Ryan Budget Plan Misses a Key Point

By Jeff Katz

Given the debt crisis in Europe, we should take care not to let the same thing happen here.  With our growing $15 trillion federal debt and staggering annual budget deficits, we may be headed in the same direction, unless something is done about it, and soon.

Congressman Paul Ryan’s proposed budget, passed by the House of Representatives, gets some things right.  Importantly, it would substantially reduce marginal income tax rates, i.e., the tax rate payable on the next dollar earned.  This rate influences whether someone will do the extra work it takes to earn that extra dollar.  More work means more jobs.  If the next dollar earned is taxed less severely, it will lead to more employment.

But Ryan’s plan misses one fundamental point.  It is, as a matter of fact, unnecessary to make any spending cuts at all.  The budget deficit can, over time, be totally eliminated without them.

What we need to do is simply to freeze all federal spending at current levels.  And this does not mean “freezing” spending at inflation-adjusted higher amounts that get ratcheted up all the time.  A freeze really needs to be a freeze.  A zero-increase budget.

That’s right, a Zero-Increase Budget.

By freezing all federal spending, we will slowly – but surely – ease our way out of our debt crisis without any sudden, harsh cuts to any particular federal program people have come to rely on.  All programs then would effectively be cut in real terms, but gradually: that is, after taking the effects of inflation into account.

If a particular program absolutely needed more funding than in the prior year, special Congressional hearings would be needed to justify the additional spending, and perhaps something else could be cut at the same time as an offset.  But the bar for additional spending would be set high.  Our nation’s debt crisis is that severe.

Of course the one wrinkle in all this is interest rates, and the effects that would be wrought by an environment of rising interest rates in general, and increasing interest rates on government debt in particular.  If interest rates were to increase significantly from their current, historically low levels, the federal government’s massive $15 trillion debt would be felt even more severely, as interest payments on the federal debt would soar and eat up more and more of the federal budget.  Currently, the short-term interest rate for federal government borrowing is almost zero, and still about six percent of the federal budget goes to pay interest on the outstanding national debt

On the other hand, if the increased interest rates were fueled primarily by inflation and inflationary pressure, those same influences would reduce the size of the existing federal debt in real terms.  And in such case, our Zero-Increase Budget, if adopted, would simultaneously be reducing the annual federal budget deficit in real terms at a faster clip.

It is thus a complex picture with different moving parts.  But possible rises in interest rates are the great unknown variable in the budget debate, and it is only partly within anyone’s control to do anything about that.  So we really need to start acting on things that are within our control.

If we’re prudent, and all willing to share in the sacrifice, we will emerge a stronger and more disciplined nation.  Perhaps a more united nation as well.  The extreme partisanship that has gripped our country might be cured by collective action to save the precious experiment in democracy we call America.

We just need to act a little more like Americans, and a little less like Europeans.