The next presidential term provides an opportunity to limit the growth of federal debt over the long term and thus reduce the risks it poses to the nation's future prosperity and global leadership role.
The president who is sworn in on January 20, 2021, does not have to address every facet of the nation's defective budgeting processes and policies; Congress will necessarily and appropriately act as the primary venue for vetting concepts and reform ideas. In any case, the fiscal challenge is multifaceted and complex, and it will take longer than a four-year presidential term to truly correct the many shortcomings of today's processes and policies. Nonetheless, only a president can provide the leadership to begin a course correction, and waiting beyond 2021 to get started will make the required adjustments more difficult.
Making this a priority will not be easy. The United States, and indeed the entire world, is focused on the COVID-19 crisis, along with many other pressing matters. Moreover, the US has not at this point fallen into a debt-induced crisis, despite borrowing at historic rates in recent years. In general, elected leaders see questions about deficits and debt as heavy on political pain and light on economic gain.
But there is an opportunity for an ambitious president on this front too. Much of what presidents accomplish can be undone by their successors. Taking on seemingly intractable but important national problems is an important way for presidents to leave lasting legacies. A president acting with foresight and determination could put in place a new fiscal framework for the country that endures for decades beyond the end of his term. That would be a historic achievement.
Properly framing the problem, and the solution, for the public will be crucial-and will be up to the president in particular. The public must come to see renewed fiscal restraint as an investment in America's long-term prosperity, not as a transformation of the nation's social contract. The first president able to help a sufficient number of voters grasp that there is more risk in inaction than in gradual change will get credit for paving the way for the reforms the country needs.
A World Transformed
The sustained drop in real interest rates during and after the financial crisis of just over a decade ago has led some analysts to argue that rising public debt is less of a threat than previously believed.1 But while real interest rates have fallen and appear likely to stay depressed in relative terms, the risks from escalating public debt remain real and are rising rapidly.
Responding to the financial crisis of 2007-09 and the current COVID-19 pandemic has forced the United States and many other advanced economies to accumulate debt at rates that were inconceivable during most of the postwar era. In response to the public health crisis, Congress has already approved four bills with combined spending of $3.8 trillion.2 With the economy reeling from lockdowns and spending flowing freely, federal debt has surged. The Congressional Budget Office (CBO) now expects it to breach 100 percent of gross domestic product (GDP) in 2021 and reach 109 percent of GDP in 2030.3 In January, before the coming pandemic was visible, the agency forecast debt would reach 180 percent of GDP in 2050. 4 The added borrowing now occurring in 2020 and expected in 2021 could push the cumulative federal debt above 200 percent of GDP by mid-century.
There are many reasons to be concerned that rising public debt will harm the US economy, but two stand out.
First, higher public debt will slow economic growth even if low interest rates forestall a wider crisis. Using limited capital to support more public spending will necessarily come at the expense of investment in private-sector activities, which historically have yielded higher returns. Over time, the effect on overall growth and incomes could be substantial. Kent Smetters, director of the Penn Wharton Budget Model, estimated in 2019 that keeping federal debt around 80 percent of GDP through spending restraint would increase the size of the national economy by 6.1 percent by 2050. 5
Second, rising debt risks destabilizing the dollar's position as the world's reserve currency. Today, US Treasury debt instruments are the most sought-after safe investments in the world because of the perceived stability of the dollar and the presumption that the US government will always have the capacity to meet its obligations to creditors with taxation or monetary flexibility. However, as the US government floods the world with newly issued debt, other currencies are strengthening and may, in time, put a dent in the dollar's preferred global position. In particular, the euro and a Chinese digital currency could become viable competitors. 6
If that were to occur, then interest rates and inflation could rise dramatically. The result could be substantially higher annual costs for servicing the federal government's ballooning debt. With rising net interest costs, the federal government would have to borrow more or cut back on other priorities to prevent a further rise in debt. The building fiscal pressure could easily spiral into a crisis that precipitates more draconian measures.
The president who begins his term in 2021 should make it a priority to head off such an economic calamity. The only way to do so is to make clear to the world that the United States has a viable plan for getting its fiscal house in order over the coming years and that, once implemented, it will leave the country in a stronger position for continued growth and prosperity in the 21st century
A Strategic Framework
A president taking on this challenge should develop a strategic framework to guide the national debate. The following are the five most important components of a broad national plan.
