Resolving the U.S. Fiscal Crisis

The current debate in the United States over their budget deficit and debt does not appear to be generating solutions that will solve their problem anytime soon.  According to the Congressional Budget Office’s analysis of President Obama’s budget proposals, the deficit under the President’s proposals would at first fall, but after 2015 would begin to rise. 

Indeed, the accompanying graph of revenues and expenditures based on the CBO data (Figure 1) illustrates that the budget proposals slows expenditure growth down initially but it then begins to rise at a higher rate after 2013.  Meanwhile, the revenue provisions are an important driver in that they show revenue growth slowing substantially after 2014 largely as a result of the tax reductions originally enacted in the Economic Growth and Tax Relief Reconciliation Act of 2001 and the Jobs and Growth Tax Relief Reconciliation Act of 2003 being extended permanently as well as the indexing of some income tax exemptions to inflation.  From a deficit of 1.4 trillion dollars in 2011, the deficit would drop to 841 billion by 2015 and then rise to 1.2 trillion by 2021.  The deficit to GDP ratio would fall from 9.5 percent in 2011 to 4.1 percent by 2015 but would then rise to 4.9 percent by 2021.  In other words, this is not a viable solution to the United States deficit and debt problem.

Figure 1

There is apparently little political desire in the United States to face the basic fiscal problems of the federal government and the short-term political solution seems to be to enact a token attempt at deficit reduction but largely defer the problem to the future and accommodate that deferral by raising the debt ceiling of the government.  No doubt, the optimistic nature of America means that the future should include challenges for their children.  However, the United States more than most countries is in an excellent position to deal with its fiscal problem.  Despite its current economic problems, it is still the largest and most dynamic economy in the world.  However, with a history rooted in tax aversion stretching back to the Boston Tea Party, it has one of the lowest tax to GDP ratios in the OECD countries.

Quite frankly, the United States can solve its current deficit situation by bringing in a broad based federal sales tax on consumption and a federal gasoline tax.  These would be taxes on consumption and would result in smaller distortions than taxes on income, which would remain unchanged.  Moreover, in the case of gasoline taxes, it might also reduce consumption and dependence on imported oil and foster greater conservation.  It is possible to construct a back of the envelope estimate of how much revenue such measures might bring in using a very simple static analysis that of course does not factor in general equilibrium effects of the tax changes.

Assume a broad Federal Sales Tax of 7 percent applied to the value of all consumption expenditures, which in the United States is about 70 percent of GDP.  Also, assume an estimated average price of gasoline per gallon for the U.S. obtained from the Energy Information Administration of $3.84 per gallon and an estimated consumption of 138 billion gallons per year and that these values stay constant.   Assume also that expenditures stay as forecast by the Congressional Budget Office and that GDP grows as they have forecast.  The results are plotted in Figure 2 and show the gap between revenues and expenditures shrinking with a surplus by 2014 of 134 billion dollars and then surpluses all the way until 2021.  As a share of GDP, these new tax revenues would raise the American tax to GDP ratio by about 5 percentage points which would bring it to about the OECD average.

Figure 2

This analysis is of course quite simple in that it is a simple spreadsheet analysis with no feedback or impact analysis on the effects of these changes on the economy.  However, they illustrate that the United States indeed has the wealth and ability to resolve its fiscal problems with a set of tax and expenditure policies that are not outside the range of the global fiscal experience.  Will this happen?  Likely not.  As mentioned before, American political culture is rooted in tax aversion and many Americans believe their federal government’s fiscal dilemma is only a spending problem and not also a revenue problem.  However, balancing the budget on expenditure cuts alone would mean nearly a 40 percent drop in expenditures.  Moreover, the American political debate right now is not about taking responsibility for their fiscal dilemma but about politically deferring the problem in the hopes that it might go away.  Fixing any problem requires taking responsibility and when it comes to American federal public finances, they are not there yet. 

Comments

[Robert McClelland]

I still can't wrap my head around the idea that taking more money out of the pockets of those who don't have much to begin with is a viable solution for eliminating a deficit.

On a related note, if any WCIer has a spare moment could they write something up about what would happen if the US decided to risk the inflation hit and just printed up some more money to cover all or some of the deficit. I'm particularly interested in the effects this would have on Canada.

[Patrick]

Robert: Consumption taxes can be made progressive. Stephen has written at length on the topic. To fill the hole by printing they'd have to print the difference every year forever. That wouldn't end well.

Hasn't Canada put itself in a similar position of late? The GST cut created a structural deficit, and balancing requires either big cuts in program spending or raising taxes, neither of which is politically feasible.

[Determinant]

The problem with a US federal sales tax is it's a constitutional nightmare. The US Constitution dates from 1789, it's creakingly old. Before the 16th Amendment was passed there was an ongoing series of court cases on whether a tax was "direct" or "indirect". Direct taxes have to be apportioned according to the Census count, which really means that interstate redistribution of tax revenues is illegal for direct taxes. You can't run a modern government with that restriction. The problem is nobody really knows what a direct tax is anymore.

