A Policy Statement by the Research and Policy Committee of ... · The recommendations presented herein are those of the trustee members of the Research and Policy Committee and the

CED is a nonprofit, nonpartisanorganization of business leadersand educators that has workedfor sixty years to address the critical economic and socialissues facing American society.

A Policy Statement by the Research andPolicy Committee of the Committee for

Economic Development

March 2003

EXPLODING DEFICITS, DECLINING GROWTH:THE FEDERAL BUDGET AND

THE AGING OF AMERICA

Exploding Deficits, Declining Growth: The FederalBudget and the Aging of America

March 2003

A Policy Statement by the Research and Policy Committeeof the Committee for Economic Development

EXPLODING DEFICITS, DECLINING GROWTH: THE FEDERAL BUDGET AND THE AGING OF AMERICA

ISBN 0-87186-149-6

Library of Congress Cataloging-in-Publication Data can be found at the Library of Congress.

Second Printing: March 2003Printed in the United States of America

COMMITTEE FOR ECONOMIC DEVELOPMENT2000 L St., N.W., Suite 700, Washington, D.C. 20008(202) 296-5860

www.ced.org

CONTENTS

RESPONSIBILITY FOR CED STATEMENTS ON NATIONAL POLICY iv

PURPOSE OF THIS STATEMENT vii

SUMMARY, FINDINGS, AND RECOMMENDATIONS 1Summary 1Substantive Findings 1Recommendations 2

Principles for Budget Policy 2Policy Recommendations 2

CHAPTER 1: AN OVERVIEW OF THE FISCAL PROBLEM 4Do Deficits Matter? 5

CHAPTER 2: THE BUDGET OUTLOOK FOR THE NEXT DECADE 10The Disappearing Surpluses 10Deficits "As Far As the Eye Can See" 13

CHAPTER 3: THE IMPENDING THREAT TO AMERICA’S LIVING STANDARDS 17America’s Changing Age Distribution 17The Pressures to Reduce National Saving: The Economics of an Aging Population 18A Vicious Circle of Slower Growth 22

CHAPTER 4: BUDGET POLICIES FOR GROWTH 25Unpalatable Choices 25Can We "Grow Our Way Out" of the Long-Term Deficits? 26What Gives? Principles for Fiscal Policy Choices 26Coordinating Long- and Short-Term Policies: Do We Need More Fiscal Stimulus? 28Recommended Directions for Policy 29

Provide a Framework for Long-Term Budgetary Decision-Making 29Reform Major Entitlement Programs 31National and Homeland Security Expenditures 35Non-Security Discretionary Spending 36Taxes 37

Conclusion 38

MEMORANDA OF COMMENT, RESERVATION, OR DISSENT 40

OBJECTIVES OF THE COMMITTEE FOR ECONOMIC DEVELOPMENT 42

iii

iv

RESPONSIBILITY FOR CED STATEMENTS ON NATIONAL POLICY

The Committee for Economic Developmentis an independent research and policy organiza-tion of some 250 business leaders and educators.CED is non-profit, non-partisan, and non-politi-cal. Its purpose is to propose policies that bringabout steady economic growth at high employ-ment and reasonably stable prices, increased pro-ductivity and living standards, greater and moreequal opportunity for every citizen, and animproved quality of life for all.

All CED policy recommendations must havethe approval of trustees on the Research andPolicy Committee. This committee is directedunder the bylaws, which emphasize that “allresearch is to be thoroughly objective in charac-ter, and the approach in each instance is to befrom the standpoint of the general welfare andnot from that of any special political or econom-ic group.” The committee is aided by a ResearchAdvisory Board of leading social scientists and bya small permanent professional staff.

The Research and Policy Committee does notattempt to pass judgment on any pending specif-

ic legislative proposals; its purpose is to urge care-ful consideration of the objectives set forth in thisstatement and of the best means of accomplish-ing those objectives.

Each statement is preceded by extensive dis-cussions, meetings, and exchange of memoran-da. The research is undertaken by a subcommit-tee, assisted by advisors chosen for their compe-tence in the field under study.

The full Research and Policy Committee par-ticipates in the drafting of recommendations.Likewise, the trustees on the drafting subcom-mittee vote to approve or disapprove a policystatement, and they share with the Research andPolicy Committee the privilege of submittingindividual comments for publication.

The recommendations presented herein are thoseof the trustee members of the Research and PolicyCommittee and the responsible subcommittee. Theyare not necessarily endorsed by other trustees or bynon-trustee subcommittee members, advisors, con-tributors, staff members, or others associated withCED.

This policy statement was completed before the release of the Congressional Budget Office's (CBO)Interim Report, An Analysis of the President's Budgetary Proposals for Fiscal Year 2004 on March 7, 2003. Thefundamental analysis and conclusions of this policy statement are not changed by the data and estimatesin that report. However, CBO's ten-year baseline deficit projections have deteriorated somewhat in com-parison with those it made in January, principally as a result of the Omnibus Appropriations Act of 2003.Using the new CBO estimates, CED's projections of a more realistic budget outlook for the next decadewould be even more unfavorable than those shown in Chapter 2. The projected 2004-2013 deficit wouldbe roughly $2.5-3.0 trillion, with annual deficits early in the next decade on the order of $350-450 billion.Were all the President's new proposals to be enacted, the projections would show those annual deficits tobe roughly $600-700 billion and the 2004-2013 deficit to be $4.0-5.0 trillion.

v

RESEARCH AND POLICY COMMITTEE

Co-ChairmenPATRICK W. GROSSFounder and Senior AdviserAmerican Management Systems, Inc.

BRUCE K. MACLAURYPresident EmeritusThe Brookings Institution

Vice ChairmenIAN ARNOFRetired ChairmanBank One, Louisiana, N.A.

CLIFTON R. WHARTON, JR.Former Chairman and Chief Executive

OfficerTIAA-CREF

REX D. ADAMSProfessor of Business AdministrationThe Fuqua School of BusinessDuke University

ALAN BELZERRetired President and Chief Operating

OfficerAlliedSignal Inc.

PETER A. BENOLIELChairman, Executive CommitteeQuaker Chemical Corporation

ROY J. BOSTOCKChairman Emeritus, Executive CommitteeBcom3 Group, Inc.

FLETCHER L. BYROMPresident and Chief Executive OfficerMICASU Corporation

DONALD R. CALDWELLChairman and Chief Executive OfficerCross Atlantic Capital Partners

JOHN B. CAVEPrincipalAvenir Group, Inc.

CAROLYN CHINChairmanCommtouch/C3 Partners

A. W. CLAUSENRetired Chairman and Chief Executive

OfficerBankAmerica Corporation

JOHN L. CLENDENINRetired ChairmanBellSouth Corporation

GEORGE H. CONRADESChairman and Chief Executive OfficerAkamai Technologies, Inc.

RONALD R. DAVENPORTChairman of the BoardSheridan Broadcasting Corporation

JOHN DIEBOLDThe Diebold Institute

FRANK P. DOYLERetired Executive Vice PresidentGeneral Electric

T.J. DERMOT DUNPHYChairmanKildare Enterprises, LLC

CHRISTOPHER D. EARLManaging DirectorPerseus Capital, LLC

W. D. EBERLEChairmanManchester Associates, Ltd.

EDMUND B. FITZGERALDManaging DirectorWoodmont Associates

HARRY L. FREEMANChairThe Mark Twain Institute

BARBARA B. GROGANPresidentWestern Industrial Contractors

RICHARD W. HANSELMANChairmanHealth Net Inc.

RODERICK M. HILLSChairmanHills Enterprises, Ltd.

MATINA S. HORNERExecutive Vice PresidentTIAA-CREF

H.V. JONESManaging DirectorKorn/Ferry International

EDWARD A. KANGASChairman and Chief Executive

Officer (retired)Deloitte Touche Tohmatsu

JOSEPH E. KASPUTYSChairman, President and Chief

Executive OfficerGlobal Insight, Inc.

CHARLES E.M. KOLBPresidentCommittee for Economic Development

CHARLES R. LEEChairmanVerizon Communications

ALONZO L. MCDONALDChairman and Chief Executive OfficerAvenir Group, Inc.

NICHOLAS G. MOORESenior AdviserBechtel Corporation

STEFFEN E. PALKOVice Chairman and PresidentXTO Energy Inc.

CAROL J. PARRYPresidentCorporate Social Responsibility

Associates

VICTOR A. PELSONSenior AdvisorUBS Warburg LLC

PETER G. PETERSONChairmanThe Blackstone Group

NED REGANPresidentBaruch College

JAMES Q. RIORDANDirectorQuentin Partners Co.

LANDON H. ROWLANDChairmanJanus Capital Group

GEORGE RUPPPresidentInternational Rescue Committee

ROCCO C. SICILIANOBeverly Hills, California

MATTHEW J. STOVERPresidentLKM Ventures

ARNOLD R. WEBERPresident EmeritusNorthwestern University

JOSH S. WESTONHonorary ChairmanAutomatic Data Processing, Inc.

DOLORES D. WHARTONFormer Chairman and Chief

Executive OfficerThe Fund for Corporate Initiatives, Inc.

MARTIN B. ZIMMERMANVice President, Governmental AffairsFord Motor Company

^ Voted to approve the Policy Statement but submitted memoranda of comment, reservation, or dissent. See page 40.* Voted to disapprove of this Policy Statement.

^

^

^

^

^

*

ChairmanW. BOWMAN CUTTERManaging DirectorWarburg Pincus LLC

IAN ARNOFRetired ChairmanBank One, Louisiana, N.A.

THOMAS BUCKHOLTZT.J. Buckholtz & Associates

CAROLYN CHINChairmanCommtouch/ C3 Partners

JOHN DIEBOLDChairmanThe Diebold Institute

W. D. EBERLEChairmanManchester Associates, Ltd.

WILLIAM W. LEWISDirector EmeritusMcKinsey Global InstituteMcKinsey & Co., Inc.

ALFRED T. MOCKETTChairman and Chief Executive OfficerAmerican Management Systems, Inc.

JAMES Q. RIORDANDirectorQuentin Partners Co.

LANDON ROWLANDChairmanJanus Capital Group

GEORGE RUPPPresidentInternational Rescue Committee

BERTRAM SCOTTPresidentTIAA-CREF Life Insurance Company

JOSH S. WESTONHonorary ChairmanAutomatic Data Processing, Inc.

Ex-Officio Members

ROY J. BOSTOCKChairman Emeritus, Executive CommitteeBcom3 Group, Inc.

PATRICK W. GROSSFounder and Senior AdvisorAmerican Management Systems, Inc.

CHARLES E.M. KOLBPresident Committee for Economic Development

BRUCE K. MACLAURYPresident EmeritusThe Brookings Institution

Project Director

VAN DOORN OOMSSenior FellowCommittee for Economic Development

Project Associates

DAVID KAMINResearch AssociateCommittee for Economic Development

THERESE SCHARLEMANNInternCommittee for Economic Development

REBECCA SOLOWInternCommittee for Economic Development

vi

SUBCOMMITTEE ON THE BUDGET, DEMOGRAPHICS AND ECONOMIC GROWTH

^

^

^

^ Voted to approve the Policy Statement but submitted memoranda of comment, reservation, or dissent. See page 40.

^

vii

PURPOSE OF THIS STATEMENT

Since 1947, the Committee for EconomicDevelopment (CED) has championed federal fis-cal discipline to sustain America’s long-term eco-nomic health. CED first did so in the seminalstatement Taxes and the Budget: A Program forProsperity in a Free Economy (1947) and morerecently in Restoring Prosperity: Budget Choices forEconomic Growth (1992). Federal budget deficitsraise interest rates, reduce domestic investment,and increase America’s foreign indebtedness.Today, this reality is as relevant and important asit was six decades ago. In this statement, CEDexplains why America’s federal fiscal policy ispointed in the wrong direction and how tochange course to better protect economicgrowth and the living standards of future gener-ations.

The federal government brought its borrow-ing under control in the mid-1990’s. But, inrecent years, this discipline has dissolved. TheCongressional Budget Office’s projected ten-yearbudget surplus for this decade has gone from$5.61 trillion to nearly zero. Only part of thisdeterioration can be attributed to a weak econo-my and a lower stock market; the majority of thecollapse can be directly linked to policy deci-sions. Adjusting the projections to reflect morerealistic assumptions, and the economic effectsof the aging of the baby boom generation,deficits now extend “as far as the eye can see.”

Absent significant changes to current policy,America will be ill-prepared for this imminentdemographic transition. If policymakers do notbegin making hard decisions today that restorefiscal balance, America will face an even largerand more painful retrenchment in the future.

This statement concludes with a series of

principles and recommendations that addressboth budget process and policy. We recognizethat our proposed program is ambitious, but webelieve that bold reforms are necessary to closethe long-run fiscal gap and to insure that theAmerican dream lives on, with future genera-tions continuing to enjoy better living standardsthan those before them.

ACKNOWLEDGMENTSThis policy statement was developed by the

committed and knowledgeable group of busi-ness, academic, and policy leaders listed on pagevi. We are grateful for the time, efforts, and carethey put into this effort.

Special thanks go to the subcommittee chair,W. Bowman Cutter, Managing Director ofWarburg Pincus LLC. We are also indebted toVan Doorn Ooms, CED Senior Fellow and direc-tor of this project. CED Research AssociateDavid Kamin also made substantial contribu-tions. Therese Scharlemann and Rebecca Solowprovided research assistance.

Patrick W. Gross, Co-ChairResearch and Policy CommitteeFounder and Senior AdvisorAmerican Management Syatems, Inc.

Bruce K. MacLaury, Co-ChairResearch and Policy CommitteePresident EmeritusThe Brookings Institution

CED believes that the official budget projec-tions by the Administration and theCongressional Budget Office (CBO) significantlyunderstate the nation’s fiscal problem. In theshort term, they do not allow for pending actions(such as making tax cuts permanent, providingprescription drugs to seniors, and possible warand reconstruction in Iraq) that will exacerbatethe deficit. In the longer run, they do notaccount for the aging of the population, whichwill put both a drag on economic growth andmassive demands on the federal budget. Thismakes it essential to conserve fiscal resourcesnow to grow the economy for the future.

Deficits matter – they lead to less investment,less productivity, and a lower future standard ofliving. They are large and about to become verylarge. Were we to put the budget on a soundactuarial footing through 2075 – the lifetime ofa child born today – we would have to close agap of almost 5 percent of gross domestic product –equivalent to current spending cuts or tax increases ofroughly $500 billion per year. Any deficit reductionprogram to significantly reduce a gap of this sizewill necessarily require a “war on many fronts” –reshaping Social Security, reforming Medicareand Medicaid, rationalizing defense and home-land security spending, as well as raising addi-tional and alternative tax revenues. For this rea-son, we should reject any short-term stimulusthat adds to future deficits and slows growthlater. None of these actions are pleasant. Butall of them must be taken to secure our nation’seconomic future.

SUBSTANTIVE FINDINGS

Current budget projections seriously understatethe problem. In 2001, CBO foresaw a cumulativebudget surplus of $5.6 trillion for the ten years2002-2011; two years later, that $5.6 trillion iseffectively zero. And this new projection doesnot take into account the strong likelihood thatthe 2001 tax cuts will be made permanent, thatthe rapidly expanding Alternative MinimumTax will be scaled back, or that war and recon-struction in Iraq will raise discretionary spend-ing. Adjustments for such likely events imply aten-year deficit of about $2 trillion, before anynew tax proposals are enacted or the costs of apossible prescription drug program, amongother outcomes, are added. (See pp. 13-16)

While slower economic growth has caused muchof the immediate deterioration in the deficit, thedeficits in later years reflect our tax and spendingchoices. By the end of the decade, after theeconomy has fully recovered, budget policies areprojected to account for two-thirds of theincrease in the deficit. (See pp. 10-13)

Deficits do matter. To the extent deficits arepaid out of domestic saving, they leave lessmoney behind to finance investments in plantand equipment, research and technology, andhuman capital that make us more productive.To the extent they are financed by foreigners,they increase our nation’s international debts,divert our future income to service those debts,and increase economic instability. In eitherevent, deficits will reduce our future standard ofliving. (See pp. 5-9)

The aging of our population compounds the prob-lem. The onset of baby boom retirements in thenext decade and the nation’s low fertility rate willgradually produce an economy with many moreretirees and proportionately far fewer workers,even after accounting for immigration. This

1

Summary, Findings, and Recommendations

SUMMARY*

*See memoranda by JAMES Q. RIORDAN and THOMASJ. BUCKHOLTZ (page 40).

means that future Americans will divide a slower-growing “income pie” into smaller pieces. Butfuture consumption needs will not decline; infact, the demands of an aging population forhealth services, including those financed publicly,will skyrocket. This suggests that America willsave even less, and therefore have fewer resourcesavailable to invest for growth. Later in this centu-ry, for the first time, Americans may be less welloff than their predecessors. (See pp. 17-24)

RECOMMENDATIONS

Principles for Budget Policy (See pp. 26-28)

First, any tenable budget program must addressthe budget deficit on every front, including both com-prehensive spending reductions and alternative oradditional revenues. The budget choices we faceall appear to be untenable: cutting SocialSecurity and Medicare; constraining defensespending; raising taxes. But that is exactly thepoint. None of these measures alone will suf-fice; all must be brought to the table to con-struct a workable solution. While reshapingSocial Security or Medicare or raising additionaltaxes is unattractive, the real choice is betweenplanned and rational policies now, or morechaotic and severe steps down the road.

Second, do no harm. The first step in climb-ing out of a hole is to stop digging. We cannotafford economic policy decisions today that fur-ther raise deficits tomorrow. Recent and pend-ing tax and spending proposals by theAdministration and decisions by the Congressshould be considered and reexamined in thislonger term context.

Third, make long-term budgetary balance andeconomic growth explicit policy goals. Withoutlong-term fiscal policy goals, our budget policy isadrift without an anchor. Without an anchor,policy will be driven by the political winds. It isessential that current decisions be taken with fullrecognition of the harmful consequences thatloom ahead on our current budgetary course.We are concerned that the Administration’s2004 budget would raise the ten-year 2004-2013deficit by about $2.7 trillion and annual deficits

ten years from now by about $500 billion. Fourth, give pro-growth policies higher priority.

We must avoid budget cuts that reduce publicinvestments in favor of today’s consumption. Asthe budget deficit grows, a disproportionate bur-den of fiscal restraint may fall on education andtraining programs that build human capital,research and development activities that advanceknowledge, and infrastructure investments thatsupport the private sector. In previous reports,CED has noted the importance of such publicinvestments for economic growth.

Fifth, distribute the costs of pro-growth policiesequitably. Who should bear these costs?Programs with widely shared benefits are prefer-able to those with benefits tailored narrowly tofew recipients. In addition, the burden of fiscalrestraint should not be placed disproportionate-ly on low-income families with little politicalvoice. As former OMB Director David Stockmansaid, in a different era but a similar context, weshould resist weak claims, not weak claimants.

Policy Recommendations

1. CED strongly opposes any short-term stimu-lus program that is not combined with aplan to restore longer-term budget balance.We are specifically concerned that the Jobsand Growth Package proposed by theAdministration, which would raise thecumulative 2004-2013 deficit by about $920billion (including interest) and raise theannual deficit ten years from now by about$100 billion, does not meet this test. (See pp. 28-29)

2. CED believes it is urgent to implement a dis-ciplined budget process that can address thelong-term fiscal issues that face us. First,Congress must restore rationality to theappropriations process. Second, we shouldimplement annual joint budget resolutions,agreed to by Congress and the Presidentand enacted into law, that anticipate, pre-cede, and control all spending and tax legis-lation. To enforce the budget decisions ofthe joint resolution, we should restore thecaps on discretionary spending and the

Exploding Deficits, Declining Growth: The Federal Budget and the Aging of America

2

requirement that changes in tax and entitle-ment programs be “deficit-neutral.” Finally,we also oppose the use of “dynamic scoring”in making Congress’s official budgetary costestimates. (See pp. 29-31)

3. CED calls on the President and Congress toestablish a goal of balancing the budget (orproducing a surplus) excluding the “off-budg-et” Social Security accounts over a rolling five-year horizon. The joint budget resolutionshould make clear how the budget policiesof the resolution would promote this goal.The joint budget resolution should also pro-vide statistical measures of long-term fiscal bal-ance (such as the “fiscal gap” and unfundedgovernment liabilities). (See p. 30)

4. CED reiterates its proposal to restructureSocial Security into a two-tier system. Thecurrent basic system would have its benefitstructure modified to ensure its solvency (forexample, by gradually raising the age for fullretirement benefits to 70 by 2030) andwould be supplemented by a second tier ofprivately owned Personal RetirementAccounts funded by mandatory employerand employee contributions that would raisereturns to future retirees. (See p. 32)

5. CED reiterates its earlier recommendationthat the federal government restructure theMedicare program along the lines of theFederal Employee Health Benefit Program(FEHBP). We also urge the states to adopthealth care programs similar to FEHBP forpublic employees and Medicaid, with contri-bution structures that encourage choicesbased on appraisals of quality and cost.(See p. 34)

6. CED believes that, whatever the level ofspending, the defense and security budgetsmust be cost-effective and focused sharply onour new national security situation. We urgethe Administration and the Congress to rapid-ly establish national defense priorities andprogram reforms to accomplish this. TheTail-to-Tooth Commission, and others, havemade recommendations for reducing over-head and indirect expenditures and othermeasures to reduce costs. In addition, we

urge the Administration and Congress to pro-vide special attention and scrutiny to home-land security expenditures. (See pp. 35-36)

7. CED recommends that we reduce the growthof non-security discretionary spending belowits historical level and far below the 9 per-cent annual growth of the past three years.Although the Administration sought torestrain such growth, the enacted omnibus2003 appropriations bill has raised discre-tionary spending about $12 billion above thelevel earlier agreed to by the President andthe Congressional majority leadership. Therecent untimely and chaotic appropriationsprocess has dramatically demonstrated theneed for the strong process reforms we pro-pose. (See pp. 36-37)

8. CED believes that education reform is tooimportant to be allowed to fail; the federalgovernment, which has mandated a nationaleffort, is obligated to assist the states inmaking it work. We urge the Administrationand Congress to provide the funding need-ed to do so. (See p. 37)

9. CED once again urges the Administrationand Congress to make basic research a highpriority in the federal budget. Fundingshould be provided across a broad set ofresearch fields, without undue concentra-tion in medical research. (See p. 37)

10. After reviewing the size of our long-term fis-cal imbalance and the broad possibilities forspending reductions in Social Security,Medicare, national and homeland defense,and other domestic programs, CED believesit is extremely unlikely that the long-termbudget problem can be solved without addi-tional revenues. We therefore urge theAdministration and Congress to forego at thistime any additional tax reductions (includingthe permanent extension of The EconomicGrowth and Tax Relief Reconciliation Act)that would further reduce long-term rev-enues. Moreover, we should use this oppor-tunity to begin to explore alternative or addi-tional long-term sources of revenue and taxa-tion systems that support our nation’s growthobjectives. (See pp. 37-38)

3

Summary, Findings, and Recommendations

When the federal budget for fiscal year 2001was first submitted to the Congress, theCongressional Budget Office (CBO) foresaw acumulative budget surplus of $5.6 trillion forthe ten years, 2002-2011. Two years have nowpassed, and, according to the latest CBO projec-tions, that projected $5.6 trillion surplus is noweffectively zero. Such a dramatic deteriorationin the fiscal outlook is unprecedented.1

Several years ago the federal budgetappeared to be moving in a “virtuous circle,” inwhich surpluses helped finance capital formationand growth and reduced federal interest costs,both of which contributed to additional surplus-es that would further raise economic growth. Bythe time the baby boomers moved into retire-ment and exercised their claims against thebudget and, more importantly, against thenation’s future output and income, our produc-tive capacity and budgetary position would havestrengthened enough to withstand these newspending requirements. But a realistic projec-tion of the budget today shows sustained deficitsthat will become far larger when the baby boomclaimants retire. In short, the budget outlookhas shifted dramatically for the worse, losing allthe ground gained in the last decade.

