Debits and Credits: Simple Budget Algebra

The US Federal Government faces a looming “fiscal cliff” as a result of current law calling for a simultaneous set of across-the-board cuts in spending and a rise in various tax rates.

There are many interesting aspects to this scenario, particularly given the divided partisan control of the two chambers of Congress.

Digression. Because Congress must send something to the President’s desk before he can sign it into law, this division is in some ways sufficient. The fact that this is an election year makes it even more interesting, as the collective impact of members’ electoral incentives in the House and Senate are quite different due to the overlapping electoral schedule in the Senate.  One final twist in this saga is the fact that this is the first election after the 2010 reapportionment of the House, meaning that a few members are running against each other and many more members are running for reelection in altered districts.  But much of that is a matter for discussion in a later post.)  

Today, I want to focus on a related question:

How might the federal budget be balanced without increasing revenues?

Before continuing, let me be clear:

  1. I am not arguing in favor of any particular solution (or even that an unbalanced budget is a problem that needs to be solved), but…
  2. I am arguing that balancing the budget without new revenues would require spending cuts that are either
    1. politically impossible (e.g., cutting Social Security without (permanently) cutting payroll taxes; slashing the defense budget),
    2. ridiculous (e.g., eliminating veterans’ benefits; shutting down the FBI), or
    3. both (e.g., eliminating Medicaid).

Digression. Yes, I do believe that the “Norquist Pledge” is incompatible with responsible government and/or the general maxim to not sign a pledge you don’t intend to uphold.

My purpose here is simply to provide a brief introduction to the budget and make the structure/composition of federal spending as clear as possible.  After all, it is not surprising that the federal budget is in some ways complicated and, after all, involve numbers that we rarely use and all rhyme with “Maximilian.”  What is a little surprising is that the federal budget can be described in fairly succinct terms that are also politically meaningful.

Note: All statistics reported here were drawn directly from the various historical tables/projections produced by the Office of Management and Budget. One could do the same thing using numbers from the Congressional Budget Office, too. I have no reason to believe that the differences would be particularly interesting.

Q. What is the size of the budget deficit?This is simultaneously a simple and complicated question.  First, for which year?  I will focus on the projected 2012 budget deficit.  Past budget numbers are obviously less desirable to use, and more distant projections are both (understandably) less reliable and (generally) partisan.  Second, “on-” or “off-budget?”  I will include “off-budget” items, too.  This is a judgment call, as this brings in most notably Social Security, which makes the corresponding budget deficit smaller.  (Precisely, federal trust funds are currently generating a surplus of a hair shy of $100 billion, which is about 7% of the total 2012 deficit. Oops, that gave it away.)

The 2012 budget deficit is $1.32 trillion. (The on-budget 2012 deficit is $1.42 trillion.)

Q. How much does the federal government spend?

A. With the caveats discussed above about the definition of the deficit, the federal government is projected to spend $3.8 trillion in 2012.  (Thus, revenues are projected to be $2.48 trillion.)

Q. What are the ten largest categories of spending?This, too, is a complicated question.  While a dollar is a dollar most days of the week, federal spending is famously not so simple.  Broadly speaking, spending comes in two forms: discretionary and non-discretionary.  Non-discretionary spending consists of two main components: “entitlements” and repayment of federal debt.  I will return to these distinctions below.  For now, let’s just treat a dollar as a dollar.

A. The ten largest categories of spending are (I’ll come back to the ones in quotes):

  1. Social security ($778 billion)
  2. Defense ($716 billion)
  3. “Income security” ($580 billion)
  4. Medicare ($484 billion)
  5. Health  ($362 billion) — This is mostly, but not entirely, Medicaid.
  6. Net interest ($225 billion)
  7. Education, Training, Employment, and Social Services ($139 billion)
  8. Veterans benefits and services ($130 billion)
  9. Transportation ($103 billion)
  10. Commerce and Housing Credit ($80 billion)It is useful to note that top top 3 categories account for over 50% of the federal government’s projected spending.  Furthermore, the top 2 categories are larger than the projected deficit.  

Q.What the heck is “Income Security,” and where can I get some?

The five largest individual subcategories in this category of federal spending are:

  1. Federal employee retirement and disability ($127 billion)
  2. Food and nutrition assistance ($113 billion)
  3. Unemployment compensation ($108 billion)
  4. Housing assistance ($60 billion)
  5. General retirement and disability insurance (NOT social security) ($8 billion)Thus, if you break these out individually, they would each rank no higher than 8th. As far as getting some of it, clearly the best way is to get a job with the federal government.

Q.What would I have to cut to balance the budget without increasing revenues?

A. Well, this is complicated—what’s fair game?  I will presume that net interest is off the table.  Similarly, though with less conviction, Social Security and Medicare are tough nuts to crack and, at least right now, the true impact of Social Security on the budget is small (regardless of whether positive or negative), unless one thinks that we could cut benefits without cutting the payroll taxes that are deposited into the Social Security trust fund.  First, consider how to answer the question without cutting defense spending (because, among other reasons, defense spending is a very complicated and variegated category).

These add up to about $2.2 trillion, or about 90% of projected 2012 revenues.
This plan leaves approximately $300 billion left to spend….and this is without funding veterans’ benefits, the FBI, federal prisons, the INS, or the federal courts…not to mention food stamps, highways, unemployment insurance, student loans….  In fact, there’s not enough even to fund Medicaid at its current levels.

A2. There’s no simple answer (or, rather, there are lots of simple answers—it’s just not clear what the “right one” is).  But reversing the logic makes clear what is not a very effective approach to balancing the budget: cutting discretionary domestic spending.  For example, suppose that the federal government simply and completely “got out of the business” of things like food assistance, unemployment insurance, pensions for federal employees, transportation projects like the interstate highway system, high speed rail, public transportation grants to state and local governments, higher education, research, and the like.  The total savings of these cuts?  Less than $600 billion. It’s a lot of money, to be sure, but that is less than 50% of the budget deficit.  In other words, even if the federal government eliminated all discretionary spending, we would still be running a deficit of over $700 billion.

In sum, if one believes that the most important priority for the federal government is to balance its budget (and, again, I do not think this should be the most priority to either conservatives or liberals), then you must also believe, as a corollary, that one or more of the following must be done:

  1. social security and/or medicare must be cut (without cutting payroll taxes commensurately),
  2. the defense budget must be slashed, and/or
  3. federal revenues must be raised.
(As a matter of constitutional fidelity and good taste, I withhold the option of defaulting on the debt.  It’s not nearly as effective a deficit cutter as some might think, anyway.  That’s why people still lend us money at interest rates essentially equal to zero.)

Hopefully I’ll find time in the near future to explain the structure of the revenue changes that have been proposed and/or might occur if we fall off the “fiscal cliff.”  In the meantime, I leave you with this.