Magazine article The American Prospect

The Great Surplus Debate: Save It

Magazine article The American Prospect

The Great Surplus Debate: Save It

Article excerpt

A booming economy, surging tax revenues, and three budget deals (1990, 1993, and 1997) have allowed the administration's Office of Management and Budget (OMB) to project budget balance this year and surpluses thereafter. The Congressional Budget Office (CBO) also projects surpluses, beginning in 2001. No sooner did surpluses appear on budgeteers' spreadsheets than tax cutters, highway builders, and a host of others attempted to claim them. President Clinton countered with his State of the Union call to "Save Social Security First." Although the President flagged the right priority, he missed a striking opportunity. He should have called for separating Social Security from the rest of the budget. The surpluses belong to Social Security; there are no surpluses in the rest of the budget. Taking Social Security out of the unified budget allows Social Security to increase the national savings rate and politically shores up the program


The challenge of balancing the unified budget went very quickly from hard to easy, thanks to strong economic performance and a related but not yet fully understood jump in federal revenues. Future surpluses depend on a continuation of this strong economic performance. Continued economic health depends, in turn, on both continued good luck--for example, the Asian crisis has only minimal impact on the U.S. economy--and the monetary policy decisions of the Federal Reserve. The Fed remains the only game in town, since the march toward surpluses means fiscal policy will be restrictive for the foreseeable future. The economy is in unknown and unexpected territory. No one five years ago would have predicted that unemployment could hover around 4.7 percent while inflation remained around 2 percent. The Fed deserves credit for its willingness to experiment in this new economic environment, and its continued flexibility will be key to a prolonged expansion and budget surpluses.

The 1997 budget deal cut the deficit by $118 billion over 1998-2002 and pushed the budget from red ink into black. The legislation made significant cuts both in the so-called mandatory side of the budget via detailed programmatic changes to Medicare and in the discretionary outlays that include defense and other domestic programs. The budget deal, however, did not spell out how these discretionary programs were to be cut but rather imposed a complicated series of caps. These limit discretionary spending in 2002 to the level of nominal spending in 1999; inflation will pare the purchasing power of that spending by about 12 percent from today's levels. Even if Congress and the administration balk when they see the particulars and trim the discretionary spending cuts to 6 percent, the budget will still be in surplus through 2008, the end of the projection period.

How those short-term changes translate to the long run, however, is more art than science. For example, OMB projections show a "current services" budget in surplus almost through 2060. But these projections are very sensitive to assumptions about the growth in discretionary spending--it grows in line with inflation, grows in line with population, or remains a constant share of GDP--and the future of health care costs [see chart, below]. My view is that deficits will probably reemerge as the baby boom retires. The question is what to do with the surpluses in the meantime.


The biggest threat is that the surpluses will be given away either through an assault on the tax code or simply as tax cuts. Although critics bemoan the complexity of the tax code, to date it has been relatively simple for most American taxpayers. Roughly 75 percent of filers use the standard deduction, and most of the remaining 25 percent claim deductions simply for mortgage interest, state and local taxes, and charitable contributions. But this will change. The legislation passed in August 1997 that cut taxes on families with children, small-business owners, and investors required more than 800 changes to the code. …

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