[Senate Hearing 112-498]
[From the U.S. Government Publishing Office]
S. Hrg. 112-498
CONCURRENT RESOLUTION ON THE BUDGET FISCAL YEAR 2012
=======================================================================
HEARINGS
before the
COMMITTEE ON THE BUDGET
UNITED STATES SENATE
ONE HUNDRED TWELTH CONGRESS
FIRST SESSION
----------
January 7, 2011-THE U.S. ECONOMIC OUTLOOK: CHALLENGES FOR MONETARY AND
FISCAL POLICY
January 27, 2011-THE BUDGET AND ECONOMIC OUTLOOK: FISCAL YEARS 2011-
2021
February 1, 2011-THE U.S. ECONOMIC OUTLOOK
February 2, 2011-TAX REFORM: A NECESSARY COMPONENT FOR RESTORING FISCAL
RESPONSIBILITY
February 3, 2011-CHALLENGES FOR THE U.S. ECONOMIC RECOVERY
February 15, 2011-THE PRESIDENT'S FISCAL YEAR 2012 BUDGET PROPOSAL
February 17, 2011-THE PRESIDENT'S FISCAL YEAR 2012 BUDGET AND REVENUE
PROPOSALS
March 1, 2011 09THE PRESIDENT'S FISCAL YEAR 2012 EDUCATION BUDGET
March 2, 2011 09THE PRESIDENT'S FISCAL YEAR 2012 BUDGET REQUEST FOR THE
DEPARTMENT OF ENERGY
March 3, 2011-THE PRESIDENT'S FISCAL YEAR 2012 BUDGET REQUEST FOR THE
U.S. DEPARMENT OF TRANSPORTATION
March 8, 2011-THE REPORT OF THE NATIONAL COMMISSION ON FISCAL
RESPONSIBILTY AND REFORM
March 9, 2011-DISTRIBUTION AND EFFICIENCY OF SPENDING IN THE TAX CODE
March 10, 2011-THE PRESIDENT'S FISCAL YEAR 2012 DEFENSE AND
INTERNATIONAL AFFAIRS BUDGET
S. Hrg. 112-498
CONCURRENT RESOLUTION ON THE BUDGET FISCAL YEAR 2012
=======================================================================
HEARINGS
before the
COMMITTEE ON THE BUDGET
UNITED STATES SENATE
ONE HUNDRED TWELTH CONGRESS
FIRST SESSION
__________
January 7, 2011-THE U.S. ECONOMIC OUTLOOK: CHALLENGES FOR MONETARY AND
FISCAL POLICY
January 27, 2011-THE BUDGET AND ECONOMIC OUTLOOK: FISCAL YEARS 2011-
2021
February 1, 2011-THE U.S. ECONOMIC OUTLOOK
February 2, 2011-TAX REFORM: A NECESSARY COMPONENT FOR RESTORING FISCAL
RESPONSIBILITY
February 3, 2011-CHALLENGES FOR THE U.S. ECONOMIC RECOVERY
February 15, 2011-THE PRESIDENT'S FISCAL YEAR 2012 BUDGET PROPOSAL
February 17, 2011-THE PRESIDENT'S FISCAL YEAR 2012 BUDGET AND REVENUE
PROPOSALS
March 1, 2011-THE PRESIDENT'S FISCAL YEAR 2012 EDUCATION BUDGET
March 2, 2011-THE PRESIDENT'S FISCAL YEAR 2012 BUDGET REQUEST FOR THE
DEPARTMENT OF ENERGY
March 3, 2011-THE PRESIDENT'S FISCAL YEAR 2012 BUDGET REQUEST FOR THE
U.S. DEPARMENT OF TRANSPORTATION
March 8, 2011-THE REPORT OF THE NATIONAL COMMISSION ON FISCAL
RESPONSIBILTY AND REFORM
March 9, 2011-DISTRIBUTION AND EFFICIENCY OF SPENDING IN THE TAX CODE
March 10, 2011-THE PRESIDENT'S FISCAL YEAR 2012 DEFENSE AND
INTERNATIONAL AFFAIRS BUDGET
_____
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COMMITTEE ON THE BUDGET
KENT CONRAD, NORTH DAKOTA, CHAIRMAN
PATTY MURRAY, WASHINGTON JEFF SESSIONS, ALABAMA
RON WYDEN, OREGON CHARLES E. GRASSLEY, IOWA
BILL NELSON, FLORIDA MICHAEL ENZI, WYOMING
DEBBIE STABENOW, MICHIGAN MIKE CRAPO, IDAHO
BENJAMIN CARDIN, MARYLAND JOHN CORNYN, TEXAS
BERNARD SANDERS, VERMONT LINDSEY O. GRAHAM, SOUTH CAROLINA
SHELDON WHITEHOUSE, RHODE ISLAND JOHN THUNE, SOUTH DAKOTA
MARK R. WARNER, VIRGINIA ROB PORTMAN, OHIO
JEFF MERKLEY, OREGON PAT TOOMEY, PENNSYLVANIA
MARK BEGICH, ALASKA RON JOHNSON, WISCONSIN
CHISTOPHER A. COONS, DELAWARE KELLY AYOTTE, NEW HAMPSHIRE
Mary Ann Naylor, Majority Staff Director
Marcus Peacock, Minority Staff Director
(ii)
C O N T E N T S
__________
HEARINGS
Page
January 7, 2011-The U.S. Economic Outlook: Challenges for
Monetary and Fiscal Policy..................................... 1
January 27, 2011-The Budget and Economic Outlook: Fiscal Years
2011-2021...................................................... 83
February 1, 2011-The U.S. Economic Outlook....................... 157
February 2, 2011-Tax Reform: A Necessary Component for Restoring
Fiscal Responsibility.......................................... 265
February 3, 2011-Challenges for the U.S. Economic Recovery....... 363
February 15, 2011-The President's Fiscal Year 2012 Budget
Proposal....................................................... 461
February 17, 2011-The President's Fiscal Year 2012 Budget and
Revenue Proposals.............................................. 639
March 1, 2011-The President's Fiscal Year 2012 Education Budget.. 719
March 2, 2011-The President's Fiscal Year 2012 Budget Request for
the Department of Energy....................................... 831
March 3, 2011-The President's Fiscal Year 2012 Budget Request for
the U.S. Department of Transportation.......................... 949
March 8, 2011-The Report of the National Commission on Fiscal
Responsibility and Reform...................................... 1005
March 9, 2011-Distribution and Efficiency of Spending in the Tax
Code........................................................... 1075
March 10, 2011-The President's Fiscal Year 2012 Defense and
International Affairs Budget................................... 1173
STATEMENTS BY COMMITTEE MEMBERS
Chairman1, 83, 157, 265, 363, 461, 639, 719, 831, 949, 1005, 1075, 1173
R11, 117, 169, 274, 398, 468, 648, 696, 728, 838, 895, 958, 993, 1013,
1084, 1183
Senator Crapo.................................................... 91
Senator Thune..................................................353, 995
Senator Wyden.................................................... 998
WITNESSES
Roseanne Altshuler, PhD., Professor, Rutgers University........303, 306
Honorable Ben S. Bernanke, Chairman, Board of Governors of the
Federal Reserve System.........................................14, 20
Richard Berner, PhD., Managing Director, Co-Head of Global
Economics, and Chief U.S. Economist, Morgan Stanley..........171, 175
Honorable Erskine Bowles, Co-Chair, National Commission on Fiscal
Responsibility and Reform...................................... 1037
Honorable Steven Chu, PhD., Secretary, U.S. Department of Energ841, 844
Honorable Arne Duncan, Secretary, U.S. Department of Education:
Accompanied by Thomas Skelly, Acting Chief Financial Officer,
U.S. Department of Education............................733, 738, 766
Chris Edwards, Director of Tax Policy Studies, CATO Institute..430, 433
Douglas W. Elmendorf, Director, Congressional Budget Office......93, 97
Honorable Timothy F. Geithner, Secretary, U.S. Department of the
Treasury.....................................................650, 653
Robert Greenstein, Executive Director, Center on Budget and
Policy Priorities..........................................1087, 1090
Scott Hodge, President, Tax Foundation.......................1110, 1113
Simon Johnson, Senior Fellow, Peterson Institute for Internation
Econoics and Roanld A. Kurtz Proffesor of Entrepreneurship,
Sloan School of Manangement, Massachusetts Institute of
Technology...................................................183, 186
Honorable Ray LaHood, Secretary, U.S. Department of
Transportation...............................................959, 961
Honorable Jacob J. Lew, Director, U.S. Office of Management and
Budget.......................................................470, 474
Lawrence B. Lindsey, PhD., Professor, Rutgers University.......315, 318
Honorable William J. Lynn, III, Deputy Secretary of Deense, U.S.
Department of Defense......................................1193, 1196
David Malpass, President, Encima Global........................194, 201
Donald B. Marron, PhD., Director, Urban-Brookings Tax Policy
Center, and Visiting Professor, Georgetown Public Policy
Institute....................................................290, 292
Robert S. McIntyre, Director, Citizens for Tax Justice.......1100, 1102
Honorable Thomas R. Nides, Deputy Secretary of State for
Management and Resources, U.S. Department of State.........1185, 1188
Raymond C. Scheppah, Executive Director, National Governors
Association..................................................416, 420
Honorable Alan Simpson, Co-Chair, National Commission on Fiscal
Responsibility and Reform..................................1015, 1019
C. Eugene Steuerle, PhD., Institute Fellow and Richard B. Fisher
Chair, The Urban Institute...................................276, 278
Till Von Wachter, Phd., Associate Professor of Economics,
Columbia University..........................................398, 402
Mark Zandi, PhD., Chief Economist, Moody's Analytics...........372, 378
QUESTIONS AND ANSWERS
Questions 63, 148, 259, 357, 528, 696, 813, 895, 1001, 1069, 1162, 1226
THE U.S. ECONOMIC OUTLOOK: CHALLENGES FOR MONETARY AND FISCAL POLICY
---------- -
- -
FRIDAY, JANUARY 7, 2011
United States Senate,
Committee on the Budget,
Washington, D.C.