This CED policy statement traces the rela-tionships among federal budget deficits, thenation’s swiftly approaching demographic transi-tion (a major influence on budgets in the longerterm), and America’s economic future. Thethree are intertwined, but the focus here is onbudget deficits, since they are (or should be) thefactor under our immediate control. Specifically,we will address four important questions:

• First, why do budget deficits matter? Unlessone understands why and how deficits haveimportant economic consequences, one

cannot know why it’s so important toaddress them now.

• Second, how did this fiscal reversal occur?What were the relative contributions ofchanged economic conditions, spendingdecisions, tax decisions, and other factors toour fiscal predicament?

• Third, what is a realistic budget outlook? Theofficial Administration and CBO budget pro-jections do not portray the seriousness of thecurrent situation. If we use reasonableassumptions about how the economy will per-form, the choices politicians may make, andunderlying trends in American society – par-ticularly regarding the aging of the popula-tion – the budget outlook is alarming.

• Fourth and finally, what can we do about it?What major changes in the direction oflong-term fiscal policy must we make toimprove the prospects for long-term eco-nomic growth, and what are our options formaking them?

The current chapter of this policy statementand the three that follow answer these questions.This chapter explains why fiscal deficits matterto the economy. The next chapter asks how therecent projections of sustained surpluses turnednegative so quickly, and what a reasonable pro-jection for the next five and ten years might nowbe. The third chapter looks beyond the five andten year horizons used by federal budget plan-ners, with an eye to the needs created in futuredecades by an aging population. And the lastchapter examines various options for correctingthe fiscal problems we face.

We wish to emphasize that this policy state-ment addresses our long-term fiscal predicamentand its impact on the future well being of

4

Chapter 1

An Overview of the Fiscal Problem

Americans, not the issue of short-term fiscal stimu-lus as an antidote for current weakness in theeconomy. Our recommendations in Chapter 4have strong implications for short-term policy, butour focus is on the long-term consequences ofsuch policy. We strongly reaffirm our 2001 rec-ommendation (made shortly after the September11 terrorist attacks) that short-term policies mustfit within a sound long-term framework. Weurged then that any fiscal stimulus measures betimely, effectively targeted, and (especially) “tem-porary and combined with a credible commit-ment to future budget surpluses.”2 If we do notdo so, we will make the future problems wedescribe even more difficult to resolve.

DO DEFICITS MATTER?

Ever since federal deficits exploded in the1980’s, economists have debated their short-and long-term effects. While there is no una-nimity among economists, there are someimportant principles on which most economists,and CED, agree.

First, we know that the key to long-term eco-nomic growth and rising living standards isincreasing productivity, our ability to producemore goods and services with the resources atour disposal. As a forthcoming CED report dis-cusses in greater detail, we also know that long-term improvements in productivity come fromthree interrelated factors – technologicalprogress (new ideas), investment (both in physi-cal capital, which provides workers with moreplant and equipment, while bringing new ideasinto daily use, and human capital, whichimproves the skills and abilities of workers), andreorganization (the capacity to organize produc-tion to capture the benefits of this innovation).3The economy grows, therefore, when new ideasare developed, when they are reflected in amore productive capital stock and labor force,and when the economy is flexible and adaptiveenough to respond to new opportunities.

Second, we know that federal budget deficitsinterfere with this process primarily by siphon-ing off funds from private investment (and may

reduce public investment as well, as explainedbelow). Deficits usurp the national saving other-wise available for investment. Saving divertsfrom current consumption the resources neededto finance plant and equipment, research, hous-ing, or other investments. This saving takes theform of household saving, business profits, andgovernment surpluses. Just as the nation’s sav-ing is diminished when households borrow tospend more than their income, that saving isalso diminished when the government spendsmore than its revenues. When the governmentborrows by selling government debt to financethe resulting deficit, it reduces the saving avail-able for private investment at home or abroad.*

By reducing private investment at home, high-er deficits leave the nation with a smaller capitalstock, giving our workforce fewer tools with whichto work – whether computers and software,machines, transportation equipment, or buildingsand other structures. This slows the growth in theproductivity of our workers, which, in turn, leadsto slower growth in living standards. Deficits —and the higher mortgage rates that usually accom-pany them — can also reduce investment in hous-ing, which also reduces future well being.

Thus, the central charge against fiscaldeficits is that they “crowd out” private domesticinvestment by reducing national saving. Therecord of the past 40 years illustrates this rela-tionship. Figure 1-1 shows federal deficits (orsurpluses) and total net private domestic invest-ment (including housing) for 1960-2001 in rela-tion to net national product (NNP). Deficitsand investment are inversely related – when

5

Chapter 1: An Overview of the Fiscal Problem

* While lower national saving must reduce national investment,not all economists agree that larger deficits reduce national sav-ing. A minority argues that if deficits rise, households willincrease their saving by a corresponding amount to provide forfuture tax increases, to be imposed on either them or theirdescendants. This is an interesting theory, but there is littleempirical evidence that households make significant adjust-ments of this kind. The U.S. household saving rate has beenfalling more or less continuously since the early 1980s, duringperiods of both rising and falling deficits. Moreover, this viewrequires households to have extraordinary foresight; if govern-ment and private forecasters have been so continually surprisedby rapidly changing deficit forecasts, how are we to assume thatthe average household can do better? See B. DouglasBernheim, Ricardian Equivalence: An Evaluation of Theory andEvidence, Working Paper No. 2330 (Cambridge, MA: NationalBureau of Economic Research, 1987).

deficits rise, investment tends to fall; whendeficits fall (or turn to surpluses), the addition-al saving tends to “crowd in” more privateinvestment. Certainly, many other factors,

including changes in the strength of the econo-my and the international factors discussedbelow, have affected both deficits and domesticinvestment over this stretch of history. But the


6

Federal Deficits Crowd Out Private Investment (Percent of Net National Product)

-8%

-6%

-4%

-2%

0%

2%

4%

6%

8%

10%

12%

1960 1965 1970 1975 1980 1985 1990 1995 2000

Year

Federal Deficit/Surplus

Source: Updated from Benjamin Friedman, What Have We Learned from the Reagan Deficits and Their Disappearance , Working Paper No. 7646 (Cambridge, MA: National Bureau of Economic Research, 2000).

Net Private Domestic Investment

FIGURE 1-1

Year

-10%

-5%

0%

5%

10%

15%

1960 1965 1970 1975 1980 1985 1990 1995 2000

FIGURE 1-2Less Government Saving Means Less National Investment

(Percent of Net National Product)

Net National Investment (Domestic and Foreign)

Federal Deficit/Surplus

Source: Bureau of Economic Analysis.

“crowding out” of domestic investment by feder-al deficits is not just an abstraction suggested byeconomic analysis; it has been a historical fact,particularly during the large changes in thedeficit during the 1980’s and 1990’s.

With regard to the effects of deficits on ourforeign investment, the story is more complex.U.S. firms and investors that buy U.S. govern-ment debt can purchase fewer foreign assets,whether auto plants in Brazil or stocks issued byenterprises in emerging markets; similarly, for-eign investors who buy such debt acquire a claimagainst the U.S. In both cases, the U.S. netinternational investment position deteriorates –we own fewer assets abroad, and foreigners ownmore of our assets. Thus, the nation’s wealthbecomes smaller, and incomes of Americans inthe future will be correspondingly reduced –either because the total income we earn on ourforeign assets will be smaller, or because we mustpay more income to foreigners.

This is a different kind of “crowding out,”but one that reduces our net wealth today andour incomes tomorrow just as surely as reduc-tions in domestic investment do. And thesefuture income reductions are not just financiallosses. When we borrow from abroad, we bor-row not only financial capital but real goodsand services, reflected in larger trade deficits.Ultimately, Americans must “pay back” those

goods and services (with interest), either asincreased exports or diminished imports, whichleaves less for consumption tomorrow.Domestic and foreign “crowding out,” there-fore, are simply two paths to the same end – areduction of our society’s well being tomorrowto pay for today’s federal deficits and consump-tion. Figure 1-2 shows the extremely close rela-tionship, again for 1960-2001, between federaldeficits and total national investment, bothdomestic and foreign.

The linkage between budget deficits and ourforeign investment raises an issue that has figuredprominently in the deficit debate: do largerdeficits raise interest rates? Elementary economicreasoning strongly supports such a relationship,and Federal Reserve Chairman Alan Greenspanhas reaffirmed this view.4 Nevertheless, there hasbeen considerable controversy about whether thenumerous econometric studies on the subjectconfirm the relationship. A recent review ofthese studies, however, finds that, once expecta-tions about future deficits are taken into account,a sustained increase in annual budget deficits ofone percent of GDP can be expected to raiselong-term interest rates by about 50 basis pointsafter one year. We believe these findings supportthe common sense view that deficits raise interestrates, reduce domestic investment, and impairlong-term economic growth.5

7


0%

10%

20%

30%

40%

50%

60%

70%

1962 1967 1972 1977 1982 1987 1992 1997 2002

Federal Spending on Physical Capital, Research andDevelopment, and Education and Training

Entitlements and OtherMandatory Spending

FIGURE 1-3Federal Investment Declined as Entitlement Spending Grew

(As a Percent of Total Outlays)

Fiscal YearSource: Congressional Budget Office (CBO), The Budget and Economic Outlook: 2004-2013 (Washington, D.C.: CBO, January 2003), p. 152; Office of Management and Budget (OMB), Budget of the United States Government for Fiscal Year 2004, Historical Tables (Washington, D.C.: GPO, 2003), p. 155.

Moreover, focusing on the relationshipbetween deficits and interest rates obscures amore fundamental point. As globalization pro-ceeds and capital markets become more inte-grated, the impact of deficits on foreign invest-ment (and on our current account balance)becomes larger. Twenty years ago, economistswere surprised to discover that the large deficitsof the 1980’s triggered much more borrowingfrom abroad and smaller reductions in domesticinvestment than anticipated. Deficits financedby borrowing from abroad may not have largeeffects on interest rates, since foreign fundsrelieve the shortage of domestic saving. But thisforeign borrowing leaves us heavily mortgagedand reduces our future income even if interestrates don’t change. Thus, deficits do matter,even if we live in a globalized world that substi-tutes foreign borrowing for higher interest rates.

The relationship between deficits, saving, andprivate investment is not the only way that deficitsaffect long-term growth and our future standardof living. Two other dangers bear mentioning –the effects of deficits on productive public invest-ments† and on economic stability.

CED has consistently been an advocate forproductivity-enhancing public investments suchas basic scientific research, improved public

schools, and expanded access to quality pre-school education.6 These public investments area needed complement to private investment –basic research builds a store of knowledge thatleads to future technological advances, workforceskills make new technologies more productive,and public infrastructure facilitates private busi-ness activity. But when budget deficits grow, thereis a danger that desirable public investments willbe cut back. First, these programs often lack thebroad base of public support for the three largestitems in the budget –national security, SocialSecurity, and health care. Second, when deficitsescalate, federal interest expenses also grow, leav-ing less of the budget available for “discretionary”uses such as public investment. As shown inFigure 1-3, federal expenditures on physical capi-tal, research and development, and educationand training have been a declining portion of the


8

Source: Bureau of Economic Analysis.

0%

2%

4%

6%

8%

10%

12%

14%

16%

1960 1965 1970 1975 1980 1985 1990 1995 2000

Net National Saving

Year

FIGURE 1-4The Long-Term Decline of National Saving

(Percent of Net National Product)

† The U.S. National Income and Product Accounts (NIPA)include public expenditures on physical capital, such as struc-tures, equipment, and software, in national saving and invest-ment. Other public expenditures that raise future output andincome, such as those on research and development, education,and training are not included in saving and investment andtherefore add to the computed budget deficit. A comprehen-sive capital budget would include such expenditures in savingand investment, but the problems in defining genuine invest-ment expenditures are acute.

federal budget for many years, falling from about34 percent of total expenditures in the early1960’s to about 15 percent today.7 The potentialbudgetary “crowding out” of these expendituresunder the pressure of rising entitlement spendingand larger deficits clearly poses a risk for long-term economic growth.

Finally, deficits that reduce our net foreigninvestment and leave a large stock of foreignclaims against the U.S. not only reduce futureincome but make our economy (and, indeed, theworld economy) potentially less stable. When anycountry’s obligations to foreign investors growlarge relative to its capacity to repay, there is anincreasing risk that investors will begin to ques-tion the quality of those assets – that is, their totalreturn, including especially the preservation ofprincipal. Such a shift in market psychology cantrigger a “run” – that is, an attempt by manyinvestors to dump their assets on the market atthe same time. When foreign lenders start dump-ing a country’s assets, the results for the domesticeconomy can be disastrous, as recent experiencein Asia, Russia, and Argentina testifies.

To be sure, the U.S. is not Argentina orRussia; the role of the dollar as the preeminentinternational reserve currency has been unique.But the U.S. economy will not be immune tosudden changes in interest rates, exchangerates, and asset prices if it comes to depend onever-larger financial inflows, especially if theEuro begins to emerge as a competitive reserve

asset. How large our current account deficitand foreign indebtedness can grow before theybecome unsustainable cannot be determinedwith any precision, and will depend on the cir-cumstances of the time. But both commonsense and historical evidence suggest that bor-rowing from abroad cannot be limitless; at somepoint, foreign lenders will see escalating newborrowing as a threat to the value of their assetsand react, to the detriment of the borrower.

The threat of rising foreign indebtedness ishard to quantify, given the uncertainties inher-ent in market behavior. And the effects ofdiminished long-term investment, while obvi-ous, are also difficult to estimate, as noted inChapter 3 below. But the fact of declining andinadequate saving is not. Figure 1-4 shows theU.S. national saving rate going back to 1960.CED has consistently focused on this disquiet-ing trend during the past several decades, butthe problem continues to get worse. Failure tosave is not necessarily a harbinger of economiccollapse; rather, it foreshadows a gradual andsteady undermining of our well-being, more likearsenic poisoning or termites in the woodwork.A society that fails to put aside resources fortomorrow will not have a higher standard of liv-ing tomorrow. It is a death of a thousand cuts.

In the following chapter we examine theoutlook for the federal budget and the likelysize of the deficits that lie ahead if we continueon our present fiscal course.

9


1. Congressional Budget Office (CBO), The Budget and EconomicOutlook: Fiscal Years 2002-2011 (Washington, D.C.: CBO, 2001);CBO, The Budget and Economic Outlook: Fiscal Years 2004-2013(Washington, D.C.: CBO, 2003).

2. Committee for Economic Development (CED), Economic Policy ina New Environment: Five Principles (Washington, D.C.: CED, 2001).

3. CED, How Economies Grow: The CED Perspective on Raising the Long-Term Standard of Living, (Washington, D.C.: CED, forthcoming).While technological progress was traditionally considered to be“exogenous,” a large body of recent economic research hasexplored the ways in which investment and reorganization “feedback” to affect technology in a process of “endogenous” growth.For a summary see Gregory Mankiw, Macroeconomics, FifthEdition (New York: Worth Publishers, 2002), Chapter 8, pp. 207-235; and Debraj Ray, Development Economics (Princeton, NJ:Princeton University Press, 1998), Chapters 3 and 4, pp. 47-129.

4. United States Federal Reserve Board, Testimony of Chairman AlanGreenspan: Current Fiscal Issues, Before the Committee on theBudget, U.S. House of Representatives (September 12, 2002),available at http://www.federalreserve.gov/boarddocs/testimo-ny/2002/20020912/default.htm, accessed February 20, 2003.

5. William G. Gale and Peter R. Orszag, The Economic Effects ofLong-Term Fiscal Discipline (Washington, D.C.: Urban-BrookingsTax Policy Center, 2002), p. 27.

6. CED, America’s Basic Research: Prosperity Through Discovery(Washington, D.C.: CED, 1998); CED, Preschool for All: Investingin a Productive and Just Society (Washington, D.C.: CED, 2002).

7. Office of Management and Budget, Budget of the United StatesGovernment for Fiscal Year 2004, Historical Tables (Washington,D.C.: U.S. Government Printing Office, 2003), Table 9.1, p. 155.

Endnotes

After a fifteen year struggle with ballooningdeficits, the federal government finally brought itsbudget under control in the mid-1990’s. In rela-tion to the size of the economy, the deficits of themid-1980’s and early 1990’s had reached levelsnot seen since World War II. Faced with thisbleak budget picture, policymakers managed tostrike a compromise in 1990 known as the BudgetEnforcement Act (BEA). That law imposed capson discretionary spending and established a pay-as-you-go (PAYGO) rule, requiring that policychanges that cut taxes or increased entitlementspending be paid for by changes in other tax orentitlement legislation.1 This Act, in combinationwith rising revenues from the economic boom ofthe late 1990s, an increase in tax rates on upperincomes in 1993, and another bipartisan budgetagreement in 1997, yielded the first string of fourconsecutive federal budget surpluses in the post-war period. It was a dramatic fiscal turnaround.

In the last several years, however, an eco-nomic downturn, new requirements for nation-al and homeland security spending, and newbudget policies have reversed this fiscalprogress. Today, both budget surpluses and fed-eral fiscal discipline seem like distant memories.This chapter tells the story of America’s fiscalsetback. We examine how the federal govern-ment has managed to dig itself again into a fis-cal hole and show why that hole is deeper thanis commonly recognized.

THE DISAPPEARING SURPLUSES

In just two years, encouraging official pro-jections of an unending stream of large federalsurpluses have given way to much darker fore-casts that include substantial deficits. As ofJanuary 2001, the Congressional Budget Office

(CBO) was projecting a “baseline” (current poli-cy) surplus of $359 billion for the current fiscalyear (2003), but, as of January 2003, this pro-jected surplus had changed into a deficit of$199 billion. (Indeed, the Administration’s2004 budget estimates this 2003 “baseline”deficit at $264 billion.) This $558 billion swingis equivalent to 5.2 percent of GDP for fiscalyear 2003. For the rest of the decade, the num-bers tell a similar story. All told, the large tenyear cumulative surplus once projected for2002-2011 has effectively disappeared, droppingfrom $5.61 trillion in the January 2001 projec-tion to $0.02 trillion in January 2003.2

The story of the disappearing surplusesbegins in the late 1990’s. Even as the budgetprojections were growing rosier and rosier, thebipartisan budget process began to break down.With surpluses in hand, policymakers proceededto circumvent the rules they had established torein in budget deficits. After fiscal year 1998,when the first surplus emerged, Congress beganevading the BEA by making large upward adjust-ments to the discretionary spending caps and byflouting PAYGO requirements. (In exploitingthe “flexibility” provisions of the BEA, policy-makers went so far as to declare the funds forthe constitutionally mandated census in 2000 tobe an “emergency” expenditure!) [See Figure 2-1] After five years of being evaded or ignored,the discretionary caps and PAYGO mechanismwere allowed to expire in September 2002.

