. If the argument is merely that we need to address Social Security’s long run solvency, then I would agree; but if you’re arguing that we need to somehow fix Social Security in order to fix the debt-to-GDP ratio, then that will take more convincing. Even the President’s debt commission admitted in a little noticed footnote that fixing Social Security’s solvency problem did nothing to fix the national debt problem. The reason is that once the Trust Fund bonds are exhausted the Fund becomes a truly PAYGO system. Retirees will only get three-fourths of promised benefits, but the program itself is not a drain on the Treasury. Now if we don’t fix Social Security’s solvency problem and if retirees demand 100% of promised benefits, then that would be a fiscal calamity; but that would also require a change to current law. So while there are very good reasons for fixing the Trust Fund’s long-run solvency problem, I don’t think it’s helpful to lump that problem in with the larger debt problem. It’s not helpful politically and it’s not helpful just in terms of understanding where the real problem lies. And the real problem is on the healthcare side, with Medicare & Medicaid. Unfortunately recent political history surrounding Medicare is not hopeful. The Democrats reduced Medicare spending by half a trillion dollars and got clobbered in the 2010 elections. And that half-trillion was mostly low hanging fruit found in the budget line “Waste, Fraud and Abuse.” The Tea Party faithful will jealously defend Medicare to their last wheezing gasp, all the while calling Democrats “socialists” who damn well better keep their government hands off of Medicare.

  5. jonathan

    Except the problem is distorted by whatever lens one sees through. Example: Boston Globe’s conservative columnist runs piece a few days ago about how spending is the problem. He talks about how spending hasn’t been cut, etc. That’s true but he lets implications lie there that greatly distort facts. He implies it’s “discretional spending,” meaning spending on the EPA, etc., rather than Medicare, Social Security and defense related stuff. He doesn’t mention that spending has gone up on things like unemployment insurance and then, of course, that the recession has lowered the tax take. The story becomes: it’s spending!!!!

  6. AS

    High tax rates don’t seem to be the path to prosperity if Italy is an example of high rates. Once tax rates are very high, how does a country extract itself from over spending and over taxing? It sure seems that we need spending targets as a percentage of GDP. How else do we become fiscally responsible as a nation?

  7. kharris

    Now, one distinction that needs to be made when considering such issues is between the facts of the math on the one hand and personal preferences on the other. Menzie does offer some of his own preferences as well as some guesses about aggregate preferences in the public, but mainly shows how the math works.
    CoRev, on the other hand, has no time for math. CoRev only expresses his preferences. That’s a fine thing to do, I guess, but nobody needs to accept CoRev’s preferences or mistake them for reality in the same way that Menzie’s math represents reality. Steven K is slightly less direct, but still seems to be expressing preferences, disquised as observations. It is opinion that public sector pay is “overly generous”. Let’s remember than on an education-and-experience adjusted basis, public sector workers aren’t compensated better than private workers. Steven also misconstrues how market economies work in saying the elderly are given “first call” on anything but those things which are given to them directly by the government. The elderly have to bid on all other resources, just like the rest of us.
    AS, the issue of high tax rates has been addressed through research for a very long time, and it is hard to find any evidence that growth is slowed by tax rates as low as those in the US. If we have a deficit problem and we have tax rates well below the level that can be shown to slow growth, then raising tax rates a perfectly good techical solution the deficit problem. If there is no deficit problem (which is what the GOP seems to believe whenever it holds the purse-strings), then there is, of course, no need to consider either tax hikes or spending cuts. There has been a well-funded, decades-long effort to mislead the public about the impact of taxes on economic growth, but the evidence for taxes at current US rates having a powerful influence over economic performance is pretty slim.

  8. tj

    Eliminate corporate subsidies/loopholes and lower the corporate tax rate. I realize this will put some industries in peril, but it will accomplish 2 goals:
    (1) Lower priced foreign goods will replace higher priced domestic goods in the affected industries. All consumers will be better off, a relatively smaller set of workers/owners/unions will be worse off.
    (2) No corporte tax incentives means a link between lobbying for corporations/industries and congress will be broken.

