The Hopeful Science
Four Steps to US Fiscal Health
Simon Johnson and James Kwak
|
|
|
|
WASHINGTON, DC – The United States has a significant budget deficit, likely to be $1.3 trillion (10% of GDP) this year, and the long-term forecasts are worrying. According to the Congressional Budget Office (CBO, the leading nonpartisan experts), Social Security, together with Medicare, Medicaid, and other health-care programs, will grow to consume almost all tax revenues by 2035.
The US can finance these deficits in the short term – in fact, interest rates on US Treasuries have recently fallen to record low levels. But if there is no serious effort at fiscal consolidation, serious trouble lies ahead, both for the US and for the world economy. Thus, the US urgently needs to begin making four serious changes.
The first is comprehensive tax reform aimed at aligning tax policy with desirable economic incentives. In particular, the US should consider introducing a value-added tax (VAT), widely used in other industrialized countries. By levying a tax on consumption at each stage of the production chain, America could reduce the overconsumption that helped feed the recent credit bubble, encouraging savings and investment instead. To be sure, a simple VAT is regressive, though it can be made progressive by combining it with a partial rebate or by exempting necessities.
Moreover, the US should look hard at tax breaks that act like hidden spending programs. One place to start is the tax deduction for interest payments on home mortgages. The deduction is currently available on mortgages of up to $1 million, this forming a key component of America’s excessive incentives to buy houses – a policy eschewed by most other industrialized countries.
The second change is carbon pricing, either by auctioning emissions allocations or by taxing carbon directly, at rates that start low and rise over the coming decades. Given large potential revenues – in 2008, the CBO estimated that one proposal would yield $145 billion in 2012 and more in subsequent years – it would make sense to dedicate a portion to cushioning the impact of higher energy prices on the poor, while applying the rest to the fiscal balance.
Opponents argue that carbon pricing would hurt economic growth. But a recent study commissioned by The Economist found that a carbon tax would increase both government revenue and economic output – primarily by replacing existing, inefficient energy subsidies.
The third change is a tax on the financial sector, in the form of a Financial Activities Tax on profits and remuneration at big banks that enjoy implicit government guarantees. The International Monetary Fund estimates that this form of value-added tax could bring in between 0.5 and one percentage point of GDP in revenue.
Such a tax, moreover, would aim to eliminate the funding advantage that large banks enjoy over their smaller competitors, while limiting the incentive for big banks to become even bigger. As the IMF argues, if applied across the G-20, a Financial Activities Tax would help constrain the worst features of the financial system and reduce the competitive distortions created by the megabanks.
Finally, there is the issue of entitlement spending, which is mainly an issue of health-care costs. According to the CBO’s alternative fiscal scenario, growth in Social Security is comparatively modest, from 4.8% of GDP in 2010 to 6.2% in 2035. A relatively small change in the parameters of this program could lower its future costs, as was done in the 1980’s. At the same time, however, the relative cost of Medicare, Medicaid, and other health care programs will more than double, from 4.5% to 10.9% of GDP.
There are two ways to reduce the government’s health-care outlays: reduce the amount of health care the government buys, or reduce the cost of health care. The simplest solution is to mandate that the government buy less health care – by raising the eligibility age for Medicare, capping benefits for high-income beneficiaries, and so on.
The problem with this approach is that Medicare is not particularly generous to begin with. If the eligibility age were to increase, responsibility for health care for many people would simply be dumped back onto their employers, resulting in higher health-care costs for all working people. A better solution is to figure out how to reduce health-care costs.
This year’s health-care reform legislation, the Affordable Care Act (ACA), is a starting point. According to CBO data, the ACA will reduce the long-term fiscal deficit by two percentage points of GDP per year. A top priority should be to preserve and expand its cost-cutting provisions. Another obvious step to consider is to phase out the tax exclusion for employer-sponsored health plans, which would not only increase revenue, but also end the distorting effects of employer subsidization of health care.
But efforts to tackle health-care costs continue to be hampered by widespread reluctance to tackle sensitive issues, as epitomized by the “death panel” tempest of a year ago. Reshaping the US health-care system to focus on successful outcomes and quality of life, rather than on employing the newest and most expensive technology, is a challenge for which no one yet has a proven solution. It remains, more than any other single factor, the key to long-term fiscal sustainability.
Simon Johnson is a professor at MIT Sloan and a senior fellow at the Peterson Institute. James Kwak is an entrepreneur and a student at Yale Law School. They are the authors of 13 Bankers: The Wall Street Takeover and The Next Financial Meltdown.
Copyright: Project Syndicate, 2010.
www.project-syndicate.org
For a podcast of this commentary in English, please use this link:
http://media.blubrry.com/ps/media.libsyn.com/media/ps/johnson11.mp3
You might also like to read more from Simon Johnson and James Kwak or return to our home page.
|
|
kanick53 06:12 18 Aug 10
""The problem with this approach is that Medicare is not particularly generous to begin with.""
This is quite an understatement. I was in a meeting yesterday on end stage renal patients requiring dialysis. Dialysis centers lose money on every Medicare patient they take on which is made up by money they make from private insurers. As part of health care reform which is going to include significant private health insurance reform this will need to be addressed. Health care providers and institutions cannot provide care if they are losing money.....
chetmarks 03:15 21 Oct 10
why not a wealth Tax
3% of net worth for every person and every company
no exceptions no deductions
this way your tax represents the amount you enjoy our society
ravikunjurs 03:02 18 Aug 11
Why miss out on corporate tax? Make sure effective corporation tax (ones that corporations end up paying) is equal or closer to nominal tax (corporation tax rate card). Increase share of corporation tax to GDP. No company will flee the USA if this is imposed; there's too much at stake for them. Secondly, reduce the tax burden on individuals! Americans may appear to be on a binge, but the reality is, average American worker is mostly spending on necessities not luxuries. We can perhaps take a leaf out of some Middle-East countries wherein individual tax rate is zero. Instead, tax the imports, and increase the share of tariffs as a % of GDP to the level of Hamilton-days. This will ensure that the corporations that are currently hoarding cash are compelled to open up their wallets and invest in domestic production - the best way to create jobs. I'm not a fan of cutting defense costs or entitlements - they are needed, and touching them is politically impossible to achieve. By the way, most of the oil is imported, and therefore, must be taxed. Yes, this will create cost-push inflation, but will also likely change consumer (and corporate) behavior towards efficient use of energy.
JohnRose 03:22 18 Aug 10
No mention of the ~6.5% of GDP spent on defense (DoD+DHS+VA+DoS), an increase of 2.7% over the last decade? Are you just assuming that will go down over the long-term?