At the same time that BEA was becominglargely a dead letter, the overarching budgetprocess established in the Budget ImpoundmentAct of 1974 was also increasingly disregarded.The Budget Impoundment Act was designed torationalize the budget process by forcingCongress to set targets for spending, revenues,


10

Chapter 2

The Budget Outlook for the Next Decade

and budget balance. However, in the last fiveyears, the targets set in the budget resolutionswere either violated by wide margins, or budgetresolutions were not passed at all. [See Figure 2-2] The self-imposed budget process, intendedto guide and restrain Congressional policymak-ers, was broken, and the political stage was setfor a rapid return to budget deficits.3

Unsurprisingly, discretionary spending begana sharp ascent in the late 1990’s. After falling (ininflation-adjusted terms) since fiscal year 1991,with the help of the “peace dividend” occasionedby the end of the Cold War, discretionary spend-ing turned upwards in 1999. From 1998 through2002, real discretionary spending jumped 21 per-cent.4 Then, with President George W. Bush’sarrival in office, tax cuts rose to the top of thepolicy agenda. The Economic Growth and TaxRelief Reconciliation Act of 2001 (EGTRRA) wasthe centerpiece, cutting revenues and reducingprojected surpluses by over $1.6 trillion (includ-ing interest) from 2002 through 2011.5

With policymakers having spent or rebated

in tax cuts much of the projected surpluses, theeconomic slowdown that began in early 2001aggravated an already deteriorating fiscal situa-tion. Revenues fell with slowing economic activ-ity and falling employment, and the precipitousstock market drop hit the projected surplusesespecially hard. The flood of federal revenuesfrom capital gains realizations and othersources during the late 1990’s dramaticallydried-up. Altogether, between January 2001and January 2003, such “economic and techni-cal changes”* accounted for a remarkable $2.6trillion reduction (including interest) in theprojected ten year surplus for 2002-2011.

Taking the decade as a whole, CBO’s esti-mates indicate that 54 percent of the fall in theten year cumulative surplus can be attributed to

11

Chapter 2: The Budget Outlook for the Next Decade

*Adjustments for Desert Shield/Storm are excluded since the vast majority of the war's costs were paid back to the U.S. by foreign countries.Source: Congressional Budget Office (CBO), The Budget and Economic Outlook: Fiscal Years 2004-2013 (Washington, D.C.: CBO, January 2003), p. 115

FIGURE 2-1Policymakers Have Broken Their Own Restraints on Discretionary Spending

(Actual Spending Above or Below Originally Enacted Caps* as a Percent of Discretionary Spending)

-5%

0%

5%

10%

15%

20%

25%

1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003

Fiscal Year

Bud

get E

nfor

cem

ent A

ct E

xpir

ed

* In the CBO projections, “technical changes” include changes inestimated capital gains revenues as well as other estimatingchanges, including many with a significant economic compo-nent. “Economic changes” essentially reflect budget changesdue to changes in the CBO economic forecast of output,incomes, prices, interest rates, etc.

changes in budget policies (including 30 percentdue to EGTRRA and 22 percent due to increasedspending), while the remaining 46 percent is aresult of economic and technical changes.6However, it is important to note that the effectsof the economic and technical changes are muchlarger in the first half of the decade, reflectingthe budgetary effects of the recent economicdownturn. As Table 2-1 shows, by the end of thedecade – and reaching into the future – policychanges are far more important. Thus, by fiscalyear 2010, policy changes account for almost two-thirds (63 percent) of the deterioration in thesurplus, whereas economic and technical factorsare associated with only 37 percent. In short,while a substantial portion of the current fiscaldeterioration can be blamed on the economy,responsibility for the fiscal set-back in later yearslies squarely on the shoulders of policymakers.

A separate but parallel problem exists forstate budgets. States were awash in revenues

during the boom of the late 1990’s, but are nowretrenching rapidly, drastically cutting expendi-tures and in some cases raising taxes to addressan estimated aggregate deficit of $50 billion thisfiscal year and between $70 and $85 billion thenext.7 This necessary fiscal retrenchment willimpede national economic recovery, even whilethe federal budget has become more expansive.

The circumstances of individual states differ,but almost all states operate under borrowingrestrictions that require them to take promptaction. Thus, state fiscal deficits are likely to berelatively short-lived when compared with thoseof the federal government, although their pro-grammatic cutbacks will cause significant eco-nomic and social problems. The states’ fiscalretrenchment is therefore important, not onlyfor its macroeconomic impact, but also becausethe federal government may attempt to solve itsown problems by passing them back to the states,sometimes by imposing unfunded mandates. We


12

FIGURE 2-2Congressional Budget Resolutions No Longer Guide Fiscal Policy

(Policy Violations* as a Percent of Total Outlays)

-6%

-5%

-4%

-3%

-2%

-1%

0%

1%

2%

1980

1982

1984

1986

1988

1990

1992

1994

1996

1998

2000

2002

* A "policy violation" is the difference between the actual budget deficit and the deficit set in the budget resolution that derives from enacted legislation not anticipated in the resolution or legislation that cost more or less than the resolution assumed.

Source: Adapted from Rudolph Penner, Repairing the Congressional Budget Process (Washington, D.C.: The Urban Institute, 2002), p. 8; Congressional Budget Office (CBO), Budget and Economic Outlook: 2004-2013 (Washington, D.C.: CBO, January 2003), pp. 124-129 and p. 152.

Year

No

Bud

get R

esol

utio

n

No

Bud

get R

esol

utio

n

do not know the full extent of these mandates,but they are currently growing, to varyingextents, in areas such as educational testing andassessment and front-line homeland security.Moreover, they may increase in areas such as wel-fare reform, where the upcoming reauthoriza-tion may impose stricter work requirements, andin Medicaid, where the Administration is propos-

ing further devolution to the states in the face ofrapidly rising costs. In all these cases, there isthe risk that activities will be mandated of thestates, or turned back to them, with no offsettinglong-term revenue sources.

DEFICITS “AS FAR AS THE EYE CAN SEE”

In spite of their sharp deterioration sinceJanuary 2001, the CBO January 2003 projectionsdo not begin to gauge the likely magnitude ofour fiscal predicament. Those projections showthe federal government pulling into the clear bythe middle of the decade, with surpluses project-ed from fiscal year 2007 onwards. There wouldseem to be little reason to worry unduly aboutlong-term deficits if budget surpluses were to besoon restored – even if they were significantlysmaller than once expected. But, this projectedupswing in the fiscal position is unlikely tooccur, since the projections are based on unreal-istic assumptions about future policy decisions.†

13


† We acknowledge that deficit projections ten years into the futureare extremely uncertain, not only with regard to policy actions,but also (and perhaps especially) with regard to the effects ofchanges in the economy, the costs of legislated programs, andother variables. (See CBO, The Budget and Economic Outlook:Fiscal Years 2004-2013, Chapter 5.) However, we do not believethat this uncertainty implies that we “know nothing” about thelikely ten-year budget path and can therefore ignore the project-ed effects of the decisions we take. First, the budgetary effects ofthe policy changes we make are far less uncertain than the levels ofthe deficits or surpluses that will finally result, so we know a greatdeal about the impacts of those policies on the deficit. Second,and perhaps more important, the large estimating uncertainty itselfdictates that we should be more prudent in our budget policies than if theprojections were more certain. The costs of the inevitable errors indeficit projections are very asymmetric: It is politically very diffi-cult to raise taxes or cut spending to address unexpectedly largedeficits, whereas tax cuts or spending increases to address unex-pectedly large surpluses present no such problem.

TABLE 2-1Policy Changes Account for Almost Two-Thirds of the Long-Term Fiscal Deterioration

(January 2003 Projection Compared to January 2001 Projection)

Source: Center on Budget and Policy Priorities (CBPP), Why the Surplus Has Disappeared (Washington, D.C.: CBPP, 2002); Updated January 2003.

Surplus Projected in January 2001

Changes Due to Legislation

2001 Tax Cut (EGTRRA)

Other Tax Legislation

Defense

Non-Defense Discretionary (Including Homeland Security)

All Other Legislation

Changes Due to Economic andTechnical Factors

Total Reduction in Surplus

Surplus Projected in January 2003

336

-201

-69

-45

-46

-22

-515

-178

-21

-314

4%

61%

-40

-245

6%

37%

39%

13%

9%

9%

4%

100%

796

-411

-259

3

-95

-20

-655

140

63%

40%

0%

15%

3%

100%

2002-2003 Average 2010

Reduction in Surplus Due to Various Factors

(Billions of Dollars)

Proportion of the Deterioration for Which

Each Factor Accounts

Reduction in Surplus Due to Various Factors

(Billions of Dollars)

Proportion of the Deterioration for Which

Each Factor Accounts

The most striking lack of realism in the pro-jections is the assumption (legally required ofCBO) that EGTRRA will expire as provided incurrent law, as will other smaller tax reductions.In order to evade budget rules that would haverestricted its size, EGTRRA was written to expireafter 2010; the tax code would then revert to itspre-EGTRRA status. For example, under cur-rent law the estate tax will be fully repealed atthe end of 2010 but in 2011 will return to itspre-2001 rates and exemptions, as will individ-ual rate brackets and the other features of thecode modified in EGTRRA. No one believesthis will happen. Indeed, since the day EGTR-RA arrived on his desk, President Bush andmany in Congress have sought to make EGTR-RA permanent, and that has now been pro-posed in the Administration’s 2004 budget.While some modifications are likely, it is widelyexpected that the basic policies of EGTRRA willbe extended – especially the individual ratereductions, child credit, and marriage penaltyrelief, which account for over 80 percent of thelong-term revenue reduction. Other tax provi-sions whose expiration would raise revenues willalso almost certainly be extended, as has consis-tently been the practice in the past. As shownin Figure 2-3, these extensions would dramati-cally raise the path of federal deficits, especiallyafter fiscal year 2010. Over 2004-2013, makingall expiring tax cuts permanent would reducerevenues by $1.2 trillion and raise the cumula-tive deficit by $1.4 trillion (including interest).8The effects on deficits in the following decade,of course, would be far greater.

The CBO projections overestimate the fed-eral government’s likely revenue stream inanother critical respect. It is universally recog-nized that the alternative minimum tax (AMT)is dysfunctional. The AMT was designed in the1960’s to curb aggressive tax avoidance, but wasnever intended to apply to a significant propor-tion of taxpayers. Among other problems withthe AMT, its exemptions, brackets, and phase-outs are not indexed to inflation, bringing moreand more taxpayers under the minimum taxeven if their real incomes do not rise. In addi-tion, the tax rate reductions in EGTRRA, by

reducing regular income tax liabilities, makemore taxpayers subject to the AMT. In 2002,some 2.6 million taxpayers faced the AMT; by2010, it is projected to apply to 36 million tax-payers – 33 percent of all filers.9 Again, no oneexpects this to happen. A reform of the AMTto limit its application is a foregone conclusion,and the administration is already proposing“temporary” limitations. As shown in Figure 2-3, merely indexing the AMT to inflation startingin 2003 would raise the ten-year cumulativedeficit by $411 billion (including interest).10

Finally, with the U.S. gearing up to meetnew national defense and homeland securityrequirements, including possible war, recon-struction, and nation-building in Iraq, discre-tionary spending is likely to grow much fasterthan assumed by the CBO. The CBO baseline(by law) assumes that inflation-adjusted discre-tionary spending will remain unchanged overthe ten-year projection period. Events of recentyears belie this optimism. From fiscal year 1999through fiscal year 2002, annual growth in realdiscretionary spending has averaged five per-cent.11 The Administration has been planningto increase real national security spending byabout four percent annually during this decade– before accounting for any additional costsrelated to Iraq, which have been estimated torun anywhere from $100 billion to $2 trillion.12

Homeland security spending to defend againstterrorist attack at home is likely to raise non-defense discretionary spending, which, in anycase, has grown on average at about the samerate as the economy since the 1960’s. Thus, itappears virtually certain that real discretionaryspending will increase during this decade. As amatter of prudent budgeting, it seems reason-able to assume that total discretionary spendingwill grow at least as rapidly as the economy dur-ing the next few years. This assumption wouldadd nearly another $1.5 trillion (includinginterest) to CBO’s projection of the cumulativefederal deficit during 2004-2013.13

As Figure 2-3 shows, these more realisticassumptions about expiring tax provisions, revi-sions to the AMT, and the growth of discre-tionary spending lead to deficit projections very


14

different from those of CBO.14 Instead of a $1.3trillion ten year surplus, the projections show adeficit of about two trillion dollars. And ratherthan large and growing budget surpluses in thenext decade, the adjusted projections showannual deficits of $300-400 billion, increasing “asfar as the eye can see.” These projections arenot a prediction of budget outcomes, since poli-cies can and should be adopted to change thoseoutcomes; we recommend such policies inChapter 4. But the projections are a reasonableportrayal of the ten-year budget path on which weare currently traveling and the size of the budgetproblem that lies immediately ahead.‡

These projections, however, are not yet theend of the story of our possible fiscal predica-ment, for they do not take account of theAdministration’s latest budget proposals. Thenewly-proposed “jobs and growth” tax cut pack-age would end the individual taxation of divi-dends paid from retained earnings, acceleratescheduled income tax rate cuts, accelerate mar-riage penalty relief, and accelerate and expandthe child tax credit. This proposal is estimatedto reduce federal revenues during 2004-2013 by$665 billion, and raise the cumulative deficit

(including interest) by about $920 billion.15 Inaddition, the Administration’s other budgetproposals, including the permanent extensionof EGTRRA, would increase the ten-year deficitby about $1.8 trillion. All told, the new budgetproposals, if enacted, would raise the ten-yeardeficit by about $2.7 trillion and annual deficitsten years from now by about $500 billion. The2013 deficit of $300-325 billion projected inFigure 2-3 would be raised by $200-250 billionto about $500-575 billion, after accounting forAdministration proposals (or similar policies)already included in that projection.16 Moreover,these projections do not include expendituresrelated to a possible war and subsequent recon-struction in Iraq.

A decade of these growing deficits will leave

15


‡ The projections in Figure 4 are not, however, a reasonable por-trayal of the stance of our long term fiscal policy, looking out sev-eral decades. The unified budget’s cash accounting system isinadequate, and indeed highly misleading, for this purpose,since it does not recognize heavy future spending commitmentsfor public pensions and health care costs, but does include cur-rent receipts set aside to fund some of those commitments. Thenet present value in 2001 of unfunded liabilities for SocialSecurity, Medicare, and Federal employee and veterans’ pensionbenefits was about $20 trillion. See U.S. Treasury, FinancialReport of the United States Government for Fiscal Year 2001, pp.10, 58.

-400

-300

-200

-100

0

100

200

300

400

500

600

2004 2005 2006 2007 2008 2009 2010 2011 2012 2013Fiscal Year

Bill

ions

of

Dol

lars

Adjustment forExpiring Tax Provisions

Adjustment for AMT

Adjustment ofDiscretionary Spending

Deficits Projected By CBO, January 2003

Deficits Projected Using MoreRealistic Assumptions

FIGURE 2-3Projections Based On More Realistic Assumptions* Show Deficits

“As Far as the Eye Can See”

*Assuming that expiring tax provisions are not allowed to sunset, that AMT is indexed to inflation, and that discretionary spending/GDP is held constant.

Source: William Gale and Peter Orszag, Perspectives on the Budget Outlook, (Washington, D.C.: Brookings Institution, 2003), Appendix Table 3; Congressional Budget Office (CBO), Budget and Economic Outlook: 2004-2013 (Washington, D.C.: CBO, January 2003).


16

1. Rudolph Penner, Repairing the Congressional Budget Process(Washington, D.C.: Urban Institute, 2002), p. 8.

2. Congressional Budget Office (CBO), The Budget and EconomicOutlook: Fiscal Years 2003-2012 (Washington, D.C.: CBO,January 2002); CBO, The Budget and Economic Outlook: AnUpdate (Washington, D.C.: CBO, August 2002); CBO, TheBudget and Economic Outlook: Fiscal Years 2004-2013(Washington, D.C.: CBO, January 2003).

3. For a thorough description of the breakdown in budgetprocess, see Penner, Repairing the Congressional Budget Process.

4. Office of Management and Budget (OMB), Fiscal Year 2004Historical Tables: Budget of the U.S. Government (Washington,D.C.: GPO, 2003), Table 8.2, p. 124.

5. CBO, The Budget and Economic Outlook: An Update (August2002).

6. William Gale and Peter Orszag, Perspectives on the Budget Outlook(Washington, D.C.: Brookings Institution, 2003), Table 2.

7. Iris J. Lab and Nicholas Johnson, State Budget Deficits for FiscalYear 2004 are Huge and Growing (Washington, D.C.: Center onBudget and Policy Priorities, January 2003).

8. CBO, The Budget and Economic Outlook: Fiscal Years 2004-2013,Table 3-11, pp. 72-73; Gale and Orszag, The Vanishing BudgetSurplus, Appendix Table 3.

9. Leonard Burman, William Gale, Jeffrey Rohaly, and BenjaminHarris, The Individual AMT: Problems and Potential Solutions,Discussion Paper No. 5 (Washington, D.C.: Urban-BrookingsTax Policy Center, 2002), p. 6.

10. The AMT exemption has been increased for 2001 to 2004, butit is scheduled to revert to its 2000 level starting in 2005. Thelaw increasing the exemption is expected to be made perma-nent. The costs of making the increased AMT exemption per-manent are included in calculating how much the federal gov-ernment would lose in revenues by extending all tax provisionsscheduled to expire. In itself, making the increased exemptionpermanent would cost the federal government $191 billionfrom 2004-2013, not including interest. (See Gale and Orszag,“Perspectives on the Budget Outlook,” p. 5 and Table 3.)

11. OMB, Budget of the United States Government for Fiscal Year 2004,Historical Tables, Table 8.2, p. 124.

12. William D. Nordhaus, “The Economic Consequences of a WarWith Iraq,” in Carl Kaysen, Steven E. Miller, Martin B. Malin,William D. Nordhaus, John D. Steinbruner, War with Iraq: Costs,Consequences and Alternatives (Cambridge, MA: AmericanAcademy of Arts and Sciences, 2002), pp. 51-85.

13. CBO, The Budget and Economic Outlook: Fiscal Years 2004-2013;CED interest estimates computed from CBO interest matrix,January 2003.

14. These revisions to the CBO projections are summarized inGale and Orszag, Perspectives on the Budget Outlook

15. United States Department of the Treasury, General Explanationsof the Administration’s Fiscal Year 2004 Revenue Proposals(Washington, D.C.: Department of the Treasury, 2003), pp.151-153; CED interest estimates based on CBO interest matrix.

16. See OMB, Budget of the U.S. Government, Tables S-3, S-9, S-10;U.S. Treasury, General Explanations of the Administration’s FiscalYear 2004 Revenue Proposals, pp. 151-153. The Administrationprovides five-year annual estimates of all its budget proposals,ten-year annual estimates of its revenue proposals, and cumula-tive ten-year estimates of its mandatory spending proposals.These estimates, adjusted to include interest costs estimatedfrom the CBO interest matrix, indicate that the 2004-2013 ten-year deficit would be increased by about $1.6-1.7 trillion by therevenue proposals and $700 billion by the mandatory spendingproposals. (The General Explanations of the Administration’s FiscalYear 2004 Revenue Proposals contain the revised and apparentlyofficial estimate of the proposal to eliminate the double taxa-tion of corporate earnings. This estimate is not reflected in theAdministration’s summary tables in the budget, which therebyunderstate the revenue and deficits impacts of the proposal.)While the Administration does not provide discretionaryspending estimates for 2009-2013, a conservative assumption ofzero real growth in discretionary spending during this periodyields an estimate of about $360 billion for the ten-year deficitimpact. This gives a total of about $2.7 trillion. The annualdeficit estimates for 2013 are derived from the same sourcesand assumptions but exclude the Administration proposals forincreased discretionary spending, extensions of expiring taxcuts, and limitations on the Alternative Minimum Tax, whichare subsumed in the policies assumed in Figure 2-3. Detailsavailable from CED upon request.

Endnotes

America ill-prepared for the arrival of the baby-boomers’ retirement. In Chapter 1, weexplained why such large federal deficits aredetrimental to the long-term growth of nationalincome. In the next chapter, we explore why it

is particularly inappropriate for today’sAmericans to be borrowing against futureincome, by tracing out the economic and budg-etary ramifications of the aging of the U.S. pop-ulation.

17

Chapter 3: The Impending Threat to America’s Living Standards

America faces a major demographic transi-tion. In just five years, the first baby boomerswill begin drawing early-retirement SocialSecurity checks at age 62. America will thenenter a new era characterized by rapid expan-sion of retirees coupled with extremely slowgrowth in the working age population. By 2025,the proportion of the entire U.S. populationover 65 will be greater than in the state ofFlorida today.1 This dramatic transformation ofU.S. demographics will have serious implica-tions for the American economy.

These implications have been primarily dis-cussed in the context of the Social Security sys-tem. Social Security currently is running sur-pluses, but it is projected to pay out more thanit takes in beginning in 2017 and to exhaust itsaccumulated trust fund balances just after2040.2 Social Security’s potential insolvencyrepresents a serious problem that should beresolved swiftly and responsibly. Nevertheless,in focusing so intensively on Social Security’saccounting problems, the country has tended toignore the more fundamental economic prob-lems posed by the demographic transition.

The national debate has not addressed theoverarching issue of how the aging of the popu-lation will affect Americans’ general standard ofliving. It has not addressed the fact that thedemographic transition will put pressure onconsumption standards, potentially causing oursociety to cut national saving and thereby sloweconomic growth. These are the topics taken upin this chapter, which is concerned with how thehealth of the American economy as a whole –and not particular government programs –could be endangered by the aging of the popu-lation if we do not follow appropriate policies.

Changes in fertility rates and lifespan have,in combination, produced a rapid aging of theAmerican population. Figure 3-1 shows thebulge in the birth-rate between 1946 and 1964 –the years associated with the arrival of the babyboom generation. As can also be seen in Figure3-1, immediately following the baby boom camethe dramatic and still-enduring baby bust. Sincethe late 1960’s, the U.S. fertility rate hasremained well below the rates experienced inthe three decades before the baby boom,including the years of the Great Depression andWorld War II.3 The baby boom and bust willsoon translate into large numbers of Americansretiring with relatively few, younger Americansgrowing-up to take their place.

