Dueling Debt Ceiling Strategies

Can a viable deal be reached?

Dueling measures to deal with America's debt ceiling crisis were on tap in the House and Senate yesterday. The Republican-controlled House of Representatives debated and passed H.R. 2560, more familiarly known as the "Cut, Cap and Balance Act." The legislation calls for raising the debt ceiling by $2.4 trillion in exchange for immediate spending cuts, along with the adoption of a constitutional or "similar" amendment requiring a balanced federal budget. In the Senate, members of the bipartisan "Gang of Six," given up for dead until Tom Coburn (R-OK) unexpectedly rejoined the group yesterday, were working on a $3.7 trillion deficit reduction plan that would also raise $1 trillion in revenue. But what is likely to emerge from this 11th hour scramble?

The Cut, Cap and Balance bill is a three-part affair. The "cut" part would impose limits on both discretionary and mandatory spending or force a presidential sequester, which is "an automatic, across-the-board proportional spending cut written into law and implemented by the Office of Management and Budget (OMB)." Social Security and Medicare would be exempt from sequestering.

The "cap" part would enforce a limit on federal spending by tying it to a fixed percentage of the nation's Gross Domestic Product (GDP). This is critically important. Most Americans are likely unaware of the fact that, despite tax rates being all over the lot, from a marginal rate as high as 92 percent in the '50s to a low of 28 percent in the late '80s, federal government receipts have averaged 18 percent of GDP for the last 60 years. The reason for this is simple: as tax rates change, so do peoples' behavior, meaning they find ways to avoid tax liabilities.

Thus, while "tax the rich" may sound logical in terms of increasing revenue, it doesn't bear out in reality. Furthermore, "rich" is a mobile concept: 60 percent of America's taxpayers were in a different tax bracket in 2007 than they were in 1999. More importantly, 40 percent of those in the top fifth moved down, while 60 percent of those in the bottom fifth moved up. The primary reason America is running its highest deficits in history is because the Obama administration is currently spending a post-WWll high of almost 24 percent of GDP, and forty cents of every dollar is borrowed money. Cap would wind that spending back -- gradually -- to the historic average.

The "balance" part of the law would increase the debt limit by $2.4 trillion after Congress passed a Balanced Budget Amendment specifically tied to the above-mentioned limit on spending as a fixed percentage of GDP. Any tax increases above the fixed limit would have to be approved by a two-thirds majority in both houses of Congress.

The obvious plusses of Cut, Cap and Balance? A certain degree of fiscal sanity would be imposed on members of both parties, whose level of fiscal insanity has brought this nation to the brink of bankruptcy. The bill would be a mechanism for dealing with the reality that statesmanship, as in the idea of doing something for the good of the country without regard for personal gain, is dead. Furthermore, the two-thirds vote threshold required for raising taxes would largely curtail frivolous spending initiatives engendered by phony "crises."

The obvious negatives? The required Balanced Budget Amendment, constitutional or otherwise, in exchange for raising the debt ceiling. A constitutional amendment could take years. Even a simple amendment bill would be next to impossible to pass before the August 2nd deadline, and whether Republicans realize it or not, such an unrealistic expectation undermines the rest the bill's credibility. The bet here is they know it, but choose to get Democrats on the record rejecting the amendment. Perhaps just as telling, two out of the three revenue-eating behemoths, namely social Security and Medicare (the military is the third), remain immune to automatic cuts administered by the OMB. This could make the still-necessary reforms of both even harder to achieve.

The biggest negative? A next-to-nothing chance of passing in the Democratically-controlled Senate, and a promised presidential veto by Mr. Obama in the event of a miracle. There will be no miracles.

Moving on to the Senate, a strategy characterized as a "bipartisan, comprehensive and balanced plan consistent with the Bowles-Simpson fiscal commission" is being contemplated. This proposal would immediately impose cuts of $500 billion, "stabilize" our public debt by 2014, and reduce it to 70 percent of GDP by 2021. The process would take two steps to accomplish: an initial bill mandating the immediate $500 billion in cuts, and a "process" to enact comprehensive reform afterwards.

