Monday, October 12, 2009

A lot of things have to go right for the White House to meet its budget projections for the next decade, including getting a firm grip on discretionary spending and keeping a tight lid on interest rates.

But if the White House cannot ratchet down the growth rate of discretionary spending during the next 10 years as fast as it proposes, total budget deficits are likely to be much higher than the $9 trillion it forecast last month. To meet its deficit goals, moreover, interest rates over the same period will have to be significantly lower on average than they were during the 1990s.

If these and other budget assumptions do not hold up, deficits during the next 10 years could total $13 trillion — $4 trillion higher than recent estimates by the Obama administration and the Congressional Budget Office (CBO), according to a new analysis by a conservative think tank.

“The White House figures are based on unrealistic estimates of discretionary spending, interest payments and interest rates,” said Brian M. Riedl, a Heritage Foundation budget analyst who wrote the report.

The Obama administration adopted a tactic of former President George W. Bush by “promising unspecified discretionary spending restraint sometime in the future,” Mr. Riedl said.

In addition to faulty assumptions, Mr. Riedl said the White House has used “budget gimmicks” to hide the full cost of some entitlements, such as the State Children’s Health Insurance Program.

By 2019, the annual budget deficit could approach $2 trillion, according to the Heritage report. Publicly held debt would soar from 40 percent of gross domestic product at the end of fiscal 2008 to nearly 100 percent of GDP in 2019, a level not seen since the end of World War II. Publicly held federal debt, which totaled $5.8 trillion at the end of fiscal 2008, would soar by more than 250 percent, reaching $20.9 trillion at the end of fiscal 2019.

The CBO’s figures are close to the president’s numbers, Mr. Riedl said, because the nonpartisan budget office is required to accept many of his “dubious assumptions.”

The White House questioned the methodology of the report and rejected its conclusions.

“This analysis is based on creative accounting, not the concrete facts in the president’s budget,” said Kenneth Baer, communications director of the White House Office of Management and Budget (OMB). “The president put forward an honest budget that accounts for dollars spent, jump-starts the economy and lays a new foundation for long-term economic growth.”

The Heritage report notes that nonemergency discretionary spending, which excludes entitlements, interest payments and the wars in Iraq and Afghanistan, has increased about 7 percent a year since 2000. That’s 4.5 percentage points above the rate of inflation as measured by the Consumer Price Index. During the last four years of the Clinton administration, discretionary spending increased more than 2 percent per year faster than inflation.

The Heritage report takes issue with the White House assumption that such spending will rise only by the rate of inflation from 2011 through 2019.

For example, during the 2013-2019 period, after all U.S. military troops are scheduled to be withdrawn from Iraq and after stimulus spending has expired, the administration’s budget projects discretionary spending to rise by an average of 1.9 percent per year. That is below its average annual estimate for inflation.

This restrained spending level disregards President Obama’s “pledges of historic increases in discretionary spending for education, highways, energy, health, veterans and science,” said Mr. Riedl. He also expects the White House and a Democratic Congress to push to maintain spending for many of the stimulus-fueled programs that are scheduled to expire or be ratcheted down.

Such spending decisions would require discretionary outlays to rise at the same pace of nominal economic growth, typically 4 to 5 percent, Mr. Riedl estimated. As a result, total discretionary spending would increase by an additional $1.5 trillion over 10 years.

An OMB official accused Heritage of “making up” growth rates for spending and ignoring the specific rates that he insisted the administration will follow.

James Horney, director of federal fiscal policy at the liberal-leaning Center on Budget and Policy Priorities (CBPP), said the nation’s current budget deficits would “produce enormous pressure on discretionary spending,” enough to keep it from rising more than the president’s budget projects.

He noted that nominal discretionary spending was essentially frozen during the early 1990s when budget deficits were high. Discretionary spending in 1996 was actually lower than it was five years earlier as a $54 billion reduction in defense spending more than offset a $53 billion increase in nondefense discretionary outlays.

The Heritage report also questioned the adequacy of the administration’s $50 billion annual allocation for Iraq and Afghanistan after 2011. But it did not make any adjustments to that figure.

Spending in Afghanistan alone now totals about $6.7 billion per month, or $80 billion per year. The OMB official said the $50 billion annual placeholder was “prudent,” given that previous budgets assumed spending would be zero in the out-years.

The Heritage report said that the president’s budget significantly underestimated total interest payments.

In scoring the president’s budget in June, CBO used interest rates that were below average rates during the 1980s and 1990s. For the 10-year Treasury note, whose interest rate averaged 6.6 percent in the 1990s and 10.5 percent during the 1980s, CBO’s economic projections converge toward 5.6 percent over the next 10 years. Similar differences affected short-term rates, as well.

Incorporating the interest rates of the 1990s, a period of comparatively modest debt levels and 3 percent average annual inflation, would add more than $1.3 trillion to net interest costs, the Heritage report said.

Mr. Horney said CBO’s interest-rate forecast was “as good as it gets.” To the extent that higher-than-projected inflation drives up interest rates, the OMB official argued that the evidence confirms that “higher inflation reduces deficits because the revenue effect is greater than the spending effect.”

In the stimulus bill, Congress authorized Mr. Obama’s Making Work Pay tax credit for less than three years. This tax credit, which Mr. Obama wants to make permanent, costs about $65 billion per year.

In his cap-and-trade energy bill, Mr. Obama planned to auction the carbon-emissions credits and use the proceeds to fund the Making Work Pay tax credit. But the House’s cap-and-trade bill has allocated more than $800 billion in free emissions credits.

The Heritage report concluded that the free emissions credits amounted to additional spending, raising the deficit accordingly. The OMB official, however, insisted that the White House was committed to finding other offsets to pay for the Making Work Pay tax credit.

The administration and Mr. Horney of CBPP disputed Heritage’s conclusion that 2010-2019 budget deficits would total $13 trillion, $4 trillion above the White House’s August estimate of $9 trillion.

In February and May, the White House projected that the 10-year deficit would total $7 trillion, $2 trillion below its August estimate.

Using CBO’s August economic projections, Mr. Horney said the CBPP has “roughly estimated” that the president’s budget would generate about $10.3 trillion in cumulative deficits during the 2010-2019 period. That’s $1.3 trillion above the White House’s August projection and $2.7 trillion below Heritage’s latest estimate.

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