By Robert Kuttner Whatever happened to the deficit hawks? As the celebration ends, Republicans should begin to take a hard look at the budget mess and the broader economic calamity that could befall President George W. Bush in his second term. Most of it is of his own making. And with wall-to-wall control of the government since 2002 and four full years since the last Democratic Administration, the responsibility will be entirely his.
Bush now has the votes to make his tax cuts permanent and to add new ones. The Congressional Budget Office (CBO), which reports to Republican committee chairmen, admits that with realistic assumptions the deficit will total more than $4.4 trillion by 2014 and not the $2.2 trillion in official projections. That's because making the 2001 and 2003 tax cuts permanent will cost an additional $1.65 trillion over 10 years. Preventing the alternative minimum tax from biting the middle class will cost $603 billion more. Tax simplification could be a net revenue loser, too.
AND IF BUSH SUCCEEDS in partly privatizing Social Security, an additional $2 trillion will be added to the national debt. Bush will need to borrow money -- or raise taxes -- both to finance new private retirement accounts and to keep payments flowing to current retirees as he has promised. There is no way for the economy to grow out of deficits of this scale, and at some point they will trigger higher interest rates, slowing growth. The currency markets are already nervous. The dollar fell to a low against the euro on Friday, because foreign investors are looking at the budget and current-account deficits and wondering who is going to finance them.
Administration and CBO projections also assume, optimistically, that federal spending growth will not exceed the rate of inflation. But in Bush's first term, spending growth ran almost double the inflation rate despite cuts in domestic social programs. Although the President is committed in principle to shrinking government, he increased spending for signature initiatives such as No Child Left Behind and prescription-drug subsidies, to the frustration of many conservatives. He also tolerated huge pork barrel outlays. The Iraq war will continue to boost spending. So far most Bush cuts affect mainly the poor, not his constituents. But if he wants to offset tax reductions with additional program cuts, he will have to start curbing big middle-class programs such as Medicare -- and voters will notice.
Given low domestic savings rates, budget deficits of this magnitude require foreign financing. For years economists have been warning that the "co-dependency" between the U.S. and Asian central banks -- in which the immense American budget and trade deficits are financed mainly by Japan and China as long as we keep importing their products -- cannot be sustained indefinitely. Bush's budget deficits have pushed this arrangement close to a tipping point and a dollar crash. The trade deficit is in excess of 5% of gross domestic product and heading toward 7%. At some degree of U.S. foreign indebtedness, the world will start dumping the dollar and shorting it in the currency markets.
The trade deficits would be smaller if China and Japan ran more open economies. But Bush's heavy dependence on the central banks of these countries undercuts any leverage Washington has to induce them to open further to U.S. exports and to run more transparent economies. In addition, a weakening dollar scares off non-central bank private foreign investors in American securities. There has been very little private foreign investment in U.S. equities and government bonds lately.
Adding to the trade deficit is the high cost of oil. Despite the recent decline to below $50 a barrel, Philip K. Verleger of the Institute for International Economics projects that crude prices will reach $60 to $70 within two years. The Administration's energy policy mainly consists of weakened pollution standards and more domestic drilling.
Twelve years ago the business-backed Concord Coalition made a huge difference in fiscal policy. Its campaign for budget balance spotlighted the irresponsibility of the accumulated deficits of Ronald Reagan and George H.W. Bush and added pressure on the new Clinton Administration to get serious about deficit reduction, even at the cost of raising taxes. One hasn't heard much from the coalition lately and even less from business Republicans.
Robert Kuttner is co-editor of The American Prospect and author of Everything for Sale.