Deficit? What Deficit?
KOTLIKOFF, KEVIN L. KLIESEN AND LAURENCE J.
Deficit? What Deficit? by Kevin L. Kliesen and Laurence J. Kotlikoff Congressional leaders have to move beyond the Balanced Budget Amendment. It's an intellectual error and a political loser. As...
...government labels our Social Security contributions "taxes" and our Social Security benefits "transfers...
...By the way, these generational-accounting calculations are based on the government's own projections...
...Second, the size of the net tax rate facing future generations is so large (over twice that facing current newborns) that it simply cannot be, and will not be, collected...
...Assessing whether current fiscal policy is genera-tionally balanced requires the use of generational accounting, which is economic theory's prescription for how we should assess the fiscal treatment of current and future generations...
...Most of this burden is missed by the conventional unified budget deficit because of the choice of fiscal language...
...Indeed, were we to start using this choice of words, last year's federal deficit would have been more than $350 billion larger than the amount actually reported...
...It wasn't just the politicians running between hearing rooms and television interviews like the Mad Hatter, but what they were saying that was so surreal...
...With these labels, which make just as much sense as the standard ones, the reported federal deficit would be entirely different...
...Suppose, instead, it started calling our Social Security contributions "loans to the government" and our Social Security benefits "return of principal plus interest" (the difference between the two being an "old-age tax...
...The corresponding payroll tax hike is 64 percent...
...Instead of focusing on the budget, we should start focusing on generational balance...
...The labeling of Social Security contributions is not an isolated example...
...We could also raise taxes...
...Louis...
...They all wanted to balance the budget, and they all knew exactly which budget to balance...
...Their first mistake is the belief that the deficit measures something economic...
...Generational accounting starts from the premise that there is no such thing as a free lunch—that either current or future generations will have to pay the government's bills...
...Kevin L. Kliesen is an economist at the Federal Reserve Bank of St...
...Generational accounting (which is being done by the governments of, among others, Japan, the United Kingdom, Norway, New Zealand, Italy, and Chile) is quite similar to the methodology employed by the Social Security trustees in formulating their annual assessment of the entitlement's long-term finances...
...This extortion occurs by forcing young and future generations to participate in a very bad investment...
...As evidence, consider the recent debate about the amendment, which had a through-the-looking-glass quality...
...We cannot tax successive new generations at only a 34 percent net rate and still pay the government's bills...
...financial markets, particularly the equity market, the value in retirement of their investment would, in all likelihood, equal at least four times their contributions...
...The third mistake is assuming that we can achieve generational balance without the help of the elderly...
...Under pay-as-you-go Social Security, the government chooses its words so that its expropriation from young and future generations never shows up in its reported budget deficit...
...Generational balance, simply put, means future generations will not be forced to pay confiscatory tax rates, while receiving dramatically reduced health and retirement benefits, solely because those of us alive today choose not to bear the true burden of paying for the goods and services we demand from the government...
...This is unrealistic for several reasons, not the least of which is that, relative to GDI, federal purchases are, by historical standards, already quite low...
...In the case of Medicare, benefits per beneficiary have risen in inflation-adjusted dollars by over one quarter in just the last four years...
...The difference between the 84 percent net tax rate of future generations and the 34 percent net tax rate of today's newborns tells us two things...
...What's needed, therefore, is a change in the terms of the debate...
...The requisite immediate and permanent hike in federal income taxes (personal and corporate) needed to achieve generational balance is 52 percent...
...A good example of the arbitrary nature of fiscal labels arises in the case of Social Security...
...Other options are an immediate and permanent 95 percent cut in Social Security benefits or, as mentioned, an immediate and permanent 97 percent cut in federal government purchases...
...The Hatters' second mistake—equating budget balance with generational balance—follows from their first...
...Thus the problem of defining the deficit runs much deeper than most people believe...
...So-called pay-as-you-go Social Security provides the most striking example of why budget balance and generational balance have no necessary relationship...
...Even were federal purchases held constant in real terms from that point onward, future generations would still face an exorbitant net tax rate—about 73 percent...