Establish Long-Term Debt Control as the Policy Objective. The US does not need a balanced federal budget in five or even 10 years, which is often the stated objective of those concerned about mounting public debt. A near-term focus would entail significant sacrifice by voters and yet not solve the problem, as the gains made today could be lost quickly when restraint is relaxed.
That is what happened when Congress agreed to the Budget Control Act in 2011 and then overrode its restraints on appropriations over several years. Initially, Congress complied with the law's required cuts in discretionary spending, including in national defense. But in a short time, as the effects of those cuts became more visible, both parties decided to reverse course and support added funding for favored programs. The result was a series of bipartisan deals that green-lighted new spending well above the original targets.7
What the country needs instead is a plan to stabilize debt over the long term by addressing the fundamental source of the imbalance, which is that current law provides multi-decade spending commitments for major programs outside the range of achievable levels of taxation. Reform must focus on closing this gap.
The payoff from a successful reform would be substantial, economically and politically. The US has had the world's most dynamic economy for the past 70 years, making it a highly desirable destination for people and capital looking to boost their incomes and investment returns. Removing the threat of a debt-induced degradation of the US economy would strengthen the perception that America remains well positioned for another long run of growth and dynamic expansion.
The next president, therefore, should push for agreement on a long-term goal for federal debt reduction relative to the size of the national economy. One option would be to target a level of debt held by the public (excluding debt held in federal accounts) that is ambitious but within reach with significant reforms. Before the COVID-19 pandemic, the federal government had outstanding debt equal to about 80 percent of GDP. The economic contraction and new relief bills enacted in 2020 will push expected federal debt up to 104 percent of GDP in 20218 and to at least 180 percent of GDP in 2050 under current law.9
Returning to pre-2020 debt levels quickly will not be possible, but a sustainable level is within reach if the right reforms can be enacted soon. In any event, the first step is agreement with Congress on the appropriate long-term target.
Given the country's deeply polarized politics, finding consensus might seem unlikely, especially in light of the growing strength of movements in both parties that minimize the importance of deficits and debt. Most voters still care about fiscal responsibility, however, which means their elected representatives are unlikely to be cavalier in dismissing a debate over setting a reasonable long-term goal.10
Redirect the Budget Process Accordingly. Today's budget process was not built to stabilize long-term debt. It was designed in 1974, when congressional appropriations were still the dominant setting for major spending decisions. But federal spending has been transformed over the past four decades, with entitlement programs now dominating the landscape. The budget process needs to be updated to help policymakers make gradual adjustments in the major spending programs and in taxes, so expected deficits do not balloon beyond the usual 10-year time horizon of today's process.
Changing the focus should start with the president's annual budget submission. That budget should be required to cover the next three decades, and, if it projects that policies under current law would lead to debt over the agreed-upon target, it should be required to propose policies to close the gap.
Similarly, the congressional budget process should be refocused on hitting a long-term debt target. The congressional budget resolution should be required to cover three decades as well and preserve its privileged status on the House and Senate floors only if it advances policies to close any gap between current law and the target. Once approved, the policies assumed in the budget resolution could be considered in both the House and Senate under expedited procedures, similar to what is afforded to policies in the current "reconciliation" process.
Further, existing budget procedures could be altered to strengthen the rules blocking debt-increasing legislation. The vote count necessary to approve such bills, especially in the Senate, could increase above today's supermajority requirement.
Seek Better Performance from Discretionary Spending, but Assume No Savings. The federal government is vast, with a large bureaucracy and scores of activities, and much of it is funded through the annual appropriations process. Unsurprisingly, some of this spending is wasteful and inefficient. Some programs should be terminated altogether because they have weak mandates or usurp roles more properly left to the states or the private sector. There are certainly possible improvements and efficiencies in the discretionary portion of the budget.
Still, the president should not look to these accounts for achieving significant savings. The effort and political capital involved are not likely worthwhile. For every dollar cut from a discretionary program, Congress would eagerly provide two dollars in spending for other activities enjoying strong bipartisan support. Further, even agencies with poor track records have staunch defenders, so saving small amounts of tax dollars requires immense political effort.