The 16th Amendment overruled the Supreme Court and said that incomes taxes don't have to be apportioned. This is one reason the US Government is so addicted to income taxes.

The Apportionment Clause is hazy enough that the Treasury prefers to operate under the protection of the 16th Amendment whenever possible.

Canada, by way of contrast, doesn't have that constitutional restriction which is why we have a GST.

[Ralph Musgrave]

The problem with a “broad based federal sales tax” (or any tax) is that it reduces demand and raises unemployment. And same goes for any form of public spending cut. So what to do?

The solution is simple: print money and buy back the debt. Or cease rolling over debt and just dish out cash to holders of maturing debt. Or fund a portion of public spending with freshly printed money. Any of those options on their own could raise demand and inflation by too much. So mix that with a deflationary method of debt / deficit reduction: raise taxes (and/or reduce public spending) and use the money obtained to buy back debt and/or reduce the deficit.

As long as the above “mix” is right, the deficit and/or debt come down, while aggregate demand stays constant. And given the amounts of freshly printed money that have recently been given to the rich in the form of QE, I’d prefer to see Main Street get some of the new money.

Of course aggregate demand does not want to stay constant: a rise in AD would be desirable. I.e. given excess unemployment, a deficit which accumulates as monetary base is perfectly acceptable. In contrast, a rising debt which involves paying interest to China is not too clever.

The above idea would require a new kind of cooperation between the Fed and US government: something a bunch of fifteen year olds could organise, though whether the current bunch of petulant members of Congress could ever organise it is doubtful.

[Wonks Anonymous]

If direct taxes must stay within states, how about federalizing expenditures?
http://www.overcomingbias.com/2009/07/med-plans-in-spain-vary-mainly-by-the-plain.html

[Nick Rowe]

Robert: "On a related note, if any WCIer has a spare moment could they write something up about what would happen if the US decided to risk the inflation hit and just printed up some more money to cover all or some of the deficit. I'm particularly interested in the effects this would have on Canada."

Let me do a quickie here:

Suppose the US went for (say) 10% inflation as a steady state, while Canada stuck at the current 2% inflation target. No serious problem for Canada, if that's the only thing that happens. We have flexible exchange rates. We just let the Loonie appreciate at 8% per year (compared to what it would have done otherwise), and there's no effect on exports and imports, because the exchange rate offsets the inflation differentials.

The harder question is how that would affect output and employment in the US. Compared to the immediate problem in the US, a bit of extra demand and inflationary pressure would be good for the US real economy. Which would probably help our trade with the US. In the longer term it would cause some problems for the US real economy, because inflation is a not very efficient way of raising tax revenue. (It's like a sales tax on everything you buy and sell, with no recognition of value added like the GST, and a tax you can try to avoid by having a high turnover of money.) This would probably harm our trade with the US. Generally, it's good for Canada if our trading partners (who both buy and sell stuff from/to us) are rich.

[beowulf]

"The problem with a US federal sales tax is it's a constitutional nightmare... The problem is nobody really knows what a direct tax is anymore."

Federal sales taxes are perfectly constitutional in the US and are currently levied on gasoline, alcohol and cigarettes. The Feds can put an excise (or "event") tax on any kind of commercial transaction. While "nobody" may know what a direct tax is, federal judges seem to have a pretty good handle on what direct taxes are-- capitation (or "head") taxes and ad valorem property taxes.

[beowulf]

CBO projects that the government's annual spending on net interest will more than double between 2011 and 2021 as a share of GDP, increasing from 1.5 percent to 3.3 percent.
http://www.cbo.gov/doc.cfm?index=12039

Over next decade CBO projects $5 trillion in net interest (at avg. interest rate of 5.0%), over longer term, it really adds up.
http://www.americanthinker.com/entitlements_08-850.jpg

If Fed Fund target stayed at 0.25% and Tsy borrowed nothing longer than 3 months, that would cut net interest payments rather dramatically. To really flip the script, if Fed Fund rate were anchored by bank asset tax (see RSJ's "option 2 tax the rents away"), besides the $5 trillion in avoided net interest payments add the trillions in taxes paid ("(policy) rate*Assets - interest paid on liabilities").
http://windyanabasis.wordpress.com/2011/03/28/leaving-modern-money-theory-on-the-table/

[Mike Moffatt]

Agreed with beowulf - The U.S. federal government has been using forms of sales taxes for 100 years. I can't see any reasonable argument why it would be unconstitutional.

[Mike Moffatt]

Fun link - a Time Magazine article about the possibility of a U.S. federal sales tax. Article is from 1951!

[Livio Di Matteo]

Thanks for that Mike. That was pretty neat-interesting how the basic arguments for and against a consumption tax have stood the test of time. Thought the mention of the USSR to support having a consumption tax in 1951 also interesting. Livio.

[Lord]

It is just as unlikely for the Bush tax cuts to stand. We could never afford them and eventually political conflict will result in their lapse. That will substantially reduce the problem.