In addition to a fall in fertility, the U.S., overthe last 50 years, has experienced a dramaticincrease in the lifespan of the elderly. Since 1950,the life-expectancy of a 65 year old male hasincreased by 23 percent.4 [See Figure 3-2] Withthe elderly living longer and the baby boomersretiring, the population 65 and over is projectedto rise from just 13 percent of the total popula-tion in 2010 to nearly 20 percent in 2030.5

This graying of America is not an ephemeralphenomenon that will disappear with the babyboomers. The proportion of the population over65 is projected to continue growing throughoutthe century – far beyond 2030, when all babyboomers will have reached retirement age. In thisvery long-term, the principal engine of populationaging is expected to be a continued rise in elderlylife expectancy. Between now and 2080, life

Chapter 3

The Impending Threat to America’s Living Standards

AMERICA’S CHANGING AGE DISTRIBUTION

expectancy for a 65 year- old male is projected tojump another 28 percent.6 [See Figure 3-2] Thefertility rate will also play a role in the long-termaging process because it is expected to remain rel-atively low and stable, no acceleration in fertilitywould offset the effects of longer elderly lifeexpectancy. Looking far ahead in the century, theelderly will continue to live longer and relativelyfew children will continue to be born, makingAmerica’s aging a very long-term, if not perma-nent, trend. These fundamental trends in fertilityand life expectancy are likely to be mitigated onlyto a small degree by immigration, which itself hasbecome highly uncertain in the near term due topolitical and national security concerns.

THE PRESSURES TO REDUCENATIONAL SAVING: THE ECONOMICSOF AN AGING POPULATION

The demographic transition will translateinto fewer workers per retiree. Over the next 75years, annual growth in the working age popula-tion (those between age 20 and 64) is projectedto average just 0.3 percent per year – with lowbirth rates and immigration providing just

enough new people of working age to replacethose retiring. Indeed, growth in the native-born working age population will slow sharplyduring the next ten years, and their numberswill actually decline in the following decade;most net labor force growth will have to comefrom immigration, which is uncertain andfraught with a number of other issues.7 Overthis same 75 year period, the population ofretirement age is expected to grow at an annualrate of 1.3 percent. As time goes on, therefore,a growing number of retirees must be support-ed by the production and income of relativelyfewer workers. This trend can be expressed asthe elderly dependency ratio – the ratio of theelderly population to that of working age.Between today and 2080, it is projected to morethan double. *,8 [See Figure 3-3]


18

* In this same time period, the child dependency ratio – the ratioof those under age 20 to those between 20 and 64 – is projectedto dip, as a result of gradually falling fertility. Nevertheless, thisdrop is rather slight – from 0.49 to 0.43 between 2000 and 2080 –and does little to counter the impact on dependency of the rapid-ly increasing number of retirees. Between 2000 and 2080, thetotal dependency ratio still jumps some 23 percent. This point isreinforced when consumption is taken into account. The costs ofsupporting a retiree are higher, and can be expected to risemuch more rapidly, than the costs of supporting a child, due tothe skyrocketing price tag of health care for the elderly.

Year*The total fertility rate is the average number of children who would be born to a woman in her lifetime if she were to survive the entire childbearing period and experience the age-specific birth rates pertaining to the selected year.

Sources: 2002 OASDI Trustees' Report, Table V.A1, Intermediate Cost Assumptions; Felicitie Bell, Social Security Administration Area Projections: 1997 (Washington, D.C.: Social Security Administration, 1997).

0

0.5

1

1.5

2

2.5

3

3.5

4

1917 1927 1937 1947 1957 1967 1977 1987 1997 2007 2017 2027

Chi

ldre

n pe

r W

oman

Great Depression and World War II

Baby Boom

Baby Bust

a ProjectedActual

FIGURE 3-1The Baby Boom Has Been Followed by the Still Enduring Baby Bust

(U.S. Total Fertility Rate*)

19


The combination of a non-growing work-force and a rapidly growing number of depend-ents will put a brake on U.S. income growth –both in absolute and per capita terms. Inabsolute terms, GDP growth can be expected todecline as the expansion of the workforce slowsto a snail’s pace; fewer workers in the office andon the production lines simply translate intoless output. But at the same time that thegrowth of total output slows, the number ofdependents will be increasing. The nation,therefore, will have to cut a more slowly grow-ing GDP pie into smaller slices as the growth ofaverage per capita income declines.9

Slower income growth means fewer dollarswith which to save and consume, so that largerproportions of income will be required to main-tain the same growth in consumption standards.

In addition, Americans will be faced withgreater consumption needs. Due to the highcost of medical care, the consumption level of a70 year-old retiree, on average, far exceeds theconsumption level of a 30 year-old. By one esti-mate, the average elderly American consumes37 percent more than the average worker, muchof which is accounted for by public expendi-tures on health care.10

Thus, future Americans will be in a vice –squeezed on one side by sluggish incomegrowth and, on the other side, by increasedhealth care costs. Working households couldexpect to pay more to support the elderly bothdirectly, for their own elderly family members,and indirectly, through their tax bills. Thesehouseholds would then have less to spend onthemselves or to save. The elderly, too, would

10

12

14

16

18

20

22

24

1950 1960 1970 1980 1990 2000 2010 2020 2030 2040 2050 2060 2070 2080

Year

Lif

e E

xpec

tanc

y at

65

in Y

ears

ProjectedHistoric

*Life expectancy for a given year represents the average number of years of life remaining if a group of persons atage 65 were to experience the mortality rates for that year over the course of their remaining life.

Sources: 2002 OASDI Trustees' Report, Table V.A, Intermediate Cost Assumptions.

FIGURE 3-2Life Expectancy for the Elderly is Expected to Continue Its Sharp Rise

Male

Female

*

face cutbacks. They could expect less directhelp from their families and reductions ingovernment pension and health care benefits.

Such a squeeze on consumption would bedifficult and painful. But would it occur? Byreducing national saving and shifting thoseresources to consumption in both the publicand private sectors, our society could temporari-ly avoid the hardship of retrenchment – butonly by effectively borrowing further fromfuture generations.

In the face of these demographic and eco-nomic pressures, the public sector poses the pri-mary threat to national saving. The federal gov-ernment is expected to bear much of the cost ofthe population’s aging. Currently, three federalprograms – Social Security, Medicare, andMedicaid – provide some 60 percent of totalconsumption by the elderly.11 The federal gov-ernment has enormous difficulty in adoptingfar-sighted policies, especially when those poli-cies require fiscal austerity. Ideally, the govern-ment would protect the economic interests ofboth current and future generations. But,short-sightedness tends to plague policymaking.There is a great danger that policymakers will

avoid the painful fiscal adjustments that shouldbe undertaken now and during the demograph-ic transition, at least before we finally reach asocial and economic crisis. Compared with sig-nificantly restraining public consumptionexpenditures and increasing taxes, policymakersare likely to find deficit spending to be the fareasier road to walk.

Indeed, our current policies already putAmerica on a trajectory towards massive govern-ment borrowing (or tax increases). Projectionsfor Social Security, Medicare, and Medicaidshow expenditures under the existing programsskyrocketing in coming years. As of 2002, out-lays for these three programs amounted to analready considerable 7.6 percent of GDP. Anaging population receiving Social Security bene-fits that keep pace with wage growth and (espe-cially) the rising costs of medical care are pro-jected to push these outlays up to about 14 per-cent of GDP by 2030 and some 20 percent ofGDP by 2070, as shown in Figure 3-4.

Unless taxes were to rise dramatically to eco-nomically damaging and politically infeasiblelevels, this skyrocketing federal spending wouldproduce a rapidly deteriorating fiscal position.One measure of this long-term budget crunch is


20

Source: 2002 OASDI Trustees' Report, Table V.A2, Intermediate Cost Assumptions.

0

0.05

0.1

0.15

0.2

0.25

0.3

0.35

0.4

0.45

0.5

2000 2010 2020 2030 2040 2050 2060 2070 2080

Year

Num

ber

of E

lder

ly P

er W

orki

ng A

ge I

ndiv

idua

l

FIGURE 3-3Over the Next 75 Years, Elderly Dependency is Projected to More Than Double

21


the “fiscal gap” – the size of the immediate andpermanent reduction in expenditures and/orincrease in taxes required to keep governmentdebt from growing faster than GDP. It is arough measure of how far we are from runningthe government on a sound actuarial footingand reflects in large part the future costs ofunfunded obligations in federal entitlementprograms. CED estimates that the federal fiscalgap through 2075 is nearly five percent ofGDP.12 This implies that, to keep the federaldebt from growing at an unsustainable rate overthis longer term, the federal government wouldhave to immediately cut spending or increasetaxes by roughly $500 billion per year – about a23-26 percent reduction in expenditures or

increase in taxes – and maintain these policiesas an equivalent proportion of GDP in futureyears.

At the same time that the federal govern-ment may be deep in the red, households willbe strongly pressed to squeeze their personalsaving to maintain their consumption standards.Certainly, as the baby boomers move from sav-ing for retirement to drawing down their assetsin retirement, private saving will decline as pri-vate pension funds and other private financialassets shrink. Whether households would even-tually restore their saving to provide for a lesspromising economic future is highly uncertain.While reductions in private saving might notbecome the principal drain on national saving,

0%

5%

10%

15%

20%

25%

1950 1960 1970 1980 1990 2000 2010 2020 2030 2040 2050 2060 2070

Fiscal Year

Social Security

Medicare

Medicaid

ProjectedActual

Source: Congressional Budget Office (CBO), Long Range Fiscal Policy Brief: A 125 Year Picture of the Federal Government’s Share of the Economy, 1950 to 2075, (Washington, D.C.: CBO, July 2002), p. 3.

FIGURE 3-4Long Term Pension and Healthcare Expenditures Will Explode

(Outlays as a Percent of GDP)

private saving behavior might still exacerbatethe economic difficulties generated by balloon-ing federal deficits.†

A VICIOUS CIRCLE OF SLOWERGROWTH

By running large federal deficits and cuttingnational saving, America would be essentiallymortgaging its economic future. As explainedabove, lower national saving in one year wouldyield a smaller increase in the domestic capitalstock (or greater net international indebted-ness) the next. With less additional capital inthe hands of workers, the growth of labor pro-ductivity would be diminished, and net incomefrom abroad would fall or grow more slowly aswell. Both these factors would reduce the

growth of national income; future Americanswould be poorer so that today’s Americanscould live better.

To better articulate the potential implica-tions of a decline in national saving, we employa simple long-term model of the U.S. econo-my.13 Simulations even with large econometricmodels are precarious, so the results of this rela-tively simple model should be seen as illustra-tive. However, the model illustrates dramatical-ly how the budgetary costs of population aging,a decline in national saving, and reduced invest-ment would tend to damage the economy.

In the model, we focus on the likely erosionof federal government saving, since this repre-sents the principal economic danger during thedemographic transition. We assume (perhapsoptimistically) that the personal saving rateremains unchanged. To illustrate the implica-tions of current federal policy, the model isapplied to three long-term scenarios – a base-line scenario in which the federal budget con-tinues on its present track, with Social Securityand health care expenditures growing as pro-jected but revenues held constant at about thecurrent share of GDP; a scenario in which the


22

-20%

-15%

-10%

-5%

0%

5%

10%

1990 1995 2000 2005 2010 2015 2020 2025 2030 2035 2040 2045 2050Fiscal Year

ProjectedHistorical

Source: Long-Term Economic Model, See Endnote 13.

FIGURE 3-5Rising Deficits Under Current Policies Would Lead to A Collapse of Net National Saving

(Net National Saving as a Percent of Net National Product)

† In theory, completely “rational” and far-seeing households mightquickly reduce their consumption to maintain their saving andthereby provide for a future economic disappointment. It seemsto us more likely that there would be considerable resistance tosuch changes in living standards, so that households would onlyslowly adjust their expectations and consumption. This sloweradjustment would reduce the personal saving rate.

government cuts projected deficits by half from2008 onwards; and a third scenario in which thefederal government permanently balances itsbooks by 2008.‡ The baseline trajectory ofbudget expenditures is based on projections bythe Social Security and Medicare Trustees andCBO. However, the model incorporates themore realistic assumptions about the trend ofbudget deficits in 2004-2013 described inChapter 2.

The model tells an ominous story about thedangers of continued and growing governmentconsumption and borrowing. Staying on ourpresent track, spending for Social Security,Medicare, and Medicaid skyrockets, while rev-enues fail to keep pace. The federal governmentdeficit would balloon from approximately 1.6percent of GNP in fiscal year 2002 to 10 percent

of GNP in 2030 and 29 percent in 2050.§Plummeting federal saving would push netnational saving from its already low level of 2.5percent of net national product in fiscal year2002 to zero just after 2020, after which we wouldbegin to “consume” our capital stock, with newinvestment insufficient to replace depreciatedcapital. [See Figure 3-5] As the reduction innational saving and investment proceeded, thegrowth of productivity and income would suffer.Whereas real GNP per capita is expected to growat about 2 percent annually during the next sev-eral years, by the 2020’s, per capita incomegrowth would have fallen by more than half, andby 2040 the model projects growth rates of verynearly zero. This is not to argue that such a dis-

23


‡ In the latter two scenarios, the adjustment to the lower deficitpath is phased in from fiscal year 2004 to fiscal year 2008.Revenues and expenditures are adjusted incrementally in eachyear, so that deficits are halved, in one case, and eliminated, inthe other, by 2008.

-1.0%

-0.5%

0.0%

0.5%

1.0%

1.5%

2.0%

2.5%

Decades

Ave

rage

Ann

ual G

row

th o

f R

eal G

NP

Per

Cap

ita

2000-2009 2010-2019 2020-2029 2030-2039 2040-2049

Source: Long-Term Economic Model, See Endnote 13.

FIGURE 3-6Deficits Would Slow Economic Growth

(Average Annual Growth of Real GNP per Capita)

Growth with Balanced BudgetsGrowth with Deficits HalvedGrowth with Current Policies Continued

§ We use Gross National Product (GNP), as opposed to GrossDomestic Product (GDP) to measure the size of the economyand, by proxy, the standard of living. Gross national product isthe measure of all income received by Americans, from domes-tic or foreign sources, and is therefore the appropriate measurewhen considering long-term per capita income growth. Grossdomestic product measures total income generated within thecountry – whether paid to Americans or foreigners.


24

1. Trustees of the Federal Old Age and Survivors Insurance andDisability Insurance Trust Funds (Trustees of the SocialSecurity Trust Fund), 2002 Annual Report of the Board of Trusteesof the Federal Old-Age and Survivors Insurance and DisabilityInsurance Trust Funds (2002 Trustees’ Report) (Washington, D.C.:Social Security Administration, 2002), Table V.A2,Intermediate Cost Assumptions, available athttp://www.ssa.gov/OACT/TR/TR02/lr5A2-2.html, accessedNovember 15, 2002; David M. Cutler, James M. Poterba, LouiseM. Sheiner, and Lawrence H. Summers, “An Aging Society:Opportunity or Challenge,” Brookings Papers on EconomicActivity, no. 1 (1990), p. 1; and U.S. Census Bureau, Florida,available at http://quickfacts.census.gov/qfd/states/12000.html,accessed November 20, 2002.

2. Trustees of the Social Security Trust Fund, 2002 Trustees’ Report,p. 14.

3. Trustees of the Social Security Trust Fund, 2002 Trustees’ Report,Table V.A1, Historical Period, available athttp://www.ssa.gov/OACT/TR/TR02/lr5A1-h.html; FelicitieBell, Social Security Administration Area Population Projections: 1997(Washington, D.C.: Social Security Administration, 1997), avail-able at http://www.ssa.gov/OACT/NOTES/AS112/tab3.html,accessed November 20, 2002.

4. Trustees of the Social Security Trust Fund, 2002 Trustees’ Report,Table V.A3, Historical Period, available athttp://www.ssa.gov/OACT/TR/TR02/lr5A3-h.html, accessedNovember 20, 2002.

5. Trustees of the Social Security Trust Fund, 2002 Trustees’ Report,Table V.A3, Intermediate Cost Assumptions, available athttp://www.ssa.gov/OACT/TR/TR02/lr5A3-h.html, accessedNovember 20, 2002.

6. Trustees of the Social Security Trust Fund, 2002 Trustees’ Report,Table V.A2, Intermediate Cost Assumptions.

7. Committee for Economic Development (CED), ReformingImmigration: Helping Meet America’s Need for a Skilled Workforce(Washington, D.C.: CED, 2001), p. 7

8. Trustees of the Social Security Trust Fund, 2002 Trustees’ Report,Table V.A2, Intermediate Cost Assumptions.

9. Trustees of the Social Security Trust Fund, 2002 Trustees’ Report,Table V.A2, Intermediate Cost Assumptions; Authors’Calculations.

10. Douglas W. Elmendorf and Louise M. Sheiner, “ShouldAmerica Save for Its Old Age? Fiscal Policy, Population Aging,and National Saving,” Journal of Economic Perspectives, no. 3, 14(Summer 2000), p. 64.

11. Elmendorf and Sheiner, “Should America Save for Its Old Age?Fiscal Policy, Population Aging, and National Saving,” p. 71.

12. A fiscal gap of 4.9 percent of GDP results from combining the2004-2013 projections of Figure 2-4 with the baseline assump-tions of the long-term growth model described below andusing the model’s calculations. This is virtually identical to the4.8 percent found in a recent study using similar assumptions.See Alan J. Auerbach, William G. Gale, Peter R. Orszag, andSamara R. Potter, “Budget Blues: The Fiscal Outlook andOptions for Reform” (Washington, D.C.: Brookings Institution,forthcoming).

13. The basic structure of the model is that used by the GeneralAccounting Office in their long-term simulations. See GeneralAccounting Office, National Saving: Answers to Key Questions,Appendix II, The Economic Model and Key Assumptions,June, 2001 GAO-01-591SP. The assumptions, simulations,and results reported here are those of CED and not attributa-ble to GAO.

Endnotes

mal economic future must come to pass, but thatthe costs of inaction are severe.

To better illustrate the role of deficits in slow-ing economic growth, we compare these resultswith simulations from the two other scenarios inwhich the federal government substantiallyreduces its budget deficits. The results areshown in Figure 3-6. Under these scenarios,national saving is higher and long-term econom-ic growth is more robust. Although growth slowsinitially even with balanced budgets from 2008onwards, due to America’s changing demograph-ics, it remains considerably stronger than underthe scenario of large government borrowing.For example, by the 2030’s, the balanced budgetscenario yields an average annual real GNP percapita growth rate of 1.8 percent – two and a halftimes that expected if federal deficits remain

uncontrolled. In the balanced budget scenario,these relatively robust growth rates would thenbe maintained over the next several decades.

These simulations give a clear warning. Ifwe do not change our current fiscal course, weare inviting a low-growth economy. Such asteep and protracted rise in federal deficits andfall in economic growth rates would be unprece-dented. Perhaps for the first time in this coun-try’s history, most Americans could no longerexpect their children and grandchildren tohave higher living standards than their own. Toavoid this bleak prospect, we need to act.Chapter 4 details CED’s recommendations forchanging the course of fiscal policy to increasenational saving today, protect national savingfor the future, and safeguard the living stan-dards of generations to come.

The analysis and projections presentedabove show that our current budget policies, ifsustained, would significantly reduce long-termeconomic growth and therefore the capacity ofour society to reach its widely shared privateand public goals. Some of the underlyingforces driving us towards a low-saving and low-growth future are inescapable; demography maynot be destiny, but it will relentlessly weighupon the economic outcomes possible and thepolicy options available. Other developments,such as the rapid and broad expansion in ourinternational responsibilities and commitmentssince September 11, 2001, while perhaps moresubject to deliberate choice, also seem likely tointroduce heavy new economic burdens. Howshould we respond to these demands upon ourresources?

While projections based on reasonableassumptions about current budget policy showfuture deficits rising to unprecedented peace-time shares of the economy, such an outcome ishighly unlikely. The public, perhaps – but cer-tainly the financial markets – will not sit by pas-sively as deficits rise to five, ten, and then twentypercent of GDP and damage the economy. Asnoted CED economist Herb Stein once famouslyheld, “if something cannot continue, it will stop.”Something has to give. But what? And when?

UNPALATABLE CHOICES

The options for fiscal restraint today areextremely unpalatable. The list essentially boilsdown to this:

1. Curtail homeland security expenditures –when Americans face an unprecedentedthreat from international terrorism and like-

ly homeland security costs already appear tobe substantially understated in the budget?

2. Restrict military spending – when threats inthe Middle East and North Asia imply a dra-matic extension of U.S. responsibilities forinternational security and stability throughthe projection of military power, pacifica-tion, and nation building?

3. Reduce future Social Security benefits –when the leading proposals for social securi-ty “reform” from both parties would effec-tively guarantee currently scheduled bene-fits not only to current retirees, but tofuture retirees as well?

4. Cut back on Medicare payments – whenthere is widespread political agreement toenact expensive prescription drug coverage,an increasing lack of insurance coverage forthose 60-65, and a resumption of very rapidincreases in health care costs?

5. Curb Medicaid expenditures – when thenumber of low-income families withoutmedical insurance continues to grow, andstates not only are cutting current Medicaidexpenditures, but also appear unlikely to beable to sustain the current program in thelonger term?

6. Cut non-defense discretionary expenditures– when special interest spending continuesunabated and most of the public investmentprograms that support economic growth fallinto this category of expenditures?