Some of the comprehensive reforms listed include "dramatic" cuts to discretionary spending, "careful" strengthening of entitlement programs, "fundamental" tax code reform, "strict tightening" of government budget processes, and Social Security "reform." The details include fully funding the Sustainable Growth Rate mechanism used to pay physicians, eliminating the Alternative Minimum Tax, which had originally targeted the rich, but whose levels are increasingly encroaching on middle class earners, and making Social Security solvent for the next 75 years. And despite a revenue increase of $1 trillion, the bill calls for a "CBO [Congressional Budget Office] scored plan" of $1.5 trillion in "net tax relief." It would also impose a "67-vote threshold" (do they mean two-thirds vote?) on a "stand-alone" resolution, in order to circumvent spending caps or add to the debt.

Tax reform would include tradeoffs. Personal and corporate income tax rates would be lowered, but some deductions would be eliminated, with estimates "tailored" to provide $1 trillion in additional government revenue. Deficit reduction plans include committees set up to "report legislation" aimed at delivering "real deficit savings in entitlement programs over 10 years" in several government departments, including Homeland Security, Commerce, Agriculture, Energy and Defense.

The positives? First and foremost, the Senate getting involved in the debt ceiling effort, albeit indirectly. A senior Senate Democratic aide noted that "there are no discussions" on bringing this legislation into the debt ceiling negotiations. But Senate Budget Committee Chairman Kent Conrad (D-ND) who told reporters that the response by the 50 senators briefed on the legislation was "very favorable," also posed the possibility the plan could "get married" to the debt ceiling debate. Second, the president expressed his support. “I think we’re now seeing a potential for a bipartisan consensus,” he told reporters. Third, the plan involves some level of bipartisanship, although how much is currently unclear. Republican Sen. Coburn, who had quit the group in May following a sharp disagreement regarding Medicare cuts, had proposed his own plan on Monday with $9 trillion in deficit cuts and $1 trillion in tax increases over ten years. How his particular agenda has been addressed also remains unclear.

The negatives? A distressingly familiar theme: a "definite" $500 billion in immediate cuts followed by a "process" with some pretty good ideas, all of which could be "re-negotiated" once the immediate crisis is in the rear-view mirror. For Republicans who remember being burned before by Democrats' "bait and switch" tactics, most notably under Ronald Reagan in 1982 and George H.W. Bush in 1990, both of whom raised taxes in return for spending cuts that never materialized, it may be especially galling.

Two other troubling details emerge in the opening statement of the plan. The first detail calls for deficit reductions of $3.7/$3.6 trillion over ten years, or $4.65/$4.5 trillion if president Obama's 2011 budget request of $3.7 trillion is used as the "starting point for discretionary spending." This is the budget that was so ridiculous it was defeated by a 97-0 vote in the Senate. It contains $1.65 trillion in immediate deficit spending which would be "offset" by as little as $450 billion per year for a decade. That's bait and switch on steroids.

The second detail is for sophisticates. The proposal will ostensibly stabilize "publicly held" debt by 2014 and reduce "publicly held" debt to 70 percent of GDP by 2021. Sounds swell as long as Americans remain unaware of something called "intragovernmental debt." Intragovernmental debt is money the government borrows from itself.  The best example is Social Security. Despite the myth that funds used to pay for it are in a "lock box," in reality the only thing in a lock box are government IOUs in the form of Treasury bonds. Bonds which eventually have to be paid off the same way publicly held debt gets paid off, which is by raising taxes, reducing services, or creating new money via the Federal Reserve system. Our current intragovernmental debt stands at over $4 trillion. There is nothing in this proposal which addresses it.

Chances of this package passing? Better than Cut, Cap and Balance, at least in the Senate. But a plan like this is likely just as DOA in the House as Cut, Cap and Balance is in the Senate. Thus two realities are emerging. First, America is still in need of something that will satisfy the financial markets and the ratings agencies by August 2nd. The bet here is that some kind of "kick the can past the 2012 election" proposal, one that each side hates and will blame the other for, will be adopted. Probably at 11:59 PM on August 1st.

The second, and far more important reality: the 2012 election will be the ultimate referendum on America's fiscal future. This may in fact be an unexpected cause for optimism, as the public will be the ultimate arbiter of this long, bitter, tiresome debate.

Arnold Ahlert is a contributing columnist to the conservative website JewishWorldReview.com.