Only about 40% is consumer spending. Some 30% is government spending on the the behalf of consumers, largely medical care. Taxing that would mean either increasing spending to tax it away resulting in no deficit reduction or reducing spending, a task as difficult as any other. A progressive general sales tax while simple may not be the most efficient. One placed on those items more than half of which are imported would not amount to a tariff, but would induce counterveiling pressure on mercantilists.

[RSJ]

The U.S. has a real problem with rising medical costs. This wont be fixed with tax policy, but with health care reform. If health care costs are limited to growing with GDP, then there isn't a budget problem, assuming that Bush tax cuts are repealed. But if those costs continue to swallow up more and more output, then the both the private and public sectors are going to have serious budget problems, regardless of what happens on the revenue side.

[Scott Fullwiler]

RSJ's got it. Everyone needs to stop talking about a fiscal crisis in the US and start recognizing that virtually all of it comes down to a healthcare crisis.

[Tim]

Interestingly enough in that Time article one of the proposals mentioned was for a Manufacturers Sales Tax. I wonder if the US had imposed an MST back then they would have had a GST by now. In terms of Indirect vs Direct Taxes the Supreme Court of Canada did rule that Quebec's QST value added tax is "direct", an important consideration under Canada's constitution however, my understanding is that the GST/HST is probably an "indirect" tax for some very minor technical reasons. However, given the GoC can impose taxes by any means or method there has not really been any reason to explore this issue in the courts. I guess the better example in the Canadian context is the difference between the "indirect" Federal cigarette excise tax imposed on tobacco manufacuturers and importers and the "direct" Ontario cigarette tax imposed at the point of sale.

[Determinant]

Tim points out the devil in the details. An tax imposed on manufacturers or the sale of a specific commodity can be construed as an excise, but the imposition of a general levy on all transactions might be a direct tax. Or it might not. It would provoke a lawsuit and unlike the constitutionally-protected income tax the outcome of such a lawsuit isn't certain. It would take a brave Treasury Secretary to put a major source of federal revenue in constitutional limbo before the courts.

The income tax is attractive because it's the broadest possible tax with explicit constitutional protection.

[Ralph Musgrave]

Nick, I have a quibble with your 01:12pm comment above. You say that a bit of money printing would be good for the US. Agreed. That is compatible with your “free lunch” idea in your 22nd April post.

But you then jump to the conclusion, in relation to inflation, that “In the longer term it would cause some problems for the US real economy, because inflation is a not very efficient way of raising tax revenue.” Why the assumption that money printing leads to excess inflation? If, as per your 22nd April post, a country does money printing up to the point where full employment is attained, but no further, then there shouldn’t be any excess inflation, seems to me.

BTW, I’m eternally grateful to you for that 22nd April post: it included a link to Lerner’s “Economics of Control” supplied by Beowulf. Keep blogging!

[Max]

"On a related note, if any WCIer has a spare moment could they write something up about what would happen if the US decided to risk the inflation hit and just printed up some more money to cover all or some of the deficit."

Printing money is impossible. And I don't mean it's a bad idea. I mean it's impossible. Any printed in excess of demand would simply be returned to the government and shredded.

But if the idea is that you don't like paying interest, the government can set the interest rate to zero.

[K]

Livio: What's wrong with a deficit of 4.9% of GDP?  If NGDP is growing at 4.9% then it's consistent with a stable 100% debt/GDP ratio.  Some would argue that that's not sustainable. Others think the limit is much higher, or doesn't even exist.  Nothing obviously wrong with 9.5% either for that matter: in the long run, assuming 5% NGDP growth, it will result in 9.5/5 = 1.9 debt/GDP.  You are implicitly invoking some sort of debt ceiling.  You should state it, and your reasons for it, explicitly.

[Ian Lee]

But is this a shortage of revenue problem or an excess of spending problem?

Per OMB.gov Historical Tables and Budget of the US Government, 2011 (http://www.whitehouse.gov/omb/budget/Historicals) and Petersen Foundation, Financial Condition and Fiscal Outlook of the US Govt 2010, from 1950 until 2000 presented to obama's Fiscal Commission (http://www.fiscalcommission.gov/meetings/public-forum/2/David_Walker_6_30_2010.pdf), the US Federal Govt spent between 19% and 20% of GDP year after year under Republican and Democrat presidents.

During this same period, according to the same two OMB and Petersen sources, revenues of the US Federal Govt from 1950 to 2000 were approximately 18% to 19% of GDP.

However, it was during the Bush-Obama Presidency that US Federal Govt expenditures exploded to the present approximate 25% of GDP. (by contrast, Govt of Canada is spending about 17% of GDP (?) currently).

The US may yet impose a VAT or some other combination of taxes. However, for 50 years, the US Fed Govt did not spend 25% of GDP.

I reread Paul Martin's 1995 Budget speech, where he stated that he was going to balance the Cdn budget with only spending cuts and not a single tax increase - and he was mostly true to his word. Maybe, the Americans want to consult with Paul Martin.

[Patrick]

Ian: I'm sure you're aware that there's a context to those numbers. Specifically: a really severe recession that caused tax revenues to tank and social safety net payments to greatly increase. It's a good thing too. Things in the US are bad enough as it is. I can't imagine what it would have been like without unemployment benefits, food stamps, medicaid, SS, etc putting a floor under the the economy.