7. Forgo additional personal tax cuts, or evenraise taxes – when the political commitmentto further tax reduction appears determinedand long-term tax cuts are advertised as themeans to accelerate short-term growth?

25

Chapter 4: Budget Policies for Growth

Chapter 4

Budget Policies for Growth

It is hardly surprising that the effectiveresponse to the question “what gives?” is usually“none of the above.” Similarly, when confront-ed with such unpalatable choices and theirpolitical implications, the response to the ques-tion of when a major course correction must bemade is: “Later.” Perhaps we will grow our wayout of the deficit; or the terrorist threat willabate; or peace will break out in the MiddleEast; or medical costs will stop rising.

CED has very different answers to boththese questions.

CAN WE “GROW OUR WAY OUT” OFTHE LONG TERM DEFICITS?

Those who resist the need to change our fis-cal direction sometimes argue that, because ourlarge deficits in 2002-2004 are due in significantpart to the recent recession, economic growth(aided by the growth-enhancing effects of taxcuts) will raise enough revenues to solve “thedeficit problem.”

Some holding this view argue that full recov-ery from the recent recession will take care ofthe deficit. The optimistic CBO projections–without any further tax cuts– show the budgetmoving back into balance by 2008, several yearsafter the recovery has been completed.However, as Chapter 2 indicates, it appearsmuch more likely that budget policies will leaveus with significant and growing deficits at theend of this decade even after we gain the addi-tional revenues produced by a “full employ-ment” economy. The inevitable uncertainty sur-rounding the projections leaves room for eitheroutcome.

But differences in projections for the nextdecade have relatively minor implications forthe problem of long-term deficits. There aretwo reasons for this. First, the rapid accelera-tion of spending that will accompany an agingpopulation begins only at the end of thedecade, after which the problem becomes muchworse. Second, once the economy has recov-ered, revenues will grow roughly in line with itsproductive capacity; there will be no more “rev-enue bonuses” from economic recovery. So the

critical question is whether tax cuts will havelong-term “supply-side” effects on productivecapacity that outweigh the negative effects pro-duced by the larger deficits they entail.Economic studies of these conflicting effectsindicate that, while lower marginal tax rates doincrease work and saving incentives for someindividuals, the positive effects of these incen-tives are relatively modest and in the long termwill be more than offset by the growth-reducingeffects of the larger deficits they create.1

Another way to gauge the likelihood of“growing our way out of the deficit” is to askhow much faster the economy would have togrow to eliminate the long-term budget deficit.The simple long-term growth model describedin Chapter 3 can be used to make such an esti-mate. We increased economic growth in themodel by assuming more rapid increases intotal factor productivity while tax revenuesremained the same share of the economy (withno additional tax cuts) and program expendi-tures remained at their baseline levels, apartfrom the automatic rise in Social Security bene-fits that reflects higher wages. Even under suchvery conservative assumptions, the rate of pro-ductivity growth would have to be about 50 per-cent higher just to bring the budget into bal-ance by the mid-21st century – and deficitswould still be rising for about the next thirtyyears. We know of no reputable analysis findingthat tax cuts would raise long-term productivitygrowth by anything close to 50 percent. And,even then, we doubt that those who believegrowth to be a sufficient prescription to our fis-cal problem have a fifty-year time frame inmind. Unfortunately, therefore, higher growthwill not appear like manna from heaven. It willrequire pro-growth policies. And these willrequire sacrifice and some very difficult choices.

WHAT GIVES? PRINCIPLES FOR FISCALPOLICY CHOICES

We do not deny the difficulty of the choiceswe face, but we do insist that we must makethem, however unpalatable. It is far better thatwe make them carefully and deliberately rather


26

than in the crisis atmosphere that may ensue ifwe leave them unattended.

We do not offer a set of detailed budget pro-posals in this policy statement. However, we dodescribe below some recommended directionsfor major long-term policy changes that webelieve would significantly alter our fiscal courseand improve prospects for the economic future.Those recommendations are grounded in fiveprinciples that we believe should inform anylong-term fiscal policy program.

1. Any tenable budget program must addressthe budget deficit on every front, including both com-prehensive spending reductions and alternative oradditional revenues. The very fact that our budg-et policy options are so unpalatable suggestsone principle for addressing the problem.Since there appear to be no large “low-priority”targets that could bear most of the weight ofretrenchment, restraint must be imposed on awide front, involving all of the broad areas listedabove. (At a programmatic level, of course, dis-criminating choices must be made, as notedbelow.) A broad imposition of restraint will alsocontribute to the sense of “shared sacrifice” thatwe believe will be essential to achieve a responsi-ble long term program.

2. Do no harm. The first step in climbingout of a hole is to stop digging. Given the greatcontingent dangers as well as the enormous pre-dictable costs that lie ahead, our current fiscalcourse of “business as usual” is indefensible.Since the 2001 tax cut was enacted, the trajecto-ry of federal expenditures over this decade,excluding proposed additions to the defense andhomeland security budgets and the possiblecosts of war, has risen by about 2.2 percent ofGDP ($340 billion in 2010). The longer termtrajectory of spending and revenues entails ever-expanding entitlement spending and deficitsthat imply a massive “fiscal gap” (or actuarialshortfall) of about 5 percent of GDP as noted inChapter 3.2 We must begin to adapt today’s“short-term” fiscal decisions to these realities.Recent and pending proposals by theAdministration and decisions by the Congressshould be reexamined in this longer-term con-text. We believe it is simply not responsible (for

example) to adopt agriculture subsidy and relieflegislation that is largely divorced from need ordamages incurred; to continue military systemsaddressed to the Cold War rather than our newnational security needs; to add prescriptiondrug benefits to Medicare without adoptingchanges to improve the overall efficiency of theprogram; or to enact additional tax cuts, even ifthey have some economic merit, without takinginto account our fiscal problem.

3. Make long-term budgetary balance and eco-nomic growth explicit policy goals. As budget pres-sures grow, there is a grave danger that othergoals will preempt fiscal balance and growth.National and homeland security costs haveincreased dramatically; retiree pension benefitsand health care costs are rising inexorably; andtax reductions have become the dominant fea-ture of budget policy. Little attention is nowgiven to future deficits. Indeed, the argumentthat “deficits don’t matter” has now resurfaced,after a twenty-year period in which Congressworked on a bipartisan basis to reduce them.

Without long-term fiscal policy goals, U.S.budget policy is adrift without an anchor.Without an anchor, our budget policy will bedriven by the political winds. And the politicalsystem will reward budget decisions that pro-duce quick benefits and defer costs. It is essen-tial that a recognition of the very large long-term costs that loom ahead inform our decisionmaking.

4. Give pro-growth policies higher priority. Wemust avoid budget cuts that reduce public invest-ments in favor of today’s consumption. As thebudget deficit grows, there will be great pressureto reduce expenditures that are “controllable”and “deferrable,” given the difficulty of reducing“uncontrollable” entitlement programs with verylarge and politically powerful constituencies. Asa result, a disproportionate burden of fiscalrestraint is likely to fall on annually appropriatedprograms, including education and training pro-grams that build human capital, research anddevelopment programs that advance knowledge,and infrastructure investments that support theprivate sector. A pro-growth fiscal policyrequires different priorities.

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5. Distribute the costs of pro-growth policiesequitably. A fiscal program for long-term growthinevitably requires some reduction in currentprivate or public consumption to provide theresources for investment. The mechanism forthis reallocation is fiscal restraint – lower budgetexpenditures and/or less tax reduction. Whoshould bear these costs? We believe, as a gener-al matter of “horizontal equity,” that programswith widely shared benefits are preferable tothose with benefits tailored narrowly to fewrecipients; and, as a matter of “vertical equity,”that the costs of fiscal restraint should not beplaced disproportionately on low-income fami-lies with little political voice. As former OMBDirector David Stockman said, in a different erabut similar context, we should resist weakclaims, not weak claimants.3

COORDINATING LONG- AND SHORT-TERM POLICIES: DO WE NEED MOREFISCAL STIMULUS?

It is essential to distinguish between short-term and long-term considerations in consider-ing the timing of policy change.

We believe that we must begin immediately,in the 2004 budget, to deal with the explosionof the long-term deficit. We hold this view forthree principal reasons: First, increasing futureproductive capacity by adding annual incre-ments to our stocks of physical, human, andknowledge capital takes time; the laws of com-pound interest are generous in the longer term,but the fruits of investment do not ripenovernight. Second, the longer we wait to makebudget corrections, the larger, more economi-cally and socially disruptive, and more politicallydifficult, those corrections will be. For instance,the changes in Social Security benefits or taxesrequired to restore 75-year actuarial balancewould have to be about 25 percent larger ifmade in 2014 rather than in 2004.4 Finally, wecandidly recognize that, in practice, adoptingpolicies to change our long-term budget coursewill take time. (It took approximately 15painful years, from 1982 to 1997, to restore

budget balance after our last experience withlarge and potentially exploding deficits.)Because a shift towards budget restraint will benecessarily lengthy, we would be well advised tobegin now.

However, this does not mean that a morerestrictive short-term fiscal policy should beadopted for 2003 or 2004. We recognize thatthe U.S. economy is undergoing a slow and rela-tively “jobless” recovery, in which continuinglarge productivity gains are curtailing thedemand for labor, and business investmentremains weak in the shadow of geopoliticaluncertainty and the excess capacity created dur-ing the euphoria of the late 1990’s boom.Under these circumstances, policies to reducetotal public and/or private spending this yearand next would be unwise, since they risk fur-ther weakening the recovery.

How, then, should we balance these shortand long-run concerns? Immediately after theterrorist attacks in September 2001, as the busi-ness recession was gathering force, CED recom-mended a program of short-term and temporaryfiscal stimulus.5 That, however, was sixteenmonths ago. A modest stimulus program wassubsequently adopted, and economic activityhas now been increasing gradually for aboutone year. CED believes that a more expansivefiscal policy at present would be unnecessaryand imprudent. We hold this view for three rea-sons:

1. Unless a war produces a significant shockto the economy, the recovery should accelerateas uncertainty declines, excess capacity falls, andthe Federal Reserve maintains the monetaryeasing initiated in 2001. Recent fiscal policy hasbeen very expansive. From 2001 to 2002, the“high employment” budget became more stimu-lative by $233 billion (2.3 percent of GDP);* theeconomy has received total stimulus as large orlarger than the losses in output it has experi-enced during the downturn.6 In addition “sup-plementary” spending on military and home-land security, war, and reconstruction is likely to


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* The change in the “high employment” (or “standardized-budg-et”) surplus or deficit is a widely accepted measure of the fiscalstimulus produced by changes in budget policies.

raise 2003-2004 federal expenditures well abovecurrently budgeted levels.

2. Even if additional immediate and tempo-rary economic stimulus were needed, the U.S.legislative process virtually guarantees that anyfiscal program will be delayed in its enactmentand implementation. Significant economiceffects from policy changes considered in thenext few months are unlikely to appear before2004, when the economy is likely to be strongerthan today. Such counterproductive timing lagshave been typical of U.S. fiscal policy.

3. Most important, the current policy envi-ronment suggests that any significant stimulusprogram is likely to damage our long-term fiscalposition and undermine our growth objectives.CED strongly opposes any short-term stimulusprogram that is not combined with a plan torestore longer-term budget balance. We arespecifically concerned that the Jobs and GrowthPackage proposed by the Administration, whichwould raise the cumulative 2004-2013 deficit byabout $920 billion (including interest) and raisethe annual deficit ten years from now by about$100 billion, does not meet this test. 7

As noted below, our objection to these pro-posals is not directed at their merits as tax poli-cy, but at their destructive long-term fiscalimpact. There is a coherent argument, forexample, for eliminating the double-taxation ofdividends at the corporate level, and expertobservers from a variety of political perspectiveshave pressed for tax simplification. Our view,however, is that the revenue losses generated bysuch policies must be offset by other revenueincreases that would allow us to improve theefficiency of the tax system without worseninglong-term fiscal problems.

RECOMMENDED DIRECTIONS FORPOLICY

Provide a Framework for Long-TermBudgetary Decision Making

As noted in Chapter 2, the Congressionalbudget process effectively self-destructed after

fiscal year 1998. In some succeeding years nobudget resolution was adopted; in others, reso-lutions were honored more in the breach thanobservance; and in many instances they wererendered ineffective by unrealistic spending tar-gets and estimates. Perhaps more important,appropriation bills have been repeatedlydelayed and sometimes never completed, givingrise to “omnibus” ad hoc spending legislationthat greatly impedes rational planning both bypublic agencies and private recipients of gov-ernment funds. Such legislation also providesfertile ground for narrow, self-interested spend-ing projects. In addition, the legislated budgetcontrol mechanisms limiting discretionaryspending, entitlement expansion, and tax cutshave now expired. While these mechanismscreated by the 1990 Budget Enforcement Act(BEA) were imperfect, they had bipartisan sup-port and worked reasonably well in the earlyand mid-1990’s to structure and enforce budgetdecisions. Budget decisions are now adrift,without fiscal goals to anchor them or enforce-able rules to discipline them.

CED believes it is urgent to implement a dis-ciplined budget process that can address thelong-term fiscal issues that face us. First,Congress must restore rationality to the appro-priations process. Second, we should imple-ment annual joint budget resolutions, agreed toby the Congress and the President and enactedinto law, that anticipate, precede, and control allspending and tax legislation. Finally, to enforcethe budget decisions of the joint resolution, weshould restore caps on discretionary spendingand the requirement that changes in tax andentitlement programs be “deficit-neutral.” Wecommend the Administration for includingthese proposals for budget process reform in its2004 budget.

In addition to an effective process for deci-sion making, rational budgeting today requiresgoals that are consistent with long-term growth.We recognize the importance of maintainingflexibility in fiscal policy and the ineffectivenessand futility of setting deficit targets independ-ent of economic conditions, as attempted in thelate 1980s and proposed in legislation requiring

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annual balanced budgets.8 But it is essentialthat fiscal policy be “anchored in the long runby the need to preserve overall national savingand prevent explosive growth in governmentdebt,” as recently stated by Federal ReserveGovernor Edward Gramlich.9

We make two recommendations to encour-age this long-term anchoring of fiscal policy:

(1) The President and Congress shouldestablish a goal of balancing the budget (or pro-ducing a surplus) excluding the “off-budget” SocialSecurity accounts over a rolling five-year horizon.The joint budget resolution should make clearhow the budget policies of the resolution wouldpromote this goal. We recognize that we cannotimmediately move to a balanced budget, giventhe fiscal hole we are now in. While a five-yearhorizon is hardly long-term, this policy wouldhave the effect of inhibiting near term fiscalpolicy from “digging the hole deeper” and jeop-ardizing long-run growth. During a brief peri-od in the late 1990’s, before the budget processbroke down, there appeared to be a bipartisanconsensus for such a policy target. The exclu-sion of the Social Security surplus from the cal-culation of the deficit would, in effect, allowthose resources to be channeled, through debtreduction, into national saving and investmentfor growth rather than used to finance currentexpenditures.† This would create a larger econ-omy in future decades, when the Social Securitybill must be paid.

(2) The joint budget resolution should alsoprovide statistical measures of long-term fiscalbalance (such as the “fiscal gap” and unfundedgovernment liabilities) and explain how thepolicies of the resolution would affect thosemeasures and future levels of taxes or publicdebt. Simple cash-flow calculations of revenues,expenditures, and the deficit—even taken overa period of ten years—provide notoriously inad-equate and misleading measures of long-termfiscal balance and the sustainability of current

fiscal policy. As noted in Chapter 2, our currentbudget policies imply a “fiscal gap” over the life-time of an American born today of about 5 per-cent of GDP, and unfunded federal governmentobligations of about $20 trillion, which are notrevealed by cash-flow accounting. In addition,this accounting leads to immediate budgetarydeceptions such as enacting tax cuts that are tobe “temporary” for ten years and made “perma-nent” later.

Ideally, our budget decisions would be con-strained by the forward-looking measures werecommend, and this may be an appropriatelong-term objective.10 However, even if it ispolitically impractical at this time to formallyconstrain budget decisions with such measures,the information they provide should be avail-able to inform such decisions. That informa-tion should become politically more salient aspublic awareness of our long-term budget prob-lems increases. Such information might makeus think twice, for example, before adoptingnew tax incentives for personal saving that raiserevenues slightly today but lose enormousamounts of revenue indefinitely into the future,despite our desire to increase the personal sav-ing rate.

A budget process issue that has recentlycaused considerable controversy is that of“dynamic scoring” – that is, attempting to incor-porate in budget estimates the full effects of taxand spending policy changes on the macro-economy.* As a theoretical matter, of course,dynamic scoring is an appropriate procedure;no one would deny that changes in tax rates, orin the design of many public spending pro-grams, have such effects, and they should logi-cally be reflected in the estimates. However, asa practical matter, dynamic scoring is extremelyproblematic, as noted by the recent Director ofthe Congressional Budget Office, Dan L.Crippen, who has testified that CBO “couldnot…include those macroeconomic effects in auseful and credible way.”11 First, such effectsare extremely sensitive to future fiscal and mon-etary policy decisions, which cannot be predict-


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† CED first recommended such a policy in 1947 when it proposeda budget balanced over the business cycle rather than annually,the widely accepted fiscally conservative target. The proposalhere effectively adapts that proposal to current demographicconditions. *See memorandum by CHARLES E.M. KOLB. (page 40).

ed. Second, the size—and even direction—ofsuch effects are highly uncertain; different mod-els and assumptions produce very differentresults. But the most important problem is thatthe application of dynamic scoring wouldinevitably be extremely political, since the high-ly controversial estimates of these “dynamic”effects would directly affect the fate of legisla-tive proposals operating under meaningfulbudget constraints, such as those we recom-mend. We acknowledge that informational andexperimental estimates by CBO and the Officeof Management and Budget (OMB), based on avariety of models and assumptions, might beuseful to policymakers. But we believe thatdynamic scoring of CBO’s official cost estimateswould inevitably inject politics deep into whatshould be an expert, non-political estimatingprocess and greatly damage the credibility andreputation of CBO. We therefore oppose theuse of dynamic scoring for official CBO costestimates of policy proposals.

Reform Major Entitlement Programs

As shown in Chapter 2, the anticipatedrapid growth of public pension and health carebenefits for the elderly will dramatically raisefederal spending and budget deficits, reducingnational saving and private investment whilecrowding out public investments in the budget.In addition, these programs threaten to be gen-erationally inequitable, in that they will transferenormous resources from future workers tobaby boom retirees. The demographic transi-tion will make a substantial transfer of resourcesto older Americans appropriate and inevitable,but we must carefully reexamine the design ofthese programs to ensure they are consistentwith our larger social objectives.

Social Security The Social Security systemcannot meet its future legal obligations andmust be reformed. Under current projections,the trust fund’s surplus of contributions overbenefits will peak at the end of this decade,then begin to fall, and vanish in 2017. Afterthis, the trust fund will be drawn down, and fullscheduled benefits can only be paid until it is

exhausted in 2041.12

But the trust fund accounting device givesthe mistaken misimpression that the crisis willnot occur for many decades. As an economicmatter, the trust fund is essentially irrelevant; therelevant measure is the difference between thepublic’s contributions to and withdrawals fromthe federal Treasury. As soon as this differencebegins to narrow–in about 2011–the capacity ofSocial Security to offset deficits in the rest of theunified budget will begin to fall, making theoverall deficit, and Treasury’s financing needs,larger.13 This deterioration will then simplyaccelerate when the trust fund actually beginsto pay out more than it takes in, causing theTreasury to sell trust fund securities for cash.The effects of Social Security on the financialmarkets, and pressures for “crowding out” pri-vate investment, will therefore begin to increasearound the end of this decade. In fact, sucheffects may be reflected even earlier, as suchincreases in the government’s financing needsare anticipated in the marketplace.

Proposals have been made to allow theSocial Security to purchase private equitiesinstead of Treasury debt, or to allow individualsto do so through private accounts, or to infusemore general revenues into the system.However, such reforms often do little to addressthe economic problem underlying SocialSecurity’s financing dilemma—that we havecommitted ourselves to very large increases inpublic consumption without ensuring that wehave additional resources to provide them,which can become available only through eco-nomic growth.

In Fixing Social Security (1997), CED propos-es reforms that address the financial solvencyof the current system, its generationalinequities, and the need for national saving.14

We recommend a two-tier system: the currentbasic system, with its benefit structure modifiedto ensure its solvency, supplemented by a sec-ond tier of privately owned Personal RetirementAccounts that would raise returns to futureretirees. The plan is described in Box 1: CED’sProposal to Reform Social Security.

Medicare and Medicaid Increasing health

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BOX 1CED's Proposal to Reform Social Security

The CED plan for reforming Social Security would preserve the current basic system butmodify its structure to restore solvency and increase national saving. In addition, it would giveworkers the opportunity to earn higher investment returns by establishing a "second tier" of privately owned Personal Retirement Accounts.

The changes in the basic system, to be phased-in gradually, would include:

• The initial benefit levels of upper- and middle-income workers, which currently rise withwages, would increase more slowly (but continue to rise in real terms).

• The normal retirement age (NRA), currently 65 years, would gradually increase to 70 overa period over 30 years and be indexed to life expectancy thereafter. (The NRA is currently scheduled to rise to 67 between 2003 and 2026.)

• The early retirement age, currently 62 years, would be increased to 65 over this 30 yearperiod and subsequently similarly indexed.

• The years of covered employment included in the calculation of initial benefits would begradually increased from 35 to 40.

• Benefits from the basic program in excess of contributions made by the worker would betaxed, with the additional revenues to be deposited in the Social Security trust funds.

