In our view, the US electorate is being offered two different fiscal visions for the future. In the run-up to this year’s election, both candidates are likely to sharpen their fiscal arguments.
The central theme in Paul Ryan’s budget is that controlling mandatory spending (i.e., entitlements) is critical to reducing the size of government and deficits. Obama’s budget assumes that the general public wants to maintain the size of current social programs and extract more revenues to pay for them.
The selection of Ryan as the VP candidate by Mitt Romney creates an interesting dynamic for the election. The two presidential platforms now offer strikingly different long-term budget proposals. In April, Ryan proposed a long-term federal budget that was conceptually distinctive from the budget proposal of President Barack Obama’s administration.
According to analyses by the Congressional Budget Office (CBO) in March and April, aggregate spending in the president’s budget would reach 22.8% of gross domestic product (GDP) in 10 years, compared with 20.4% in Ryan’s plan. On the surface, the gap between the two proposals does not appear to be wide. However, beneath the surface, there is a huge difference in terms of spending priorities, especially in the mandatory programs.
Comparing the Budget Proposals
For example, the president’s budget does not make any fundamental changes to entitlement programs, so growth in spending on a host of mandatory programs (Medicare, Medicaid, and Social Security) would continue to outstrip growth in overall government spending and nominal GDP growth. According to CBO, mandatory spending, which currently equals 13.7% of GDP (and 63% of non-interest government spending), would reach 14.6% of GDP in 2022 (nearly 75% of non-interest government spending) under Obama’s budget. The Ryan budget makes recommendations to substantially change Medicare and Medicaid spending and aims to eliminate the subsidies to be provided through new insurance exchanges under the new healthcare legislation, to reverse the upward trend in mandatory spending. According to CBO, the Ryan plan would bring the mandatory spending share of the budget back to its long-run historical average of 11% by 2022.
The differences in the budget proposals are clear. The challenge for the Romney-Ryan ticket is to explain why it’s important to arrest the growth in mandatory social programs and the overall size of government. For the Obama-Biden ticket, the challenge will be to convince the public how the current array of social programs and a bigger government can be paid for over time.
Spending and GDP
CBO’s analysis of these proposals has one significant flaw—it does
not incorporate any impact of the proposals on the future path of GDP. Yet how the economy performs, following changes in tax law and spending priorities, may be the most critical factor for the US, as these changes can have both short-term and long-run consequences for growth. Subsequent CBO reports have highlighted some of the shortcomings of both budget proposals. For example, in April, CBO estimated that the president’s budget proposal “would reduce output because deficits would exceed those under current law.” At the same time, in its analysis of the Ryan budget, CBO said specifics were lacking on the underlying tax policies to support the projected path of revenues that will flow to the government over the next decade, according to the plan.
What’s Best for the Economy?
Which plan would be better for the US economy in the long run? CBO stated in its economic assessment report on the president’s budget that “specific tax and spending policies can affect the economy’s potential in various ways.” Tax rates, for example, can influence people’s willingness to work and save. Changes in transfer payments such as unemployment compensation programs can do the same, thereby affecting the size of the labor force and the economy’s growth potential. In addition, a large government that continues to run deficits reduces the available savings for investment and also results in a poor allocation of capital, both of which are likely to negatively impact the economy’s growth rate over time.
So, in our view, whoever wins the election must ensure that under any plan, a long-term budget should seek to balance the government’s books, meet the needs of its citizens, and stop draining resources from the private economy, in order to help promote economic growth.
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