And the Canadian experience in the '90's is not analogous. Stephen has made that point a number of times. Canada benefited from the BoC greatly loosening monetary policy to help offset the fiscal contraction, while at the same time there was an export boom and the US economy was roaring along at full steam. In the present day US, interest rates are as low as they can go, and there's not much hope of an export boom in the US - who are they going to sell to?

[Ian Lee]

Patrick - However, Canada went through the same recession at the same time. It was not unique to the US.
Moreover, in comparing across countries, the most accurate method is to express expenditures as a percentage of GDP - which the OECD does in almost all of its reports. This allows us to highlight differneces - which are signficant as percentage of GDP.
Indeed, the larger point is that CBO, OMB and Petersen each argue that entitlements are causing the problem - not the 2008 recession. If it was the recession, this would suggest that the problem is cyclical and would go away with a return to growth.
Tax revenues - which did decline during the recession as you noted - are now returning to the traditional 18% to 19% of GDP.
The Petersen slides from pages 40-50, show inter alia, that social security, medicare and medicaid will double as a percentage of GDP
The intial tipping point (to deficit) in the mid 2000s was likely the Bush Prescription Drugs new entitlement (on top of Social Security, on top of Medicare, on top of Medicaid), as it cost an additional + $750 Billion year after year. And then Obamacare was added on top of the previous 4 entitlements.
Your point i.e. Stephen's point, that the 1990s are not analagous, is accepted.
Nonetheless, the problem is not going away e.g. Bill Gross probably shorting T-bills, S & P warning - and if entitlements are consuming the lion's share of spending per OMB, CBO, Petersen, then entitlements will have to bear the lion's share of the burden in eliminating the deficit, for the same reason that Willy Loman robbed banks.

[Livio]

Dear K.
The problem is that continuous deficits add to the public debt load. As long as your economy is growing and interest rates remain low, I suppose you could put up with a continuous deficit for quite a while. However, as the Canadian experience in the early 1980s showed, if there is an interest rate spike, then the debt begins to take on a life of its own through compound interest and rising debt service payments begin to squeeze out other public spending like health and social programs.

[Patrick]

Ian: I think we need to differentiate between the short term and the long term. Short term I think the recession and the Bush tax cuts are the immediate problem in the US. Long term, my understanding, and it's the point made by other commenters here, is that it's medical costs that are the lion's share of the long term fiscal problem for the US. And simply pushing the costs into the private sector isn't really going to help. Solutions exists, they have simply so far refused to implement any of them (well, Obamacare/Romneycare is a start).

In general, I don't buy the argument that the US social safety net is so lavish that it must be cut to avoid fiscal catastrophe. It just doesn't stand-up to a basic sniff test. Many nations - like Canada and Australia - manage to provide much more comprehensive social safety nets and yet remain solvent without destroying the private sector with crushing tax burdens.

[Tim]

Determinant:
The main reasons from what I understand the GST might be considered an indirect tax is there were some modifications to the legislation in 1996 to try to bring in tax included pricing at the same time the Atlantic provinces harmonized. Another reason is the Mulroney govt put the GST under the Federal Excise Tax Act which generally was considered a method for collection of indirect taxes. Historically provinces did not mandate tax included PST pricing as it was thought it might make PST's an indirect tax something provinces cannot introduce though I suspect thought tax included pricing was not done in Canada has more to do with maintaining the same business practices as the US.

The other interesting historical issue is that notwhithstanding the Constitution the provinces have vehemantly at the time of introduction opposed new federal taxes such as Income and GST that they deemed to infringe on their "direct" taxation space. The GST was even more messy by the fact that many provinces believed the federal govt permanently "ceded" the right to impose a direct sales tax during the 1962 Fiscal Accords. Then BC premier Bill Vander Zalm actually brought this issue all the way to the Supreme Court of Canada along with Alberta and Ontario essentially claiming the 1962 Accord somehow changed the Constitution.

[Ian Lee]

Patrick - I agree and disagree. It is not the Bush tax cut rate nor CIT cut rates per se, matter. It is how much the particular tax policy yields in revenues to fund Govt programs. And overall tax revenues - as a percentage of GDP - are remarkably well behaved and very predictable over long periods of time in the US regardless of particlar Presidents and their particular policies. (although tax cuts can change the incidence of taxation).
I do agree that medical costs are the lion's share of the problem.
My argument is not that social safety is lavish and therefore must be cut. It is that the US fiscal policy is unsustainable - per a fair number of people in the capital markets that buy the T bills that finance the fiscal policy.
I agree with your last statement that we have a comprehensive social safety net in Canada and we are funding it (along with all the other stuff that the GoC funds) with a GoC federal share of GDP of 17% - and not the 25% of GDP accounted for by the US Federal Govt.
Your judgment validates my original argument that the US has an expenditure problem - not a revenue problem that requires increased taxation - given that as you note, Canada is providing a socially comprehensive safety net with around 17% taxation and expenditure of GDP (ignoring our deficit for the moment) - not 25% of GDP.
Thus, the US could deliver a fair social safety net with lower levels of expenditure around 17% - 20% of GDP - per Canada and your argument.