The Committee met, pursuant to notice, at 9:31 a.m., in
Room SH-216, Hart Senate Office Building, Hon. Kent Conrad,
Chairman of the Committee, presiding.
Present: Senators Conrad, Wyden, Stabenow, Warner, Merkley,
Manchin, Sessions, Enzi, and Cornyn.
Staff Present: Mary Ann Naylor, Majority Staff Director;
and Marcus Peacock, Minority Staff Director.
OPENING STATEMENT OF CHAIRMAN CONRAD
Chairman Conrad. The Committee will come to order.
I want to welcome everyone to the Budget Committee this
morning. I especially want to welcome Senator Sessions.
Senator Sessions has not formally been recognized as
Ranking Member of the Budget Committee, but that is just a
formality. He will be as soon as the organizing resolution is
adopted, and so I intend to treat Senator Sessions as the
Ranking Member here today, and I think that is the appropriate
thing to do.
I very much welcome Senator Sessions as my partner on this
Committee. He has considerable knowledge of the budget and the
budget process, and I very much look forward to working with
him as we confront the significant challenges facing the
country.
I also want to welcome Federal Reserve Chairman Ben
Bernanke back to the Budget Committee. This is Chairman
Bernanke's third appearance here, and we have always benefitted
by his wise counsel. I believe that when the history of this
period is written, you will be one of the heroes of the piece
in averting what could have been a financial collapse.
I was in the meetings with the former Secretary of the
Treasury and with you when you warned us of how serious the
financial circumstances were in late 2008. Those moments will
be forever riveted in my memory, I am sure in yours as well. I
personally believe you and then Secretary of the Treasury Hank
Paulson, followed by this administration, have taken steps that
were critically important to averting a financial collapse, not
only here but globally as well.
Still, our Nation faces very serious challenges. We know we
are on an unsustainable course with the budget, borrowing about
40 cents of every dollar that we spend. Clearly, that cannot
continue for very long.
On the other hand, we also face a fragile economy. With one
in every six workers in this country either unemployed or
underemployed, that requires our immediate attention as well.
My own belief is that we need to put in place a plan this year
to get our fiscal house back in order, and that plan needs to
be phased in over a period of time along the lines of what the
Fiscal Commission proposed.
I think we also understand where we have come. This has
been an extraordinary period in the country's economic history.
I would like to just go over a brief history of what we have
experienced.
I personally believe the Federal response did avert what
could have been a financial collapse. I believe it was that
serious. In the meetings that I was in with then Secretary of
the Treasury Hank Paulson and you, Mr. Chairman, the risks were
very clear. We have seen some progress made--in fact, important
progress made. Private sector job growth has returned, although
not as much as we would have liked. We heard the numbers this
morning, something over 100,000 jobs created in the private
sector, a dramatic improvement of where we were back in January
of 2009 when we were losing 800,000 private sector jobs a
month. Now we have had 12 consecutive months of private sector
job growth.
Now, in economic growth the pattern is the same, although
actually somewhat better. In the fourth quarter of 2008, the
economy actually contracted, actually shrunk by 6.8 percent.
More recently, in the third quarter of 2010, we saw a positive
growth of 2.6 percent--again, a dramatic improvement, while not
as strong as we would hope. We have now had five consecutive
quarters of growth.
We have also seen a dramatic rebound in the stock market.
After falling to a low of just about 6,500 in March of 2009,
the Dow is now over 11,500. And two of the most respected
economists in the country--Mark Zandi, who was a consultant to
the McCain Campaign, and Alan Blinder, the former Deputy
Chairman of the Federal Reserve--did an analysis that measured
the impact of Federal actions--the TARP and stimulus--and also
included the Fed's monetary policy actions, and they concluded
as follows: ``We find that its effects on real GDP, jobs, and
inflation are huge and probably averted what could have been
called `Great Depression 2.0.' When all is said and done, the
financial and fiscal policies will have cost taxpayers a
substantial sum, but not nearly as much as most had feared and
not nearly as much as if policymakers had not acted at all. If
the comprehensive policy responses saved the economy from
another depression, as we estimate, they were well worth the
cost.''
This next chart shows Dr. Blinder and Dr. Zandi's estimate
of the number of jobs we would have without the Federal
response. It shows we would have had 8 million fewer jobs in
the second quarter of 2010 if we had not had the Federal
response--the TARP and the stimulus.
We see a similar picture with the unemployment rate. The
unemployment rate averaged 9.7 percent in the second quarter.
According to Dr. Blinder and Dr. Zandi, if we had not had the
Federal response, the unemployment rate would have been 15
percent in the second quarter and would have continued rising
to over 16 percent in the fourth quarter of 2010. So, clearly,
the Federal response to the economic crisis has had and
continues to have a significant positive impact on the economy,
but we are not out of the woods.
We cannot forget that, as I mentioned before, one in every
six of our fellow citizens are either unemployed or
underemployed. The unemployment rate in December, which was
also announced this morning, was 9.4 percent. This is still far
too high. And Federal Reserve projections show the rate is
likely to come down only slowly, averaging still in the high 8-
percentage-point range by the fourth quarter of 2012.
But as I noted, we must now also pivot to addressing the
long-term fiscal imbalances that the country confronts. I
believe we are at a critical juncture. We have been borrowing,
as I mentioned earlier, 40 cents of every dollar that we spend.
That cannot continue much longer. Spending is at the highest
level as a share of our national income in 60 years; revenue is
at its lowest level as a share of our national income in 60
years. I believe that indicates you have to work both sides of
that equation if we are to make progress.
Gross Federal debt is already expected to reach 100 percent
of GDP this year, well above the 90-percent threshold that many
economists see as the danger zone. A leading economist came
before our Commission and has come before this Committee, Dr.
Carmen Reinhart, who has studied 200 years of fiscal crises
around the world. She concluded that when government debt as a
share of the economy exceeds 90 percent--and she is referring
here to gross Federal debt--that economic growth tends to be
about one percentage point lower than it would be if debt
levels were not so high. If that association were applied to
the United States today, it would translate into a potential
economic loss of hundreds of billions of dollars and
substantially fewer jobs for Americans.
So I believe the deficit and debt reduction plan assembled
by the Fiscal Commission could provide a blueprint and a way
forward. The plan would stabilize the publicly held debt by
2014 and then lower it to 60 percent of GDP by 2023 and roughly
30 percent by 2040. I emphasize that is the publicly held debt,
not the gross debt.
The bipartisan Commission voted for the plan; 60 percent of
us supported it--interestingly enough, five Republicans and
five Democrats and one Independent. I think that demonstrates
that we can reach across the aisle to do things that are
critically important for the country. Facing up to the debt
threat is something we must do, and we must do it together.
With that, we will turn to Senator Sessions for his opening
remarks, and, again, I want to welcome him as Ranking Member of
the Budget Committee.
OPENING STATEMENT OF SENATOR SESSIONS
Senator Sessions. Thank you, Chairman Conrad. It is an
honor to be here, to be with you. I respect you very much and
value our friendship and enjoy being ribbed by you--
effectively, I must add--and look forward to working with you
to help make our country better. We have some real serious
challenges ahead of us.
I also want to note how much I have admired our former
Ranking Member, Judd Gregg. I know you and he had a great
relationship. I think his leadership was particularly valuable.
People listened to him, they trusted his judgment, and I hope
that I can just come close to being as effective as he has been
in this position.
I would like to share some thoughts and concerns. I know
that when the mortgage crisis hit and the economy was whacked,
a lot of people got together and tried to make some decisions.
Mr. Chairman, it would have been better, I think, had we seen
the mortgage crisis 2 years in advance and taken action to make
the crisis less real. And I say that because we ought to be
humble about where we are today.
I do not think anyone fully understands this magnificent
world economy we are a part of. I do not think any one person,
whether it is the Federal Reserve, the Secretary of Treasury,
or even Congress, can have a little meeting and be sure that
the actions we take are going to have certain impacts on this
massive economy of which we are a part. When you are confused,
in the end you need to return to the fundamentals of blocking
and tackling, to the fundamentals of paying your bills on time,
and create some confidence in the economy.
So today is our Committee's first hearing of the 112th
Congress. We meet on the heels of a historic election. It is
important, that election. The American people rebelled against
wasteful Washington spending and a Government that has grown
too large and too intrusive. The American people also rebelled
against a political establishment that has placed our country
on a path to fiscal decline. Solving our Nation's economic and
debt crisis is about more than economics. It is about
protecting our way of life at home and our standing abroad as a
great Nation, and it is about honest and moral policy.
Our goal is not an era of austerity but an era of
prosperity. Restoring fiscal discipline and strengthening the
private sector is the only way to create growth and opportunity
for every hard-working American, and it is the only way to
protect our country's greatness and its vital role in the
world.
To solve our problems, we must speak about them candidly.
Our Nation's debt will soon be equal to the size of our entire
economy. Forty percent of our budget relies on borrowed funds.
