"War Tax" Options

Revised Sept. 30 to reflect the formal publication of estimates from the Tax Policy Center.

With the budget deficit approaching 5 percent of GDP, and few signs of spending restraint in Congress, a temporary "war tax" is justified. The war tax could be proportional to income, or it could be tilted toward the highest-income taxpayers, who received the largest tax cuts in laws passed in 2001 and 2003.

Here are three options that would raise revenues of about $90 billion, according to new estimates from the non-partisan Tax Policy Center. $90 billion is the approximate annual cost of overseas anti-terrorist military and nation building activities.

1. Impose a 5.25% surtax on the income tax of all taxpayers, for 2003 and 2004: $89 billion (approximately 44 billion a year for two years).

2. Raise the top income tax rate from 35% to 37.5%, for 2004-2010: $93 billion (between $11 billion and $16 billion a year in those years)

3. Raise the top three income tax rates back to pre-2001 levels, for 2004-2006: $91 billion (approximately $30 billion a year for three years).

The economy is starting to recover, and is no longer in crisis. These tax increases would not thwart economic growth -- in fact, a sign that the government was serious about addressing the federal deficit would probably spark a favorable reaction in financial markets.

The "free lunch" era of budget surpluses is long gone. Now, we must either tighten our belts (via lower federal spending) or pay higher taxes to fund our priorities. Ever-expanding deficits would weaken the nation internally, when strength is needed.

Note: These estimates do not include behavioral feedbacks, such as tax avoidance activities. Official revenue estimates from the Congressional Joint Committee on Taxation might be lower for some of these options.

Link:
Urban-Brookings Tax Policy Center Options to Finance the Additional War Costs by Leonard E. Burman and Jeffrey Rohaly (September 29, 2003)

New Medicare and Rx Drug Resources

Medicare conference schedule for 9/23-10/17

Legislative text of H.R. 1568, the Medicare Rx Now Act of 2003, as introduced by Rep. Cal Dooley

Legislative text of Rep. Burr's Medicare for the 21st Century Act

Legislative text of Dooley Rx Now Act, as prepared in the Senate as an amendment (contains capped entitlement with unspecified catastrophic level).

Congressional Research Service Side-by-Side detailed description of health plan-related features of the House- and Senate-passed Medicare bills

Congressional Research Service Summary of the main features of the Medicare bills

Congressional Budget Office Cost Estimate of House- and Senate-passed Medicare bills

Link:
Centrist Policy Network 2003 Medicare Resource Page

A Challenge to Both Left and Right on Social Security Reform

Rep. Harold Ford Jr. of Tennessee yesterday released a statement that challenges both the traditional left and the supply-side right. To the left, he says that Social Security reform can be progressive and empowering, and that Democrats shouldn't automatically scorn reform proposals. To the right, he says that Social Security reforms should be paid for -- Republicans cannot finance the large transition costs of reform by wishful thinking.

Statement of Rep. Harold Ford on Social Security Reform, 9/15/03

Social Security is the most successful government program ever. It has kept millions of seniors out of poverty, allowing them to live their retirement years in dignity.

I believe we can improve upon the existing system, which prevents poverty but does not allow low- and middle-income workers to build assets and create wealth. A monthly check can meet basic needs, but it is not a foundation for a comfortable retirement. It provides a measure of security for retirees, but it cannot be passed on to provide financial security for their children and grandchildren. The key to retirement security and upward social mobility is wealth creation.

That is why I have been exploring ideas on reforming and strengthening Social Security with Rep. Jim DeMint (R-S.C.). Rep. DeMint has a proposal that would allow workers to begin building wealth by investing part of their Social Security taxes in individual retirement accounts. The accounts would be administered within the Social Security Administration. His plan is progressive, allowing low-income workers to invest a larger portion of their taxes. It would allow assets to be passed on from generation to generation.

Rep. DeMint and I agree on the need for Social Security reform and on the goal of allowing more workers to build wealth. But the reason I have not yet signed onto his proposal is that we have not found agreement on how to pay for it. And without a way to pay for it, any Social Security proposal will lack a critical measure of credibility.

The challenge is that any plan that allows workers to begin investing now will require an infusion of funds now. That's because under the existing system, current workers' payroll taxes are paid out immediately to current retirees. Rep. DeMint's proposal would allow current workers to direct their payroll taxes to their own retirement accounts. Therefore, without cutting benefit levels or raising payroll taxes - as the DeMint plan promises not to do - the funds that pay for current benefits have to be replaced. Something has to give.

Let's be clear. Some tough choices about financing Social Security are in front of us, whether we establish individual accounts or not. In fact, over the long-term, the costliest option is maintaining the existing system. One of the positive elements of the DeMint plan is that it looks at a 75-year budget window rather than the standard, myopic 10-year window.