[Lord]

Assuming the Feds must always and ever be limited to 20% is fallacious though. The country is changing and aging. Growth will be slowing. The government will have more that it must do. That its taxation must adhere to that of a different time is just silly, like government must always amount to less than 10% which it did before WWII.

[Ian Lee]

There is no assumption that the fed govt must be limited to 20%. That was not the argument nor the logic presented.

The logic is based on comparative analysis of two countries: US and Canada. Canada is delivering a successful "comprehensive social safety net" (amongst other programs) which costs the GoC 17% of GDP. By contrast, the US is spending 25% of GDP and many believe that the US has not produced a successful social safety net.

Conclusion: The objective of a comprehensive social safety net can be achieved by spending considerably less than 25% of GDP -without specifying a specific percentage.

[RSJ]

Continuous deficits are the historical norm, as is economic growth.

I suppose if private sector debt is growing much faster than GDP and/or you are running large current account surpluses, you may be able to put with surpluses for a while, but eventually you will revert to continuous deficits. Canada will look back on the period of surpluses as an aberration, just as the Clinton surpluses were an aberration for the U.S.

Which is not to say that there aren't real problems with excessively high health-care costs, and a growing share of GDP devoted to health-care. That's clearly unsustainable, but continuous deficits are not only sustainable, but required unless you believe the household sector's debt to income ratio can grow forever.

[Determinant]

Tim:

That may be, but the Feds can't mandate tax-included pricing as the enabling legislation for that is considered a matter of contract law, which is an exclusive provincial matter as "property and civil rights" under Section 92 of the Constitution Act.

[K]

Hi Livio,

Rates exceeded NGDP growth in the early 80's, but were lower in the late 70's. Compounded, I don't know which grew more. I think most economists assume that rates in a regulated-inflation economy will approximate NGDP growth over the long run (though I am now suddenly wondering if some of the bond vigilanteists don't actually believe this???). For sure, though, wild fluctuations are inefficient.

The 4.9% figure is for 2021 so presumably assumes equilibrium NGDP growth, i.e. around 5%, and therefore equilibrium rates, also 5%.  I don't know what the associated debt forecast is, but 100% of GDP seems likely, in which case a 4.9% deficit would be consistent with mere servicing of debt - i.e. *no primary deficit" which is the only thing that matters in the long run.  I would guess that the associated primary deficit in that calculation is small, easily fixable by any of a variety of minor tax increase or spending reduction measures.

I'm just making the trivial point that "the public debt load" is irrelevant. The relevant numeraire is GDP, not dollars. If debt grows 0.01% slower than NGDP, it will eventually go away, so 4.9% debt growth is absolutely sustainable on average if the economy delivers 4.91%: there is nothing magic about the 0% deficit number. If you follow any Taylor rule sometimes rates (debt growth from interest) will overshoot NGDP, sometimes undershoot.  I could see an argument for targeting debt growth some margin below NGDP growth if one thinks debt/GDP is high.  But I cannot see any relevance of the *zero* debt growth threshold. And you need to take a view on the "correct" level of debt/GDP.

[Patrick]

Ian: Ok. I see where you are going now. No disagreement.

[Livio]

The "correct" level of debt/GDP is not an absolute number but whatever world financial markets will let you get away with and hinges on the confidence that world financial markets have in your ability to service the public debt. If world financial markets lose confidence in your ability to service the debt, you will face rising borrowing rates and eventually have difficulty in refinancing your debt. The U.S. is nowhere near such a situation given its potential fiscal resources. However, reducing your debt makes sense from a public policy perspective if the debt service costs are high because it is diverting resources from program spending -assuming of course you want to spend the money on programs.

[Andrew F]

Ian Lee,

You can't say that the Canadian social safety net is funded out of the 17% of revenues collected by the federal government. A good portion is funded by the provinces, which tend to be much larger than US state governments.

Also, Canada spends far less as a proportion of GDP on its military. I don't think the US could emulate that as a superpower.

[Tim]

Determinant:

You are correct about contract law and thus the part of the Federal ETA mandating tax included pricing only applies to areas of commerce under federal jurisdiction(Advertisements on federally regulated radio and tv stations for example would be covered local restuarant menus would not). During the same time period though the three original Atlantic HST provinces brought in provincial legislation mandating tax-included pricing under provincial law to come into effect at the same time as federal tax included pricing was brought into force. The whole issue has been mute because the Senate amended the Chretien govt's HST legislation for the Maritimes back in 1996 only allowing tax included pricing to come into force in federally regulated industries at such time as a certain number of provinces representing a certain percentage of the population exceeding the three Atlantic ones had provincial legislation for tax included pricing. Effectively as I understand it though ON plus NL, NB, and NS WOULD meet this test. However with all the complications of introducing the HST to a province as large as Ontario it was decided by the Feds and Queen's Park to hold off on this issue until the 2012/2013 time period.

