The Progressive Caucus’s Sensible Approach to Sequestration: Prioritizing Jobs and Growth

Blog Post by: Andrew Fieldhouse , on February 5, 2013

Congressional Progressive Caucus (CPC) Co-Chairs Rep. Keith Ellison (D-MN) and Rep. Raúl Grijalva (D-AZ) have introduced the Balancing Act of 2013 (H.R. 505), which presents an evidence-based approach to two imminent challenges actually facing policymakers: preventing what is intentionally terrible budget policy from taking effect, and preventing budget policy from exacerbating the jobs crisis and counterproductively delaying a return to full employment.

Broadly speaking, their bill would replace the entirety of the pending automatic “sequestration cuts”—now legislated to commence March 1—with $948 billion in progressive revenue (much of which was proposed in the CPC’s budget fiscal 2013 alternative, the Budget for All) coupled with $276 billion in near-term economic stimulus, paid for with $278 billion in cuts to spending by the Department of Defense. Replacing the sequester with revenue would bring net spending cuts and revenue increases roughly to a one-to-one ratio, and the DOD spending reductions would bring nondefense and defense discretionary spending cuts to a one-to-one ratio (measuring deficit reduction since the start of the 112th Congress, notably $1.5 trillion in discretionary spending cuts and $633 billion in policy savings from the lame duck budget deal). And most critically, the bill would balance deficit reduction with near-term measures boosting growth and employment, while making the composition of deficit reduction less economically damaging than scheduled.

With Congress having voted to suspend the statutory debt ceiling until May 19—preventing, for the time being, the threat of sovereign default being used to extract spending cuts—the next big budget and economic policy fight will be over sequestration, which the American Taxpayer Relief Act of 2012 (i.e., the lame duck deal, or ATRA for short) merely prevented for two months. Under current law, the Budget Control Act (BCA) of 2011 still requires the Office of Management and Budget to sequester (i.e., cut) $948 billion of government spending, split between defense and nonexempt domestic programs, over the next decade. Remember, the sequester was designed to be so politically unpalatable and damaging (as a share of GDP, the scheduled cuts are frontloaded—a terrible design for economic recovery and programmatic implementation) that it would force the since-disbanded Joint Select Committee on Deficit Reduction to compromise on more sensible deficit reduction. Clearly, that never happened.

But as we have previously explained, ATRA left in place sizable fiscal headwinds for 2013 by inadequately mitigating the two largest biggest economic drags among the major components of the fiscal obstacle course—the expiration of ad hoc fiscal stimulus and the BCA. The payroll tax cut was allowed to expire, emergency unemployment benefits were extended (but at a shorter duration and smaller economic boost than for most of 2012), and the first BCA phase of discretionary spending caps were entirely unaddressed. Relative to fully mitigating the fiscal obstacle course drags, the trajectory for federal fiscal policy implies a drag of between 1.5 percentage points and 2.1 percentage points, depending on whether the sequester materializes or, if avoided, the degree to which and when it’s repeal is offset. Adjusting from CBO’s August 2012 economic forecast, this would imply anemic real GDP growth of 1.0 percent to 1.6 percent—estimates consistent with those of Goldman Sachs, among others—suggesting renewed deterioration in the distressed labor market, as trend real growth rates of 2.0 percent to 2.5 percent are needed just to keep the unemployment rate treading water.

Just as austerity measures can easily scuttle a depressed economy’s recovery, increased spending to boost demand is the most effective policy lever for accelerating growth. The Balancing Act would boost growth by investing $150 billion in near-term surface transportation infrastructure, $10 billion to establish an infrastructure bank, $55 billion in K-12 school modernization and rehiring teachers, and $61 billion to reinstate the Making Work Pay (MWP) tax credit for 2013. These are all cost-effective job-creation measures with fiscal multipliers (the amount of economic activity generated by year’s end per dollar spent) exceeding 1, meaning that this would actually reduce the debt-to-GDP ratio next year.1 Increasing public investment is a no-brainer in the midst of a jobs crisis and during a period of near-record low financing costs (it’s largely self-financing in the near-term and public investment is a key driver of long-term productivity growth). Reinstating MWP would cushion the impact of expired payroll tax cut for lower- and middle-income households—at half the cost of the payroll tax cut because of its more progressive phase-in and phase-out rates.

On net, we estimate that these stimulus measures would boost real GDP growth by 1.0 percentage point in 2013, increasing nonfarm payroll employment by over 1.2 million jobs for the year, relative to current policy. These calculations, however, ignore any near-term economic drags from cutting defense spending and (lesser drags) from progressive revenue increases due to data limitations (there is no year-by-year CBO cost estimate). But these pay-fors have the advantage of minimizing near-term fiscal headwinds because progressive revenue increases are, per dollar, the least economically damaging option for deficit reduction and the DOD cuts would presumably be back loaded. Based on proxy phase-in rates, the combination of progressive revenue increases and DOD cuts might reduce the net stimulative impact by 0.2 percentage points real GDP growth and roughly 270,000 jobs, again relative to current policy.2 But that would still mean a net boost of 0.8 percentage points to growth and nearly 1 million additional jobs by the end of 2013. This would likely reorient federal fiscal policy from slowing growth to the point of a deteriorating labor market to actually boosting trend growth for the year (based on our estimate of 1.6 percent real GDP growth without sequestration).

Note also that the current policy baseline used in the above calculations assumes sequestration will not occur, which is by no means guaranteed. Should sequestration take effect for the remainder of 2013, we estimated it would slow growth by 0.6 percentage points and reduce employment by 660,000 jobs—and outcome that the Balancing Act would ensure against.

Deficit reduction should take a back seat to restoring full employment, period: if depression and cyclical budget deficits persist, contrary to CBO’s forecast, the fiscal outlook deteriorates markedly and trillions of dollars of actual income and potential future income will be forgone. But if political constraints dictate otherwise, weighting the composition of budgetary savings heavily toward progressive revenue and coupling savings with near-term stimulus spending is the evidence-based second best approach. The Balancing Act would accelerate growth and lock in more efficient, less economically damaging deficit reduction than that enacted to date, while stimulus spending would actually improve the debt-to-GDP ratio. That’s as sound as Congressional budget policy gets these days.

1 According to Moody’s Analytics chief economist Mark Zandi, the fiscal multiplier is 1.44 for infrastructure investment, 1.31 for general aid to state governments (i.e., funds for rehiring teachers), and 1.18 for MWP.

2 Year-by-year progressive revenue increases are modeled from the bill’s stated ten-year total using the implicit phase-in rate for upper-income tax provisions from OMB’s Mid-Session Review of the president’s budget request for fiscal 2013. Year-by-year DoD cuts are modeled from the ten-year total using the implicit phase-in rate for base DoD cuts from the CPC’s Budget for All. Fiscal multipliers of 0.35 and 1.4 are assigned, respectively (Zandi’s estimate for extending all the Bush tax cuts—an intentionally conservative estimate—and general government spending, respectively).

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