Instead of deep cuts, the president should target better performance in these programs based on objective measures of their intended purposes. Some programs that underperform should be cut, but the savings should be used to increase valuable programs that could deliver even more public benefits if given more resources. The discretionary budget is not what drives our debt problem, though it is what drives some of the federal government's dysfunction. It is an arena in which to seek greater effectiveness rather than less spending.
Focus on Large Reforms of the Major Programs. The heart of the fiscal challenge is the imbalance between the level of taxation that has been politically tolerable at the federal level in the postwar era and the level of spending occurring and expected for the nation's major social welfare commitments-above all, Social Security, Medicare, and Medicaid.
With an aging population and rising costs for medical care, federal spending on these programs is on course to consume nearly all federal revenue in the coming years, leaving little room for other priorities, including public investments that promote future growth.11 From 1970 to 2019, average annual federal revenue collection has been equal to 17.7 percent of GDP.12 The CBO projects that spending on Social Security, Medicare, Medicaid, and other health insurance subsidies by themselves will cost 15.8 percent of GDP in 2050, or just 1.4 percent of GDP less than the longterm average of total federal revenue.13
Creating more room for other federal priorities requires both increasing taxes and slowing the growth of the major benefit programs, if for no other reason than political balance. Tax increases will always be controversial. But it will be most difficult to find consensus on the spending side.
One obstacle is poor communication, which leads to public mistrust. Opponents of modifying existing commitments want program beneficiaries to believe that reform will lead to more harm than benefit. But this is the opposite of the truth.
Social Security, Medicare, and Medicaid are the three most important components of the nation's social welfare protection system. They are all deeply embedded in American life and culture and will remain so indefinitely, no matter who serves as president or in Congress. Reforms to these programs, while necessary, will not change their fundamental characteristics; the programs will look and operate largely as they do today for many decades. Indeed, their costs will continue to increase, in absolute and real terms, even with any of the plausible proposed reforms.
The president serving in 2021 will need to communicate clearly and plainly that reform is about sustaining and improving these programs, not undermining them. Moreover, without reform, the country would face the real risk of a debt crisis, which could lead to draconian cuts and collapsing incomes. It would be far better for all income groups, but especially for households with lower incomes, if the federal government could implement gradual changes that make a crisis much less likely.
There are many imaginable reforms to the major entitlement programs that would improve how they operate over time. But instead of focusing on many small, if worthy, ideas, the president should focus on big reforms that would make a real difference and need sustained advocacy to advance past political opposition. These reforms should reach the following goals.
Protect Current Beneficiaries. Even before suggesting specific program adjustments, the president should make it clear that reform will not lower net federal support for current beneficiaries. Many program beneficiaries are retirees who have limited capacity to offset benefit reductions with other income sources. Reducing statutory benefits for them strikes most Americans as unfair.
This constraint is a primary reason why the spending trajectory of these large, complex entitlement programs cannot be lowered quickly. Program adjustments must be phased in slowly, which means the savings will be small initially but build over time. Progressively Adjust Social Security Benefits. Opposition to entitlement reform centers on protecting vulnerable Americans. The president should preempt attacks on reform by making progressive improvement in Social Security benefits his top priority.
Many elderly Americans with low lifetime wages continue to live in poverty even when drawing Social Security benefits. The president should support increasing benefits for the lowest-wage earners by setting a benefits floor ensuring no one with a certain number of earning years should have a retirement income below the poverty line. This increase in benefits should be tied to another adjustment that lowers the returns provided to the highest-wage workers by decreasing the replacement rate provided for by the top bracket in the benefit formula.
Index Social Security's Normal Retirement Age to Life Span Improvements. A primary source of budgetary pressure is the population's demographic transformation. In 2019, persons age 65 and older accounted for 16.1 percent of the population, up from 9.7 percent in 1970. By 2050, the share that is elderly will grow to nearly 21 percent.14
Social Security's benefit rules need to be updated to reflect changes that have already occurred and are expected in the coming years. Congress last addressed this question in 1983, when it gradually increased the normal retirement age from 65 to 67.