[Max]

Livio, the government doesn't need to issue bonds. It's a benefit that the government provides to investors. Think of it as a welfare program and you will see the silliness of worrying about whether people will lose confidence in it.

[K]

Livio:"reducing your debt makes sense from a public policy perspective if the debt service costs are high because it is diverting resources from program spending -assuming of course you want to spend the money on programs"

But that's my point:  It *doesn't* cost anything anything to keep debt/gdp constant if interest rate = NGDP growth.  You don't have to pay the interest, never mind the principal.  Ever. You just capitalize it.

[Ian Lee]

US 2012 DoD Budget is $707 Billion of $3.729 Trillion 2012 US Fed Govt Budget, or 19% of the total 2012 US Fed Govt Budget or about 4.5% to 5% of US GDP
Canada 2012 DND Budget is $21.3 Billion of $250 Billion GoC Estimates (TBS), 2011-12 or 8% of GoC total spending.
Medicare, Medicaid and Social Security are Federal expenditures in US
However, 28 US states have sued the US Govt due to signficant downloading of health care costs under Obamacare. But I do not have the percentage or dollars breakdown of the cost of downloading
Moreover, US states have their own health care costs - but I do not have the data on dollars or percentage of US state budgets or percentage of GDP (have to review Pew Research dataset)
So, yes, Cdn provinces spend almost half of annual budgets on health care
Stated differently, per David Dodge, GoC funds 20% of total health care costs funded by govts in Canada and that does not account for equalization or social transfers etc.
In 2012, the GoC will transfer 60% or $151 Billion of total 2012 GoC Expenditures to provinces ($54 Billion) and persons ($114 billion).
Yes, US spends proportionately more on military at 19% of budget vs 8% of budget in GoC.
It would be more comparable to compare US Fed and US state govts expenditures as percentage of GDP to GoC and provincial expenditures expressed as percentage of GDP, for the same year.

[Andrew F]

OECD has some data on that through 2008. Interestingly, in 2008 Canada and the US governments spent nearly the same proportion of GDP due to gradual down trend in Canada and up-tick in the US. Maybe they have since crossed, but Canada has had its own, smaller stimulus these past two years. I think the difference is on the taxation side now. The US is overspending its government revenues.

[Ian Lee]

Andrew F - Below, is breakdown of health care expenditures in percentage by payor.

Note that state and local govts pay 16.5% of the $2.5 Trillion annual health care while the US Fed Govt pays 27%

NHE Fact Sheet
Historical NH, 2009:
• NHE grew 4.0% to $2.5 trillion in 2009, or $8,086 per person, and accounted for 17.6% of Gross Domestic Product (GDP).
• Medicare spending grew 7.9% to $502.3 billion in 2009, or 20 percent of total NHE.
• Medicaid spending grew 9.0% to $373.9 billion in 2009, or 15 percent of total NHE.
• Private health insurance spending grew 1.3% to $801.2 billion in 2009, or 32 percent of total NHE.
• Out of pocket spending grew 0.4% to $299.3 billion in 2009, or 12 percent of total NHE.
• Hospital expenditures grew 5.1% in 2009, slower than the 5.2% in 2008.
• Physician and clinical services expenditures grew 4.0% in 2009, slower than the 5.2% in 2008.
• Prescription drug spending increased 5.3% in 2009, faster than the 3.1% in 2008.
• The federal government share of health care spending increased just over three percentage points in 2009 to 27 percent, while the shares of spending by households (28 percent), private businesses (21 percent) and state and local government (16 percent) fell by about 1 percentage point each.

[Roger]

"Also, Canada spends far less as a proportion of GDP on its military. I don't think the US could emulate that as a superpower."

Perhaps, but given how the American military is the largest source of discretionary domestic spending---and given how as of 2009, the American military spent 7 times more than her closest rival (PRC--adjusted for percentage of GDP, that still comes out to America spending twice as much as China), and accounted for 43% of world military expenditure (without even considering the fact that of the rest, much of it is being spent by staunch American allies such as the NATO bloc of Britain, Germany, France and Italy), one could certainly make the argument that America has a lot of fat to trim in this department. I've got a few other arguments articulated on my blog, but basically, it's not hard to see that America's military spending has gone crazy, and is a leading driver of their deficit situation.

[beowulf]

Seriously guys, federal consumption taxes (whether you call it asales a, GST or VAT) are excise taxes authorized under the US Constitution. To quote from a 2004 Federal Circuit Court of Appeals ruling:

"Excises are not direct taxes, and the tax at issue here is clearly an excise. The
Constitution conceives of excise taxes in contradistinction to direct taxes, requiring “direct
Taxes” to be “apportioned among the several States,”...The [Supreme] Court has “consistently held,
almost from the foundation of the government, that a tax imposed upon a particular use of
property or the exercise of a single power over property incidental to ownership, is an
excise which need not be apportioned.”... In particular, the Court has stated that a tax upon the “retail sale” of a “commodity” is an excise...

