Obama Plan Pares Deficit as Romney’s End Lacks Means

President Barack Obama proposes to address the nation’s fiscal challenges through tax increases for top earners, smaller budget cuts than his Republican opponents demand and a silence beyond the next 10 years while deficits and debt mount.

Obama’s plan would impose a tax increase averaging more than $21,000 a year for households earning between $500,000 and $1 million. On the spending side, he would eliminate $22 billion of farm subsidies over the next decade and cut Medicare payments to teaching hospitals. His plan would slow the red ink without stopping it, leaving his successor to deal with rising health- care costs contributing to structural deficits.

“The problem with the Obama plan is basically that it doesn’t contain a long-term strategy for tackling the debt, which they will concede,” says Bob Bixby, executive director of the Concord Coalition, a group in Arlington, Virginia that advocates deficit reduction.

The president’s plan contrasts with the Republicans’ fiscal goal of a smaller government and a balanced budget over the next decade. Instead, he proposes to reduce the U.S. budget deficit enough to stabilize debt as a share of the economy, preserve social safety-net programs for the poor and elderly and continue spending on education and renewable energy.

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Balanced Plan

Under the detailed annual budget he offered in February, Obama would sprinkle sacrifice around the government, keep defense funding almost flat and seek tax increases as part of a “balanced” plan. The Republican presidential nominee, Mitt Romney, hasn’t been specific as to how he would reach his goals. He wants a spending-only approach to deficit reduction that would cut social programs by more than one-quarter and add money for the Pentagon.

Obama’s budget achieves the minimum acceptable level of deficit reduction over the next decade, said Keith Hennessey, an economic adviser to former President George W. Bush.

“The defining feature of his budget is that it just punts the long-term question,” said Hennessey, a lecturer at the Stanford University Graduate School of Business. “You can reduce the budget deficit by raising taxes. It’s a bad idea, but you can do it. In the medium and long term, you can’t unless you’re willing to raise taxes forever and ever and ever.”

After a decade, the Romney and Obama proposals would be about $300 billion a year apart on revenue and as much as $1 trillion apart on spending. In the long run, Romney proposes a higher retirement age and structural changes to entitlement programs.

Undefined Reductions

Romney’s plan promises tax-rate cuts and avoids immediate changes to Medicare and Social Security benefits, requiring him to rely on undefined spending reductions, vague promises of tax- base broadening and optimistic growth assumptions to turn a trillion-dollar deficit into a balanced budget even as he increases defense spending.

Romney, the former governor of Massachusetts, calls for capping spending at 20 percent of the gross domestic product by 2016, devoting 4 percent of the economy to defense spending and balancing the budget in 8 to 10 years. He insists on no tax increases and would cut tax rates by 20 percent while eliminating the estate tax and the alternative minimum tax.

Obama’s Plan

Obama’s proposal seeks a return to some of the tax policies that led to a budget surplus during President Bill Clinton’s administration. Citing the importance of an approach that includes spending and tax changes, the president’s plan includes tax increases for high-income earners and cuts to reduce the deficit to 3 percent of the gross domestic product in 2022 from 8.7 percent in 2011 and stabilize debt as a percentage of the economy. Beyond that point, his reluctance to curb entitlement programs leads to widening projected deficits.

“We’re going to have to close the deficit, and the question is: Are we going to do it Mr. Romney’s way?” Obama asked Aug. 28 in Fort Collins, Colorado. “Or are we going to do it in a balanced way that says, yes, we cut spending we don’t need, but we also ask everybody to do their fair share?”

Neither candidate’s plan probably would make it through Congress unscathed because both are designed to appeal to core partisan voters. Obama’s insistence on tax increases for top earners and reluctance to propose cuts in future entitlement benefits makes his plan a non-starter for Republicans.

Whoever wins, the next president will have to shift from his campaign positions to reach a bipartisan agreement that will include higher taxes and changes to entitlement programs, said former Senator Judd Gregg of New Hampshire, a Republican who was chairman of the Budget Committee.

