America’s Endless Budget Drama

By November 23, the Super Committee must cobble together a package of tax increases and spending cuts to reduce the federal deficit by $1.2 trillion over 10 years, or trigger deep cuts in defense and discretionary spending.

Armageddon may be averted — but only briefly. The drama will continue in February when the President publishes his new budget, and bond rating agencies see even more plainly that Washington lacks the will to bring its finances under control.

Any deal will likely lean on accounting gimmicks and wink-and-a-nod promises — savings for wars that are winding down and promises of tax reforms special interests will mostly block — but what matters is cutting spending by $120 billion a year would be no real trick. Congress and the Administration simply lack the stomach to fix structural problems that are spending the nation broke and taking Americans down a trail blazed by the Greeks and Italians.

Health-care costs are too high and Americans are living longer. No matter what the Super Committee does, federal Medicare, Medicaid and Social Security outlays will continue growing faster than the economy and federal revenues — even if the President gets significantly higher taxes on upper-income Americans.

This situation is especially compelling, because economists see economic growth at closer to its current 2% pace than the 4% assumed by President Obama in his February 2011 budget and necessary to reduce unemployment to acceptable levels within a few years.

Since 2007, the deficit has swelled from $161 billion to about $1.3 trillion in 2011. Even with a few hundred billion annually in reduced spending and some new revenues, deficits in excess of $1 trillion each year can be expected indefinitely. Those projections should compel Moody’s and Fitch to join Standard and Poor’s in cutting the U.S. credit rating.

As tensions in Europe and the flight to the dollar abate, these circumstances would force the Federal Reserve either to monetize U.S. debt and unleash inflation or let long-term interest rates rise, raising borrowing costs for the federal and state governments, home buyers and private business.

On health care, the fundamental problem is the federal and state governments pay 55 cents of each dollar spent on health care; hence, a private market hardly exists, as government reimbursements substantially influence most prices for health services.

Germany and Holland, like the United States, have systems of private insurers. Although government reimbursements account for nearly 80% of payments, health care costs in those countries are half of what Americans pay. For example, Germans spend $400 per capita on prescription drugs, whereas Americans pay $800.

European governments keep costs down by better regulating prices, but in the United States drug manufacturers, health insurance companies and hospitals each have enough influence in Washington to block genuine reform.

Solutions require significantly lower prices for drugs and many health care services, and the President’s health care law doesn’t provide for those — witness the jump in cost of drugs, health insurance premiums and the like for 2012. Now the President is boxed in by past actions to defend a policy that adds additional subsidies to a broken system and increases health-care prices and the deficit.

The Republican approaches — replacing federal Medicaid with block grants to the states and offering seniors more private insurance options in place of Medicare — would merely shift the problem of too-high prices for services and drugs onto state budgets and the backs of the poor and elderly.

Also, Europeans don’t have the additional burden of abusive malpractice suits but tort lawyers have among their ranks too many prominent contributors to the Democratic Party for any solution to be possible there.

On Social Security, the basic problems are that Americans are living much longer and retiring long before their health requires, and the ratio of retirees to working age Americans is too high and rising. Higher taxes would cripple U.S. international competitiveness with rising Asian economies, and individual retirement accounts risk leaving many elderly without adequate support, especially if they live past 75.

Simply, the retirement age needs to be raised to 70 for Americans under the age of 55. Only that solves the problem and other solutions are unworkable.

When Democrats and Republicans are willing to start seriously regulating prices for health services, and embrace a substantial and immediate increase in the retirement age, Americans and bond rating agencies will know they are serious about deficit reduction. Until then, posturing in Washington provides great drama, but we are saddling our children with an unbearable debt.

Peter Morici is a professor at the Smith School of Business, University of Maryland School, and former Chief Economist at the U.S. International Trade Commission.

Peter Morici served as Chief Economist at the U.S. International Trade Commission from 1993 to 1995. He is an economist and professor at the Smith School of Business, University of Maryland.