  9. Jeffrey J. Brown

    Given political paralysis in many OECD countries that are running deficits, e.g. Greece and the US, I suspect that most OECD countries that are borrowing money in order to maintain government spending will only curtail their borrowing when they can no longer afford to borrow.
    Given an ongoing decline in the supply of exported oil available to importers other than China & India (AKA Available Net Exports, or ANE) and given our outlook for a continued, and probably accelerating, decline in ANE, I suspect that most debts, especially government debts, wont’ be repaid, or they won’t be repaid with currencies of constant value.
    As David Korowicz, in his essay, “In the world, at the limits to growth,” put it, we are facing default or inflation on a global scale. See link below:
    http://www.energybulletin.net/stories/2011-06-13/world-limits-growth

  10. c thomson

    kharris seems to consider a pass degree in education or media studies from Slippery Rock State Teachers or the Illinois Normal School as meriting higher pay for public employees. Why?
    Ditto X years working in the DMV or as a clerical type in the state house.
    If these characters are so valuable, why don’t private sector employers show the least interest in them? Even when the economy was humming?
    S Kopits is of course 100% correct but how non-PC. Bad Kopits!

  11. 2slugbaits

    CoRev you would accept and support a balanced budget amendment?
    Isn’t that what the 10 year PAYGO provision was supposed to accomplish? The Bush Administration had no problems getting around that piece of legislation, so how would things be different with a balanced budget amendment? But instead of blathering mindless Tea Party slogans you really need to try and think through the issue. First, what we want is a balanced budget over the long run business cycle. There will be periods when the budget will be in deficit and periods when it will be in surplus; but over the business cycle it should be balanced. Second, which budget are you talking about? The primary budget? The unified budget? Just the on-budget side? Third, given the large debt outstanding, we would have to run a surplus for a very long time to bring down the debt. What Menzie is talking about only gets you to stabilizing the debt-to-GDP ratio; it does not reduce the debt. You have to run a surplus to reduce the debt. Is running a surplus your idea of a “balanced” budget? Finally, math is not a strong point for Tea Party types, but if the old geezers had bothered to learn differential equations they might have come to understand the idea of a stable path that converges towards equilibrium. That’s the kind of thing that we really need. Unfortunately a lot of the nonsense coming from Tea Party types leads to unstable and bad saddle points that fly away from equilibrium solutions.
    your emphasis on raising revenues without even mentioning spending cuts on other programs
    You might want to reread both Reschovsy’s comments and Menzie’s book. There are plenty of proposed cuts; but the main point they are making is that almost all of the projected growth in federal spending is in healthcare…specifically Medicare & Medicaid, both of which predominantly serve the Tea Party constituency. Were you one of those Tea Party types holding up a sign demanding that the government cut your Medicare? Oh wait, you were the one who went ballistic when JDH posted something rather benign on the need to reevaluate Medicare’s willingness to pay for heroic end-of-life procedures.

  12. jult52

    “Let’s remember than on an education-and-experience adjusted basis, public sector workers aren’t compensated better than private workers.”
    How does the likelihood of losing one’s job play into the determination of comparative pay for private and unionized public workers?
    Menzie: re Figure 4, did the OECD include what it classifies as “Social Security Contributions” into this tax table? I looked through the OECD site and didn’t see a clear answer to the question.

  13. Frank in midtown

    Get a degree, get a raise (not a good one, you’ll have to find a new employer for that.) Show loyalty through longevity, get a raise (not a good one, you’ll have to find a new employer for that.) Both of these things happen in F500 companies all the time. Why?

  14. Ivars

    It is too late to talk about US debt reduction. It has entered non-sustainable super-exponential growth phase and the only way out is crash (correction).
    Since there will be no growth in the US in 2012, I expect the first partial correction to come in late 2012, in the form of default to the Federal reserve.
    So I agree with Mr. Jeffrey J.Brown 100%. There is no way out.

  15. jonathan

    Here’s an argument you may not have heard much: low tax rates, particularly on the rich, lead to more debt & more spending & less growth. In order:
    1. More debt because the cost of risk is diminished. If you are constrained by tax rates, then you worry about the degree of your return and its safety. Emphasis on the latter. If you are not constrained, you have funds to gamble with. Gambling means taking fliers, means betting on leveraged deals.
    2. More spending because lower rates move consumption from the future to the present. In other words, taxes focus consumption on materials, goods, etc. that have value for longer while lower taxes accentuate immediate consumption trends. Thus everyone wants stainless steel appliances and the latest gadgets because we are focused by these policy decisions on short range, disposable thinking. This is particularly true when we reduce capital gains taxes because that devalues the benefits of long-term thinking; lower taxes and the short holding period means there is minimal incentive to put money into longer term projects that will pay more.
    3. Lower growth because constraint focuses attention and leads to better decision-making. There is a ton of evidence to support this, from behavioral science to the experience of this and other nations. Higher tax rates focus attention on the most productive investments.
    My point is that constraint is good. Limits are good. Limits beyond a certain point are bad but limits set too low are like setting low expectations: you live down to expectations.

