February 6, 2006

February 6, 2006 | WebMemo on Federal Budget

The President's Budget: Strong on Short-Term Spending, But Long-Term Challenges Remain

Runaway entitlement spending-on Social Security, Medicare, and Medicaid-is projected to push inflation-adjusted federal spending up to $26,000 per household by 2016 and even higher thereafter.[1] Against that backdrop, President George W. Bush's fiscal year 2007 budget proposal holds the line on discretionary spending while eliminating or strongly reducing funding for 141 failed, wasteful, or outdated programs. The President's proposal to slow Medicare's 9 percent annual growth rate is a good fiscal step, but the budget does not propose enough immediate and bold reforms to the quickly growing entitlement programs that threaten to overwhelm the budget. President Bush's next steps should be to demand that Congress work within this budget framework or face vetoes of excess spending and substantially reform Social Security, Medicare, and Medicaid.

President Bush's pledge to halve the budget deficit by 2009 distracts policymakers from the real issue of unsustainable trends in long-term entitlement spending. The current $4 trillion national debt is dwarfed by the $46 trillion in unfunded obligations that will start to come due when 77 million baby boomers begin collecting Social Security and Medicare benefits. Even if the budget were balanced today, entitlement reform would be no less important. Lawmakers should focus on the long term.

The Positives

A) Freezing non-defense discretionary spending. The President's budget holds non-defense discretionary spending even with last year's level in order to fund priorities such as defense and homeland security. Tough decisions are necessary in order to rein in spending growth, and establishing budget priorities is a necessary step. Tradeoffs must be made in this process, and lower-priority programs should not receive funding increases. Money saved from cuts to failed programs can fund spending increases for critical programs.

Critics will contend that freezing non-defense discretionary spending next year is unnecessarily harsh. Yet even after this freeze, non-defense, non-homeland security discretionary spending will still have increased 42 percent in President Bush's first six years in office. By comparison, these programs grew only 20 percent in President Bill Clinton's first six years in office. These bloated programs can afford to level off.

B) Eliminating or strongly reducing nearly 141 programs. In Washington, outdated and wasteful programs linger on for decades. It is time for lawmakers to modernize the budget and close down outdated programs that consume tax dollars while providing few benefits. A good example is the Advanced Technology Program (ATP), which has lavished hundreds of millions of dollars in subsidies on wealthy Fortune 500 companies.[2] President Bush is wise to call for eliminating ATP and similarly unnecessary programs.

C) Slowing the growth of Medicare. Left unchanged, Medicare is expected to grow 70 percent from 2005 through 2011. President Bush would reduce this increase to 66 percent. Given Medicare's massive projected spending increases, this spending restraint is sorely needed.

D) Making the tax cuts permanent. Between 2004 and 2006, tax revenues are projected to rise by an unprecedented $420 billion. This 22 percent jump is the largest two-year revenue surge since 1976-78, when soaring inflation and bracket creep steeply increased tax revenues. Revenues today are expanding so fast in part because the 2001 and 2003 tax cuts increased incentives to work, save, and invest. Uncertainty about whether the tax cuts will expire makes it difficult for entrepreneurs to plan future investments. Letting the tax cuts expire would harm businesses, families, and the economy. Moreover, history shows that any new revenues would just go to new spending.

The Concerns

A) Focusing on the short-term deficit rather than long-term entitlements. The President reaches his goal of cutting the budget deficit in half by 2009 in part by excluding the costs of additional supplemental funding for military operations in Iraq and the cost of fixing of the Alternative Minimum Tax. Compared to a realistic baseline of future spending, virtually all of the President's savings come from discretionary spending. The President's budget assumes that discretionary outlays (including defense) will decrease from $1,032 billion in 2006 to $994 billion in 2011. How those large discretionary savings are to be achieved after 2007 is not specified.

It isnot uncommon for Presidential budgets to show unspecified discretionary savings in future years, but past proposals to cut discretionary spending in the future have rarely if ever come to pass. It remains to be seen whether the President and Congress will keep to this proposed budget restraint. And while these policies would help cut the short-term budget deficit, they do not address the real long-term danger of runaway entitlement spending. The President and Congress should not assume that all of the nation's spending problems can be fixed with vague discretionary spending reforms enacted in future years. They cannot.

B) Staggering spending levels remain. From 2001 through 2006, spending on education increased 137 percent, on international affairs by 111 percent, on health research and regulation by 78 percent, on Medicare by 58 percent, on housing and commerce by 58 percent, on veterans' benefits by 56 percent, and on Medicaid by 49 percent.[3] At a time when national security is a vital priority, these increases are unaffordable. These programs should be reined in.

C) Rising entitlement costs. To constrain future spending, entitlement spending must be streamlined. As 77 million baby boomers retire, Social Security, Medicare, and Medicaid are projected to leap from 8.4 percent of GDP in 2006 to 10.8 percent of GDP by 2016 and then to 18.9 percent of GDP by 2050. [4] The momentum created by last year's entitlement reforms must be followed by serious reforms of these entitlements.

Specifically,Medicare spending is projected to leap $112 billion over the next two next years, from $333 billion to $445 billion. Such large increases, which chiefly result from the new Medicare drug benefit, are unsustainable. While the President's proposal to trim Medicare spending would help fiscally, it will not bring Medicare spending in line with what the nation can afford.

D) Competitiveness Initiative. Federal research and development spending has surged 43 percent from 2001 through 2005, from $91 billion to $130 billon. Created with the best intentions, many of these programs have been abysmal failures for decades. The government cannot dictate innovation, and many of these programs have become little more than slush funds for Fortune 500 companies and easy storehouses for congressional pork. Rather than layering billions more on top of these failed programs and asking bureaucrats to select market winners and losers through the distribution of government grants, Congress should simply make permanent the capital gains and dividend tax cuts. This would incentivize all innovators and entrepreneurs without the government meddling in the market.

Conclusion

The President's budget takes a strong stand on bloated discretionary spending. It remains to be seen whether lawmakers will actually follow through with the proposed discretionary cuts over the next five years. While cutting Medicare will help the long-term outlook a bit, the budget does not go far enough in entitlement reform to avert a long-term budgetary crisis.

Brian M. Riedl is Grover M. Hermann Fellow in Federal Budgetary Affairs in the Thomas A. Roe Institute for Economic Policy Studies at The Heritage Foundation.

About the Author

Brian M. Riedl Grover Hermann Fellow in Federal Budgetary Affairs
Thomas A. Roe Institute for Economic Policy Studies

Show references in this report

[1] For a ten-year spending baseline, as well as additional budget data, see Brian M. Riedl "Federal Spending: By the Numbers" Heritage Foundation Webmemo No. 989, February 6, 2006, at http://www.heritage.org/Research/Budget/wm989.cfm.

[2] Brian M. Riedl, "Congress Should Follow the President and Eliminate the Advanced Technology Program," Heritage Foundation Backgrounder No. 1828, March 1, 2005, at http://www.heritage.org/Research/Budget/bg1828.cfm.

[3] Office of Management and Budget, Historical Tables, Tables 3.2 and 8.5, at http://www.whitehouse.gov/omb/budget/fy2007/hist.html.

[4] For a 50-year projection of future entitlement costs, see Brian M. Riedl, "Entitlement-Driven Long-Term Budget Substantially Worse Than Previously Projected," Heritage Foundation Backgrounder No. 1897, November 30, 2005, at http://www.heritage.org/Research/Budget/bg1897.cfm.