• A reduction in benefits for nonworking spouses from one-half to one-third of the worker's benefit would be phased-in gradually to improve equity between working andnon-working spouses.

• To make coverage universal, all new state and local government employees would berequired to participate and current employees could choose to participate.

CED also proposes the creation of privately owned, personal retirement accounts (PRAs):

• Both employers and employees would be required to contribute 1.5 percent of payroll toprivately owned personal retirement accounts. (The self-employed would contribute 3percent.) These mandatory accounts would receive preferential tax treatment similar to401(k) plans and would be subject to appropriate fiduciary regulations, including arequirement that accumulated funds be preserved for retirement. The Federal ThriftSavings Plan provides a general model for these accounts.

Source: Committee for Economic Development (CED), Fixing Social Security, (Washington, D.C.: CED, 1997); CED,New Opportunities for Older Workers, (Washington, D.C.: CED, 1999).

care expenditures by the elderly are the mostdramatic example of the consumption changesexpected in an aging society. But it is essentialthat we view this problem in its appropriate con-text, given that so much discussion focuses onthe “burdens” involved in these expenditures.The 20th century saw enormous improvements inthe quality of life, and in some cases longevity,for many elderly. It has been estimated thatimprovements in the health status of the popula-tion during the 20th century made as large a con-tribution to economic welfare as all other con-sumption increases combined.15 Health care ishighly valued by the American public, and it isentirely appropriate that we devote an increas-ing proportion of national income and outputto it as the society grows more affluent and newtechnology improves possibilities for treatment.

Notwithstanding these considerations, how-ever, it is clear that the U.S. health care systemis unsustainable and that overuse, underuse,and misuse of health care services produce bothadverse medical outcomes and unnecessarycosts, as we argued in A New Vision for HealthCare: A Leadership Role for Business (2002). Thehealth care industry, while making dramatictechnological advances in diagnosis and treat-ment, is extremely inefficient in delivering care,and patients have little stake in costs and insuffi-cient awareness of wide differences in providerquality.16 The U.S. now spends twice as muchon health care, per capita, as other nations withequal life expectancies. We do not claim to knowthe “right” proportion of our national income thatshould be spent on health care in the future, but wefirmly believe the resources we do provide should leadto higher quality and more cost-efficient care.

A major source of unnecessarily high costs ofhealth care is the lack of incentives to seek high-er quality and lower costs on the part of bothproviders and purchasers of care. Our recom-mendations for improving those incentives forbusinesses and other private purchasers of careare detailed in our earlier report and need notbe repeated here. But public purchasers such asMedicare (the largest purchaser of health care)and some state governments are ineffective pur-chasers of care. Fee-for-service Medicare is

required by law to be a passive payer of providers’bills and has no authority to reward providers ofhigh quality and effectively managed care. Whilethe Center for Medicare and Medicaid Services(CMS) has begun to make information on qualityof care available to Medicare enrollees, the pro-gram lacks financial incentives to select the bestperforming providers.

We therefore reiterate our earlier recom-mendation that Medicare be restructured alongthe lines of the Federal Employee HealthBenefit Program (FEHBP). FEHBP, a highlysuccessful plan covering nine million federalworkers and their dependents, has adopted adefined contribution model that creates incen-tives for workers to select cost-effective healthplans with affordable employee contributions.We caution, however, that even with reforms inMedicare that improve its efficiency, we areunlikely to face long-term costs that greatlyreduce the long-term costs currently projected.Indeed, the Administration roughly estimatesthat its “Medicare Modernization,” includingboth prescription drug coverage and cost-reduc-ing reforms, will add $400 billion to Medicarecosts over the next decade.

Many states have developed for their publicemployees, and in some cases for Medicaidenrollees, health care programs similar toFEHBP, with contribution structures thatencourage choices based on appraisals of quali-ty and cost. CED also urges states that have notadopted such programs to do so as a means ofimproving both the quality of health care andthe efficiency of its delivery.

While our recommendations here focus onpublic expenditures for health care, we notethat, as in the case of Social Security, the funda-mental economic issue facing our society is notthe financing of these particular programs, butthe total resources used in meeting the healthcare needs of the entire population in thefuture. For this reason, CED’s recent recom-mendations for improving the quality and effi-ciency of all health care services are most rele-vant to our concerns here about the future wellbeing of our society. These recommendationsare detailed in Box 2.

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BOX 2CED’s Vision for Health Care

CED’s policy statement, A New Vision for Health Care: A Leadership Role for Business (2002) pro-posed policies through which private employers and the government, as the principal purchasers ofhealth care, could improve its efficiency and quality. The plan does not address every aspect ofAmerica’s burgeoning health care crisis. Nevertheless, the adoption of certain of its recommenda-tions would help slow the unsustainable growth of health care costs that is a central element in ourlong-term budget problem.

Private employers can change their purchasing practices in ways that would enhance cost disci-pline and quality by:

• Demanding transparent quality information and adherence to best medical practices;using comparative performance information to select plans and providers; and incorporat-ing accountability for cost and quality into contract specifications;

• Offering wide, responsible health plan choices to employees in exchange for their greaterfinancial responsibility;

• Working actively with physicians and hospitals to improve quality, building on thestrengths of managed care; and

• Working with public purchasers and organized labor to strengthen the drive for reform.

The federal government, as purchaser, lawmaker, and regulator of health care can address theproblems of high cost and uneven quality by:

• Restructuring Medicare on the model of the Federal Employee Health Benefit Program;

• Capping the currently open-ended federal tax exclusion of employer contributions to pro-mote cost discipline and equity; this could also provide some funding for policies toexpand access;

• Enacting responsible patients’ rights legislation that protects patients against unwarranteddelays or denials of care, without prohibiting payments mechanisms that reward appropri-ate and effective standards of care or exposing businesses to unlimited litigation costs.

• Addressing the most pressing quality problems – lack of patient safety and widespreaddelivery of inappropriate services – by expanding research, serving as a clearinghouse forinformation on quality, and helping to establish national standards of care;

• Establishing oversight to promote competition in health insurance markets; and

• Strengthening initiatives to reduce fraud and abuse in Medicare and Medicaid.

Source: Committee for Economic Development (CED), A New Vision for Health Care: A Leadership Role for Business,(Washington, D.C.: CED, 2002).

National and Homeland SecurityExpenditures

The terrorist attacks of September 2001have inevitably raised both federal and state andlocal government expenditures on public healthand safety, and the expanded U.S. internationalrole that has emerged since then has produceda sharp increase in current and planned mili-tary expenditures. As we argued shortly afterthe attacks, while a significant reallocation ofpublic resources is undoubtedly necessary todeal with these new responsibilities, “we mustnot let these security concerns eclipse the needfor sound economic policies, both domestic andinternational. In the long term, the health ofour economy will largely determine the well-being of our society, including our capacity toprovide safety and security.”17

In the current environment, there is a temp-tation to assume that budget constraints are nolonger operative where security is concernedand that we must “spend whatever it takes.”However, quite the opposite is true – reconcil-ing large, immediate public needs with otherpublic goals, and with private consumption andinvestment demands, will require more strin-gent budget discipline, not less. Our policiesmust distinguish carefully between what we gen-uinely need for an adequate defense and thewish-lists of the military and its suppliers.Adequacy must be evaluated in a world whereour 2003 defense budget is larger than those ofthe next 17 nations combined, and the 2001-2002 increase in defense spending was largerthan Japan’s total 2002 defense budget, theworld’s fourth largest.18

Early in 2001, the Administration discussedrestructuring the defense budget by eliminatingor reducing programs and activities that reflect-ed outdated Cold War defense requirements. Itsuggested, therefore, skipping a generation ofexpensive weapons systems.19 However, there islittle evidence of such restructuring in the cur-rent defense budget, which appears to have“essentially reaffirmed the ClintonAdministration’s weapons modernization agen-da and force structure” at higher expenditure

levels, raising the long-term defense budget byabout $100 billion per year.20 The high costsand inefficiencies of the ongoing operationsand maintenance activities of the military alsogive us concern as business leaders. The prob-lems go well beyond the expensive continuingoperation of unnecessary military bases drivenby Congressional politics. The Tail-to-ToothCommission, a study group of the non-partisanBusiness Executives for National Security(BENS), recently reported on its review ofmajor studies of military expenditures. TheCommission found widespread and costly ineffi-ciencies in acquisition and accounting functionsas well as in “non-military” activities such as theprovision of housing, and made numerous rec-ommendations for improving efficiency.Specifically, the Commission noted that twentyyears ago, two-thirds of the defense budget wasdevoted to military combat capability (“tooth”)and one-third to overhead and indirect supportexpenditures (“tail”); today, the proportions arereversed.

We claim no special expertise on nationalsecurity needs, but given the fiscal outlook webelieve that the claims of respected defense ana-lysts that we could secure a more effectivedefense capability for $50 billion less than the$500 billion per year now projected for the endof the decade deserve serious examination.21

But, whatever the level of spending, the defensebudget must be cost-effective and focusedsharply on our new national security situation.We urge the Administration and the Congress torapidly establish national defense priorities andprogram reforms to accomplish this.

With respect to homeland security, it is evi-dent that spending should and will rise substan-tially over time as we develop greater capabilityto protect against and respond to terroristattacks. Here again, however, it is essential thatwe prioritize, even though it is politically verydifficult to do so. We cannot protect against alleventualities. Some attacks are more likely thanothers, some are potentially far more damagingthan others, and we must choose. In makingthese choices, we should also remember thatthe benefits of stronger homeland security

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often involve higher costs to the economy aswell as to the budget.

Decision making for homeland security maybe especially problematic, since it will be princi-pally the responsibility of the new Departmentof Homeland Security, which is attempting tocombine many previous federal departmentsand agencies, with very different missions, intoa single effective organization. (The newDepartment will handle about two-thirds of totalhomeland security spending.) It will be very dif-ficult, at least initially, for such an organizationto set priorities that appropriately reflect theoverall security situation rather than the variousmissions of the former agencies. This will cre-ate strong pressures to increase the budget tocover more contingencies. An additional budg-etary problem will arise because of the difficul-ties in preventing duplication of functions andpersonnel, in spite of the additional managerialflexibility provided for the new Department.For all these reasons, we believe that homelandsecurity expenditures will require special atten-tion and scrutiny in the next few years, and weurge the Administration and Congress to pro-vide this.

Finally, should another terrorist attack bemade in the United States, it is likely that, onceagain, those responding to it will not be prima-rily federally-trained experts or the armed serv-ices, but local police, fire, and other person-nel.22 These community forces are the frontline in our national battle against terror, andthe federal government must ensure that theyhave the resources needed to do the job.

Non-Security Discretionary Spending

Given the political difficulties in reducingexpenditures on “permanently” funded entitle-ment programs in comparison with programsfunded with annual appropriations, it is not sur-prising that the latter have been the favored tar-gets for controlling federal expenditures. Thelast quarter-century has seen an inexorable“crowding out” of discretionary spending byentitlement programs, which have expandedfrom about 51 percent of total non-interest fed-

eral expenditures in the late 1970s to 62 per-cent in 2002, while discretionary spending hasfallen commensurately from about 49 percentto 38 percent. Most of this decline, however,has occurred in defense discretionary spending,which has experienced a decades-long declinerelative to the total budget and the size of theeconomy. Since the 1960s, defense spendinghas fallen from about 8.5 to 3.5 percent of GDP.By comparison, non-defense discretionaryspending in relation to the budget and theeconomy is roughly the same as it was 40 yearsago. Defense spending obviously cannot contin-ue to fall at this rate relative to GDP in thefuture, so either the growth of non-defense dis-cretionary spending relative to GDP must fall orthat of total discretionary spending must rise.

Clearly there are many low-priority domesticdiscretionary programs, and reductions in themhave been entirely appropriate. (Indeed, it isunfortunate that so few have actually been elim-inated.) We hold no brief for protecting theseprograms in general, and especially the politi-cally “ear-marked” spending that rewards nar-row interests. We can and should bring the rateof growth of non-security discretionary spend-ing below its historical level and far below the 9percent growth of the past three years.Although the Administration sought to restrainsuch growth, the enacted omnibus 2003 appro-priations bill has raised discretionary spendingabout $12 billion above the level earlier agreedto by the President and the Congressionalmajority leadership. The untimely and chaoticprocess of enacting 2003 appropriations hasdramatically demonstrated the need for thestrong process reforms we propose, and the his-tory of this ad hoc legislation increases our con-cern that insufficient discrimination will bemade between effective and ineffective pro-grams. As budgetary pressures grow in thefuture, it will be more difficult to sustain invest-ment programs that support economic growth.Two areas of investment cause us particular con-cern—public education and research and devel-opment.

CED has long advocated both reforms andincreased investments in public education, espe-


36

cially in improving poorly performing schoolsin many low-income communities, and in mov-ing towards universal pre-school.23 We mustimprove the achievement of children attendinglow-performing schools both to support eco-nomic growth and to promote equal opportuni-ty. We have argued that improvements in learn-ing will require more attention to, and account-ability for, educational outcomes, and for thatreason have supported federal legislation andstate initiatives designed to do this. But we havealso noted the serious difficulties likely to arisein implementing such accountability meas-ures.24 We are now at a critical juncture inthese reform efforts. The states have beengiven a task of raising the achievement testscores of all students, which would be enor-mously difficult in the best of circumstances. Inthe circumstances they actually face, many statesand communities are ill-prepared to meet thesegoals, and the fiscal crises facing most states willseverely limit the resources they can draw uponto do so. We believe that education reform istoo important to be allowed to fail; the federalgovernment, which has mandated a nationaleffort, is obligated to assist the states in makingit work. We urge the Administration andCongress to provide the funding needed to doso.

CED found in an earlier study that basicresearch in science and engineering has made amajor contribution to the growth of the U.S.economy. Economic returns on investments inbasic research are very high. In addition, thereturns to the nation from basic research invest-ments are substantially higher than the returnsto private firms, since advances in fundamentalknowledge tend to be widely dispersed andexploited in innovations that deliver substantialeconomic benefits over a lengthy period.25

Publicly-funded basic research is critical toprivate sector innovation. Although private indus-try conducts basic research, these efforts are pri-marily to “fill-in-the-gaps” within broader pro-grams of applied research aimed at new productdevelopment. Industry depends on the intellec-tual foundations provided by basic researchers inthe nonprofit and public sectors for innovative

products and services; 73 percent of researchpublications cited by industrial patents have beenfound to be derived from government-fundedresearch.26

Because federal support is essential fora thriving basic research enterprise, we urge theAdministration and Congress to makebasic research a high priority in the federalbudget. Funding should be provided across abroad set of research fields, without undue con-centration in medical research.

We have also found that deficiencies in sci-ence teaching in primary and secondary educa-tion threaten our future supply of outstandingyoung researchers. We will provide a series ofrecommendations in a forthcoming report toaddress this problem.27

As noted above, expenditures on discre-tionary non-defense spending have grown atabout the same rate as the economy for manyyears. We are certainly no admirers of formula-ic budgeting, and support the reduction andelimination of low-priority programs wheneverpossible. But our budgetary history suggeststhere are significant social and political limits tosuch reductions. In light of the need to contin-ue high-priority programs, and in particularpublic investments, we believe it would beimprudent to assume that domestic discre-tionary expenditures in the aggregate will growcontinuously more slowly than the economy inthe future.

Taxes*

CED has for many years, and in many policystatements, taken the position that the federalgovernment should balance its budget, averagedover years of economic strength and weakness.28

As explained in Chapter 1, we strongly believethat deficits do matter to our long term growthand prosperity. We do not believe that we shoulddeliberately run budget deficits as a means to dis-cipline spending. This has not worked in thepast and is a counsel of despair. Deliberately

37


*See memoranda by JAMES Q. RIORDAN, JOSH S.WESTON, and CHARLES E.M. KOLB (page 41).

1.Alan J. Auerbach, The Bush Tax Cut and National Saving, NBERWorking Paper 9012 (Cambridge, MA: National Bureau ofEconomic Research, June 2002); Congressional Budget Office(CBO), The Budget and Economic Outlook: Fiscal Years 2002-2011(Washington, D.C.: CBO, January 2001); William G. Gale andSamara R. Potter, “An Economic Evaluation of the EconomicGrowth and Tax Relief and Reconciliation Act of 2001,” NationalTax Journal, vol. 55, no. 1 (March 2002), pp. 33-186; Douglas W.Elmendorf and David L. Reischneider, “Short-Run Effects ofFiscal Policy with Forward-Looking Financial Markets” (2002),Prepared for the National Tax Association’s 2002 SpringSymposium; Donald Kiefer, Robert Carroll, Janet Holtzblatt,Allen Lerman, Janet McCubbin, David Richardson, and JerryTempalski. “The Economic Growth and Tax ReliefReconciliation Act of 2001: Overview and Assessment of Effectson Taxpayers.” National Tax Journal, vol. 55, no. 1 (March 2002),pp. 33-186.

2. Congressional Budget Office (CBO), The Budget and EconomicOutlook: Fiscal Years 2003-2012 (Washington, D.C.: CBO,January 2002), p.8; CBO, An Analysis of the President’s BudgetaryProposals for Fiscal Year 2003 (Washington, D.C.: CBO, March2002), p. 20; CBO, The Budget and Economic Outlook: An Update(Washington, D.C.: CBO, August 2002); CBO, The Budget and

Economic Outlook: Fiscal Years 2004-2013 (Washington, D.C.:CBO, January 2003).

3. David Stockman, The Triumph of Politics: The Inside Story of theReagan Revolution (New York: Avon Books, 1987), p. 7.

4. Committee for Economic Development (CED), Fixing SocialSecurity (Washington, D.C.: CED, 1997), p. 43.

5. CED, Economic Policy in a New Environment: Five Principles(Washington, D.C.: CED, 2001).

6. CBO, The Budget and Economic Outlook: Fiscal Years 2004-2013,Appendix Tables F-12 and F-13, pp. 159-160; Eugene Steuerle,“Do We Really Need More Stimulus?” Tax Notes, January 27,2003, pp.597-98.

7. United States Department of the Treasury, General Explanationsof the Administration’s Fiscal Year 2004 Revenue Proposals(Washington, D.C.: Department of the Treasury, 2003), p. 151;Interest cost from CBO interest matrix.

8. See, for example Balanced Budget and Emergency Deficit ControlAct of 1985, Public Law 99-177, 99th Congress, 1st Session(December 12, 1985); Proposing a Balanced Budget Amendment tothe Constitution of the United States, 104th Cong., 1st Sess., H.J.Res. 1.

Endnotes

hamstringing future Congressional decision mak-ing cannot be good public policy; Congressshould, and can, budget effectively with the deci-sion making framework described above.

We believe that additional reductions in fed-eral revenues would be inconsistent with the goalof long-term budgetary balance. The analysis inChapters 2 and 3 shows that realistic projectionsof federal expenditures and revenues, especiallywhen combined with further tax reductions, pro-duce deficits that grow significantly during thecoming decade and explode thereafter.

Of course, if extremely large spendingreductions could be made—in the face of thedemographic, social, and political facts and ourescalating security requirements—we couldafford to reduce revenues further, at least in themedium term. However, after reviewing thesize of our long-term fiscal imbalance and thebroad possibilities for spending reductions inSocial Security, Medicare, national defense,homeland security, and other domestic pro-grams, CED believes it extremely unlikely that thelong-term budget problem can be solved withoutadditional revenues. We therefore urge theAdministration and Congress to forego at this

time any additional tax reductions (includingthe permanent extension of EGTRRA) thatwould further reduce long-term revenues.Moreover, we should use this opportunity tobegin to explore alternative or additional long-term sources of revenue and taxation systemsthat support our long-term growth objectives.

CONCLUSION

America now stands at a fiscal crossroad.The federal government’s fiscal position look-ing out over the next decade has deterioratedto an alarming degree. At the same time, wedraw closer each day to the dramatic demo-graphic changes that will sharply increase thosefiscal difficulties, with adverse economic conse-quences, if we remain on our current course. Itis urgent that we begin to act now to adopt aprogram of policy changes, across a broad front,that address our inadequate process for makingbudget decisions and the untenable trends infederal entitlement programs, discretionaryspending, and revenues that threaten the eco-nomic future of the nation.

38

9. Edward M. Gramlich, Conducting Monetary Policy: Remarks byGovernor Edward M. Gramlich at a Joint Meeting of the NorthAmerican Economic and Finance Association and the Allied SocialScience Association (January 4, 2003), available athttp://www.federalreserve.gov/boarddocs/speech-es/2003/20030104/default.htm, accessed February 13, 2003.

10. Stephen Cecchetti, “In the Long-Term, Governments Must BeSolvent,” Financial Times, December 23, 2002, p. 17; Alan J.Auerbach, Jagadeesh Gokhale, and Laurence J. Kotlikoff,“Generational Accounting: A Meaningful Way to EvaluateFiscal Policy,” Journal of Economic Perspectives, vol. 8, no. 1(Winter 1994), pp. 73-94.

11. CBO, Federal Budget Estimating, Statement of Dan. L. Crippen,Director, Congressional Budget Office before theSubcommittee and Legislative and Budget Process, Committeeon Rules, U.S. House of Representatives (May 9, 2002), avail-able at http://www.cbo.gov/showdoc.cfm?index=3384&sequence=0, accessed February 22, 2003.

12. Board of Trustees of the Federal Old-Age and SurvivorsInsurance and Disability Insurance Trust Funds, 2002 AnnualReport of the Board of Trustees of the Federal Old-Age and SurvivorsInsurance and Disability Insurance Trust Funds (Washington, D.C.:Social Security Administration, 2002), p. 14.