  16. Johannes

    My dear Menzie, all your choices won’t work, as the phrase “honest politician” has become an oxymoron in our country.
    My hat tip to Jeffrey J. Brown for your link to that interesting article.

  17. westslope

    Balanced budget amendments are about as useful as legislating growth rates of monetary aggregates. The Canadian province of British Columbia had one in place. When the time came to deficit-finance, the majority government simply annulled the legislation.

    As for this insistence on maintaining expansionary fiscal policy, this is unfortunate. I suppose it reflects the profound insecurity of many Americans who are among the world’s foremost self-medicators but you may want to look at the Canadian experience during the 1990s. Expenses were slashed, the deficit turned into a surplus. Canada grew and then budgets started to grow by about 12% yet surpluses were maintained.

    We don’t like to talk about it much up here because it makes The former French-Canadian Roman Catholic prime minister and his English-Canadian Roman Catholic finance minister look pretty good.

    The current prime minister–the God-fearing Stephan Harper–is an economist by training but seems to understand the myopic, get-rich-quick attitudes of his constituents. He cut the value-added sales tax by 2% points circa 2005, 2006, near the top of an out-of-control commodity-driven boom. Late 2008, it almost looked like Canada was heading into a structural deficit.

  18. tj

    Question: Are we talking about an absolute cut in spending, i.e., government spending actually falls from one year to the next?
    Or, are we talking about a relative cut, i.e., a reduction in forecasted spending, so that spending is lower than forecasted spending next year, but it is still higher than government spending in the current year.
    Government spending has increased by more than 1 trillion dollars a year for the past several years.
    Given the ramp up in spending over the past several years, I think it is a joke that congress can’t come up with a plan that holds government spending constant for a couple of years. That would ‘CUT’ ~$3 Trillion dollars from the ‘BUDGET’.

  19. Steven Kopits

    The pay for public sector employees is often unrelated to performance, notably because governments have no incentive to minimize Type II statistical errors. This doesn’t make public employees overpaid, but it does have a detrimental effect on productivity. We do government work in our firm, and it is highly inefficient, not because our government counterparts are bad (indeed, I think they are quite good), but because the nature of government spending turns everything into a cost, rather than profit, center. So we end up justifying our use of time (input-oriented) rather than simply billing against the successful completion of a deliverable (output-oriented). It’s the nature of the institutions rather than the government employees themselves which represent a constraint on productivity. It’s not the people, it’s the system they work in. (And, of course, this is easily solved by pay-for-performance incentives for politcians….)
    As for pensions, I have already written about the Three Ideology Model (why the government is not the same as running a pizzeria) and how this leads to a loss of control of the principal (voter) over the agent (politician). This in turn leads to political a preference for debt and off balance sheet obligations, which is what government pensions have been. As a Princeton taxpayer, I can tell you that pensions are the big rising cost in our taxes. Like a cancer, it has invaded our public finances and will crowd out our township services over time.
    In the end, my objections to government employees are not on a matter of principle, but rather because a critical component of economic theory is missing, and this failure–along with the sentimental attachment to politicians as parent figures–means that funds are often poorly spent in the government sector.