In 2009, the interest on our debt alone cost $187 billion. And
the Congressional Budget Office projects that under the
President's budget these interest payments will climb to $916
billion in 2020. That exceeds any other part of our budget and
is growing faster than any other part of our budget--vastly
superior to the defense budget.
We are on a path that is unsustainable. The only real
question is how much road is left between us and the edge of
the cliff. The American people understand the situation. They
understand that years of unchecked Federal spending has
squandered our Nation's wealth and threatened our children's
future. The American people understand what elites in
Washington seem to forget, and that is, you can only live
beyond your means for so long. Eventually the bill comes due.
Fundamentally it is immoral to take from our children their
wealth so we can spend unearned wealth today.
There are other problems, too. Considering the housing
bubble, for years Congress delayed action to address the
unfolding catastrophe at Freddie and Fannie. The Federal
Reserve was asleep at the switch and failed to sound the alarm.
And then one day the bubble burst, and the whole world changed.
No one knows exactly what will happen if we continue our
spending on the current course, but we must not find out.
James Baker wrote a recent piece in the Washington Times
describing some of the worse potential consequences, saying we
need to be more specific about what the consequences will be.
He said, ``One day the Treasury will hold an auction and there
will not be buyers. The Federal Reserve will step in as a buyer
of last resort, conjuring money from the ether to buy bonds.
The injection of massive liquidity into the financial system
will trigger fears of hyperinflation, causing the dollar to
plunge and interest rates to rise. If the resources of the
European Union and the International Monetary Fund are
stretched to rescue the finances of tiny Greece and Ireland,
the United States will not only be too big to fail but too big
to bail out. Absent emergency action by the Government, the
economy will plunge into a depression roughly 3 times more
acute than the recession we just experienced.''
I do not know if it would happen like that, but Barron's
also had an editorial by an experienced Wall Streeter of 45
years warning of a hyperinflationary spiral. The writer
explained that while the Federal Reserve can monetize the debt,
historically a ``break point occurs when a government borrows
an amount equal to 40 percent of its expenditures for an
extended period of time.''
In a recent interview, Chairman Bernanke, you said you were
100 percent confident the Fed could prevent such inflation, but
I am not sure the masters of the universe--you being maybe the
master master how confident you can be about that. You have
been wrong before. And while we can debate just how great and
imminent the risk is, there is no debating what the American
people have declared in poll after poll. We are on the wrong
track.
But where is the leadership from our administration? Just
last December, the President would only agree to maintain
current tax rates if Congress agreed to new spending, all
borrowed, that would add another $250 billion to the debt.
Instead of slowing down, President Obama hit the accelerator.
But simply easing off the pedal will not solve the problem.
When you are driving toward a cliff at 90 miles an hour, you
cannot just slow down to 60. You need to hit the brakes and
steer on to the right road. For too long, Washington compromise
has changed only the pace and not the direction that we are
going.
Last November, the American people said, ``Enough.'' That
is precisely what they said, I believe. They sent Congress a
new freshman class with a clear set of instructions. Those
instructions include a budget that changes our trajectory and
genuinely reduces the size, cost, and burden of Government. We
can learn from those who are setting a strong example.
In New Jersey, Governor Chris Christie has a plan to close
his State's funding gap without raising taxes.
In Britain, the new conservative government has taken
strong action and has a plan to reduce their deficit from 10 to
4 percent of GDP in just 4 years. As Britain's Chancellor of
the Exchequer George Osborne said, ``It is a hard road, but it
leads to a better future.''
Yet some would argue that reducing Government spending even
a small amount will reduce the quality of our life, but the
surest way to lower the quality of life in America is to
continue on our current course, spending without restraint,
crushing private enterprise, and mortgaging the inheritance of
our children.
The challenges ahead may be difficult, but the choices we
face are not. We need to limit Government, control spending,
and create an environment where the free market can thrive and
flourish. It is a road map our Founders laid out more than two
centuries ago. There is no doubt it will work again. America's
progress is not a thing of the past. We can do this. But to
achieve this progress, we can no longer compromise our Nation's
founding principles. Instead we must fight for them and in so
doing hope to find common ground in doing so.
Chairman Bernanke, I look forward to discussing these and
other issues with you today, and I look forward to getting your
thoughts on how you and the administration are working together
with a plan for strengthening our future.
Thank you, Mr. Chairman.
Chairman Conrad. Thank you so much, Senator Sessions, and I
just want to say I welcome your analysis. We may not agree on
every solution. I think the one thing we are agreed on is we
are on an unsustainable course, and we have an obligation, we
have a very serious and somber obligation to come up with a
plan and to do it sooner rather than later, and I look very
much forward to working with you on that.
Senator Sessions. Thank you. I value those comments.
Chairman Conrad. Mr. Chairman, thank you so much for
coming. I want to tell the Committee that Chairman Bernanke has
also offered to come up here in a closed session with Committee
members to discuss what he sees with respect to the economy,
but we very much welcome your being here as our first witness
as we embark on the challenge of putting together a budget for
this year and succeeding years. Welcome.
STATEMENT OF THE HONORABLE BEN S. BERNANKE, CHAIRMAN, BOARD OF
GOVERNORS OF THE FEDERAL RESERVE SYSTEM
Mr. Bernanke. Thank you. Thank you, Chairman Conrad,
Senator Sessions, and other members of the Committee. I want to
thank you for this opportunity to offer my views on current
economic conditions, recent monetary policy actions, and issues
related to the Federal budget.
The economic recovery that began a year and a half ago is
continuing, although to date at a pace that has been
insufficient to reduce the rate of unemployment significantly.
The initial stages of the recovery in the second half of 2009
and in early 2010 were largely attributable to the
stabilization of the financial system, the expansion of
monetary and fiscal policies, and a powerful inventory cycle.
Growth slowed somewhat this past spring as the impetus from
fiscal policy and inventory building waned and as European
sovereign debt problems led to increased volatility in
financial markets. More recently, however, we have seen
increased evidence that a self-sustaining recovery in consumer
and business spending may be taking hold. In particular, real
consumer spending rose at an annual rate of 2.5 percent in the
third quarter of 2010, and the available indicators suggest
that it likely expanded at a somewhat faster pace in the fourth
quarter.
Business investment in new equipment and software has grown
robustly in recent quarters, albeit from a fairly low level, as
firms replaced aging equipment and made investments that had
been delayed during the downturn. However, the housing sector
remains depressed as the overhand of vacant house continues to
weigh heavily on both home prices and construction, and non-
residential construction is also quite weak. Overall, the pace
of economic recovery seems likely to be moderately stronger in
2011 than it was in 2010.
Although recent indicators of spending and production have
generally been encouraging, conditions in the labor market have
improved only modestly at best. After the loss of nearly 8.5
million jobs in 2008 and 2009, private payrolls expanded at an
average of only about 100,000 per month in 2010--a pace barely
enough to accommodate the normal increase in the labor force
and, therefore, insufficient to materially reduce the
unemployment rate.
On a more positive note, a number of indicators of job
openings and hiring plans have looked stronger in recent
months, and initial claims for unemployment insurance declined
through November and December. Notwithstanding these hopeful
signs, with output growth likely to be moderate in the next few
quarters and employers reportedly still reluctant to add to
payrolls, considerable time likely will be required before the
unemployment rate has returned to a more normal level.
Persistently high unemployment by dampening household
income and confidence could threaten the strength and
sustainability of the recovery. Moreover, roughly 40 percent of
the unemployed have been out of work for 6 months or more.
Long-term unemployment not only imposes exceptional hardships
on the jobless and their families, but it also erodes the
skills of those workers and may inflict lasting damage on their
employment and earnings prospects.
Recent data show consumer price inflation continuing to
trend downward. For the 12 months ending in November, prices
for personal consumption expenditures rose 1.0 percent, and
inflation, excluding the relatively volatile food and energy
components, which tends to be a better gauge of underlying
inflation trends, was only 0.8 percent, down from 1.7 percent a
year earlier and from about 2.5 percent in 2007, the year
before the recession began.
The downward trend in inflation over the past few years is
no surprise given the low rates of resource utilization that
have prevailed over that time. Indeed, as a result of the weak
job market, wage growth has slowed along with inflation. Over
the 12 months ending in November, average hourly earnings have
risen only 1.6 percent.
Despite the decline in inflation, long-run inflation
expectations have remained stable. For example, the rate of
inflation that households expect over the next 5 to 10 years,
as measured by the Thompson Reuters/University of Michigan
Surveys of Consumers, has remained in a narrow range over the
past few years. With inflation expectations stable and with
levels of resource utilization expected to remain low,
inflation is likely to be subdued for some time.
Although it is likely that economic growth will pick up
this year and that the unemployment rate will decline somewhat,
progress toward the Federal Reserve statutory objectives of
maximum employment and stable prices is expected to remain
slow. The projections submitted by the Federal Open Market
Committee, or FOMC, showed that, notwithstanding forecasts of
increased growth in 2011 and 2012, most participants expected
the unemployment rate to be close to 8 percent 2 years from
now. At this rate of improvement, it could take 4 to 5 more
years for the job market to normalize fully.
FOMC participants also predicted inflation to be at
historically low levels for some time. Very low rates of
inflation raise several concerns.
First, very low inflation increases the risk that new
adverse shocks could push the economy into deflation; that is,
a situation involving ongoing declines in prices. Experience
shows that deflation induced by economic slack can lead to
extended periods of poor economic performance. Indeed, even a
significant perceived risk of deflation may lead firms to be
more cautious about investment and hiring.
