Obama 2010 Budget Plan Sneak Preview

This op-ed piece from John Podesta and Michael Ettinger in yesterday’s Financial Times provides a good idea of what to expect this year from the Obama administration as far as the budget is concerned. Given how close Podesta is to the White House (he was, after all, the head of the transition team) and the fact that the organization he heads — the Center for American Progress — still appears to be the administration’s thinktank of choice, it’s possible and perhaps even very likely that this piece was used as a trial balloon for what the president is planning to say about the budget when he delivers the State of the Union on January 26.

If that’s true, then the budget messages coming from the administration will be as follows:

1. Given the sorry state of the U.S. economy, increasing the deficit was the appropriate fiscal policy last year.

2. Now, with the economy recovering, reducing the deficit is the correct fiscal policy and the one we’re going to be pursuing.

3. This won’t happen quickly. The last administration left us in a bad situation that we initially had to make worse to deal with the recession. So the old standby of projecting a balanced budget in five years isn’t doable.

4. We’re going to do this is two stages. First, we’ll propose policies that, not including the annual interest payments on the national debt, will balance the budget by 2014. We’re calling this the “primary balance.” Second, we’ll balance the budget including annual interest payments by 2020.

5. We’re also going to propose three budget process changes. The first will be year-by-year deficit targets that first lead to the primary and then full balance by 2014 and 2020, respectively. The second will be some type of Gramm-Rudman-Hollings-like adjustment that automatically will make changes in spending and taxes if the annual deficit targets aren’t reached so that we don’t fall behind. The third will be a pay-as-you-go requirement that applies to both revenues and spending.

Making something called “primary balance” an initial goal may be good fiscal policy but it’s absolutely brilliant communications. What it really means is that, based on current estimates, the deficit will be between $400 billion and $500 billion in 2014. That would be a significant achievement from the $1.4 trillion deficit in 2009 that, again based on current projections, would equal somewhere between 3 and 4 percent of GDP.

A $400 billion to $500 billion deficit obviously implies $800 billion to $900 billion in deficit reductions between 2011 and 2014. Perhaps one-third of this will happen because of a growing economy (assuming, of course, it continues to grow) and no more bailouts. That will still leave the president and Congress with the responsibility of coming up with $500 billion to $600 billion in deficit reductions over four years. That’s not impossible but it’s hardly a slamdunk.

One major part of the deficit reduction will be if the three parts of the Bush tax cuts the president has said he wants to allow to expire at the end of this year — the top marginal rate on personal income, capital gains, and dividends — are actually allowed to expire. A second piece, but not as large as some expect, will come from lower spending because of reduced activities in Iraq and Afghanistan by 2014.

This implies the need for an additional four-year, approximately $350 billion deficit reduction effort. This is definitely doable, especially if the reports from several months ago about the Office of Management and Budget requiring domestic departments and agencies to develop 2011 budgets with reductions of up to five percent, turn out to be true.

The budget process changes will be very controversial with the annual deficit reduction targets being the easiest of the three. Automatic deficit reductions that include revenue increases and new paygo rules that apply to taxes as well as spending will both cause howls of Republican protest and will likely be the major political battlegrounds for the rest of the year.

Two final notes.

Even if Barack Obama is re-elected in 2012, he will only be in the White House until 2016. That means that, while “primary balance” might be achieved while he is in office, a fully balanced budget wouldn’t occur until the end of the first term of the next president. This is why, no matter how sincere the proposed Obama budget plan might be, it’s important to keep in mind that whether the deficit is reduced as much as estimated will depend to a large extent on decisions made by an unknown president.

Second, also keep in mind that the plan proposes a deficit reduction effort that is correct given what we’ll be assuming today about how the economy will perform over the next 10 years. It is very likely that economic growth will be faster or slower than what will be assumed when the Obama budget is released in about four weeks and, therefore, that the deficit reduction that actually occurs will be far different from what is projected.

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