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Elmendorf Does Simple Math for Catfood Commission II

CBO Director Doug Elmendorf had an interesting hearing in front of the Super Committee. Throwing a cold dose of reality on the proceedings, Elmendorf, who in his role is almost by definition concerned with long-term budget deficits, calmly explained that the Obama jobs framework is precisely what you would do if you were looking to increase job creation and bring the budget into balance in the long term. This is completely unexceptional and basically the answer to a math problem. But in today’s Washington, it actually represents a step forward.

“If policymakers want to achieve both a short-term economic boost and long-term fiscal sustainability the combination of policies that would be most effective according to our analysis would be changes in taxes and spending that would widen the deficit today, but narrow it in the coming decade,” Elmendorf told the panel’s 12 Democrats and Republicans. “The combination of fiscal policies that would be most effective would be policies that cut taxes or increase spending in the near-term, but over the medium and longer-term move in the opposite direction.”

This is a generalized version of precisely what President Obama is proposing — a $447 billion jobs bill that will increase spending on hiring programs, and reduce payroll taxes; accompanied by deficit reduction measures that take effect in 2013, to more than cover the cost of the jobs bill.

Elmendorf went further by highlighting payroll tax cuts, which have a strong multiplier under the CBO’s scoring mechanism. More crucial was Elmendorf’s endorsement of the recent trend that shows changes from the Affordable Care Act is succeeding in slowing the cost growth of Medicare, particularly the changes in how payments are made to providers.

In a sane world, this information would be taken and a plan for deficit reduction generated. In the short term, there would be more spending to boost employment and increase tax receipts. In the medium term, the Bush tax cuts would be allowed to expire, eliminating the entire problem. And in the long term, policymakers would build on the Affordable Care Act and make changes that continue to slow the growth of Medicare, mainly by eliminating the corporate welfare that comes with the program (such as allowing bargaining for prescription drugs) and adding a competitive element in the form of a public option.

I don’t know that I would even endorse that approach, when all is said and done with it. The focus on the deficit as the main policy concern rather than employment forces bad policy choices. But at least there’s some manner of logic to it. I don’t agree with all of it, but I understand it. On the other side of this debate, we have a group that wants to eliminate the law that is bending the Medicare cost curve (which represents almost the entire long-term budget deficit), cut tax and massively cut spending, creating an austerity agenda that has definitive consequences:

In a new paper for the International Monetary Fund, Laurence Ball, Daniel Leigh and Prakash Loungani look at 173 episodes of fiscal austerity over the past 30 years—with the average deficit cut amounting to 1 percent of GDP. Their verdict? Austerity “lowers incomes in the short term, with wage-earners taking more of a hit than others; it also raises unemployment, particularly long-term unemployment.”

More specifically, an austerity program that curbs the deficit by 1 percent of GDP reduces real incomes by about 0.6 percent and raises unemployment by almost 0.5 percentage points. What’s more, the IMF notes, the losses are twice as big when the central bank can’t cut rates (a good description of the present.) Typically, income and employment don’t fully recover even five years after the austerity program is put in place.

There’s also a class dimension here: A deficit cut of that size tends to cause real wage income, where lower-income folks get their money, to shrink by 0.9 percent, whereas rents and profits, which higher-income folks depend on, decline by just 0.3 percent. And, as the chart on the right shows, profits tend to bounce back faster than wages.

That’s not a bug, but a feature: higher corporate profits, lower wage income. What’s not to like if you’re a wealthy industrialist!

Now, if there were an actual debate here, maybe people could decide this question at the ballot box. But we’ve just gotten through a two-year period where the leader of the Democratic Party harped on deficits over jobs, and now he’s about to make some extremely disfavorable changes to Medicare and Medicaid. That’s not a good sign for how things progress.

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David Dayen

David Dayen