Second, with short-term nominal interest rates already
close to zero, declines in actual and expected inflation
increase, respectively, both the real cost of servicing
existing debt and the expected real cost of new borrowing. By
raising effective debt burdens and by inhibiting new household
spending and business investment, higher real borrowing costs
create a further drag on growth.
Finally, it is important to recognize that periods of very
low inflation generally involve very slow growth in nominal
wages and incomes as well as prices. I have already alluded to
the recent deceleration in average hourly earnings. Thus, in
circumstances like those we face now, very low inflation, or
deflation, does not necessarily imply any increase in household
purchasing power. Rather, because of the associated
deterioration in economic performance, very low inflation, or
deflation, arising from economic slack is generally linked with
reductions rather than gains in living standards.
In a situation in which unemployment is high and expected
to remain so and inflation is unusually low, the FOMC would
normally respond by reducing its target for the Federal funds
rate. However, the Federal Reserve's target for the Federal
funds rate has been close to zero since December 2008, leaving
essentially no scope for further reductions. Consequently for
the past 2 years, the FOMC has been using alternative tools to
provide additional monetary accommodation. Notably, between
December 2008 and March 2010, the FOMC purchased about $1.7
trillion in longer-term Treasury and agency-backed securities
in the open market. The proceeds of these purchases ultimately
find their way into the banking system, with the result that
depository institutions now hold a high level of reserve
balances with the Federal Reserve.
Although longer-term securities purchases are a different
tool for conducting monetary policy than the more familiar
approach of managing the overnight interest rate, the goals and
transmission mechanisms of the two approaches are similar.
Conventional monetary policy works by changing market
expectations for the future path of short-term interest rates,
which in turn influences the current level of longer-term
interest rates and other financial conditions. These changes in
financial conditions then affect household and business
spending. By contrast, securities purchases by the Federal
Reserve put downward pressure directly on longer-term interest
rates by reducing the stock of longer-term securities held by
private investors. These actions affect private sector spending
through the same channels as conventional monetary policy.
In particular, the Federal Reserve's earlier program of
asset purchases appeared to be successful in influencing
longer-term interest rates, raising the prices of equities and
other assets, and improving credit conditions more broadly,
thereby helping stabilize the economy and support the recovery.
In light of this experience and with the economic outlook
still unsatisfactory, late last summer the FOMC began to signal
to financial markets that it was considering providing
additional monetary policy accommodation by conducting further
asset purchases. At its meeting in early November, the FOMC
formally announced its intention to purchase an additional $600
billion in Treasury securities by the end of the second quarter
of 2011, or about one-third the value of securities purchased
in earlier programs. The FOMC also maintained its policy,
adopted at its August meeting, of reinvesting principal
received on the Federal Reserve's holdings of securities. The
FOMC stated that it will review its asset purchase program
regularly in light of incoming information and will adjust the
program as needed to meet its objectives.
Importantly, the committee remains unwaveringly committed
to price stability and in particular to maintaining inflation
at a level consistent with the Federal Reserve's mandate from
the Congress. In that regards, it bears emphasizing that the
Federal Reserve has all the tools it needs to ensure that it
will be able to smoothly and effectively exit from this program
at the appropriate time.
Importantly, the Federal Reserve's ability to pay interest
on reserve balances held at Federal Reserve banks will allow it
to put upward pressure on short-term market interest rates and
thus to tighten monetary policy when needed, even if bank
reserves remain high. Moreover, the Fed has invested
considerable effort in developing methods to drain or
immobilize bank reserves as needed to facilitate the smooth
withdrawal of policy accommodation when conditions warrant. If
necessary, the committee could also tighten policy by redeeming
or selling securities on the open market.
As I am appearing before the Budget Committee, it is worth
emphasizing that the Fed's purchases of longer-term securities
are not comparable to ordinary Government spending. In
executing these transactions, the Federal Reserve requires
financial assets, not goods and services. Ultimately, at the
appropriate time, the Federal Reserve will normalize its
balance sheet by selling these assets back into the market or
by allowing them to mature. In the interim, the interest that
the Federal Reserve earns from its securities holdings adds to
the Fed's remittances to the Treasury. In 2009 and 2010, those
remittances totaled about $120 billion.
Fiscal policymakers also face a challenging environment.
Our Nation's fiscal position has deteriorated appreciably since
the onset of the financial crisis and the recession. To a
significant extent, this deterioration is the result of the
effects of the weak economy on revenues and outlays along with
the actions that we are taking to ease the recession and steady
financial markets. In their planning for the near term, fiscal
policymakers will need to continue to take into account the low
level of economic activity and the still fragile nature of the
economic recovery.
However, an important part of the Federal budget deficit
appears to be structural rather than cyclical; that is, the
deficit is expected to remain unsustainably elevated even after
economic conditions have returned to normal. For example, under
the CBO's so-called alternative fiscal scenario, which assumes
that most of the tax cuts enacted in 2001 and 2003 are made
permanent and that discretionary spending rises at the same
rate as the GDP, the deficit is projected to fall from its
current level of about 9 percent of GDP to 5 percent of GDP by
2015, but then to rise to about 6.5 percent of GDP by the end
of the decade.
In subsequent years, the budget outlook is projected to
deteriorate even more rapidly as the aging of the population
and continued growth in health spending boost Federal outlays
on entitlement programs. Under this scenario, Federal debt held
by the public is projected to reach 185 percent of the GDP by
2035, up from about 60 percent at the end of fiscal year 2010.
The CBO projections by design ignore the adverse effects
that such high debt and deficits would likely have on our
economy. But if Government debt and deficits were actually to
grow at the pace envisioned in the scenario, the economic and
financial effects would be severe. Diminishing confidence on
the part of investors that deficits will be brought under
control would likely lead to sharply rising interest rates on
Government debt and potentially to broader financial turmoil.
Moreover, high rates of Government borrowing would drain funds
away from private capital formation and increase our foreign
indebtedness with adverse long-run effects on U.S. output,
incomes, and standards of living.
It is widely understood that the Federal Government is on
an unsustainable fiscal path, yet as a Nation we have done
little to address this critical threat to our economy. Doing
nothing will not be an option indefinitely. The longer we wait
to act, the greater the risks and the more wrenching the
inevitable changes to the budget will be. By contrast, the
prompt adoption of a credible program to reduce future deficits
would not only enhance economic growth and stability in the
long run, but could also yield substantial near-term benefits
in terms of lower long-term interest rates and increased
consumer and business confidence.
Plans recently put forward by the President's National
Commission on Fiscal Responsibility and Reform and other
prominent groups provide useful starting points for a much
needed national conversation about our medium- and long-term
fiscal situation. Although these various proposals differ on
many details, each gives a sobering perspective on the size of
the problem and offers some potential solutions.
Of course, economic growth is affected not only by the
levels of taxes and spending but also by their composition and
structure. I hope that in addressing our long-term fiscal
challenges the Congress will seek reforms to the Government's
tax policies and spending priorities that serve not only to
reduce the deficit but also to enhance the long-term growth
potential of our economy, for example, by encouraging
investment in physical and human capital, by promoting research
and development, by providing necessary public infrastructure,
and by reducing disincentives to work and to save. We cannot
grow out of our fiscal imbalances, but a more productive
economy would ease the trade-offs that we face.
Thank you, Mr. Chairman, Senator Sessions. I would be
pleased to take your questions.
[The prepared statement of Mr. Bernanke follows:]
Chairman Conrad. Thank you for your excellent testimony.
I want to go to your final point. This is the Budget
Committee. We have a special responsibility to our colleagues
and the country to propose a fiscal policy going forward. What
I hear you saying is that it is critically important that we
adopt a credible plan, longer-term plan, to deal with our
deficits and debt. Is that an accurate understanding of what
you are saying to us?
Mr. Bernanke. That is correct, Mr. Chairman. Our fiscal
issues are very long-term in nature. They increase-- the
difficulties increase over time. Merely addressing this year's
spending is not going to solve the problem. We need to develop
a plan, and a credible plan, one that markets will accept as
plausible, to address the longer-term structural budget
deficits that we face.
Chairman Conrad. The Fiscal Commission proposed a plan that
would reduce the debt over time by $4 trillion, which would
stabilize the debt in the short term, but importantly, bring
the debt down as a share of the economy to roughly, publicly-
held debt, to 30 percent of GDP. That is over an extended
period of time. Is that about the magnitude of the size of the
plan that is necessary?
Mr. Bernanke. Senator, no one knows exactly what the
desirable debt-to-GDP ratio is in the long run. You mentioned
the 90 percent number as an upper level of comfort. In the near
term, I think we need to focus on stabilizing the debt-to-GDP
ratio. Under the alternative scenario of the CBO, it just rises
indefinitely and that is certainly not sustainable.
If we could achieve, say, in the next decade a two or three
percentage point of GDP reduction in the deficit, that would be
sufficient to bring the primary deficit close to zero and would
stabilize the debt-to-GDP ratio over the next decade. We would
need additional steps after that. So I think stability is the
first step. Bringing it down is a bonus, if we can do that.
Chairman Conrad. You know, that was really the conclusion
of the Commission. The conclusion of the Commission was, first
job, job one is to stabilize the debt. You know, we talk about
these different measures of debt. Publicly-held debt is
currently roughly 60 percent. The gross debt is currently about
90 percent. And most of the advice to the Commission was, you
have to stabilize publicly-held debt at 60 percent, gross debt
at 90 percent. But over time, you really need to bring it down.
You should not stabilize it and consider that you have finished
the job because you need to have a margin to deal with future
shocks. Is that your judgment, as well?
Mr. Bernanke. Yes, Mr. Chairman, but stabilizing it would
be a very important first step.