‘Upset Voters’

“There’s no good policy argument for delaying making the decisions,” said Hennessey, even if the effect is delayed. “A, they don’t have an answer, and B, they know their answers would upset voters.”

The U.S. budget deficit rose to $1.3 trillion in 2011 from $160.7 billion in 2007. That’s mostly a byproduct of the 2007- 2009 recession, which reduced incomes and tax collections and caused higher spending on programs such as unemployment insurance and food stamps. Obama’s 2009 economic stimulus law also contributed.

This year, spending will be 22.9 percent of gross domestic product and revenue will be 15.7 percent, according to Congressional Budget Office data released Aug. 22. Obama has proposed policies that would push more money into the economy, including tax cuts for businesses, infrastructure spending and aid to states.

Congress hasn’t acted on most of those and is instead locked in a fight over how to address automatic spending cuts and tax increases, scheduled to take effect in 2013.

Spending Decline

If Congress does nothing, by 2022 revenue to the Treasury will increase to 21.4 percent of the gross domestic product, owing to the expiration of the Bush-era tax cuts and the continued economic recovery. Spending is projected to decline to 22.3 percent of GDP, yielding a 0.9 percent deficit, or $213 billion.

Because Congress probably will extend most of the Bush-era tax cuts and prevent doctors’ pay under Medicare from being cut by more than 30 percent, the Congressional Budget Office outlines a more politically realistic calculation. Under that scenario, in 2022, revenue would reach 18.6 percent of GDP and spending would be 24.1 percent, for a deficit of 5.5 percent of GDP, or $1.4 trillion.

As president, Obama is required to submit a budget plan, and as a result he offers the big-picture numbers that Romney is missing and agency-by-agency detail.

Stabilizing Debt

In broad strokes, Obama’s plan includes a combination of tax increases and spending cuts to stabilize debt as a share of the economy.

On the tax side, he would let the Bush-era tax cuts expire for individuals with income exceeding $200,000 a year and married couples making more than $250,000, and he has pledged to avoid higher taxes for everyone else.

His plan also would limit the upper-income group’s tax breaks to a 28 percent rate, affecting their ability to deduct charitable contributions, exempt municipal bond income and receive tax-free health insurance from their employers. Tax increases on capital gains and dividends for top earners were included in the 2010 health-care law and take effect in 2013.

“We’ve got to streamline government and make it work efficiently and effectively,” Obama said on Aug. 13 in Council Bluffs, Iowa. “But what we also can do is just ask folks like me to do a little bit more. And all we’re asking is for folks like me to go back to the rates that we paid under Bill Clinton.”

Clinton Years

Under Clinton, who raised taxes after taking office in 1993, federal revenue reached 20.6 percent of GDP in 2000, compared with spending of 18.2 percent. That was the third of four consecutive years of government surpluses, and Democrats contend that the Clinton era shows that higher taxes don’t necessarily prevent economic growth.

In the last four years of Clinton’s presidency, the economy grew by more than 4 percent each year and added more than 11 million jobs. The unemployment rate fell to less than 5 percent in July 1997 and remained there until September 2001 amid that year’s recession and the terrorist attacks on the U.S.

The circumstances Obama faces are different from those of the Clinton years. During the 1990s, the government didn’t have to finance the retirement of the baby boom generation and benefited from revenue generated by growth in Internet businesses. After 1994, Clinton negotiated with a Republican Congress on budget agreements that included spending cuts.

Raising Taxes

Furthermore, Obama’s fiscal program doesn’t mimic Clinton’s. He wouldn’t raise taxes for most people to pre-2001 levels, meaning that the majority of taxpayers would still benefit from the Bush-era tax cuts. Obama’s proposed limits on top earners’ tax breaks and higher rates on capital gains and dividends mean that effective tax rates for high-income individuals would be higher than they were during the Clinton administration.