  20. mclaren

    It’s absolutely fascinating to observe the bizarre pathologies that take hold in professional economists as they frantically twist themselves into logical knots to avoid facing reality.
    We don’t need to raise taxes one dime to nearly balance the budget and eliminate almost all of our 1.5 trillion dollar deficit. All we need to do is get rid of most of America’s unbelievably bloated and counterproductive 1.45 trillion dollar per year military expenditures.
    Meaning: stop the endless unwinnable foreign wars no one can explain or justify in third-world hellholes like Afghanistan. Stop the infinite unending waste of money on boondoggles like airborne 747-transported laser weapons and antiballistic missile systems that don’t work. Shut down the pointless unworkable F-35 joint strike fighter designed to combat superadvanced MiGs from a Soviet Union that no longer exists. Decommission all of America’s worthless sitting-duck aircraft carriers, foolishly designed to win the Battle of Midway if it ever recurs but today sinkable with a single shkvaal-class torpedo traveling at supersonic speed (yes, underwater) courtesy of cavitation effects.
    Get rid of the NSA, whose only purpose is to spy on Americans. Shut down the DHS, whose only purpose now is to act as corporate copyright police. Shut down the TSA. Reduce the CIA to five guys in a room watching CNN — it would give predictions as accurate (the CIA has been wrong on every major prediction it ever made: no bomber gap, no missile gap, no USSR GDP surpassing ours by 1990, there were nukes in Cuba contrary to the CIA’s claims and the shah did get overthrown as they assured us would never happen) and cost vastly less. End all the worldwide assassination teams, shut down JSOC, AKA the illegal unconstitutional thugs sent worldwide to murder women and children who always turn out to be wrong targets instead of the terrorists we really intended to kill. End the drone strikes in Pakistan. Pull our troops home, reduce our army to 30,000 soldiers. Get rid of the Buck Rogers superweapons that cost trillions and don’t work.
    That’s how you solve America’s budget problems.
    Isn’t it interesting that Menzie Chinn and James Hamilton and all the other professional economists can never actually bring themselves to say that?
    I find that fascinating. It’s like watching a pair of economists who observe a rich guy spending all his money on hookers and booze until he’s broke and in debt, and instead of saying, “Look, just stop pissing away all your money on hookers and booze,” they explain to him that he has a huge “fiscal crisis” which will require cutting down on what he spends on meals and transportation instead of ending his $3000-per-hour hooker binges.

  21. Jeffrey J. Brown

    Johannes,
    Following is a link to, and an excerpt from, my “ELP Plan” advice from April, 2007:
    http://www.energybulletin.net/stories/2011-08-08/elp-plan-economize-localize-produce
    The ELP Plan: Economize; localize & produce
    http://www.energybulletin.net/stories/2011-08-08/elp-plan-economize-localize-produce
    The ELP Plan: Economize; localize & produce
    “In this article I will further expound on my reasoning behind the ELP plan, otherwise known as “Cut thy spending and get thee to the non-discretionary side of the economy.”
    I have been advising anyone who would listen to voluntarily cut back on their consumption, based on the premise that we were probably headed, in a post-Peak Oil environment, for a prolonged period of deflation in the auto/housing/finance sectors and inflation in food and energy prices . . .
    Author Thom Hartmann, in his book, “The Last Hours of Ancient Sunlight,” described a high tech company that he consulted for that went through several rounds of start up financing, and then collapsed, without ever delivering a real product. At the peak of their activity, they had several employees and lavish office space–until they ran out of capital. His point was that this company was analogous to a large portion of the US economy, which has the appearance of considerable activity and uses vast amounts of energy, but how much of this economic activity delivers essential goods and services?
    I have read, and it seems reasonable, that the majority of Americans live off the discretionary income of other Americans. We are therefore facing a wrenching transformation of the US economy–from an economy focused on meeting “wants” to an economy focused on meeting needs–and the jobs of a vast number of Americans are thereby directly threatened in a post-Peak Oil environment.”

  22. AS

    It seems to me that Glen Hubbard has some simple good ideas that he presents in the 11-23-2011 edition of the WSJ opinion section. Among other ideas is the idea that has appeared on this site of targeting government expenditures as a percent of GDP at about 20% and then slowly reduce government expenditures to meet this target. Perhaps taxes need to increase a bit also, but hopefully not to the level of the Eurozone countries. Who else remains for the Eurozone countries to tax to support excessive government spending?

  23. ECON

    Shut down the military-industrial complex first mentioned in 1950s by REPUBLICAN prez Eisenhower and the insidious Homeland Security meglomania and the NSA and the many Buck Rogers toys on the planning board and the USA would be more secure and stronger economically.