Nonetheless, to establish individual accounts, we will have to find at least $437 billion in new money over the next 10 years, and $8.2 trillion over the next 75 years. This might have been easier three years ago, when the federal government enjoyed a $5.6 trillion surplus. But the surplus was squandered.

We are now faced with exploding deficits that will endure for the foreseeable future, including a record deficit of at least $540 billion next year. With an occupation of Iraq that has cost $150 billion and counting, expiring tax cuts that many want to make permanent, a promise to our seniors to pay for prescription drugs, an Alternative Minimum Tax descending on the middle class, the unfunded mandate of the "No Child Left Behind Act," and a host of unmet homeland security needs, it is unclear how we will be able to front the money for individual Social Security accounts.

Designing a Social Security reform plan is the first step, and Rep. DeMint has designed a good one. The next step is figuring out how to pay for it. That's the harder part -- the part that will demand political courage from both Democrats and Republicans, this Congress and this President.

An Exit Strategy for the Medicare Conferees

The Medicare and prescription drug bills passed by the House and Senate are now being reconciled in a conference committee, in preparation for final votes.

However, the task is hopeless. Hopeless at least if the conferees stick with the type of drug benefit approved by both chambers: a convoluted, stand-alone drug benefit, with a premium of about $35 a month. As it stands, this drug benefit would be implemented in 2006.

Problem #1. Nobody particularly likes this 2006 drug benefit. The think tanks hate it, because they don't think it will work, and because it would create yet another separate compartment for Medicare benefits. (Health experts say benefits should be linked or "integrated" for better care, not further parceled out into uncoordinated silos.)

Seniors clearly aren't thrilled with the drug benefit either. It's a lot of money to pay for a meager, confusing benefit. Moreover, it could cause employers to drop the retiree coverage that some seniors have. Finally, the benefit contains a late-enrollment penalty -- buy now or lose your chance -- which seniors haven't discovered yet. But they will be angry when they do.

Problem #2. Nobody thinks the drug benefit will really cost $400 billion over ten years. Even if the conferees squeeze out a bill that hits the budget target, much more money will needed in subsequent years to make the benefit work properly.

Problem #3. To build support for the drug benefit, the House and Senate leaders have added billions of dollars to the fees Medicare pays to health plans, rural hospitals, and doctors. Some of those payments are needed. But others exist purely to acquire votes for an otherwise unlikable proposal. And regardless of their merits, they are largely peripheral to the debate, which was supposed to be about prescription drug benefits and Medicare reform.

Problem #4. To get House conservatives to swallow the drug benefit, the bill's drafters added a gradual move toward direct competition between private health plans and the traditional government-run program, starting in 2010.

However, Senate liberals have signaled they will not support a compromise that includes direct competition. It's difficult to see how a conference agreement can pass without support from both House conservatives and Senate liberals.

How do we get out of this mess?

First, direct competition will have to be dropped. The larger debate on long-term Medicare reforms will re-emerge in coming years, as the program's costs outstrip tax revenues and the baby boomers' retirement approaches. But right now, the political will does not exist for strong competitive reforms, and so the conferees should just put those ideas on hold.

Without direct competition, however, House conservatives will not approve a drug benefit anything like the benefit in either House or Senate bills. They will not support a large, potentially costly entitlement without reform as well.

Therefore, the drug benefit must be downsized. In a recent letter, House conservatives signaled that they could support a "scaled-down model" with benefit for seniors with low incomes and "catastrophic" coverage for seniors with very high drug expenses.

A scaled-down drug benefit should be modeled after the "interim" Medicare-endorsed discount card program scheduled to go into effect in mid-2004.

The discount cards would be available to all beneficiaries for at most a nominal fee. They would provide discounts of roughly 10-15 percent off the retail price of many drugs.

In addition, low-income seniors could apply for extra assistance through the cards. The cards would provide up to $600 in benefits to seniors with incomes below 135 percent of poverty. The benefits would have a 5 percent copayment requirement for seniors under 100 percent of poverty (10 percent for seniors between 100 and 135 percent of poverty).

Instead of switching from the discount cards to a complicated drug benefit in 2006, the cards' low-income assistance should simply be improved, and a catastrophic benefit should be added.

Three important points:
(1) the catastrophic coverage should allow seniors to purchase additional coverage, without forfeiting Medicare benefits.
(2) all sorts of health plans or organizations should be able to offer the discount cards: HMOs, insurance companies, pharmaceutical benefit managers, pharmacies, employers with retiree coverage, Medigap plans, state pharmaceutical assistance plans, and so on.
(3) the low-income benefits should not be restricted to seniors without coverage.