...As a consequence, the so-called unified deficit that is now used in Washington is simply one of an infinite number of possible deficits, each of which depends on the issue of what words (not actions) the government chooses...
...i.e., they'll be lucky if they recover the principal on their forced investment in the program...
...that one wanted to exclude capital expenditures...
...The U.S...
...Literally every dollar the government takes in or pays out is labeled in an economically arbitrary manner...
...Would passage of the Balanced Budget Amendment ensure generational balance...
...The proposal entailed cutting all outlays, except defense and Social Security...
...First, current fiscal policy is not sustainable...
...In contrast, were today's young Americans free to invest their contributions in U.S...
...Not a chance...
...The simple fact of the matter is that today's elderly must bear a higher net tax burden if we are to remove the fiscal Sword of Damocles hanging over the heads of future generations...
...From this perspective what is needed is not a constitutional amendment to achieve budget balance, but one that ensures generational balance...
...Consider today's young Americans...
...This includes many, if not most, economists who continue to believe that the government's deficit is connected to the level of interest rates, the trade deficit, national saving, and inflation...
...Consider the 1995 Republican budget vetoed by the president...
...If we are really serious about sparing our children and grandchildren a fiscal nightmare, we need to discard the budget deficit as a measure of generational policy...
...This one wanted Social Security in the budget...
...The most important and least painful way for the elderly to make their contribution is for them to demand that growth of Medicare and Medicaid be limited to the amount warranted by growth in labor productivity and demographic change...
...The problem is that neither the unified budget nor the unified budget excluding Social Security is the right budget to balance...
...As a group, they'll be lucky if they receive Social Security retirement and other benefits that are as large as their lifetime contributions to Social Security...
...The right budget to balance is the government's long-term, or intertemporal, budget on which generational accounting is based...
...Despite the commonplace belief that a government's budget deficit is a meaningful measure of its fiscal policy, economic theory tells us it is not...
...The answer is that virtually all (97 percent) of federal government purchases would have to be cut to lower the net tax rate facing future generations from 84 to 34 percent...
...Such stabilization of Medicare and Medicaid spending would lower the net tax rate facing future generations from 84 percent to about 51 percent...
...More depressing, the lifetime net tax rate facing future generations—assuming current living generations, including today's children, end up paying the net tax rate implied by current policy—is a colossal 84 percent...
...Instead, it's high time that public policymakers use generational accounting on an ongoing basis so that they, as well as the general public, will have a clear understanding of the extent to which current fiscal policy is endangering the next generations...
...Laurence J. Kotlikoff is professor of economics at Boston University...
...This deficit delusion is hard to shake because virtually everyone is using the term "budget deficit" as if it had real meaning...
...Notwithstanding all the attention it receives, budget balance is largely beside the point when it comes to considering the fiscal burden we are placing on young and future Americans...
...Well, why not largely spare the elderly and just cut government spending to achieve generational balance...
...a third wanted to control for inflation, and on and on...
...Since young and future generations can be made equally worse off if (a) they are forced to participate in lousy investment deals or (b) they are free to invest their savings but are forced to pay high taxes to cover the interest on official government debt, we need a fiscal measure that captures their burdens, regardless of its official description...
...A convenient way to summarize the findings of generational accounting is in terms of each generation's lifetime net tax rates...
...Thus, in looking at the unified deficit, Congress is getting the impression that far less fiscal restraint is needed than is actually the case...
...Trouble is, they were all talking about different budgets...
...The views expressed are those of the authors and not necessarily those of the institutions they represent...
...The Mad Hatters are, in fact, making three fundamental mistakes in considering our fiscal policy...
...Balancing "the" budget in this manner, while slightly raising the net taxation of existing generations, reduces the fiscal burden on future generations from 84 percent to (a still enormous) 72 percent...
...Indeed, the deficit is a simple reflection of our vocabulary...
...These have increased from 24 percent for the generation born at the turn of the century to 34 percent for children who have just been born...
Vol. 2 • April 1997 • No. 32