We conclude that an excise tax (in contradistinction to a direct tax) is a tax imposed on the acquisition, ownership, or use of particular kinds of categories of property that falls short of being a general tax on the whole of an individual’s personal property."
http://webcache.googleusercontent.com/search?q=cache:gw9GhInio7wJ:www.ll.georgetown.edu/federal/judicial/fed/opinions/03opinions/03-5096.pdf

[beowulf]

oops,(whether you call it a sales tax, GST or VAT), sorry :o)

[Bob Smith]

"In terms of Indirect vs Direct Taxes the Supreme Court of Canada did rule that Quebec's QST value added tax is "direct", an important consideration under Canada's constitution however, my understanding is that the GST/HST is probably an "indirect" tax for some very minor technical reasons."

Strictly speaking the GST/HST is, like the QST, a direct (not surprisingly, since they're substantially identical), in that the statutory liability to pay those taxes are imposed on the person who actually pays them (i.e., the recipient of goods and services). This is in contrast to an indirect tax (such as custom duties or excise taxes) for which the statutory obligation to pay the tax is imposed on one person (i.e., the importer of goods and services) with the expectation that such tax will be passed along to another person (consumers) (Keep in mind, this is a legal definition, and is not neccesarily based on economic reality. The corporate income tax is considered to be a direct tax, notwithstanding that it IS passed along to other people i.e., "real" people like consumers, shareholders and workers), because politicians and courts expect - against common sense and all empirical evidence to the contrary - that it will be borne by the legal fictions that are corporations).

People describe QST, GST/HST as indirect taxes, because when you buy a pack of gum the supplier (i.e., your local 7-11) remits the tax to the crown, not you (and, in fact, if your local 7-11 fails to charge GST/HST on your stick of gum, the CRA will go after them, not you). But suppliers collect GST/HST and QST as agents of the crown so, legally, when you pay your GST/HST or QST at the local 7-11, you're really paying it to the government, and when the supplier remits collected taxes to the government it isn't "paying" tax, it is giving the government "its" money (since GST/HST and QST collected by suppliers are held in trust for the crown). incidentally, in this respect the GST/HST is no different from the PST.

[Bob Smith]

Roger,

It's hard to say that US defense spending is the cause of it's deficit woes. Sure, it spends a lot more than any other country, but than the US economy is a lot larger than most other rich countries (and poor countries, like China, find it a lot cheaper to man their armies - both because labour costs are lower and because they have labour-intensive armies as opposed to a capital-intensive one like the US - so a dollor-for-dollar comparison isn't meaningful). The real measure isn't total spending, but spending as a percent of GDP, and in 2009, US defense spending was only 4.7% of US GDP in 2009 (which, for what it's worth, is close to what the US was spending in the mid-1990s and well below the post WW-II average.

Now, that's high by Canadian standards, but given that US is running a deficit of of 12.3% of GDP in that year, even if the US shut down it's armed forced (setting aside the chaos that would ensue) that wouldn't do much to help it balance its books (and, obviously, reducing it's spending to, say, the average of other rich countries would do even less). Moreover, the real problem facing the US isn't that it's facing a deficit now, but that its "non-discretionary" spending (and I use the quotation marks because everything is discretionary if you can't pay for it) is, and will continue absent massive reform, to increase in the future.

[beowulf]

Bob Smith, thanks for the Canadian Supreme Court info. Curious that ancient English tax terms (direct, direct, excise) would be interpreted so differently by Canadian and US courts.

[Marc Labbé]

what about the following link...

http://www.leap2020.eu/GEAB-N-54-est-disponible-Crise-systemique-globale-Automne-2011-Budget-T-Bonds-Dollar-les-trois-crises-americaines-qui_a6328.html

[Marc Labbé]

Do you remember OIL

http://www.theoildrum.com/node/7848?utm_source=feedburner&utm_medium=feed&utm_campaign=Feed%3A+theoildrum+%28The+Oil+Drum%29

[KMS]

The problem that I haven't seen mentioned with a consumption tax is that in lots of states, sales taxes are already so high as to make any additional consumption tax not just regressive- but cruel. Not everywhere is Oregon. Check out Florida and Alabama whose sales taxes get as high as 14% already or Illinois which tops out at 17.5%- there's no way for the federal government to harmonize with that without devastating either the state budget or the state's citizens. Also, food, clothing and medicine should be excluded (that is not necessarily a given for state sales taxes).

Higher gasoline taxes are fine in principle, but could be a real problem in places where public transportation is neither effective nor safe. Do you really want to make poor women have to walk through really dangerous neighborhoods? I have lived in that kind of neighborhood- walking just isn't safe, neither are bus stops and train stations.

A public health care option, with effective government bargaining for health care costs, paid for by a mix of income and excise taxes could help. The largest portion of the deficit is related to the aging population and its medical bills. The federal government needs a better risk pool for its insurance programs. Capital gains and dividend income should be taxed at a higher rate- maybe still lower than ordinary income, but higher than it is now. Retirement ages should be determined by occupation, with janitors getting to retire earlier than lawyers. Lastly, the US needs infrastructure that create jobs- nice, middle class, tax-paying jobs. This means investing in education, scientific and industrial research, and public construction. Lastly, the military is really expensive- it should probably be smaller, more productive or both.