Chairman Conrad. Yes. Job one, stabilize.
Mr. Bernanke. Right.
Chairman Conrad. My second question is the timing of
imposing the tough choices that need to be made here on both
the spending side of the equation, and the Commission proposed
roughly $2.2 trillion of spending cuts, proposed nearly a
trillion dollars of new revenue. The rest of the savings was
savings of interest. In terms of when you pivot, that is a
critical question. The Commission's conclusion was you ought
not to take the really tough steps that need to be taken for
the next several years. You need to begin. You need to adopt
the plan. But the real tough medicine needs to wait until the
economy is on stronger ground. What would your recommendation
be to us?
Mr. Bernanke. Mr. Chairman, I think the issue is
credibility. If we can--it is not really sufficient to say,
well, we are not doing anything now because of the recession
but we will do something later, but we are not specifying what
that is. I think if we could adopt a credible plan that is
specific enough and credible enough to address the long-run
situation, that would be the most positive thing that we could
do, and in doing so, we could get really all the benefits
without having to take actions that would endanger the very
near-term recovery, which is still somewhat fragile.
Chairman Conrad. Yes, that was very much the conclusion of
the Commission. It is not enough to say, yes, we are going to
do something in the sweet bye-and-bye. You have actually got to
adopt a plan. You have to put it in place. You have to put it
in place legislatively so people know, yes, we are going to cut
spending. We are going to improve the revenue base. We are
going to have savings of interest costs. And it has to be
credibly scored. It has to be real. But you should not have the
bite occur too soon or you endanger this fragile recovery.
You made another set of comments that I thought was very
important and that was the composition of the spending
reductions, the composition of the revenue is also critically
important to future economy growth. You are saying, look, you
have to pay attention to human capital, education. You have to
pay attention to infrastructure because that improves the
economic competitive position of the United States. But when
you are imposing these spending cuts, you have to go after
things that are superfluous, and goodness knows as we look
across Federal spending there are places we are not doing
things that enhance economic growth. There are things that
constitute waste, although the idea that just cutting waste,
fraud, and abuse is going to solve this problem is--I wish it
were the case, but it is necessary but not sufficient.
On the revenue side, the Commission concluded one of the
best things we could do is broaden the tax base, eliminating
some of the tax expenditures, but simultaneously reducing rates
to make America more competitive. Is that what you had in mind
when you talked about paying attention to the composition of
the changes that are made?
Mr. Bernanke. Yes, Mr. Chairman. On the first point, the
National Income Accounts do not really distinguish between
government consumption and investment very sharply. I mean,
there is a technical distinction. But we need to think about
making investments for the future as opposed to simply spending
on current needs, and so thinking about government programs, we
should ask the question, will this provide benefits in the
future, provide a more productive, competitive economy in the
future.
On the tax side, I do not think it is really very
controversial among economists that rising rates combined with
a multiplication of exemptions, deductions, credits, and so on
leads to a tax code which is very complex and can distort
economic decisions, and I think all of the major deficit
reduction commissions have taken the opportunity to talk about
the need to lower rates but to avoid--but to close loopholes so
as not to lose revenue. So I think that is something, I hope,
that the Congress will talk about. It is not at all
inconsistent to both address the long-term deficit issues but
also to think about making our tax code and our spending
priorities more growth friendly.
Chairman Conrad. I tell you, there is nobody that could
have participated in this process that did not conclude this
tax system that we have is just completely out of date. You
know, it does not take account of the world that we live in
today.
The other conclusion of the Commission was that you have to
have everything on the table. Spending, revenue, and every part
of Federal spending has to be dealt with, and, you know, even
defense. One of the most startling, I would say to my
colleague, one of the most startling pieces of information that
came to the Commission was 51 percent of the Federal workforce
is at the Department of Defense. That does not count the
contractors. When we asked the defense analysts who came before
the Commission, how many contractors does the Department of
Defense have, they told us they could not tell us, not because
it was secret but because they did not know. And when we asked
them, what was the range, they said between one and nine
million. That is a pretty broad range.
So we have issues throughout the Federal Government and we
are going to have to address them. I very much appreciate the
good advice that you have given us.
Mr. Bernanke. Thank you.
Chairman Conrad. Senator Sessions? By the way, we are going
with eight-minute rounds, a little bit longer than usual
because of the numbers who are here, and I have tried to
respect that in my time and hope others will.
Senator Sessions. Thank you, Mr. Chairman.
First, Mr. Bernanke, let me pursue the question that
revolves around your confidence about being able to prevent
inflation. You note that you remain unwaveringly committed to
price stability in your statement, and in particular,
maintaining inflation at a level consistent with the Federal
Reserve's mandate. In that regard, it bears emphasizing that
the Federal Reserve has all the tools it needs to ensure that
it will be smoothly and effectively exit from this program at
the appropriate time.
Well, forgive me if I am less confident you can know
precisely when and how to exit and that you can do so smoothly.
And I notice that the bond market and the common seems almost
consensus view now around Wall Street and investors is that
bonds are a bad investment, presumably because they expect a
realistic reality of an increase in interest rates in the
future as a result of quantitative easing deficits and the
like. Can you assure us? It looks to me like, would you not
agree, that investors are getting nervous already?
Mr. Bernanke. Well, Senator, first, on your earlier comment
about the 100 percent certainty, what I was talking about there
was not that we would know exactly with certainty the right
moment. What I was trying to convey was I thought I was certain
that we have the tools we need. Now, it is always the case that
when you are reversing monetary policy in a period of growth,
that as a matter of judgment, you can be too early, too late,
but that is true for normal monetary policy as well as for
unusual monetary policy. So I am not trying to claim
omniscience, and, of course, it is always possible that we will
be either a little too slow or a little too quick, and we will
do our very, very best to move at the right time.
As far as inflation is concerned, though, I mean, again,
the actual inflation rate is at essentially a post- war low and
inflation expectations look very stable--
Senator Sessions. What about--is there a difference between
interest rates on the Federal debt and inflation?
Mr. Bernanke. The interest rates on the Federal also are
quite low, of course, and in the indexed bond market, the
break-even inflation rates are about where you think they want
to be if people expect that over the next five to ten years the
Fed will keep inflation at about two percent, which is about
where we think we ought to be aiming. We are going to pay very
close attention to the inflation situation and we take that
very, very seriously.
Senator Sessions. But tell me, just trying to bring a
little common sense and an honest question to you, it does seem
that the bond market is nervous. It does seem to me that the
quantitative easing plans continue and may continue again and
that the deficits continue at an unsustainable rate. Why should
people not be worried that eventually there could be a tipping
point reached and a rather dramatic surge in our interest rates
could occur?
Mr. Bernanke. Well, on the monetary policy side, as I said,
we are in a situation similar to where we always are, which is
we need to find the right moment to begin tightening. You
mentioned that the bond market is expecting short-term rates to
rise in the future. That would, of course, be corresponding to
the Fed tightening and reversing the easy money policies.
In terms of the fiscal side, there, I absolutely agree with
you. I think that if the Congress and the administration do not
find a credible plan for controlling the long-term structural
deficits, there could be very serious problems in financial
markets and in inflation. That is the history of many, many
situations in the past.
So I do very much urge this committee to look for strong
and credible actions to control the Federal debt. If that is
done, then I do not think that inflation will be a long-term
problem. What we are trying to do, I think, in the short term,
is to create an appropriate balance between the risks of
inflation and the risks of deflation, which are not yet gone.
Senator Sessions. With regard to unemployment, I think you
made clear in your statement, but it is important for us to
understand, even though the rate dropped three-tenths, four-
tenths of a point to 9.4, the 103,000 jobs added is really sort
of treading water about what you have to just maintain the
current employment rate, is that not right, and that is not
really a number that we can celebrate today?
Mr. Bernanke. It is about what we expected, but as you say,
it is not a number that is going to--if we continue at this
pace, we are not going to see sustained declines in the
unemployment rate.
Senator Sessions. But the predictions were as much as
275,000 jobs are being added.
Mr. Bernanke. That was not--certainly not our prediction,
and not most Wall Street predictions. There was a number that
came out of--the so-called ADP number, which was very high--
Senator Sessions. Yes.
Mr. Bernanke. --but that is only loosely connected with the
actual number.
Senator Sessions. I think the American people are deeply
concerned about where we are heading economically. Their jobs
are at stake. I believe that that is a legitimate concern. To
what extent do you have a plan and to what extent does the
administration, the President have a plan that sees into the
future and it says, we are going to do A, B, C, and D and those
things will bring us out of this, and is it written? Can we see
it?
Mr. Bernanke. Senator, well, first of all, it was concern
about the failure of unemployment to decline that motivated us
back in August and September to adopt more monetary
accommodation, and my view is that we have already had some
benefits from that. We have seen some improvements in the
outlook. We have seen some improvements in financial markets.
So that is certainly part of what we are trying to do, is
trying to keep this recovery going.
In addition, of course, we are working very hard in our
role as a regulator to try to improve the availability of
credit to small businesses and to other borrowers. Senator
Warner, I know, has been very interested in that issue. So we
are working very hard and that is our top priority.
Senator Sessions. Well, we have a change-over in the White
House. Mr. Summers is gone. Ms. Romer is gone. Peter Orszag has
left. Mr. Lew is there at OMB. We have a new Chief of Staff, I
hear, today. But I do not sense anywhere in our government that
we have the kind of clarity of leadership we had under Mr.