13. CBO, The Budget and Economic Outlook: Fiscal Years 2004-2013,pp. 20, 21

14. CED, Fixing Social Security.

15. William D. Nordhaus, The Health of Nations: The Contribution ofImproved Health to Living Standards, Working Paper No. 8818(Cambridge, MA: National Bureau of Economic Research,2002).

16. CED, A New Vision for Health Care; A Leadership Role for Business(Washington, D.C.: CED, 2002).

17. CED, Economic Policy in a New Environment: Five Principles.

18. Center for Defense Information, “Last of the Big TimeSpenders: U.S. Military Budget Still the World’s Largest andGrowing,” (February 3, 2003), available athttp://www.cdi.org/budget/2004/world-military-spending.cfm,accessed January 16, 2003; CBO, The Budget and EconomicOutlook: Fiscal Years 2004-2013, Table 4-3, p. 81.

19. United States Senate, Committee on Armed Services, Statementof the Honorable Donald H. Rumsfeld: Prepared for the ConfirmationHearing Before the U.S. Senate Committee on Armed Services(January 11, 2001), available at http://armed-services.senate.gov/statemnt/2001/010111dr.pdf , accessedFebruary 13, 2003.

20. Michael O’Hanlon and Aaron Moburg-Jones, “The Pentagon’sBudget,” New Economy, IPPR (2002), pp. 192-198.

21. Michael O’Hanlon, “Too Big a Buck for the Bang,” TheWashington Post, January 6, 2003, p. A-15

22. U.S. Commission on National Security in the 21st Century (theHart-Rudman Commission), Report of the U.S. Commission onNational Security in the 21st Century, available athttp://www.nssg.gov/, accessed February 13, 2003.

23. CED, Investing in Our Children: Business and the Public Schools(Washington, D.C.: CED, 1985); CED, Putting Learning First:Governing and Managing the Schools for High Achievement(Washington, D.C.: CED, 1994); CED, Preschool for All: Investingin a Productive and Just Society (Washington, D.C.: CED, 2002).

24. CED, Measuring What Matters (Washington, D.C.: CED, 2001).

25. CED, America’s Basic Research: Prosperity Through Discovery(Washington, D.C.: CED, 1998).

26. Francis Narin, Kimberly S. Hamilton, and Dominic Olivastro,“The Increasing Linkage Between U.S. Technology and PublicScience,” Research Policy, vol. 26, no. 3 (1997), pp. 317-330.

27. CED, Learning for the Future: Changing the Culture of Math andScience Education to Ensure a Competitive Workforce, (Washington,D.C.: CED, forthcoming).

28. CED, Taxes and the Budget: A Program for Prosperity in a FreeEconomy (Washington, D.C.: CED, 1947); CED, RestoringProsperity: Budget Choices for Economic Growth (Washington, D.C.:CED, 1992); CED, Cut Spending First: Tax Cuts Should Be Deferredto Ensure a Balanced Budget (Washington, D.C.: CED, 1995);CED, Growth with Opportunity (Washington, D.C.: CED, 1997).

39

The Policy Statement indicates that there is areal danger that we will face significant deficits inthe coming years and reaffirms that deficits matter.The Policy Statement goes on to state: We need tocontrol the growth of federal expenditures. OurCongressional control process has broken down inrecent years, and it needs to be reestablished. Weneed to commit to raise the revenues required tobalance the budget over the economic cycle. Weneed to adopt economic and tax policies that willfacilitate economic growth. These views are vintageCED and need restating.

The Policy Statement unfortunately loses itsfocus by attempting to be timely and relevant in thecontext of the current partisan forecasting debate. Iam concerned that the Report will not have thedesired long-term policy impact because it will beviewed as just another political document.

Page 1, THOMAS J. BUCKHOLTZ.

The Recommendations (pages 2 and 3) notethemes (such as growth, deficits, and fiscal pru-dence) and programs (such as Social Security andeducation reform).

The intent to make progress regarding eachitem is laudable, but may not provide an adequateframework for capturing the broader opportunitiesand addressing the broader challenges for whicheach item provides examples.

A broader approach can focus first on desiredfuture outcomes, with categories being ones such asnational security (international and homeland), qual-ity of life (e.g., safety, freedom, education, healthcare,and retirement), the economy (e.g., internationaland domestic commerce), and infrastructure (e.g.,environment, energy, information technology, andtransportation). People can formulate, debate, andadvance principles, visions, or goals for the entire col-lection of categories, individual categories, and partsof categories. From there, the country can formulateand implement programs or program modifications

that reasonably balance estimated future needs, esti-mated future resources (including government rev-enues), and past commitments. Programs canbecome simpler, with leadership being more clearlyrooted in appropriate entities in the private sector orone or more levels of government.

For example, absent such an approach theSocial Security retirement program remains a pastand continuing commitment for which debatepotentially overly centers not on needs of people orpurposes of the program but instead on maintainingor altering formulas that are rooted in decades-oldassumptions. Which such an approach, Americansociety has a better basis for providing services – per-haps focused on quality of life – aimed at meetingindividuals’ and society’s future needs and at honor-ing past and future contributions.

An outcome of such an effort can be clearer-pur-posed, simpler governance. The steps to achievingsuch can catalyze beneficial public involvement insetting policies.

Page 30, CHARLES E.M. KOLB.

As to the practicality of dynamic scoring, I ammore optimistic that such an approach can be triedwithout injecting undue “political” influence on theintegrity of the Congressional Budget Office’s officialcost estimates. We know that the traditional “static”scoring process does not capture the complete macro-economic effects, or incentive effects, of changes intax and spending policies. An effort to identify sucheffects through a dynamic analysis that is fully trans-parent in terms of its underlying assumptions is worthimplementing. A dynamic “analysis” – to be distin-guished from dynamic “scoring” which produces asingle number as the projected cost of a particularbill – would present a range of estimates that would,on balance, be more informative to the Congressthan a single number based on “static” scoring.

Page 37, JAMES Q. RIORDAN, with which PETER A.BENOLIEL has asked to be associated.

The weakest part of the Policy Statement is itsdiscussion of tax policy. CED has made clear that our

40

Memoranda of Comment, Reservation, or Dissent

Page 1, JAMES Q. RIORDAN, with whichTHOMAS J. BUCKHOLTZ has asked to beassociated.

current social security and health care systems arenot sustainable and must be reformed. We should beequally clear that our current tax system is not sus-tainable and must be reformed.

At tax system must raise revenues needed to bal-ance the budget over the economic cycle and mustdo it in ways that facilitate economic growth. At aminimum, this means that the tax system must beless complicated and less biased against saving.Furthermore, as stated by Federal Reserve BoardChairman Alan Greenspan, it will be self-defeating ifit attempts to commandeer too much of the nationaleconomy. Admittedly, these objectives are easier tostate than to achieve. Unfortunately, they will not beachieved by the proposals of the RepublicanAdministration; the Democratic congressional lead-ership; or the tax proposals in this CED report.

We need a thoughtful, comprehensive approachto reforming the tax system for the long term. Ihope that CED will soon take the lead in that effortas it has attempted to do in the case of the SocialSecurity and health care systems.

Page 37, JOSH S. WESTON, with which PETER A. BENOLIEL, T.J. DERMOT DUNPHY, andROCCO C. SICILIANO have asked to be associated.

The prospect of huge, ongoing deficits shouldlead us to reconsider previous proposals for anincreased gas (motor fuel) tax. The case is com-pelling.

Federal Deficits – Each penny per gallon tax isworth one billion dollars in extra annual rev-enue. (The gas tax in most European countriesis almost two dollars per gallon higher thanours.)

Dependence on Middle East Oil – The U.S.depends greatly upon the Middle East. This cre-ates a huge unfavorable national security costplus constraints on foreign policy, while holdingour security and economy hostage to foreign dis-ruptions. (60 percent of our oil comes fromabroad.)

Unfavorable Trade Balance – We had a $435 bil-lion trade deficit in 2002, much due to oilimports. It is draining our capital. A gas taxwould indirectly discourage oil imports.

The Need for Cleaner Air – Reduced gas con-sumption can improve air quality and climate

concerns. It would also help narrow our “Kyotogap” with other nations.

The Prospective Graying of America – Our agingpopulation will place huge demands on theSocial Security and Medicare systems. They can-not be handled without more federal revenuesand/or reduced benefits.

Legislation to increase our present pump tax by10 cents annually for each of the next twenty yearswould induce changes in miles per gallon and autousage, while providing incremental federal revenue.This price change is much smaller than usual pastmarket fluctuations, which have not had noticeableeconomic effects. Consumers already often pay morefor a gallon of bottled water than for gas.

A gas tax is simple to administer and difficult toevade. It would give automobile makers greater con-fidence to invest in energy-saving technologies,whether through vehicle weight, engine efficiency,fuel choice, or other means. And, it would promotemass transit.

Between 1975 and 1988, the average fuel econo-my of the U.S. vehicle fleet rose from 15 miles pergallon to 26; since then, it has not improved. It istime to take action to restore the earlier, helpfultrend. In time, the benefits of better energy efficien-cy and environmental performance would offset theburden of the tax.

Page 37, CHARLES E.M. KOLB.

The Policy Statement urges the Congress andthe Administration to begin to explore “alternativeor additional long-term sources of revenue and taxa-tion systems that support our long-term growthobjectives.” To the extent that this admonition sug-gests that we should contemplate raising taxes at thistime, I express my reservations. We should avoidpolicies and exacerbate our long-term structuraldeficit while at the same time seek ways to reducespending. One way to achieve this goal is for theCongress to enact the type of budget-process con-straints that will ensure a more disciplined approachto spending. CED endorses such reforms with whichI concur. However, given the current state of theU.S. economy, now is not the time for a discussion oftax increases.

41

42

For 60 years, the Committee for EconomicDevelopment has been a respected influence onthe formation of business and public policy.CED is devoted to these two objectives:

To develop, through objective research andinformed discussion, findings and recommendationsfor private and public policy that will contribute topreserving and strengthening our free society, achiev-ing steady economic growth at high employment andreasonably stable prices, increasing productivity andliving standards, providing greater and more equalopportunity for every citizen, and improving the qual-ity of life for all.

To bring about increasing understanding by pres-ent and future leaders in business, government, andeducation, and among concerned citizens, of theimportance of these objectives and the ways in whichthey can be achieved.

CED’s work is supported by private volun-tary contributions from business and industry,

foundations, and individuals. It is independent,nonprofit, nonpartisan, and nonpolitical.

Through this business-academic partner-ship, CED endeavors to develop policy state-ments and other research materials that com-mend themselves as guides to public and busi-ness policy; that can be used as texts in collegeeconomics and political science courses and inmanagement training courses; that will be con-sidered and discussed by newspaper and maga-zine editors, columnists, and commentators;and that are distributed abroad to promote bet-ter understanding of the American economicsystem.

CED believes that by enabling business lead-ers to demonstrate constructively their concernfor the general welfare, it is helping business toearn and maintain the national and communityrespect essential to the successful functioning ofthe free enterprise capitalist system.

OBJECTIVES OF THE COMMITTEE FOR ECONOMIC DEVELOPMENT

43

ChairmanROY J. BOSTOCK, Chairman Emeritus, Executive CommitteeBcom3 Group, Inc.

Vice ChairmenGEORGE H. CONRADES, Chairman and Chief

Executive OfficerAkamai Technologies, Inc.

JAMES A. JOHNSON, Chairman and ChiefExecutive Officer

Perseus LLC

ARTHUR F. RYAN, Chairman and ChiefExecutive Officer

The Prudential Insurance Company of America

FREDERICK W. TELLING, Vice President CorporateStrategic Planning and Policy Division

Pfizer Inc.

REX D. ADAMS, Professor of Business AdministrationThe Fuqua School of BusinessDuke University

PAUL A. ALLAIRE, Retired ChairmanXerox Corporation

COUNTESS MARIA BEATRICE ARCOAAC American Asset Corporation

IAN ARNOF, Retired ChairmanBank One, Louisiana, N.A.

MERRILL J. BATEMAN, PresidentBringham Young University

JAMES S. BEARD, PresidentCaterpillar Financial Services Corp.

HENRY P. BECTON, JR., President andGeneral Manager

WGBH Educational Foundation

THOMAS D. BELL, JR., President and ChiefExecutive Officer

Cousins Properties

ALAN BELZER, Retired President and ChiefOperating Officer

AlliedSignal Inc.

PETER A. BENOLIEL, Chairman, ExecutiveCommittee

Quaker Chemical Corporation

MELVYN E. BERGSTEIN, Chairman and ChiefExecutive Officer

Diamond Cluster International, Inc.

DEREK BOK, President EmeritusHarvard UniversityNational Chair, Common Cause

JACK O. BOVENDER, JR., Chairman and ChiefExecutive Officer

Health Care of America

ROY J. BOSTOCK, Chairman Emeritus, Executive CommitteeBcom3 Group, Inc.

JOHN BRADEMAS, President EmeritusNew York University

WILLIAM E. BROCK, ChairmanBridges LearningSystems, Inc.

THOMAS J. BUCKHOLTZT.J. Buckholtz & Associates

MICHAEL BUNGEY, Chief Executive OfficerCordiant Communications Group

TONY BUZZELLI, Deputy Managing PartnerDeloitte & Touche LLP

*FLETCHER L. BYROM, President and ChiefExecutive Officer

MICASU Corporation

DONALD R. CALDWELL, Chairman and ChiefExecutive Officer

Cross Atlantic Capital Partners

DARALD W. CALLAHAN, Executive Vice PresidentChevronTexaco Corporation

DAVID A. CAPUTO, PresidentPace University

FRANK C. CARLUCCIChairman Emeritus, The Carlyle Group

JOHN B. CAVE, PrincipalAvenir Group, Inc.

RAYMOND G. CHAMBERS, Chairman of the BoardAmelior Foundation

ROBERT CHESS, ChairmanInhale Therapeutic Systems, Inc.

MICHAEL J. CHESSER, Chairman and ChiefExecutive Officer

United Water

CAROLYN CHIN, ChairmanCommtouch/C3 Partners

*JOHN L. CLENDENIN, Retired ChairmanBellSouth Corporation

KENNETH P. COHEN, Vice President Public AffairsExxon Mobil Corporation

FERDINAND COLLOREDO-MANSFELD, Chairmanand Chief Executive Officer

Cabot Properties, Inc.

GEORGE H. CONRADES, Chairman and ChiefExecutive Officer

Akamai Technologies, Inc.

JAMES P. CORCORAN, Consultant

DAVID M. COTE, President and Chief Executive OfficerHoneywell International Inc.

STEPHEN A. CRANE, Chairman, President andChief Executive Officer

Stirling Cooke Brown Holdings Limited

THOMAS M. CULLIGAN, Executive Vice President,Business Development

Raytheon CompanyChief Executive Officer—Raytheon International, Inc.Raytheon Company

W. BOWMAN CUTTER, Managing DirectorWarburg Pincus

PAUL DANOS, DeanThe Amos Tuck School of BusinessDartmouth College

CED BOARD OF TRUSTEES

RONALD R. DAVENPORT, Chairman of the BoardSheridan Broadcasting Corporation

JOHN T. DEE, Chairman and Chief Executive OfficerVolume Services America

JOHN J. DEGIOIA, PresidentGeorgetown University

ROBERT M. DEVLINBlaylock & Partners, LP

SAM DIPIAZZA, Global Chief ExecutivePricewaterhouseCoopers

JOHN DIEBOLD, ChairmanThe Diebold Institute

LINDA M. DISTLERATH, Vice President, GlobalHealth Policy

Merck & Co., Inc.

WILLIAM H. DONALDSON, ChairmanDonaldson Enterprise

IRWIN DORROS, PresidentDorros Associates

*FRANK P. DOYLE, Retired Executive Vice PresidentGeneral Electric Company

E. LINN DRAPER, JR., Chairman, President andChief Executive Officer

American Electric Power Company

PHILIP DUKE, Retired Executive Vice PresidentLockheed Martin Corporation

FRANK DUNN, President and Chief Executive OfficerNortel Networks

T. J. DERMOT DUNPHY, ChairmanKildare Enterprises, LLC

CHRISTOPHER D. EARL, Managing DirectorPerseus Capital, LLC

W. D. EBERLE, ChairmanManchester Associates, Ltd.

WILLIAM T. ESREY, Chairman and ChiefExecutive Officer

Sprint Corporation

ROBERT A. ESSNER, President andChief Executive Officer

Wyeth

DIANA FARRELL, DirectorMcKinsey Global Institute

G. STEVEN FARRIS, President, Chief Executive Officerand Chief Operations Officer

Apache Corporation

KATHLEEN FELDSTEIN, PresidentEconomics Studies, Inc.

E. JAMES FERLAND, Chairman, President andChief Executive Officer

Public Service Enterprise Group Inc.

*EDMUND B. FITZGERALD, Managing DirectorWoodmont Associates

HARRY L. FREEMAN, ChairThe Mark Twain Institute

MITCHELL S. FROMSTEIN, Chairman EmeritusManpower Inc.

PAMELA B. GANN, PresidentClaremont McKenna College

JOSEPH GANTZ, PartnerGG Capital, LLC

E. GORDON GEE, ChancellorVanderbilt University

THOMAS P. GERRITY, Dean EmeritusThe Wharton SchoolUniversity of Pennsylvania

FREDERICK W. GLUCK, Of CounselMcKinsey & Company, Inc.

CAROL R. GOLDBERG, PresidentThe AvCar Group, Ltd.

ALFRED G. GOLDSTEIN, President and ChiefExecutive Officer

AG Associates

JOSEPH T. GORMAN, Retired ChairmanTRW Inc.

RICHARD A. GRASSO, Chairman and ChiefExecutive Officer

New York Stock Exchange, Inc.

EARL G. GRAVES, SR., Publisher and ChiefExecutive Officer

Black Enterprise Magazine

WILLIAM H. GRAY, III, President and ChiefExecutive Officer

The College Fund

GERALD GREENWALD, Chairman EmeritusUAL Corporation

BARBARA B. GROGAN, PresidentWestern Industrial Contractors

PATRICK W. GROSS, Founder and Senior AdvisorAmerican Management Systems, Inc.

JEROME H. GROSSMAN, Senior FellowJohn F. Kennedy School of GovernmentHarvard University

RONALD GRZYWINSKI, ChairmanShorebank Corporation

JUDITH H. HAMILTON, Former President and Chief Executive Officer

Classroom Connect

ALLEN HASSENFELD, Chairman and ChiefExecutive Officer

Hasbro Inc.

WILLIAM A. HASELTINE, Chairman and ChiefExecutive Officer

Human Genome Sciences, Inc.

WILLIAM F. HECHT, Chairman, President and ChiefExecutive Officer

PPL Corporation

WILLIAM HENDERSONFormer Postmaster General

RICHARD H. HERSH, PresidentTrinity College

JOSEPH D. HICKS, Retired President and ChiefExecutive Officer

Siecor Corporation

HEATHER HIGGINS, PresidentRandolph Foundation

RODERICK M. HILLS, ChairmanHills Enterprises, Ltd.

HAYNE HIPP, President and Chief Executive OfficerThe Liberty Corporation

DEBORAH C. HOPKINS, Senior AdvisorMarakon Associates

44

PAUL M. HORN, Senior Vice President, ResearchIBM Corporation

MATINA S. HORNER, Executive Vice PresidentTIAA-CREF

PHILIP K. HOWARD, Vice ChairmanCovington & Burling

ROBERT J. HURST, Vice ChairmanThe Goldman Sachs Group, Inc.

SHIRLEY ANN JACKSON, PresidentRensselaer Polytechnic Institute

WILLIAM C. JENNINGS, ChairmanUS Interactive, Inc.

JEFFREY A. JOERRES, President and ChiefExecutive Officer

Manpower Inc.

JAMES A. JOHNSON, Chairman and ChiefExecutive Officer

Perseus LLC

L. OAKLEY JOHNSON, Senior Vice President,Corporate Affairs

American International Group

ROBERT M. JOHNSON, Chairman and ChiefExecutive Officer

Bowne & Co., Inc.

VAN E. JOLISSAINT, Corporate EconomistDaimlerChrysler Corporation

H.V. JONES, Managing DirectorKorn/Ferry International

PRES KABACOFF, President and Co-ChairmanHistoric Restoration, Inc.

EDWARD A. KANGAS, Retired Chairman andChief Executive Officer

Deloitte Touche Tohmatsu

JOSEPH E. KASPUTYS, Chairman, Presidentand Chief Executive Officer

Global Insight, Inc.

WILLIAM E. KIRWAN, ChancellorUniversity System of Maryland

THOMAS J. KLUTZNICK, PresidentThomas J. Klutznick Company

CHARLES F. KNIGHT, ChairmanEmerson Electric Co.

CHARLES E.M. KOLB, PresidentCommittee for Economic Development

C. JOSEPH LABONTE, ChairmanThe Vantage Group

BENJAMIN LADNER, PresidentAmerican University

KURT M. LANDGRAF, President and ChiefExecutive Officer

Educational Testing Service

ROBERT W. LANE, Chairman and Chief Executive Officer

Deere & Company

W. MARK LANIER, PartnerThe Lanier Law Firm, P.C.

CHARLES R. LEE, Chairman Verizon Communications

WILLIAM W. LEWIS, Director EmeritusMcKinsey Global InstituteMcKinsey & Company, Inc.

IRA A. LIPMAN, Chairman of the Board and PresidentGuardsmark, Inc.

JOHN W. LOOSE, President and ChiefExecutive Officer

Corning, Inc.

BRUCE K. MACLAURY, President EmeritusThe Brookings Institution

EDWARD A. MALLOY, PresidentUniversity of Notre Dame

COLETTE MAHONEY, President EmeritaMarymount Manhattan College

ELLEN R. MARRAM, PartnerNorth Castle Partners

T. ALLAN MCARTOR, ChairmanAirbus Industrie of North America,Inc.

ALONZO L. MCDONALD, Chairman and ChiefExecutive Officer

Avenir Group, Inc.