This last point is important. Medicare shouldn't target the new benefits so narrowly that it creates an incentive for seniors who already have drug coverage to drop that coverage in order to qualify. For example, some proposals being drafted in Congress would only give a new drug benefit to low-income seniors who don't have employer-based retiree coverage or Medigap coverage that includes drug benefit. That may seem fair, but it is not. Seniors who have already sacrificed to get some drug insurance -- either through past employers or by purchasing it on their own -- should not be left out.

One argument for this simplified exit strategy bears repeating: Medicare reformers shouldn't worry that dropping direct competition will thwart future efforts to move Medicare towards the Federal Employees Health Benefit (FEHB) model. That remains the best model for Medicare reform, but clearly the political will to try competition is not yet strong.

In a few years, when it becomes more obvious that the costs of the baby boomers' retirement would otherwise force stiff tax increases or draconian benefit or payment cuts in Medicare, legislators may turn back toward competitive approaches as a more palatable alternative.

It's the Confidence, Stupid.

The economy grew by 3.1 percent in the second quarter. That's a respectable rate. The third quarter is off to a great start, with strong spending and production in July and August. Economists wouldn't be surprised if GDP growth for the quarter hits 5 percent.

Yet the job market remains bad. Today the Bureau of Labor Statistics reported that the number of payroll jobs fell by 93,000 in August, and is now down by 440,000 since the beginning of the year.

How can the economy grow rapidly while the employment market remains so grim?

The immediate explanation is high productivity growth. Labor productivity grew by a stunning 6.8 percent in the second quarter, and will probably grow almost as fast in the third.

But the real reason employment continues to lag is a lack of confidence in future economic growth.

Businesses know that short-term demand is being artificially pumped up by yet another round of tax cuts and a continuation of rapid growth in government spending. That is why our federal deficit is poised to hit $400 billion this year, and $500 billion in 2004.

Therefore, investors doubt the current surge will last. The government can't go on running massive deficits, and interest rates won't stay at rock bottom for much longer. (Long term interest rates are already on the rise.)

So we may have another good quarter or two, but the longer-run outlook remains mediocre.

As a result, businesses are squeezing as much productivity as possible out of current workers, but are not making bold new investments in either capital or hiring for the future.

Why do business lack confidence? Two reasons: (1) President Bush's economic strategy of massive deficits is unsound, and (2) the President's economic advisors are ineffectual.

Wall Street will always tout tax cuts for high-income investors. But savvy investors and business leaders know that President Bush's economic strategy of continuous tax cuts, with no perceptible spending restraint, will likely cause large, permanent deficits. With the baby boom generation poised to retire and explode entitlement spending, Bush's policy of massive deficits is fundamentally unsound.

Moreover, President Bush has assembled the weakest, most politicized economic team in memory. Officials who undercut the White House talking points are quickly dispatched. Former Treasury Secretary Paul O'Neill was fired for thinking independently of the political maestros. Former National Economic Council head Larry Lindsey -- perhaps the gloomiest economist around -- was fired for accurately estimating the cost of the Iraq war and reconstruction.

The President's Office of Management and Budget (OMB) has no credibility on Capitol Hill. That is because the Administration's official numbers are rife with gimmicks and omissions, and because the White House has never followed through on budget cuts (except in peevish political ways, like cutting President Clinton's Americorps national service program). On the bigger issues of agriculture subsidies, transportation funds, Medicare payments, and so on, the Administration and Congress have an unspoken pact to spend at will.

The Administration's two most capable economic officials -- academic Gregory Mankiw and Wall Street veteran Steven Friedman -- keep such a low profile we hardly know their names. The new Treasury Secretary dutifully reads his talking points, but has no credibility in financial markets.

At this point, economic strategy in the Bush Administration is run mostly by outside political organizations, like Grover Norquist's Americans for Tax Reform and Stephen Moore's Club for Growth, whose ideology amounts to "the government is evil."

Under that core principle, these organizations have lured the Bush Administration and much of the Republican party into embracing an economic policy that could be characterized as "strength through weakness." They encourage continuous tax cutting to create deficits of crisis proportions. Ultimately, they presume government spending (and influence) will be reduced. The long-range goal is to destroy the government at as many levels as possible.

However, those groups have done nothing to actually reduce spending -- presumably that will be someone else's problem in the future.

In the meantime, the U.S. is weakened to the point of pleading for help in Iraq from "old" Europe, and begging the Chinese to adjust their exchange rate.

The business community and Wall Street are mostly Republican, and loyal. They will not directly criticize the President's economic strategy or his advisors.

But they will not vote "yes" to this economy until President Bush chooses a healthier and less cynical economic strategy, and builds an economic team that inspires confidence, not trepidation.

With luck, jobs will start to come back later this year. But a vigorous, sustained recovery -- with large-scale job growth -- may remain elusive as long as businesses and investors lack faith in the nation's economic policies.

Links:
Centrists.Org No-BS Long-Term Budget Baseline homepage