Surpluses Galore? Not Likely
Everybody is debating a grand, new question about our fiscal future: what to do with the vast budget surpluses Washington soon will be piling up.
A whole new school of surplus optimists claim that the Congressional Budget Office (CBO) and other official agencies are drastically underestimating the future budget balance. They say we're headed for large and growing surpluses as far as the eye can see - and have touched off squabbles over what to do with the fiscal windfall.
Missing from the debate is a critical assessment of the underlying premise - namely, that the CBO is unduly pessimistic about America's long-term fiscal future. It isn't.
On the spending side, surplus optimists often extrapolate the near-term outlay growth spelled out in the recent budget deal - and wonder why the CBO doesn't regard this low-growth path as a long-term baseline.
There are two reasons. First, the budget deal calls for a pace of real-dollar cuts in certain programs, including defense, that would eventually zero them out as a source of savings. Second, the CBO has long recognized the explosive impact of the coming age wave on entitlement spending beyond 2010. Optimism is one thing; denial another.
On the tax side, optimists argue that the CBO revenue projections are too low relative to the historical trend. At first glance, this objection seems plausible. From now to 2030, the CBO projects that revenues will grow at about 4.3 percent annually - versus 6.2 percent since 1981 or 6.9 percent since 1991.
But there are reasons why historical rates are higher than what the CBO is projecting. Take inflation, which was higher in the past than it's expected to be in the future. Take tax rates, which have been raised repeatedly in recent decades. And take the business cycle, which makes the post-1991 rate unsustainable, since it only reflects expansion years. Remember, projections must include recession years, when revenues fall off.
Most important, the lower future rate directly reflects a dramatic slowdown in labor-force growth, as vast numbers of baby boomers retire, a relatively smaller crop of young workers comes on line, and the share of women who work stops rising. During the 1980s, total work hours in the US grew at 1.6 percent annually; thus far in the 1990s, they have grown at 0.9 percent. From now to 2030, the CBO (in keeping with the consensus forecast of most demographers) projects that this growth will be only 0.2 percent.
There's another way to look at this. Start with the proposition that, absent policy changes, revenues in the long run tend to grow at the same rate as gross domestic product (GDP). This means that the 4.3 percent rate the CBO projects for future revenue growth also applies to future GDP growth. The GDP growth rate, in turn, is the sum of a 2.6 percent average inflation rate, a 0.2 percent labor-force growth rate, and a 1.5 percent productivity growth rate.
Where is the CBO too pessimistic? The only debatable issue is productivity. But here the CBO figure is more optimistic than what the Social Security trustees assume - and better than the actual record of the US economy over the past quarter century.
The current economic expansion won't correct our long-term fiscal imbalance. But the surplus optimists have gotten an uncritical news media reception. Their predictions are no more likely to pan out than similar predictions at the height of the Reagan boom that Social Security would soon be buying back the national debt. The danger is that the public will believe them - and that this will get in the way of enacting reforms that might lead to a surplus worth talking about.
* Neil Howe and Richard Jackson are authors of Facing Facts, a publication of the nonpartisan Concord Coalition.