Obama would reduce what’s known as discretionary spending from 8.4 percent of the economy to 5.2 percent. That covers federal programs outside of Medicare, Medicaid, Social Security and other smaller entitlement programs, which would grow in that period. Obama’s approach could force changes at agencies such as the National Park Service and Environmental Protection Agency.

This year alone, Obama proposed cutting $24 million, or 15.4 percent, of the park service’s construction budget. He called for eliminating a $10 million EPA program for water- quality monitoring at beaches and cut in half a $30 million EPA program that provides grants to state and local governments to retrofit or replace diesel engines.

Out Years

By 2022, without hard caps or a balanced-budget goal like Romney’s, Obama’s plan would bring spending to 22.8 percent of GDP and revenue to 19.8 percent, according to the Congressional Budget Office.

According to CBO, Obama’s approach would keep the debt held by the public to about 76 percent of the economy. When the size of the deficit as a share of GDP is the same as economic growth, the debt is stabilized. If growth is larger than the deficit, the debt burden shrinks as a percentage of the economy, even if the nominal amount of the debt increases.

“You’ve met minimum requirements” and done it in a way “that’s preserved essential programs and advocated for a tax system that’s obviously workable,” said Richard Kogan, a senior fellow at the Center on Budget and Policy Priorities, a Washington group that advocates policies that help low-income households. Kogan worked in the Office of Management and Budget under Obama.

Political Statement

Obama’s plan is more of a political statement than anything else, said Gregg, who criticized the president for not backing the findings of the 2010 bipartisan commission chaired by former Republican Senator Alan Simpson and Erskine Bowles, Clinton’s White House chief of staff. Gregg served on the panel and supported its proposal, which included higher taxes and deeper spending cuts than Obama has supported.

“That was his commission,” Gregg said. “It was supported by conservative Republicans in the Senate and liberal Democrats in the Senate. It was an opportunity to stand up on the issue and lead, and he chose not to.”

The idea that Republicans would have backed the Simpson- Bowles plan with its tax increases if Obama embraced it is “one of the greatest myths of the Acela corridor,” Dan Pfeiffer, the White House communications director, said today at a panel discussion at the Democratic National Convention in Charlotte, North Carolina. “It’s pure fiction.”

50-Year Low

Obama’s campaign said his plan would lead to the lowest level of domestic spending in 50 years as a proportion of the economy and emphasizes the lack of details in Romney’s proposal.

“This plan reflects the president’s belief that we need to reduce the deficit in a balanced way while protecting investments in our future economic growth and the middle class,” said Adam Fetcher, a campaign spokesman, in an e-mailed statement.

The Obama campaign didn’t respond to questions about the president’s long-run approach to deficit reduction.

Beyond the first decade, Obama’s deficit plans are less detailed, particularly on addressing demographic changes and rising health-care costs that make Medicare and Medicaid expensive over time. According to the administration, revenue would be at 20.2 percent while spending would rise past 26 percent of GDP after 2040. That spending level would be the highest since the end of World War II.

Medicare Benefits

Reluctance to trim Medicare benefits could require cuts in the rest of the budget, or vice versa. Further, Obama may need to break his promise to prevent tax increases for 98 percent of taxpayers, Bixby said.

“Debt would be stable through the 10-year window and then go up,” said Marc Goldwein, senior policy director of the Committee for a Responsible Federal Budget, a bipartisan group in Washington. “In my mind, he doesn’t do enough. But it’s certainly a positive step. And what he’s put forward is certainly a credible plan to stabilize the debt.”

Part of the administration’s plan is that some of the proposals in the 2010 law will lead to greater-than-projected efficiency in health care over time, making Medicare and Medicaid more affordable without the changes to benefits proposed by Romney and vice presidential candidate Paul Ryan.

Repealing the health-care law, as Republicans propose, would be a step in the wrong direction on health care costs, Kogan said. Policy makers, he said, should be cautious about making changes based on assumptions about the distant future.

To contact the reporter on this story: Richard Rubin in Washington at rrubin12@bloomberg.net

To contact the editor responsible for this story: Jodi Schneider at jschneider50@bloomberg.net

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