Beware the “Grand Bargain”
October 27, 2012
Barack Obama really does have a plan for the next four years. When he thought he was speaking off the record to the Des Moines Register the other day, he said he wanted to negotiate a “grand bargain” with the congressional Republicans. It would include spending reductions and tax increases to reduce forecasted federal deficits.
About the same time that the president was giving his interview, more than 80 CEOs of some of the nation’s largest companies were making a similar announcement. To get the country’s fiscal house in order, they said, we need both spending reductions and tax increases.
The idea of a grand bargain is very much on the minds of Washington, D.C., insiders these days. I frequently see it mentioned in news reports and on public policy blogs. So be forewarned. The inside-the-Beltway crowd is gearing up for a very large scale budget deal.
Here’s the problem for Republicans: this could easily be a trap. By that I mean we are likely to see tax increases immediately and permanently, while the spending cuts may never occur.
Why is that? Because the only way to get substantial spending reductions is to cut outlays for entitlement programs, including Social Security, Medicare and Medicaid. And although the Democrats have said they are willing to do that, there are two conditions: (1) the spending cuts must come in future years and (2) they must not—repeat, not—involve fundamental reform.
Fundamental reform is what President Bush tried to do with Social Security. He wanted to replace the Ponzi scheme finance of the current system, under which each generation expects future generations to pay for its benefits, with a private, funded system, under which each generation would save and invest and pay their own way.
Fundamental reform of Medicare and the elderly portion (which is most of the total) of Medicaid needs to proceed in much the same way. Young people need to start saving right now to pay for their health care and their nursing home needs during the years of their retirement. We also need to create more private sector options so that seniors have access to the same kind of health insurance the rest of the nation has access to (a la Paul Ryan).
The Democrats, however, will have none of this. Their idea of Social Security reform is raising the retirement age, reducing the rate of growth of benefits, raising the maximum wage subject to the payroll tax, etc. In other words, they want to tinker around the edges. And while they are perfectly willing to allow increasing the payroll tax on higher-income taxpayers immediately, all the spending reductions must only apply to future retirees, not current ones.
You see the problem? Tax increases get legislated now. Spending cuts take place at a time when some future Congress will have the opportunity to rescind them.
Reform of government health care programs follows much the same pattern for the Democrats. No fundamental reform. Only tinkering. Tax increases are immediate. Spending reductions get phased in in future years—but only if future representatives can withstand the political pressure.
One way to appreciate how the Democrats approach entitlement reform is to consider the way they chose to fund the Affordable Care Act (ObamaCare). Over the next 10 years, a new health insurance entitlement for young people is to be paid for by reducing Medicare spending by $716 billion. There is also a hefty increase in the Medicare payroll tax for higher income taxpayers.
However, the new Medicare payroll tax kicks in 2013, while the spending reductions phase in slowly, over time. Further, in their campaign rhetoric, the Democrats claim that seniors won’t even be harmed at all, since the spending reductions will come at the expense of doctors, hospitals and insurance companies.
Of course, when the doctors stop seeing senior patients (or start converting to concierge care), when the hospitals leave the market (as one in seven will in the next eight years, according to the Medicare Actuary) and when the insurance plans cut back on the benefits they are providing, there will be enormous pressure on Congress to reverse all of this. And most inside-the-Beltway folks are firmly convinced they will be reversed.
What would structural change look like? NCPA Senior Fellow Andrew Rettenmaier and NCPA Senior Fellow and former Medicare Trustee Thomas R. Saving explain how to reform Social Security with a system of private savings accounts—requiring a contribution equal to 5% of payroll during the working years. Rettenmaier and Saving propose a similar approach to Medicare reform that requires contribution of 4% of payroll to a health retirement account. I expand on Medicare reform in this study.