Retirees are living even longer than what is reflected in this two-year increase. On average, men at age 65 now live 3.8 years longer than they did in 1983. The president should support indexing the retirement age, on a prospective basis, to maintain a steady ratio of retirement to working years across generations. Once in place, this provision would automatically adjust program spending to conform to retired Americans' actual life spans.
Establish Social Security Personal Accounts. Social Security remains one of the government's most popular programs because workers perceive that they earn their benefits with contributions. That is true generally, although benefit payments are often only loosely related to contributions because some of the program's provisions aim at other social goals. Further, because Social Security requires a combined employer-employee contribution rate of 12.4 percent, many lower-wage workers have difficulty setting aside any additional funds in retirement accounts.
The president should support introducing, on a prospective basis, small personal accounts to boost retirement incomes and improve program solvency. The accounts would be invested in privately managed funds, chosen by workers, with oversight by the Social Security Administration. The assets in the account would partially offset what is owed to the workers by the regular benefit formula, but a portion would add to their total retirement income. Adding 1 percentage point to today's combined rate of 12.4 percent would increase total program revenue; setting aside 2 percentage points, at workers' discretion, in personal accounts would allow private-sector returns to work in favor of long-term solvency and lower federal costs.
Foster Competition in Medicare with Premium Support. Medicare is a complex program with multiple coverage options. Beneficiaries can choose to stay in the traditional, government-managed fee-for-service (FFS) program or enroll in a privately managed Medicare Advantage (MA) plan. Other beneficiaries are assigned to provider-led managed-care plans, called accountable care organizations.
CBO estimates that overall spending growth would slow if Medicare fostered strong price competition among these coverage options by giving beneficiaries fixed amounts of premium support, as opposed to today's system that uses a modified bidding system for MA plans and payments in FFS that are not bound by an upper limit on premiums. The beneficiaries would use the fixed level of federal support to offset the costs of their monthly premium payments, so they would have an incentive to choose lower-priced coverage. CBO projects the savings would reach 8 percent of program costs in 2024.15 Current beneficiaries could be protected from any added premium costs, which would lower savings, or the reform could be phased in slowly to ensure premium changes are less than other increases in retirement support, such as through Social Security inflation increases.
Require Coordinated Care for Dually Eligible Medicare-Medicaid Beneficiaries. The poorest elderly are often eligible for both Medicare and Medicaid coverage. Medicare pays for hospitalization costs, physician care, outpatient prescription drugs, and other services typically associated with health insurance. For the dually eligible, Medicaid pays for expenses not covered by Medicare, which often means long-term services and support. In some cases, that can mean nursing home costs; often it means social support provided in the home or a community-based setting.
Too often, the benefits provided through Medicare and Medicaid are not coordinated. The result is fragmented care and often poor outcomes for the frail elderly. The lack of efficient provision of services can also lead to higher costs, especially when beneficiaries require hospitalization that might have been avoided with better preventive services.
The president should push for mandatory coordination of benefits for the dually eligible population. The cost of caring for these beneficiaries would be lower if they were enrolled in effective managed-care arrangements that minimize the need for expensive hospital and nursing home stays.
Compromise. The nation's budgetary challenges are so extensive that it is unlikely one party can tackle them on its own. The political vulnerability from doing so would be too great. While securing bipartisan legislation for such reforms seems fanciful in the current environment, that need not be a permanent state of affairs. One reason the nation is suffering from excessive polarization and stalemate is that political leaders have forgotten the art of compromise.
The president needs to lead the way in this regard by setting the right tone and inviting his political opponents to negotiate fiscal matters. He needs to keep his focus on the main objective, which is getting the federal government to set a fiscal target tied to a sustainable level of public debt. Once that is in place, the parties can then debate how best to achieve it.
The president, no matter his preferences, must help foster an atmosphere conducive to compromise by announcing he is open to both tax increases and program reforms. The budgetary math points in this direction anyway, and it is counterproductive to pretend otherwise. Setting these expectations at the outset will immediately signal that this process will conclude only if both parties are invested in it.
The president who takes the oath of office on January 20, 2021, will need to focus much of his attention on the ongoing national response to the COVID-19 crisis. The health and economic toll has been significant, and recovery will require substantial federal borrowing for years to come.
