Daniel Shaviro · September 2009
77 GEO. WASH. L. REV. 1298 (2009)
The United States is currently on an unsustainable long-term fiscal path. In the long run, everything must be paid for in one way or the other; there is no free lunch. Our current tax and spending policies, however, would fall vastly short over the long haul, under the best recent estimates, of meeting this inexorable arithmetic requirement (the “intertemporal budget constraint” or no-free-lunch rule). This was true even before the 2008 financial crisis, which can be expected to leave the long-term picture considerably worse.
While our current attempted divergence from a sustainable path is just temporary—as the late economist Herbert Stein noted, “if something cannot go on forever, it will stop”—in the interim it excites much distress, in popular and academic if not political circles. The hard question, however, is what, if anything, is wrong, or most egregiously wrong, with our currently being on an unsustainable path, even granting that significant policy change will be necessary.
A large part of the impetus for disgust with our current fiscal path could be called aesthetic, although the label is unfair if we think of candor and realism in policymaking as more than merely aesthetic virtues. Consider the 2008 Presidential campaign. When, in the face of a long-term U.S. fiscal gap recently estimated at $65.4 trillion, Senator McCain proposed tax cuts that would have cost $5.7 trillion over just ten years, and his senior tax advisor said these tax cuts could be financed by eliminating “rifle shot” tax breaks that total only about $30 billion per year, it was clear that honesty in public policy debate had left the building. Senator McCain’s proposal, whether he knew it or not, unavoidably would have led to offsetting tax increases or spending cuts that he was unwilling to specify or even admit would be necessary. Moreover, while President Obama’s campaign proposals were not quite as far out in budgetary fantasyland as those of Senator McCain, they did not come close to adding up over the long run either.
The problem is not just that candidates and their advisors lack candor, but that they face strong political incentives to be extremely, rather than just mildly, dishonest. The press, by adamantly refusing to draw distinctions between degrees of fiscal irresponsibility, creates an intellectual race to the bottom. As Obama economic advisor Jason Furman noted (before joining the Obama campaign), “there’s no incentive to improve on your policy, because unless it’s absolutely perfect, which it can never be, you will be lumped in with the other [candidate’s] policy and subject to equivalent criticism.” The end result is a level of public policy debate that insults the intelligence of any knowledgeable outside observer.
While the debasement of public discourse and near impossibility of reasoned mainstream political debate about fiscal sustainability seem unlikely to be good things, they do not necessarily prove that we actually face alarming long-term budgetary challenges. After all, things can be unedifying, as well as certain to have to change, without being actively dangerous. To support a crisis mentality concerning the inexorable ultimate path back to sustainability, one would have to specify what harm results when the fiscal gap keeps growing for years rather than being addressed more promptly.
This paper argues that the U.S. political system’s ongoing failure to address the fiscal gap, and apparent insistence on continuing to worsen it, is indeed a grave policy problem, rather than merely an aesthetic failing. The chief harm, however, is not the one perhaps most frequently voiced—that of unfairly burdening future generations relative to current ones. The pervasive uncertainties that undermine efforts to specify an optimal policy of intergenerational distribution make it hard to conclude with any confidence that too many dollars are being shifted from them to us, rather than the right amount or too few.
Instead, the chief reason for concern about the fiscal gap is one of efficiency, rather than distribution, and relates to the waste associated with waiting to correct an unsustainable fiscal course. The worst case scenario is explicit default on the national debt, or alternatively implicit default through hyper-inflation, in either case triggering (whether by occurrence or merely anticipation) a meltdown in global financial markets that could end up making the 2008 financial crisis look comparatively mild. However, this is just the far point along a continuum of bad consequences from delay. Although the level of harm from postponing both (1) deciding how to address the fiscal gap, and (2) actually implementing steps to narrow it, could range from modest to great, considerable pessimism currently seems justified, for reasons grounded more in political economy than straight economics.
The rest of this paper proceeds as follows. Part I lays out the basics of our current fiscal situation, and discusses measures, such as the fiscal gap, debt-to-GDP ratio, and generational accounting, that shed light on particular aspects of it. Part II examines generational equity as implicated by our current set of fiscal policies. Part III examines the allocative consequences of failing to address our current policies’ unsustainability. In addition to discussing the risk of an acute fiscal crisis, I generalize from two distinct yet arguably parallel concepts in the economics literature, tax smoothing by the government and lifetime consumption smoothing by individuals, to illuminate how a government optimally would respond, on both the tax and spending sides, to sustainability problems. Part IV addresses the political economy aspects of failing to establish a sustainable fiscal policy. Part V offers a brief conclusion.
