It's possible to cut the US deficit in a growth-friendly way that reduces inequality. But certain powerful groups won't like it
The attempt to restrain the growth of debt does serve to concentrate the mind – it forces countries to focus on priorities and assess values. The United States is unlikely in the short-term to embrace massive UK-style budget cuts. But the long-term prognosis – made especially dire by healthcare reform's inability to make much of a dent in rising medical costs – is sufficiently bleak that there is increasing bipartisan momentum to do something. President Barack Obama has appointed a bipartisan deficit-reduction commission, whose chairmen recently provided a glimpse of what their report might look like.
In the US (and some other advanced industrial countries), any deficit-reduction agenda has to be set in the context of what happened over the last decade:
• A massive increase in defence expenditures, fuelled by two fruitless wars, but going well beyond that;
• Growth in inequality, with the top 1% garnering more than 20% of the country's income, accompanied by a weakening of the middle class – median US household income has fallen by more than 5% over the last decade, and was in decline even before the recession;
• Underinvestment in the public sector, including in infrastructure, evidenced so dramatically by the collapse of New Orleans's levies; and
• Growth in corporate welfare, from bank bailouts to ethanol subsidies to a continuation of agricultural subsidies, even when those subsidies have been ruled illegal by the World Trade Organisation.
As a result, it is relatively easy to formulate a deficit-reduction package that boosts efficiency, bolsters growth and reduces inequality. Five core ingredients are required.
First, spending on high-return public investments should be increased. Even if this widens the deficit in the short run, it will reduce the national debt in the long run. What business wouldn't jump at investment opportunities yielding returns in excess of 10% if it could borrow capital – as the US government can – for less than 3% interest?
Second, military expenditures must be cut – not just funding for the fruitless wars, but also for the weapons that don't work against enemies that don't exist. The US has continued as if the cold war never came to an end, spending nearly as much on defence as the rest of the world combined.
Following this is the need to eliminate corporate welfare. Even as America has stripped away its safety net for people, it has strengthened the safety net for firms, evidenced so clearly in the great recession with the bailouts of AIG, Goldman Sachs, and other banks. Corporate welfare accounts for nearly 50% of total income in some parts of US agro-business, with billions of dollars in cotton subsidies, for example, going to a few rich farmers, while lowering prices and increasing poverty among competitors in the developing world.
An especially egregious form of corporate special treatment is that afforded to the drug companies. Even though the US government is the largest buyer of their products, it is not allowed to negotiate prices, thereby fuelling an estimated increase in corporate revenues – and costs to the government – approaching $1tn dollars over a decade.
Another example is the smorgasbord of special benefits provided to the energy sector, especially oil and gas, thereby simultaneously robbing the treasury, distorting resource allocation and destroying the environment. Then there are the seemingly endless giveaways of national resources – from the free spectrum provided to broadcasters to the low royalties levied on mining companies to the subsidies to lumber companies.
Creating a fairer and more efficient tax system, by eliminating the special treatment of capital gains and dividends, is also needed. Why should those who work for a living be subject to higher tax rates than those who reap their livelihood from speculation (often at the expense of others)?
Finally, with more than 20% of all income going to the top 1%, a slight increase, say 5%, in taxes actually paid would bring in more than $1tn over the course of a decade.
A deficit-reduction package crafted along these lines would more than meet even the most ardent deficit hawk's demands. It would increase efficiency, promote growth, improve the environment and benefit workers and the middle class.
There's only one problem: it wouldn't benefit those at the top, or the corporate and other special interests that have come to dominate America's policymaking. Its compelling logic is precisely why there is little chance that such a reasonable proposal would ever be adopted.
• Copyright: Project Syndicate 2010.