EUGENE R. MCGRATH, Chairman, President andChief Executive Officer

Consolidated Edison Company of New York, Inc.

DAVID E. MCKINNEY, PresidentThe Metropolitan Museum of Art

DEBORAH HICKS MIDANEK, PrincipalGlass & Associates, Inc.

HARVEY R. MILLERGreenhill & Co., LLC

ALFRED T. MOCKETT, Chairman and ChiefExecutive Officer

American Management Systems, Inc.

NICHOLAS G. MOORE, Senior AdviserBechtel Corporation

DIANA S. NATALICIO, PresidentThe University of Texas at El Paso

MARILYN CARLSON NELSON, Chairman, Presidentand Chief Executive Officer

Carlson Companies, Inc.

MATTHEW NIMETZ, PartnerGeneral Atlantic Partners

THOMAS H. O’BRIEN, Chairman of the ExecutiveCommittee

PNC Financial Services Group, Inc.

DEAN R. O’HARE, Retired Chairman and Chief Executive Officer

Chubb Corporation

RONALD L. OLSON, PartnerMunger, Tolles & Olson

ROBERT J. O’TOOLE, Chairman and ChiefExecutive Officer

A.O. Smith Corporation

STEFFEN E. PALKO, Vice Chairman and PresidentXTO Energy Inc.

SANDRA PANEM, PartnerCross Atlantic Partners, Inc.

45

JERRY PARROTT, Vice President, CorporateCommunications

Human Genome Sciences, Inc.

CAROL J. PARRY, PresidentCorporate Social Responsibility Associates

VICTOR A. PELSON, Senior AdvisorUBS Warburg LLC

DONALD K. PETERSON, President and ChiefExecutive Officer

Avaya Inc.

PETER G. PETERSON, ChairmanThe Blackstone Group

TODD E. PETZEL, President and ChiefInvestment Officer

The Commonfund Asset Management Co., Inc.

RAYMOND PLANK, Chairman Apache Corporation

ARNOLD B. POLLARD, President and ChiefExecutive Officer

The Chief Executive Group

HUGH B. PRICE, President and ChiefExecutive Officer

National Urban League

NED REGAN, PresidentBaruch College

JAMES Q. RIORDAN, DirectorQuentin Partners Co.

E. B. ROBINSON, JR., Chairman EmeritusDeposit Guaranty Corporation

JAMES D. ROBINSON, III, General Partner andFounder

RRE Ventures

ROY ROMERFormer Governor of ColoradoSuperintendent, Los Angeles Unified School District

DANIEL ROSE, ChairmanRose Associates, Inc.

HOWARD M. ROSENKRANTZ, Chief Executive OfficerGrey Flannel Auctions

LANDON H. ROWLAND, ChairmanJanus Capital Group

NEIL L. RUDENSTINE, Chair, ArtStor Advisory BoardThe Andrew Mellon Foundation

GEORGE RUPP, PresidentInternational Rescue Committee

GEORGE F. RUSSELL, JR., ChairmanSunshine Management Services, LLC

EDWARD B. RUST, JR., Chairman and ChiefExecutive Officer

State Farm Insurance Companies

ARTHUR F. RYAN, Chairman and ChiefExecutive Officer

The Prudential Insurance Company of America

MARGUERITE W. SALLEE, Chairman and ChiefExecutive Officer

Brown Schools

STEVEN B. SAMPLE, PresidentUniversity of Southern California

STEPHEN W. SANGER, Chairman and ChiefExecutive Officer

General Mills, Inc.

BERTRAM L. SCOTT, PresidentTIAA-CREF Life Insurance Company

MICHAEL M. SEARS, Senior Vice President andChief Financial Officer

The Boeing Company

JOHN E. SEXTON, PresidentNew York University

DONNA SHALALA, PresidentUniversity of Miami

JUDITH SHAPIRO, PresidentBarnard College

WALTER H. SHORENSTEIN, Chairman of the BoardThe Shorenstein Company

*GEORGE P. SHULTZ, Distinguished FellowThe Hoover InstitutionStanford University

JOHN C. SICILIANO, Director, Global InstitutionalServices

Dimensional Fund Advisors

RUTH J. SIMMONS, PresidentBrown University

FREDERICK W. SMITH, Chairman, President andChief Executive Officer

Federal Express Corporation

JOHN F. SMITH, JR., ChairmanGeneral Motors Corporation

DAVID A. SPINA, Chairman and ChiefExecutive Officer

State Street Corporation

ALAN G. SPOON, Managing General PartnerPolaris Ventures

STEPHEN STAMAS, ChairmanThe American Assembly

PAULA STERN, PresidentThe Stern Group, Inc.

DONALD M. STEWART, President and ChiefExecutive Officer

The Chicago Community Trust

ROGER W. STONE, Chairman and ChiefExecutive Officer

Box USA Group, Inc.

MATTHEW J. STOVER, PresidentLKM Ventures

LAWRENCE SUMMERS, PresidentHarvard University

RICHARD J. SWIFT, Chairman, President and ChiefExecutive Officer

Foster Wheeler Corporation

RICHARD F. SYRON, President and ChiefExecutive Officer

Thermo Electron Corporation

HENRY TANG, ChairmanCommittee of 100

FREDERICK W. TELLING, Vice President CorporateStrategic Planning and Policy Division

Pfizer Inc.

46

JAMES A. THOMSON, President and ChiefExecutive Officer

RAND

CHANG-LIN TIEN, NEC Distinguished Professor ofEngineering Emeritus

University of California, Berkeley

THOMAS J. TIERNEY, FounderThe Bridgespan Group

STOKLEY P. TOWLES, PartnerBrown Brothers Harriman & Co.

STEPHEN JOEL TRACHTENBERG, PresidentGeorge Washington University

TALLMAN TRASK, III, Executive Vice PresidentDuke University

JAMES L. VINCENT, Retired ChairmanBiogen, Inc.

FRANK VOGL, PresidentVogl Communications

DONALD C. WAITE, III, DirectorMcKinsey & Company, Inc.

HERMINE WARREN, PresidentHermine Warren Associates, Inc.

ARNOLD R. WEBER, President EmeritusNorthwestern University

JOSH S. WESTON, Honorary ChairmanAutomatic Data Processing, Inc.

CLIFTON R. WHARTON, JR., Former Chairmanand Chief Executive Officer

TIAA-CREF

DOLORES D. WHARTON, Former Chairman andChief Executive Officer

The Fund for Corporate Initiatives, Inc.

RICHARD WHEELER, Chief Executive OfficerInContext Data Systems, Inc.

MICHAEL W. WICKHAM, Chairman and ChiefExecutive Officer

Roadway Express, Inc.

HAROLD M. WILLIAMS, President EmeritusThe J. Paul Getty Trust

L. R. WILSON, ChairmanNortel Networks Corporation

LINDA SMITH WILSON, President EmeritaRadcliffe College

MARGARET S. WILSON, Chairman and ChiefExecutive Officer

Scarbroughs

JACOB J. WORENKLEIN, Global Head of Project& Sectorial Finance

Societe Generale

KURT E. YEAGER, President and Chief ExecutiveOfficer

Electric Power Research Institute

MARTIN B. ZIMMERMAN, Vice President,Corporate Affairs

Ford Motor Company

EDWARD ZORE, President and Chief ExecutiveOfficer

The Northwestern Mutual Life Insurance Co.

47

48

RAY C. ADAM, Retired ChairmanNL Industries

ROBERT O. ANDERSON, Retired ChairmanHondo Oil & Gas Company

ROY L. ASHLos Angeles, California

SANFORD S. ATWOOD, President EmeritusEmory University

ROBERT H. B. BALDWIN, Retired ChairmanMorgan Stanley Group Inc.

GEORGE F. BENNETT, Chairman EmeritusState Street Investment Trust

HAROLD H. BENNETTSalt Lake City, Utah

JACK F. BENNETT, Retired Senior Vice PresidentExxon Corporation

HOWARD W. BLAUVELTKeswick, Virginia

MARVIN BOWERDelray Beach, Florida

ALAN S. BOYDLady Lake, Florida

ANDREW F. BRIMMER, PresidentBrimmer & Company, Inc.

PHILIP CALDWELL, Retired Chairman Ford Motor Company

HUGH M. CHAPMAN, Retired ChairmanNationsBank South

E. H. CLARK, JR., Chairman and ChiefExecutive OfficerThe Friendship Group

A.W. CLAUSEN, Retired Chairman and ChiefExecutive OfficerBankAmerica Corporation

DOUGLAS D. DANFORTHExecutive Associates

JOHN H. DANIELS, Retired Chairman andChief Executive OfficerArcher-Daniels Midland Co.

RALPH P. DAVIDSONWashington, D.C.

ALFRED C. DECRANE, JR., Retired Chairman andChief Executive Officer

Texaco, Inc.

ROBERT R. DOCKSON, Chairman EmeritusCalFed, Inc.

LYLE EVERINGHAM, Retired ChairmanThe Kroger Co.

THOMAS J. EYERMAN, Retired PartnerSkidmore, Owings & Merrill

DON C. FRISBEE, Chairman EmeritusPacifiCorp

RICHARD L. GELB, Chairman EmeritusBristol-Myers Squibb Company

W. H. KROME GEORGE, Retired ChairmanALCOA

WALTER B. GERKEN, Retired Chairman and ChiefExecutive Officer

Pacific Life Insurance Company

LINCOLN GORDON, Guest ScholarThe Brookings Institution

JOHN D. GRAY, Chairman EmeritusHartmarx Corporation

RICHARD W. HANSELMAN, ChairmanHealth Net Inc.

ROBERT S. HATFIELD, Retired ChairmanThe Continental Group, Inc.

ARTHUR HAUSPURG, Member, Board of TrusteesConsolidated Edison Company of New York, Inc.

PHILIP M. HAWLEY, Retired Chairman of the BoardCarter Hawley Hale Stores, Inc.

ROBERT C. HOLLAND, Senior FellowThe Wharton SchoolUniversity of Pennsylvania

LEON C. HOLT, JR., Retired Vice ChairmanAir Products and Chemicals, Inc.

SOL HURWITZ, Retired PresidentCommittee for Economic Development

GEORGE F. JAMESPonte Vedra Beach, Florida

DAVID KEARNS, Chairman EmeritusNew American Schools

GEORGE M. KELLER, Chairman of the Board, RetiredChevron Corporation

FRANKLIN A. LINDSAY, Retired ChairmanItek Corporation

ROBERT W. LUNDEEN, Retired ChairmanThe Dow Chemical Company

RICHARD B. MADDEN, Retired Chairman andChief Executive Officer

Potlatch Corporation

AUGUSTINE R. MARUSILake Wales, Florida

WILLIAM F. MAY, Chairman and ChiefExecutive Officer

Statue of Liberty-Ellis Island Foundation, Inc.

OSCAR G. MAYER, Retired ChairmanOscar Mayer & Co.

GEORGE C. MCGHEE, Former U.S. Ambassadorand Under Secretary of State

CED HONORARY TRUSTEES

49

JOHN F. MCGILLICUDDY, Retired Chairmanand Chief Executive Officer

Chemical Banking Corporation

JAMES W. MCKEE, JR., Retired ChairmanCPC International, Inc.

CHAMPNEY A. MCNAIR, Retired Vice ChairmanTrust Company of Georgia

J. W. MCSWINEY, Retired Chairman of the BoardThe Mead Corporation

ROBERT E. MERCER, Retired ChairmanThe Goodyear Tire & Rubber Co.

RUBEN F. METTLER, Retired Chairman andChief Executive Officer

TRW Inc.

LEE L. MORGAN, Former Chairman of the BoardCaterpillar, Inc.

ROBERT R. NATHAN, ChairmanNathan Associates, Inc.

J. WILSON NEWMAN, Retired ChairmanDun & Bradstreet Corporation

JAMES J. O’CONNOR, Former Chairman and ChiefExecutive Officer

Unicom Corporation

LEIF H. OLSEN, PresidentLHO GROUP

NORMA PACE, PresidentPaper Analytics Associates

CHARLES W. PARRY, Retired ChairmanALCOA

WILLIAM R. PEARCE, DirectorAmerican Express Mutual Funds

JOHN H. PERKINS, Former PresidentContinental Illinois National Bank and Trust Company

RUDOLPH A. PETERSON, President and ChiefExecutive Officer (Emeritus)

BankAmerica Corporation

DEAN P. PHYPERSNew Canaan, Connecticut

EDMUND T. PRATT, JR., Retired Chairman andChief Executive OfficerPfizer Inc.

ROBERT M. PRICE, Former Chairman andChief Executive OfficerControl Data Corporation

JAMES J. RENIERRenier & Associates

IAN M. ROLLAND, Former Chairman and ChiefExecutive Officer

Lincoln National Corporation

AXEL G. ROSIN, Retired ChairmanBook-of-the-Month Club, Inc.

WILLIAM M. ROTHPrinceton, New Jersey

WILLIAM RUDERWilliam Ruder Incorporated

RALPH S. SAUL, Former Chairman of the BoardCIGNA Companies

GEORGE A. SCHAEFER, Retired Chairman of the BoardCaterpillar, Inc.

ROBERT G. SCHWARTZNew York, New York

MARK SHEPHERD, JR., Retired ChairmanTexas Instruments, Inc.

ROCCO C. SICILIANOBeverly Hills, California

ELMER B. STAATS, Former ControllerGeneral of the United States

FRANK STANTON, Former PresidentCBS, Inc.

EDGAR B. STERN, JR., Chairman of the BoardRoyal Street Corporation

ALEXANDER L. STOTTFairfield, Connecticut

WAYNE E. THOMPSON, Past ChairmanMerritt Peralta Medical Center

THOMAS A. VANDERSLICETAV Associates

SIDNEY J. WEINBERG, JR., Senior DirectorThe Goldman Sachs Group, Inc.

ROBERT C. WINTERS, Chairman EmeritusPrudential Insurance Company of America

RICHARD D. WOOD, DirectorEli Lilly and Company

CHARLES J. ZWICKCoral Gables, Florida

50

RALPH D. CHRISTYJ. Thomas Clark ProfessorDepartment of Agricultural, Resource,

and Managerial EconomicsCornell University

ALAIN C. ENTHOVENMarriner S. Eccles Professor of Publicand Private ManagementStanford UniversityGraduate School of Business

BENJAMIN M. FRIEDMANWilliam Joseph Maier Professor ofPolitical EconomyHarvard University

ROBERT W. HAHNResident ScholarAmerican Enterprise Institute

HELEN F. LADDProfessor of Public Policy Studies andEconomicsSanford Institute of Public PolicyDuke University

ROBERT LITANVice President, Director of EconomicStudiesThe Brookings Institution

WILLIAM D. NORDHAUSSterling Professor of EconomicsCowles FoundationYale University

RUDOLPH G. PENNERSenior FellowThe Urban Institute

CECILIA E. ROUSEProfessor of Economics and PublicAffairsWoodrow Wilson SchoolPrinceton University

JOHN P. WHITELecturer in Public PolicyJohn F. Kennedy School of GovernmentHarvard University

CED RESEARCH ADVISORY BOARD

CED PROFESSIONAL AND ADMINISTRATIVE STAFF

ResearchEVERETT M. EHRLICHSenior Vice President andDirector of Research

JANET HANSENVice President and Directorof Education Studies

ELLIOT SCHWARTZVice President and Directorof Economic Studies

VAN DOORN OOMSSenior Fellow

MELISSA GESELLResearch Associate

DAVID KAMINResearch Associate

JEFF LOESELResearch Associate

NORA LOVRIENResearch Associate

Advisor on InternationalEconomic PolicyISAIAH FRANKWilliam L. Clayton Professorof International EconomicsThe Johns Hopkins University

Communications/Government RelationsMICHAEL J. PETROVice President and Director ofBusiness and Government Relationsand Chief of Staff

MORGAN BROMANDirector of Communications

CHRIS DREIBELBISBusiness and Government PolicyAssociate

VALERIE MENDELSOHNConference Manager and Secretary ofthe Research and Policy Committee

CHRISTINE RYANProject Director

ROBIN SAMERSAssistant Director of Communications

DevelopmentMARTHA E. HOULEVice President for Development andSecretary of the Board of Trustees

CAROLINA LOPEZManager, Development

NICHOLE REMMERTFoundation Associate

RICHARD M. RODERODirector of Development

Finance and AdministrationLAURIE LEEChief Financial Officer and VicePresidentof Finance and Administration

GLORIA Y. CALHOUNOffice Manager

HOOJU CHOIDatabase Administrator

SHARON A. FOWKESExecutive Assistant to the President

JEFFREY SKINNERSenior Accountant/ GrantsAdministrator

RACQUEL TUPAZSenior Accountant/ Financial Reporting

AMANDA TURNEROffice Manager

PATRICE WILLIAMSReceptionist

CHARLES E.M. KOLBPresident

STATEMENTS ON NATIONAL POLICY ISSUED BY THE COMMITTEE FOR ECONOMIC DEVELOPMENT

SELECTED PUBLICATIONS:

Justice for Hire: Improving Judicial Selection (2002)A Shared Future: Reducing Global Poverty (2002)A New Vision for Health Care: A Leadership Role for Business (2002)Preschool For All: Investing In a Productive and Just Society (2002)From Protest to Progress: Addressing Labor and Environmental Conditions Through Freer Trade

(2001)The Digital Economy: Promoting Competition, Innovation, and Opportunity (2001)Reforming Immigration: Helping Meet America’s Need for a Skilled Workforce (2001)Measuring What Matters: Using Assessment and Accountability to Improve Student Learning (2001)Improving Global Financial Stability (2000)The Case for Permanent Normal Trade Relations with China (2000)Welfare Reform and Beyond: Making Work Work (2000)Breaking the Litigation Habit: Economic Incentives for Legal Reform (2000)New Opportunities for Older Workers (1999)Investing in the People’s Business: A Business Proposal for Campaign Finance Reform (1999)The Employer’s Role in Linking School and Work (1998)Employer Roles in Linking School and Work: Lessons from Four Urban Communities (1998)America’s Basic Research: Prosperity Through Discovery (1998)Modernizing Government Regulation: The Need For Action (1998)U.S. Economic Policy Toward The Asia-Pacific Region (1997)Connecting Inner-City Youth To The World of Work (1997)Fixing Social Security (1997)Growth With Opportunity (1997)American Workers and Economic Change (1996)Connecting Students to a Changing World: A Technology Strategy for Improving Mathematics and

Science Education (1995)Cut Spending First: Tax Cuts Should Be Deferred to Ensure a Balanced Budget (1995)Rebuilding Inner-City Communities: A New Approach to the Nation’s Urban Crisis (1995)Who Will Pay For Your Retirement? The Looming Crisis (1995)Putting Learning First: Governing and Managing the Schools for High Achievement (1994)Prescription for Progress: The Uruguay Round in the New Global Economy (1994)*From Promise to Progress: Towards a New Stage in U.S.-Japan Economic Relations (1994)U.S. Trade Policy Beyond The Uruguay Round (1994)In Our Best Interest: NAFTA an the New American Economy (1993)What Price Clean Air? A Market Approach to Energy and Environmental Policy (1993)Why Child Care Matters: Preparing Young Children For A More Productive America (1993)Restoring Prosperity: Budget Choices for Economic Growth (1992)The United States in the new Global Economy: A Rallier of Nations (1992)

*Statements issued in association with CED counterpart organizations in foreign countries.

51

CED COUNTERPART ORGANIZATIONS

Close relations exist between the Committee for Economic Development and independent, non-political research organizations in other countries. Such counterpart groups are composed ofbusiness executives and scholars and have objectives similar to those of CED, which they pursueby similarly objective methods. CED cooperates with these organizations on research and studyprojects of common interest to the various countries concerned. This program has resulted in anumber of joint policy statements involving such international matters as energy, assistance todeveloping countries, and the reduction of nontariff barriers to trade.

CE Circulo de EmpresariosMadrid, Spain

CEAL Consejo Empresario de America LatinaBuenos Aires, Argentina

CEDA Committee for Economic Development of AustraliaSydney, Australia

CIRD China Institute for Reform and DevelopmentHainan, People’s Republic of China

EVA Centre for Finnish Business and Policy StudiesHelsinki, Finland

FAE Forum de Administradores de EmpresasLisbon, Portugal

IDEP Institut de l’EntrepriseParis, France

IW Institut der deutschen Wirtschaft KoelnCologne, Germany

Keizai DoyukaiTokyo, Japan

SMO Stichting Maatschappij en OndernemingThe Netherlands

SNS Studieförbundet Naringsliv och SamhälleStockholm, Sweden

52

COMMITTEE FOR ECONOMIC DEVELOPMENT

261 Madison Avenue, 25th FloorNew York, NY 10016

Telephone: 212-688-2063Fax: 212-758-9068

2000 L Street, NW, Suite 700Washington, DC 20036

Telephone: 202-296-5860Fax: 202-223-0776

www.ced.org

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Date information used to create this page was last modified: 2011-03-14

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Date this page generated to accompany file download: 2013-06-11

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Publisher(s): Committee for Economic Development; Committee for Economic Development Research and PolicyCommittee

Date Published: 2003-03-20

ISBN/ISSN: 0-87186-149-6

Rights: Creative Commons Attribution-NonCommercial-NoDerivs 3.0 Unported

Subject(s): Aging; Community and Economic Development; Government Reform

Documents

A Policy Statement by the Research and Policy Committee of ... · The recommendations presented herein are those of the trustee members of the Research and Policy Committee and the