Volcker when we had the crisis in the late 1970s and early
1980s. One of the Fed members said we knew we were doing the
right thing. They were protesting Mr. Volcker. Some called for
his resignation. But we had a plan and we were staying with it.
Can the American people have confidence that you and the
administration are on the same page and we have a plan other
than reacting every month or two to some new change in
conditions?
Mr. Bernanke. Well, Senator, the Federal Reserve is
independent of the administration. I mean, we try to coordinate
with the administration. We try to coordinate with Congress.
But the Federal Reserve is independent. We make independent
decisions.
Senator Sessions. I know you are independent.
Mr. Bernanke. So the administration's plan, Congress's
plan, I mean, those are not our province. That is for the
administration and Congress to decide.
In our case, we do have a plan, and like--I have tremendous
respect for Chairman Volcker, and one of the things that he
did, as you say, was he did what he thought was right even
though there was a lot of criticism, and I think that is what
the importance of independent monetary policy is. At the
Federal Reserve, we recognize that there are different views,
but we are trying to do the best thing that we can for the
American economy and that is the beauty of having an
independent central bank.
Senator Sessions. Thank you very much. Mr. Volcker, history
records, I think, was correct in his plan. I hope history will
record the same for your leadership.
Chairman Conrad. Thanks, Senator Sessions.
Let me just indicate that on our side, it is Senator Wyden,
Senator Warner, Senator Manchin, Senator Stabenow, Senator
Merkley. On the Republican side, it is Senator Enzi and Senator
Cornyn.
Senator Wyden.
Senator Wyden. Thank you very much, Mr. Chairman.
I, too, want to welcome Senator Sessions as our Ranking
Minority Member. He is somebody I greatly enjoy working with
and respect very much. I do want to note for the record that I
do not believe the Auburn Tigers have a realistic chance of
keeping up with the University of Oregon's fast-moving,
innovative offense in the championship game, but we will save
that for another discussion. I just want to welcome my good
friend.
Senator Sessions. Well, if you are correct in that, I will
be pleased to wear that tie you have on for a few days perhaps.
Senator Wyden. We have an agreement, and I will
reciprocate.
[Laughter.]
Senator Wyden. Senator Conrad, thank you very much, and Mr.
Chairman, we are so glad to have you here, and I especially
because you and I share a similar view that the big idea for
economic growth in our country is fundamental tax reform, where
you go in there and clean out this job-killing, thoroughly
discredited mess, and you addressed that, I thought, very well
in the ``60 Minutes'' discussion that you had back in December.
Here is my first question. It was clear at the end of the
year that you had to take some steps with respect to the tax
code in the short term so that people would not be clobbered at
the beginning of the year, the middle-class folks and small
businesses and others. But what I am concerned about is when
you look at the overall structure of what was done in December,
it has contributed once again to tax uncertainty, all of the
two-year provisions, the one-year provisions, the phase-ins,
the phase-outs. As you know, the tax code has tripled in just
the number of words in the last decade and that has been fueled
once again by what was done in December.
I want to make sure, for the record, it is clear that when
you are talking about long-term economic growth, you want a
different tax model than what the Congress passed in December.
You do not want to see more provisions added and more
exemptions and deductions. You think, by and large, we ought to
be draining the swamp, cleaning out a lot of the clutter to
hold down some rates, keep progressivity and provide some
certainty. You want a different model than what was passed in
December for the long term, is that correct?
Mr. Bernanke. Yes, Senator. What was passed in December was
understandable, given the exigencies of time and so on. But I
hope that the Congress will think hard about what long-run tax
structure will be most beneficial, and lowering rates and
closing loopholes is, I think, the best approach.
Senator Wyden. The second question, there has been
considerable discussion in the last few days, really the last
week or so, about the idea of instead of the kind of tax reform
you and I want, comprehensive reform, just going out and
changing the corporate tax rate. I think that would be a big
mistake, and the reason why is that most businesses in America,
probably in the vicinity of 80 percent, pay taxes essentially
as individuals, some Chapter S, sole proprietors, partnerships,
the whole host of firms that are not, in effect, C
Corporations.
Is there not a real danger if you go in and just make
changes on the corporate side to have further distortions,
further complications, and end up with yet more uncertainty
than you would have if you went in and made a comprehensive
overhaul, recognizing the connections between the individual
provisions in the code and the business provisions?
Mr. Bernanke. Well, Senator, as you know better than me or
anyone, there are many interactions between the two codes,
including, for example, the double taxation of dividends and
many other issues. So, yes, ideally, I hope that you would look
at the tax system as a holistic single part of policy. I do not
know what is feasible for politically and so on. That is really
your call. But ideally, yes, of course, you would like to make
sure that the entire Federal code is consistent and is
supportive of efficient growth.
Senator Wyden. I will keep you out of the politics, but
colleagues, and we have several on the Finance Committee and
Senator Sessions is very interested in it, the Chairman is
making a very important point. There is today such a connection
between the individual portions of the code and the corporate
portions of the code, to just split one out as some have been
discussing, I think, could once again create a whole set of
additional distortions in the American economy and I appreciate
what you are saying, Mr. Chairman.
One other point with respect to tax reform that I think you
have touched on in the past but would be important to have on
the record. Today, it is very clear that people loathe the
Internal Revenue System. I mean, it is just up there at the top
of all of the Federal agencies and functions of the Federal
Government people are furious about.
It seems to me if you got to the point where you had a one-
page 1040 Form--Senator Gregg and I have that in our bill, as
you know, Chairman Volcker has all but proposed that, it was in
the Bush proposal, for Pete's sakes, years and years ago--would
not having a one-page 1040 Form, where most people could
complete taxes themselves rather than spending their whole
spring on TurboTax and the like, would that not in and of
itself be a public good in terms of simplicity and
understanding and making people feel more confident that the
American economy and the underpinnings of the American economy
were sound?
Mr. Bernanke. Well, as a general matter, simplicity,
besides being less likely to be distortionary, has benefits of
lower compliance costs, which are quite significant, and less
need for the IRS or for accountants to adjudicate complex
provisions in the code. So certainly simplicity is to be
desired and I think it would make people more comfortable with
the tax code because it would be less of a burden and because
they would feel more comfortable that there were not all kinds
of loopholes they did not understand that people were taking
advantage of.
Senator Wyden. One last question, again, not from a
political standpoint, from an economic standpoint. One judgment
I have made, looking back over the last quarter century on
this, is that a mistake in 1986 was to not have some provisions
to make it tougher to unravel fundamental tax reform when you
got it. In other words, over the last 25 years after it was
enacted, pretty much a few weeks later, the ink on the bill was
dry and everybody just went back to business as usual. From an
economic standpoint, how useful would it be when the tax code
is overhauled this time, so there is more fairness for the
middle class and take these steps to be globally competitive,
how important from an economic standpoint is it to make it
tougher to unravel it as soon as you get the reform?
Mr. Bernanke. Well, Senator, as you say, there are
political and probably constitutional issues involved in all
that, but everything else being equal, greater clarity and
certainty is obviously beneficial, and to the extent that you
can create more certainty about where the tax code is going to
be over a number of years, that would be helpful.
Senator Wyden. Mr. Chairman, thank you, and I look forward
to following up with you on these matters, and the fact that
you have been outspoken on this has really given a boost to
reformers and we are very appreciative. Thank you, Mr.
Chairman.
Chairman Conrad. Thank you.
Senator Enzi.
Senator Enzi. Thank you, Mr. Chairman.
To follow up on what the Senator from Oregon said, our
Nation's fiscal policy is in tatters. Our projected level of
Federal spending growth is unsustainable. Our Tax Code is a
mess. The only constant is that the Federal budget deficit is
large and likely to remain that way.
To what extent does the uncertainty that comes with these
problems undermine economic growth?
Mr. Bernanke. It is hard to make a quantitative judgment,
Senator, but I am sure it is a negative. I do think that
addressing our long-term structural budget deficits would not
only reduce the risks we face in the future, but would probably
have near-term benefits in terms of possibly of lower interest
rates but also in terms of greater confidence and certainty. As
you say, as it stands the one thing we know about our long-term
tax and spending commitments is that they are not feasible,
they cannot happen, they are not sustainable. So we do not know
how things are going to change. So, yes, the more clarity we
can achieve, the better we will be, the better off we will be.
Senator Enzi. Thank you. I was a cosponsor of the Conrad-
Gregg deficit commission bill and was pleased that we got one,
one way or another, and I think that that sheds some real light
on what needs to be done by Congress. I am really concerned
about the rapidly rising debt-to-GDP ratios and watching what
is happening over in Europe. They have enacted some programs to
rein in government spending. Some of them did not act quickly
enough and had to be bailed out by their neighbors.
During a hearing before the House Budget Committee in June,
Representative Hensarling asked you whether the United States
was nearing a similar point given our comparable debt-to-GDP
ratio, and you responded that you do not know exactly how much
breathing space we have. Rather than enact austerity cuts as
the Europeans did, we have seen our gross national debt
increase by $1 trillion since June. Can you give us any kind of
an indication of how much breathing room we do have if we
continue on this course before we reach that tipping point?
Anything more exact since June?
Mr. Bernanke. You know, I just think it is inherently
impossible to pinpoint the exact date or the exact level of
debt that would create a crisis or a sharp increase in interest
rates.
That being said, it would be the better part of valor to
take action now to make sure that we do not get too close to
that point. I do not know what the number is, but what I do
know--and the CBO's projections show this very clearly-- is
that absent any action, the debt-to-GDP ratio is going to be
not only rising but rising at an increasing pace. It is going
to be heading straight to heaven, basically, and that is
certainly not going to happen--that certainly cannot occur.
