The Big Trade-Off

Anyone not wearing ideological blinders had to read yesterday’s updated economic outlook from the Congressional Budget Office and kinda nod along:

If the current laws that govern federal taxes and spending do not change, the budget deficit will shrink this year to $845 billion, or 5.3 percent of gross domestic product (GDP), its smallest size since 2008. In CBO’s baseline projections, deficits continue to shrink over the next few years, falling to 2.4 percent of GDP by 2015. Deficits are projected to increase later in the coming decade, however, because of the pressures of an aging population, rising health care costs, an expansion of federal subsidies for health insurance, and growing interest payments on federal debt.

And here’s the flip side:

[U]nder the fiscal policies embodied in current law, output is expected to remain below its potential (or maximum sustainable) level until 2017 (see figure below). By CBO’s estimates, in the fourth quarter of 2012, real (inflation-adjusted) GDP was about 5½ percent below its potential level. That gap was only modestly smaller than the gap between actual and potential GDP that existed at the end of the recession because the growth of output since then has been only slightly greater than the growth of potential output. With such a large gap between actual and potential GDP persisting for so long, CBO projects that the total loss of output, relative to the economy’s potential, between 2007 and 2017 will be equivalent to nearly half of the output that the United States produced last year.

After the economy adjusts this year to the fiscal tightening inherent in current law, underlying economic factors will lead to more rapid growth, CBO projects—3.4 percent in 2014 and an average of 3.6 percent a year from 2015 through 2018….

Nevertheless, under current law, CBO expects the unemployment rate to remain high—above 7½ percent through 2014—before falling to 5½ percent at the end of 2017.

So the smart path ahead would seem to be reasonably clear: short-term stimulus and long-term action to reduce deficits by a combination of new revenues, defense spending cuts, and entitlement spending reductions, with this last component best achievable through health-care cost containment measures.

Instead, we’ve already raised payroll taxes this year on the category of the population whose consumption is most sensitive to tax rates, and we are on the brink of big across-the-board cuts not just in defense spending but in the types of domestic spending (the discretionary accounts) that contribute the least to the deficit problem.

And a big piece of the problem, of course, is that one of America’s two major parties is wedded to the completely destructive idea that short-term spending austerity is the key to long-term growth. So it cannot accept the inevitable tradeoff between short-term deficit reduction and economic recovery that is right there in the numbers for everyone else to see.

Ed Kilgore

Ed Kilgore, a Monthly contributing editor, is a columnist for the Daily Intelligencer, New York magazine’s politics blog, and the managing editor for the Democratic Strategist.