  24. MarkOhio

    Mr Kopits:
    I agree that our government bureaucratic systems lead to a lot of inefficient spending. But it’s important to remember that today’s systems replaced a much more inefficient (and corrupt) spoils system, where govt employment and contracts depended on your friendship with the latest elected official. Today’s civil service and public procurement rules were adopted to limit the role of patronage in public employment and procurement. Maybe it is time for us to revisit these rules and reform them to improve public sector efficiency. But when we do, we need to make sure we do not return to the spoils system that led to today’s inefficient systems.

  25. 2slugbaits

    AS I’m sorry, but the Hubbard piece in the WSJ is one of the stupidest things I’ve seen written by an academic in a long time. First, as the CBO notes, repealing Obamacare would increase the debt, not reduce it. Second, the federal workforce has been generally declining since the Kennedy Administration…except for the brief period when Hubbard himself was working at the WH. Third, total govt consumption and expenditures (i.e., excluding transfers and such) are already at 20% of GDP, and 60% of that is at the state and local level. So his call to move spending away from the federal level down to the states seems hopelessly confused. This would actually increase government expenditures as a percent of GDP. Apparently Hubbard has never heard of overhead costs. Finally, let’s get to Hubbard’s hidden agenda. What he really wants to do is blame Social Security and Medicare. So let’s pick this one apart. Medicare costs are certainly exploding, but the solution is not to revert to some menu choice of even more expensive alternatives, which is what Hubbard is calling for. That’s idiotic. Medicare costs are exploding because healthcare costs in general are exploding. If anything, VA & Medicare cost control measures are holding down healthcare costs from where they would be otherwise headed. Hubbard’s answer is to shovel even more money at the least efficient component of healthcare. He must be getting his advice from Newt Gingrich. As to Social Security, here he commits the old GOP bait-and-switch move of aggregating SS and Medicare costs into a single program, so he says “program outlays need to grow more slowly to allow for rising costs in health-care entitlements.” Oops. He just let the cat out of the bag here. Basically he is trying to pretend that SS and Medicare are all one big program. He’s lying. There’s a good case to be made for relooking the actuarial soundness of SS, but that has nothing to do with our debt problem. And you surely do not fix SS by eliminating FICA contributions from those over age 61.
    But Hubbard’s piece is typical of WSJ op-ed stuff anymore.

  26. Max

    Did any of these “experts” correctly predict that Japan’s aging population would be suffering from a lack of work, not a lack of workers?
    If so, maybe they are really experts and we should pay attention. If not…