So I do not know at what point exactly, but that point will
come if we do not take appropriate action.
Senator Enzi. I also appreciate your meeting with some
other groups. Senators Warner and Chambliss started a group to
review these things, and I appreciated your comments about the
difference between our debt-to-GDP ratio and the Japanese one
where they have a lot of savings and we do not. There are just
so many things that need to be taken into consideration with
all of these things.
I know that the Fed undertook quantitative easing because
of a fear of deflation, yet other than housing prices,
Americans are experiencing inflation in virtually every other
major household outlay, particularly when it comes to groceries
and gasoline. America's economy runs to a large degree on motor
fuel. If as some analysts predict gasoline prices reach $4 a
gallon this summer, will not this risk choking off the economic
recovery?
Mr. Bernanke. Well, first, just the facts are that
inflation is 1 percent including food and fuel, so inflation
overall, taking into account everything that people buy, is
quite low.
Now, it is true that people are very sensitive to the price
of gasoline, and we are watching that very carefully. I do not
think that quantitative easing of monetary policy is the main
reason that oil prices are up in the past few months. The
dollar, after all, has been quite stable, and oil prices are up
in essentially all currencies. I think the main reason oil
prices are up is the strength of emerging markets, the demand
for energy from China and other fast-growing emerging-market
economies.
That being said, we are watching it very carefully because,
as you point out, higher gas prices are like a tax on families;
and if they get too high, then that will, in fact, be a
negative for growth as well as for inflation. So we will pay
very close attention to both energy prices and other commodity
prices as well.
Senator Enzi. There is discussion among policymakers about
removing the Federal Reserve's dual mandate of a stable
monetary policy and full employment. Some have suggested that
it would make sense to remove your mandate for full employment
so that you can focus only on monetary policy. Do you have an
opinion about this matter?
Mr. Bernanke. Senator, we are not seeking any change. We
think the current mandate is workable. That being said, I think
it is entirely appropriate for the Senate and for the Congress
to consider what mandate they want to set. There are, after
all, central banks around the world that do focus primarily on
price stability, and whatever decision the Congress makes, of
course, we will honor that decision and pursue that mandate.
Senator Enzi. Thank you. I do not have any further
questions.
Chairman Conrad. Thank you so much, Senator Enzi.
Senator Warner.
Senator Warner. Thank you, Mr. Chairman, and thank you for
holding this hearing this morning.
Chairman Bernanke, let me first of all acknowledge what my
colleague Senator Enzi has already said and thank you for being
willing to meet with a growing bipartisan group of Senators.
Senator Chambliss and I have been working, along with Senator
Wyden and others, on saying we need to move forward on a real
plan. And compliments to Senator Conrad and Senator Gregg and
others. And while imperfect--and I particularly appreciate your
comments in your testimony about the President's National
Commission on Fiscal Responsibility and Reform that we ought to
go ahead and take that work product of the last year and use
that as a starting point, because I think as both you and
Senator Sessions have said in your testimonies, simply talking
about deficit reduction does not get us anyplace. We have to
have a real plan to work against. And it is the intention of
Senator Chambliss and me to take that work and put it into
legislative language and introduce it. I think, again, a point
that both Senator Conrad and Senator Wyden have made, is that
if we are going to take on this issue, it is going to require
dramatic cuts in Government spending, but it is also going to
require meaningful tax reform. And I think, again, a lot of the
early attention to the Commission's work focused on the deficit
reduction piece. It did not focus as much on the tax reform
piece, which both lower corporate rates and individual rates,
and actually I would add on the individual side, lent more
progressivity to the Tax Code. So I think it is a good working
document, and I look forward to working with colleagues on both
sides of the aisle to see if we can get as many cosponsors as
possible to at least move forward on this discussion. And it is
my hope that we could actually see a plan put forward this
year, working off of the President's Commission, as I am sure
it would be amended, and actually get it voted on. Because the
way I hear you saying--now, you would never be as impolite as
to use these terms, so let me use these terms. But you are
basically saying to us, the Congress and the policymakers, we
have to walk and chew gum at the same time, so that we have to
continue to do short-term stimulus--you at the Fed have done
that through your quantitative easing policies, and we in
certain tax policies that were taken in December, both in terms
of short-term stimulus, but that short-term stimulus then has
to be morphed into long-term deficit reduction.
Going back to some of Chairman Conrad's earlier questions,
you know, what should we look at as the metrics or other
indicators of when we should kind of ease off on the stimulus
and ramp up the deficit reduction piece? Should that be based
on a timeline? I think the President's Commission, Chairman
Conrad, you had a lot of your actions starting to click in
about 2012, 2013, 2014. Should it be on a kind of date line
process? Should it be based on when growth hits at a certain
level, unemployment falls to a certain level? What should be
the indicators, even if we get a plan in place, that would
trigger the kind of hard choices around deficit reduction that
we are looking at?
Mr. Bernanke. Senator, first let me say that I enjoyed
meeting with your group, you and Senator Chambliss, and I
commend you for the extra work you are doing on this issue.
I think there is an important trade-off. We need to--we,
the American people, the Congress needs to demonstrate a
credible commitment to solving the long-term fiscal problems.
The stronger and more credible the plan that is put forward,
the less need there will be to take sharp short-term cuts in
order to show your seriousness. So a strong long-term plan that
kicks in over a period of time will make it less necessary to
take actions in the short term that would be counterproductive
from the point of view of the recovery. So that is why it is so
important to develop a strong plan.
So that is the trade-off: The stronger the plan, the less
near-term downpayment you have to make.
Senator Warner. And, Mr. Chairman, could I just interrupt
for one second? Based upon your testimony today by referencing
the National Commission on Fiscal Responsibility and Reform, by
referencing that effort, is that an endorsement that that would
be viewed in your mind as a strong plan?
Mr. Bernanke. Yes. For example, it has the feature that I
believe that by 2015 there is a stabilization of the debt-to-
GDP ratio which requires, I think, about a two- to three-
percentage-point-of-GDP cut in the deficit starting in a couple
of years through the rest of the decade.
In terms of criteria, I think there is no magic number, but
what we need to see is a sense of momentum, a sense that there
is enough forward movement and strength in the recovery that we
can feel confident that it will continue and will not be
knocked off course by too precipitate fiscal retrenchment.
Senator Warner. I know you do not want to give me a set
indicator, but should those indicators be time, growth rate,
unemployment rates, a combination of all of those? What should
be our markers if we pass this plan--whether the Commission's
plan or a like kind serious plan, there has to be some markers
when we shift course from stimulative activities to serious
deficit reduction and cost--
Mr. Bernanke. Well, all of those factors matter, but I
think a sustained growth rate above sort of the long-term
average would be an indication that the recovery is proceeding
and has some momentum. But, again, the stronger, more credible
the forward-looking plan, the less need there will be to make
sharp short-term adjustments that might risk the recovery.
Senator Warner. Let me in my last moment follow up on
Senator Enzi's comments, and I think he was looking for a
percentage on when the markets will say ``no mas'' in terms of
our debt-to-GDP ratio. I guess my feeling is it is not a
question of if we are going to do deficit reduction. It is
going to happen. It is really only a question of when, and
whether we are going to do this on our timetable in a way that
is not disruptive to the economy or whether it is going to be
dictated by the markets in terms of their lack of faith in our
ability to service our debt over the long term.
And so what I guess I would ask you--and I know my time has
expired, Mr. Chairman, and this will be my last question. You
know, we cannot predict that to a specific percentage or date
certain. But what would be or what could be some of the warning
signs that we are getting close to that precipice? Could it not
be some external international, God forbid, terrorist incident
that might put a shock wave across the economy? Could it not be
another economy in Europe getting close to a failing point, an
economy that would be larger than, say, Ireland or Greece? What
are some of those warning signals? And would you also say that
if we start going down this precipice it could happen very
quickly once we get to that unforeseen point?
Mr. Bernanke. So in terms of market signals, I think I
would look at things like Government financing, interest rates,
long-term bond yields, the dollar, indicators of confidence in
the United States.
I think it is important to understand, if I may, that
nobody doubts that the United States has the economic capacity
to pay its bills. It is really a question of do we have the
political will to do that, and demonstration of the political
will, that is what the markets are watching. Are the Congress
and the public and the administration able to demonstrate that
they are serious and that they have enough willingness to work
together to make progress? At the point where confidence is
lost in that, you could see a relatively quick deterioration in
financial positions, as we saw in some cases in Europe, where
things change very quickly based on just the change in
sentiment about the prospects for those economies.
Senator Warner. Thank you, Mr. Chairman. I look forward to
working with you and Senator Sessions and all our colleagues on
making sure we do not get to that point.
Chairman Conrad. Yes, we appreciate the effort that you
have mounted, along with Senator Chambliss, our colleague.
I just for the record want to point out that the Commission
proposal stabilized the debt by 2014 and then starts bringing
it down on a sure path after that.
Senator Manchin.
Senator Manchin. Thank you, Mr. Chairman.
Chairman Bernanke, first of all, from the perspective of my
home State of West Virginia, I am concerned about the finances
of our State and all the States, being a former member of the
NGA. What I would like to know is from your opinion as based on
the future pension liabilities of both corporate and State
governments, the recent reports of the financial crisis that
many of our States are facing in the very near term future,
have you all looked carefully at the possibility of a default
on general obligation and municipal bonds by State and local
governments and the budget strains that would present to the
overall U.S. economy? We are concerned about that the stimulus
runs out June of this year. What happens if there is no more
stimulus to come or Federal bailout, if you will, and they have
to work on a balanced budget amendment and they cannot meet
these long-term obligations? Have you all looked into that or
been spending any time on it?
