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Its Still Possible to Cut Spending: Heres How wall street journalopinion

by R. Glenn Hubbard

November 23, 2011 After two months of talks, the super committee announced failure on Monday to agree on reducing federal deficits by $1.2 trillion over the next decade. But as the late economist Herb Stein once remarked: If something cannot go on forever, it wont. That applies to the mounting budget shortfalls. But how? President Obamas answer is higher taxes. But he cant be serious. Just accommodating his spending plans over the next decade requires across-the-board tax increases of 20%. Over the next 25 years, taxes would need to rise across the board by 60%. Instead, what is needed is spending reform that offers goals, specifics and ways to blend fiscal responsibility with modernizing government. This includes near-term action on discretionary spending and longer-term action to reform entitlements and reduce the growth of Social Security and Medicare. Then revenue contributions can be addressed in the context of tax reform. The first goal is to reduce federal spending to a healthier 20% share of GDP from todays bloated 25% within a decade. A tall order, yes, given the profligacy of the last few years. But it can be accomplished by eliminating unnecessary federal programs, empowering states, and reforming and streamlining government. The obvious place to begin is repealing ObamaCare and its expansion of spending. Programs like the federal Community Development Fund, which should fall under state and local or private responsibilities, can be axed. So can intercity and high-speed rail grants, which lack plans to make rail competitive, and duplicative education programs. We should also let states experiment with alternatives to our current one-size-fits-all federal solution. The best example is Medicaid, which should be converted into a block grant. Replacing federal matching support with block grants eliminates state incentives to attract additional federal subsidies, while allowing states to manage Medicaid more efficiently. Federal Medicaid costs should be capped at growth of 1% over the inflation rate. The federal work force can shrink through attrition, and employee compensation can be adjusted to private levels. We should cut costly applied research in fields such as renewable energy at the Department of Energy, focusing only on basic research. And the Davis-Bacon Act, which inflates the price of federal construction projects by requiring high-cost union labor, has to be repealed.

R. Glenn Hubbard

Its Still Possible to Cut Spending: Heres How

Hoover Institution

Stanford University

These three approaches would bring federal spending down to 20% of GDP. Yet as ambitious as they are, these wont solve our long-term budget problems, which reflect yawning deficits in Social Security and Medicare. Regarding Social Security, the program first needs to be made solvent and sustainable over the long term. In particular, program outlays need to grow more slowly to allow for rising costs in health-care entitlements. Second, we must modernize Social Security by making it more effective in protecting low earners and more conducive to personal saving and the longer work lives needed in todays economy. These changes will require a strong minimum benefit, gradual increases in the retirement age, and slowing benefit growth for more affluent Americans. As a pro-growth measure, we should also eliminate the Social Security payroll tax for all individuals age 62 and older to encourage individuals to keep working and to increase their attractiveness to employers. In that vein, we should also eliminate the retirement earnings test that reduces benefits for early retirees who continue to work. Our long-term budget problems are dominated by Medicares unfunded liabilities of tens of trillions of dollars. But changes must preserve Medicares role of assisting lower- and moderate-income Americans. As with Social Security, Medicares eligibility age should be increased gradually, and we should promote work by eliminating the Medicare payroll tax for individuals 62 or older. A more modern version of traditional Medicare would replace Parts A, B and D with comprehensive benefits including coverage for catastrophic costs and prescription drugs. Simpler cost-sharing would be offeredwith one deductible for inpatient and outpatient services and a common coinsurance rate for all services. Medicare would be placed on a budget through premium support, which would let beneficiaries choose among competing health plans, much like federal employees do now. Subsidies would be larger for lower-income or higher-health-risk individuals. The annual growth would be determined by Congress along with other spending priorities. And what about taxes? Incorporating revenue increases into forward-looking budget planning requires care. For the plan to be pro-growth, marginal tax rates must not be raised. That leaves base-broadening by reducing tax expenditures and tax preferences. With this in mind, Congress should agree on a revenue target for the decade, then deliver on this target via tax reform. Merely extending the 2001 and 2003 tax cuts is not the most pro-growth policy. Fundamental tax reform need not be revenue-neutral, as the Bowles-Simpson

R. Glenn Hubbard

Its Still Possible to Cut Spending: Heres How

Hoover Institution

Stanford University

Commission planwhich would raise net revenue through broadening the tax baseindicates. And reform can be progressive. But tax reform is important for ensuring that deficit reduction promotes economic growth as well as budget austerity. About the Author It is unfortunate that many members of Congress and much of the public dont understand that Americas fiscal problems can be solved almost entirely by altering the trajectory of government spending. President Obamas leadership failure here is obvious. If something cannot go on forever, it will stop. But even with the super committees failure we may be able to avoid a sudden, calamitous stopand provide a government worthy of the 21st century for all Americans.

R. Glenn Hubbard is the dean of Columbia University Business School, where he is also the Russell L. Carson Professor of Finance and Economics, and a member of the Working Group on Health Care Policy. Hubbard has been at Columbia University since 1988; he has been a visiting professor at Harvards Kennedy School of Government and Harvard Business School, as well as the University of Chicago. He served as deputy assistant secretary of the U.S. Treasury Department for Tax Policy from 1991 to 1993. From February 2001 until March 2003, he was chairman of the U.S. Council of Economic Advisers, at which time he also chaired the Economic Policy Committee of the Organisation for Economic Co-operation and Development (OECD). He is currently a director of ADP, BlackRock Closed-End Funds, KKR Financial Corporation, and Met Life. Hubbard received his BA and BS degrees summa cum laude from the University of Central Florida and holds AM and PhD degrees in economics from Harvard University.

Reprinted by permission of the Wall Street Journal. 2011 Dow Jones & Co. All Rights Reserved.

R. Glenn Hubbard

Its Still Possible to Cut Spending: Heres How

Hoover Institution

Stanford University