  27. mclaren

    And for those who assert that it’s a “superficial solution” to suggest reducing America’s pointlessly counterproductive military-terror-police-prison-surveillance spending (now at 1.45 trillion per year, broadly defined to include military pension, the VA, etc.), let’s debunk that claim pre-emptively.
    Menzie Chinn et al. correctly observe that the central problem in America’s fiscal crisis involves the uncontrolled growth of Medicare. That’s correct. Unless Medicare stops growing at its current rate, we will reach a point in the foreseeable future at which more than 100% of current government revenues are required to fund Medicare. Obviously that’s unsustainable, so something has to be done.
    3 points in response: first, Chinn et al. identify correctly a fundamental fiscal problem…yet propose temporary and ultimately useless band-aid revenue solutions. Consider: suppose we do cut Medicare. Suppose we do raise taxes. This still doesn’t solve the essential problem of uncontrolled growth in Medicare. Essentially, Chinn et al. propose to chop back Medicare to a low bsae spending amount yet leave its growth rate uncontrolled. Simple college calculus tells you that when you have an exponential growth function, it doesn’t matter how small a base you start from — if you let it go on long enough, the exponential function will blow up to an unmanageable amount. Moreover, the difference in time is very small.
    Take the following simple example. Suppose the number of frogs in a lake doubles every day. Within 3 months, the frogs will mass more than the planet earth (2^101). Fine, suppose you start with half as many frogs? How much extra time does that buy you? Only one more day. With the real rate of inflation in medicare running somewhere around 6%, this gives us a doubling time (after inflation) of 12 years (by the rule of 72). This means that if you cut the current amount of Medicare spending in half, that will only buy you 12 more years. Then you face exactly the same crisis you face today.
    Clearly, Chinn et al. have not addressed the fundamental issue. We must permanently reduce the growth in Medicare spending. Raising taxes or cutting current Medicare spending levels only buy a handful of years before the current fiscal crisis recurs.
    Point 2: Chinn et al. may object that cutting American military-industrial-police-terror-prison-surveillance spending will disproportionately destroy jobs due to the multiplier effect. Incorrect. This is a form of the “lump of labor” fallacy (i.e., the faulty presumption that workers whose jobs building surveillance drones could never find other comparable jobs if their jobs disappeared due to military spending cuts), and it ignores the proven economic fact that the military-industrial complex has a far lower multiplier effect than civilian spending. In fact, from the study, the multiplier for military spending is about 1/3 of the multiplier for education spending. That means that we could generate three times as many jobs if we stopped spending money on our impotent worthless military that can’t win a war against barefoot 15-year-old kids in Afghanistan and started spending that money on educating our children.
    Source: “Study: Federal Spending on Defense Doesn’t Create As Many Jobs As Education Spending,” TIME magazine, 21 September 2011.
    Point 3: Chinn & Hamilton’s discussion ultimately proves superficial and irrelevant because the real cause of the uncontrolled growth in medicare spending is structural. Other countries have solved the problem of outlandish endlessly increasing growth in national medical spending, and they’ve done it without eliminating basic social services. If you disbelieve this, take a look at Canada or France or Germany.
    The only practical solution to permanently reducing the growth rate of American medical spending is to remove the profit from the system and turn it into a single-payer nationalized medicare system. Every other first-world country does this. Only American refuses. Every other first-world country has manageable medical costs. Only America faces a massive spending crisis due to its outlandishly huge medical care expenses. Why aren’t Chinn and Hamilton discussing the real solution to America’s fiscal problem? Namely, switch to a nationalized single-payer medicare system. Why are Chinn & Hamilton wasting time talking about tax increases or Medicare (and other entitlement) service level cuts? All those “solutions” only stave off America’s fiscal crisis for a handful of years, and leave the fundamental problem (uncontrolled cost increases in Medicare) untouched. We know the solution — other countries have implemented it. This isn’t rocket science. There’s no mystery here. Why haven’t Chinn & Hamliton zeroed in on the essential problem?
    Essentially, America’s fiscal problems boil down medicare spending and military-industrial spending. We know how to cut medicare spending, many other countries have done it without hurting national wellness indices: nationalized single-payer medical care. And we know how to drastically slash military-industrial-terror-prison-police-surveillance spending. It’s easy. Simply stop all the endless unwinnable foreign wars and the useless Buck Rogers trillion-dollar superweapons programs that don’t work.
    So why are Chinn et al. dicking around talking about tax increases and service level cuts instead of getting at the real problem and the real solution?
    Chinn & company may respond that changing our current medical system is “politically divisive.” Ending slavery was politically divisive. Entering WW II was politically divisive. Just because solving a chronic problem that’s wrecking society is politically divisive is no excuse for not solving it. Medical spending in America is clearly on an unsustainable path to societal ruination, so band-aiding the problem is not an acceptable solution.

  28. Anonymous

    Great post mclaren, but I disagree on your underlying cause. The reason health care keeps increasing in cost isn’t because of the profits involved. Profits in health care aren’t increasing. Nominal profits are, sure, but that is because we are using more health care services than we ever have. There are mulitple reasons for this as I will discuss below. But as a percentage of capital deployed, or revenues, there isn’t a meaningful change in the profit margins of the health industry.
    The first driver of the big three is that American’s don’t pay for their care. Our dedicutable is constant, regardless of how much we consume in services. If our deductable was 15% of any services we consumed, we’d think twice before going to the doctor for a hangnail.
    Furthermore, what is relevant and different about American than the other countries you mentioned? Americans are different.
    We’re obese, lazy, unhealthy people who live on high fructose corn syrup.
    The dramatic increases in health care technology have allowed us, an obese nation, to live a long time. However, all the low hanging fruit in preventing and treating the inevitable death of the body have been consumed. The cost to continue to improve the health of, or extend the life of, obese people who are getting even fatter will continue to increase.
    On top of this, we’re aging. An old fat body is more expensive to keep alive than a young fat body. This is more problematic than our massive guts.
    No government policy or program will be able to stop this monster of increasing cost. Your own analysis applies here. Even if a national single payer system reduced the cost in the short run, it won’t stop the rapidly increasing costs of keeping fat, old, unhealthy people alive.

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