But that does not mean the president cannot also pursue a change in direction for the nation's long-term fiscal policy. Indeed, the COVID-19 crisis has made it even more important to implement a plan relatively soon that begins to narrow the gap between projected federal revenue and spending in 20 and 30 years.
The American political process, by design, is not adept at focusing on long-term challenges. The constitutionally mandated election cycles put a premium on delivering results in two- to six-year time frames. This is a weakness that has increasingly plagued the nation's fiscal stewardship over the past half century. Federal laws make commitments that last for decades, yet the planning horizon for the budget is at best 10 years.
The president needs to help the country fight through the institutional obstacles to a sustainable fiscal posture. The starting point is putting into federal law a new sustainable debt target with a period of 30 years to reach and sustain it. The budget process needs to be redirected to advancing this objective, and then the president needs to put on the table for consideration big reforms that would go a long way toward achieving it.
There is no guarantee, of course, that embarking on such a politically fraught endeavor would produce a satisfactory result. What is certain is that declining to try means the president's successor would face an even greater risk of presiding over a debt-induced crisis.
1. Olivier Blanchard, "Public Debt and Low Interest Rates," American Economic Review 109, no. 4 (April 2019): 1197-229, https://pubs.aeaweb.org/doi/pdfplus/10.1257/ aer.109.4.1197
2. Committee for a Responsible Federal Budget, "How Much COVID Relief Has Been Spent So Far?," August 16, 2020, http://www.crfb.org/blogs/how-much-covidrelief-has-been-spent-so-far.
3. Congressional Budget Office, An Update to the Budget Outlook: 2020 to 2030, September 2, 2020, https://www.cbo.gov/publication/56517.
4. Congressional Budget Office, "Long-Term Budget Projections," January 2020, https://www.cbo.gov/data/budget-economic-data#1.
5. Kent Smetters, "Federal Debt Still Matters," Penn Wharton Budget Model, June 11, 2019, https://budgetmodel.wharton.upenn.edu/issues/2019/6/11/federal-debt-stillmatters.
6. Aditi Kumar and Eric Rosenbach, "Could China's Digital Currency Unseat the Dollar?," Foreign Affairs, May 20, 2020, https://www.foreignaffairs.com/articles/china/ 2020-05-20/could-chinas-digital-currency-unseat-dollar.
7. For a review of the initial Budget Control Act caps and the revisions enacted in subsequent laws, see Congressional Research Service, The Budget Control Act: Frequently Asked Questions, October 1, 2019, https://fas.org/sgp/crs/misc/R44874.pdf.
8. Congressional Budget Office, "Ten-Year Budget Projections," September 2020, https://www.cbo.gov/data/budget-economic-data#1.
9. Congressional Budget Office, "Long-Term Budget Projections."
10. Peter G. Peterson Foundation, "Do Voters Care About the National Debt? The Polls Say They Do," February 20, 2020, https://www.pgpf.org/blog/2019/12/do-voterscare-about-the-national-debt-the-polls-say-they-do.
11. For a summary of the fiscal challenge from entitlement spending, see James C. Capretta, "Fiscal Policy and the Major Entitlements: An Introduction," American Enterprise Institute, June 30, 2020, https://www.aei.org/research-products/report/fiscalpolicy-and-the-major-entitlements-an-introduction/.
12. Office of Management and Budget, Historical Tables, Budget of the United States Government, Fiscal Year 2021, February 2020, https://www.whitehouse.gov/wp-content/ uploads/2020/02/hist_fy21.pdf.
13. Congressional Budget Office, "Long-Term Budget Projections."
14. Social Security Administration, Board of Trustees of the Federal Old-Age and Survivors Insurance and Federal Disability Insurance Trust Funds, "The 2020 Annual Report of the Board of Trustees of the Federal Old-Age and Survivors Insurance and Federal Disability Insurance Trust Fund," April 22, 2020, https://www.ssa.gov/OACT/ TR/2020/tr2020.pdf.
15. Congressional Budget Office, A Premium Support System for Medicare: Updated Analysis of Illustrative Options, October 5, 2017, https://www.cbo.gov/system/files/ 115th-congress-2017-2018/reports/53077-premiumsupport.pdf.