[Tim]

KMS:

Personally I think the US federal govt really needs to consider a sales tax not so much for itself but to replace the US State PST's ala the HST or the Australian model of a nationwide single rate GST that is fully apportioned to the states. In fact when Ontario got rid of the PST it also left the US as the only major economy(I don't count the remaining PST provinces or even BC as "major") where PST style taxes are still in effect. The problem is many US states have increased the base of there PST's far beyond that of Ontario pre July 1 2010 and thus introduction of ITC's would cause a considerable falloff in revenue for several years that the US federal government would probably have to make up through transition payments on an even larger scale than Canada had to. One possibility is you could restrict ITC's even further that ON, QC, and BC lets say down to businesses over 1 million in revenue(In fact this was the situtation in Quebec for a short period in the 1994-1995 time frame). Also a US federally administered HST would fix a lot of the issues with taxing out of state retailers for online sales for example.

[Paul Friesen]

"On a related note, if any WCIer has a spare moment could they write something up about what would happen if the US decided to risk the inflation hit and just printed up some more money to cover all or some of the deficit."

I think this is exactly what they need to do to get out of their liquidity trap. The government needs to issue bonds to pay for stimulus spending and the Fed needs to buy them up as fast as it issues them. This will not cause inflation as long as output is below capacity. The bond market is just not an issue.

Once the economy is back up to capacity, of course, this has to end. The extra money that has been created will still be around, and it will cause inflation unless removed. Tax increases to cut the deficit would be the rational way to do this.

Not that I expect rationality to prevail. My guess is that the U.S. is in for a very long slump. I just hope we don't follow them

[Marc Labbe]

Battle Plan ''A''

1: Repell the Bush's tax exemption for the richest american and closing many loopholes
2: Printing some money is a good idea (up to say 5-6% inflation)
3: Carbon Tax
4: Some kind of sales tax
5: Cutting defense budget and start really controlling cost
6: Some controls on health Care cost (Hint: Kaiser)
7: Rationalize the trillion pages of law and regulations. At the same time, if you are lucky, maybe you will get rid of numerous agencies fights.
8: Hope for the best
9: You need the Marine Corps

[Marc Labbé]

Replace 4: some kind of sales tax by 4: Tax on financial transactions
and add 10: You loose your reelection

[Determinant]

It's an interesting thing for a country to have two armies. The US Marine Corps is larger and has more equipment and capabilities than most countries total armed forces.

[Determinant]

It's an interesting thing for a country to have two armies. The US Marine Corps is larger and has more equipment and capabilities than most countries total armed forces.

[beowulf]

The craziest statistic is that the world's largest air force is the US Air Force, and the world's second largest air force is the US Navy. The US would still be quite secure if the Army and Air Force were folded into state National Guard units, entrusting our front line defenses to the Navy and Marine Corps (its 3 divisions on active duty-- there's also a division in the Marine Corps Reserve--- are enormous, each twice the size of Army light infantry division). Any war too big for the Navy and Marines to tackle could be backstopped by National Guard call ups (and perhaps a National Guard draft).

And since every post must in some way relate to Canada (right?), the CF Reserve policy of basic training over a series of weekends really is a very smart way to train reservists, the National Guard would do well to adopt it.
http://www.chaaban.info/2006/11/06/basic-military-qualification-bmq/

[Determinant]

Bit crazy if you can't to National Guard basic on weekends. I knew lots of friends in University who served in the Militia (aka Land Force Reserve). They were of that age, liked it and the money was nice to supplement a student's needs. I knew one guy who was doing COTC (our version of ROTC).

Anyway, every war the US gets into usually involves National Guard callups. The Army doesn't have full exeditionary capability (every billet filled in every division or brigade at war strength) without them, by design.

[Determinant]

Bit crazy if you can't to National Guard basic on weekends. I knew lots of friends in University who served in the Militia (aka Land Force Reserve). They were of that age, liked it and the money was nice to supplement a student's needs. I knew one guy who was doing COTC (our version of ROTC).

Anyway, every war the US gets into usually involves National Guard callups. The Army doesn't have full exeditionary capability (every billet filled in every division or brigade at war strength) without them, by design.

[Blikktheterrible]

"The U.S. has a real problem with rising medical costs. This wont be fixed with tax policy, but with health care reform."-RSJ

What sort of (politically feasible) health reform would "fix" the problem of rising health costs?

[Marc Labbé]

This document lists and analyzes the options for reducing the USA deficit. The Pentagone did the exercise last year too but i do not think they publish the outcome.

http://ldi.upenn.edu/uploads/media_items/cbo-reducing-the-budget.original.pdf

[Simon]

"What sort of (politically feasible) health reform would "fix" the problem of rising health costs?"

I tend to agree with your statement. Health care costs are rising and cannot be regulated against. The baby boomers are on the verge or retirement age. Costs will increase, its how we deal with them that matters