Debunking the White House’s Budget Myths

The release of the Mid-Session Review of the 2006 budget by the White House today was accompanied by a press release full of dubious claims. Each point in the press release contained its own misleading or incorrect spin on the budget.

CLAIM #1: “The Improved Fiscal Outlook Is Directly Tied To The Strength Of The Economy. With the help of tax relief, the U.S. economy is growing at a healthy pace, creating millions of new jobs and increasing business investment.”

Of course, it is certainly true that government tax revenues, and thus the country’s fiscal outlook, depends directly on the strength of the economy. However, it is an unlikely and unproven claim to assert that the economic recovery was helped by tax relief.

Tax relief probably had little or nothing to do with the growth of the US economy over the past few years. As the following chart shows, the economy has grown much more slowly under the Bush administration than after the average post-war recession, despite tax cuts in 2001 (the “recession year”) and 2003 (“R +2”). In fact, the current recovery is no better than the recovery from the 1991 recession, even though that recovery faced more rapid increases in interest rates by the Fed (300 basis points in 18 months, compared to 200 basis points in 18 months during this recovery). So from this prima fasciae evidence, it’s hard to see that the Bush tax cuts have made any discernable mark on economic growth.

What did more sophisticated economic modeling predict for the supply-side effects of the tax cuts? As I mentioned in the previous post, the best estimate by the Congressional Joint Committee on Taxation (JCT) in 2003 was that the supply-side boost from the Bush tax cuts may (using optimistic assumptions) increase GDP growth by 0.3% per year for a few years. Note that this effect was predicted to disappear, or even be reversed, after 2008.

The Congressional Budget Office (CBO) published the results of a similar exercise in July 2003, in which they used several different macroeconomic models – specifically incorporating forward-looking supply-side reactions in the economy to the tax cuts – to estimate the growth effects of the tax cuts. Using the assumption that future government spending would be cut to try to balance the budget, five of the six supply-side models they used predicted that the Bush tax cuts would reduce, rather than increase GDP growth.

The economic models thus suggest that it is likely that the Bush tax cuts had a tiny or even negative effect on economic growth. Judging by actual GDP growth of the past few years, those models seem to have been about right.

CLAIM #2: “Growing Economy Is Producing Greater Than Expected Revenues. The Mid-Session Review projects tax receipts will rise 14 percent from last year – the largest such year-over-year increase in 25 years. Receipts are on pace to rise $87 billion more than expected last February; spending was $7 billion less than expected.”

Tax revenues have indeed risen quickly in the past couple of quarters. But as I illustrated in the previous post, if it weren’t for the Bush tax cuts, they would have grown even more quickly, and erased even more of the budget deficit.

Furthermore, the degree to which this relative improvement in the budget picture is “unexpected” is debatable. The following table shows the White House’s forecasts for the budget deficit (in billions of $) and GDP growth in 2005 and 2006.

Today’s much-trumpeted forecast of the deficit of “only” $333 billion is actually right in line with most of the projections for the 2005 deficit that the White House has made over the past few years, with the exception of the outlier of January 2005. Meanwhile, today’s forecast for the budget deficit in 2006 does not look like much of an improvement at all over earlier forecasts.

Based on the White House’s own forecasts, it’s hard to see that recent budget news contains any unexpected improvements in economic growth or the budget picture.

CLAIM #3: “The Projected Decline In The Deficit Includes Anticipated Costs. The new deficit forecasts take into account full extension of tax relief, war spending in 2005 and a substantial part of 2006, and the expected financing impact from creating voluntary personal retirement accounts under the President’s Social Security reform proposal.”

First of all, I find it odd that the White House is so proudly trumpeting the fact that this forecasts of the US budget actually “includes anticipated costs.” Isn’t a budget forecast always supposed to do that? It’s sad that this is news.

Nevertheless, this budget forecast still fails to include several important and fully anticipated costs.

First of all, today’s projections assumes that non-defense discretionary spending will grow at between 1.7% and 1.2% in nominal terms (which translates into a cut of about 1% per year in real terms) from now until 2009. This is despite the fact that such spending has grown by between 5% and 10% every year since 2001. Even if they just made the optimistic (from a budgetary point of view) estimate that non-defense discretionary spending would grow no faster than inflation, that would add $80 to the budget deficit through 2010.

Secondly, today’s projections assume just $37 billion in expenses for Iraq and Afghanistan in 2006, $10 billion in 2007, and virtually zero thereafter. By contrast, the CBO estimated that continuing operations in Iraq and Afghanistan, even with a gradual withdrawal or US troops from that part of the world, would cost $50-$80bn per year through 2008, and over $25 billion per year thereafter.

Thirdly, today’s projections assume that nothing is done to fix the Alternative Minimum Tax (AMT), a problem that nearly all budget-watchers recognize will need to be addressed within the next couple of years. By ignoring the AMT problem, the White House is again dramatically understating likely future budget deficits – by some $170 billion over five years, according to the CBO.

If you add these missing “anticipated costs” to the White House estimates of the budget deficit, and put aside the social security surplus to focus on the “On-budget” budget balance, you find that there is no significant reduction in the budget deficit in sight, as the following chart illustrates (figures in billions of $).

The US government will have to borrow about a half a trillion dollars in 2005 to fund its general operations, and keep borrowing an additional half a trillion dollars each year for the forseeable future.

For some reason, the White House seems to be proud of the budget update that it released today. But the faulty logic, evidence-free reasoning, and misleading assumptions embodied in it cause me to feel nothing but disappointment about this budget report.