Mr. Bernanke. To some extent, Senator, yes. No question
State and local governments are under a lot of pressure. They
have been cutting spending and employment over the last couple
years. The Federal assistance will continue in 2011, but after
2011, it is going to be pretty much zeroed out, I think. And
so, on the one hand, the States are seeing some improvement in
tax revenues as there has been some growth; but on the other
hand, they could be losing some of the Federal assistance. So
the pressures on State budgets and local municipal budgets are
going to continue for a while, and that is going to be a head
wind for the overall economy as well as for the individual
States.
It is also true--this is more a long-run issue--that like
the Federal Government, the State and local governments have
some long-term fiscal issues relating primarily both to
pensions of State employees but also to health care promises,
which in most cases are almost entirely unfunded. So those are
long-term obligations that could be collectively as much as $2
trillion for all the States together in the long run. Now,
those, of course, are long-run obligations and do not come in
the near term. So there are some very serious long-term fiscal
pressures.
Now, in terms of the municipal bond market, it currently
seems to be functioning reasonably well. Liquidity is fine.
Issuance has actually been very high, including issuance for
capital projects, so we are not seeing extraordinary stress in
the municipal markets, which suggests that investors still are
reasonably confident that there will not be any defaults among
major borrowers. And one reason they might believe that is
because most States have rules which put debt repayment and
interest payments at a very high priority, above many other
obligations of the State and localities.
So, bottom line, the municipal markets, bond markets, seem
to be doing okay, but clearly there is a lot of both near-term
and longer-term pressure on these governments, and it is going
to be something that is not going to be going away in the near
term.
Senator Manchin. Another question I have is that, you know,
in West Virginia, when families have problems, whether they be
families or single parents, they cannot really respond and kind
of understand what we do here in Washington or what Government
does. They do not sit down and think how much more money can
they spend or how much can they borrow to get themselves out of
trouble. They start looking at cutting expenses.
What expenses could the Federal Government cut that would
have the longest--or have the most effect on long-term
stability in your recommendation? What should we be cutting?
Mr. Bernanke. Well, Senator, I should just say first, very
strongly that these tough decisions about taxes versus spending
and the mix of spending and so on are your decisions and not
mine, and I do not want to inject myself too much. But I will
say one thing which is just obvious from the arithmetic, which
is that going forward the costs of health-related programs--
Medicare and Medicaid--are rising prospectively very quickly,
and on current trends, you know, would be at some point,
between Medicare and Medicaid and Social Security, would
essentially be what is now the entire budget of the United
States.
So I do think that an important priority for us as a
country and for the Congress from a fiscal point of view is to
think about what we can do to achieve better cost efficiency in
the health care area at the same time that we do what we can to
maintain quality and access. So that is clearly an area we need
to look at.
That being said, of course, we have military spending,
other discretionary spending. We have the Tax Code. There are
many other things that you will certainly want to look at.
Senator Manchin. And I know that there have been some
Members of Congress who have long advocated for a Federal audit
on the Federal Reserve System. Would you oppose an independent
audit of the Federal Reserve System?
Mr. Bernanke. The Dodd-Frank Act included an amendment,
sponsored by Senator Sanders and others, that includes an
exhaustive audit of all the financial aspects of the Federal
Reserve. In fact, on December 1st, we released all the
information about our--all the lending programs, financial
programs, credit programs that we undertook during the crisis.
So as far as our finances are concerned, we are an open book,
and if there is any area where you or your colleagues are
dissatisfied with the information, I would be happy to work
with you to make sure you get what you need. So in terms of all
aspects of our finances and operations, I think it is
reasonable for Congress to want to have that information.
The one area where I have been concerned--and this goes
back to my earlier comment to Senator Sessions--is that
monetary policy independence is very important for the
stability of our economy and our financial markets, and where
``Fed audit'' is really a code for congressional intervention
in monetary policy decisions, that is where I would be much
less comfortable.
Senator Manchin. And, finally, is the Federal Reserve
considering any policy changes that would negatively impact the
financial viability of local community banks around the
country?
Mr. Bernanke. To the contrary, we have a strong commitment
to community banks, and we have, in fact, recently increased
our schedule of direct meetings with the Board with
representatives of community banks. There is obviously a lot of
work to be done to implement Dodd-Frank and Basel III and other
changes in financial regulation. It is our objective--I think
the intent of both Basel III and the Dodd-Frank Act is to focus
on the largest so-called too-big-to-fail banks and to make them
not too big to fail. That is where our focus is as well, and we
want to make sure that we do what we can not to increase the
regulatory burden that small banks face. And small banks have
been playing just an incredibly important role. Particularly as
large banks have cut back on their lending to small businesses
in other contexts, they have in many cases stepped up and
proven their worth to the U.S. economy.
Senator Manchin. Thank you, sir.
Chairman Conrad. Thank you, Senator.
Senator Stabenow.
Senator Stabenow. Well, thank you, Mr. Chairman, and
welcome, Mr. Chairman.
Mr. Chairman, thank you for your thoughtfulness, and I
think what you laid out to us both in terms of where we have
come from, what we have done, and where we need to go I think
is very, very important.
I feel as a member of this Committee now for many, many
years, though, that I have a need to make sure that we do not
have revisionist history whenever we are talking about how we
got here. I think it is really important if we are not going to
repeat mistakes that have been made before that got us here. I
think it is important to just say once again for the record
that when I had the opportunity to come in and serve with you,
Mr. Chairman, Committee members in 2001, we had the biggest
surpluses in the history of the country. And so we have not
always been in this situation, and there were a number of
decisions made on spending, frankly, without accountability
that haveten us where we are. And I would argue that,
unfortunately, the spending in the 8 years in the previous
administration was not focused on those things that create
innovation to create jobs, to compete in a global economy or
focus on opportunity or security for middle-class families.
Instead it was very much focused on the benefit to a privileged
few. And at the time, in the last administration, we were told
deficits did not matter when we were focusing on things that
would benefit the privileged few. Now, after two very, very
tough years--very tough years, very slow years--we are turning
it around. We have not gotten things back on track. People in
Michigan are still hurting, although it is better, but we have
a long way to go.
My concern is that we are now hearing with the new majority
in the House that, again, deficits only matter when it is
things that affect middle-class families in terms of
opportunity, education, innovation; but that when it comes to
the policies that got us in this mess, focusing on tax cuts for
the privileged few, supply-side economics, hoping it will
trickle down, that that does not count. And so we saw this week
over $1 trillion exempted from the budget rules that will add
over $1 trillion in debt if we go forward with that, based on a
way of looking at the economy that frankly did not work and
then it got us in the last decade, in my judgment, into the
hole that we are in.
So, Mr. Chairman, I want to ask you about how we get out of
this hole, both short term and long term, and I agree we need a
credible plan, and I very strongly share your view that we have
to be very careful in the short run. It is a very fragile
situation. And I do not, frankly, see how we get out of this
with over 15 million people out of work. I do not know how--how
do we get out of deficit if we do not first focus on jobs?
One of the things that I am proudest of is the fact that we
did not give up on American manufacturing 2 years ago. We did
not give up on the American automobile industry, and this year,
for the first time since 1999 all three companies are making a
profit. They are actually bringing jobs back to this country.
And because of our investments in innovation, we are going to
go from 2 percent of the world's battery manufacturing,
advanced batteries, to 40 percent in the next 4 years.
But my question, Mr. Chairman, relates to the immediate
situation for families that are not yet feeling this recovery
and the fact that we have tens of millions of people who are
out of work. And, frankly, when we talk about 2008 budget
numbers, I would like to go back to 2008 jobs numbers and focus
on that to get us out of deficit. But how would you focus on
job creation in the short run, knowing that we have serious
long-term issues that have to be addressed on the deficit? But
at the same time, I guess I would like your reaction to the
notion that we will not get out of debt if we have over 15
million Americans out of work.
Mr. Bernanke. Senator, you are absolutely right that a
large part of the deficit we currently have is what economists
call a ``cyclical deficit.'' It arises because unemployment is
well above a normal level, and what we need to address is the
structural component, the part that remains once the economy is
back to a more normal level.
Again, I think that we need to think of fiscal policy as a
piece; that is, we cannot think about short run and long run
separately. You have to think about them together. And the more
credible and effective our plans are for addressing the long-
term structural issues, structural deficits, the more scope we
will have and more flexibility we will have to allow continued
support for the recovery now that we continue to need as the
economy remains in a very still weak and fragile condition.
So my advice, for what it is worth, is, again, not to focus
only on the short term but think also about the long term, that
you need to combine those two things. You mentioned things like
innovation. Again, as I talked about in my testimony, the
composition and structure of Government spending and the Tax
Code and so on is also very important. Are we doing enough for
innovation? We spend quite a bit of money on that, but is it
well directed? Is it sufficient to keep our leadership position
going forward?
So those would be the themes I would note. Long-term
structural deficits need to be addressed, and in doing so it
would help the short term, would give us more flexibility in
the short term. And we need to think hard about what we are
doing to promote longer-term growth, longer-term innovation,
longer-term human capital, training, education, and so on that
makes people able to get better jobs and sustain higher
incomes.
So it is a tough set of problems, and they are very much
interconnected.
Senator Stabenow. Well, I very much appreciate your
comments and share your feeling that it is about balance; it is
putting in place the long-term plan; but also understanding
that in a global economy--we are in transition now as a
country--that it is very, very important that we be investing
in those things, opportunity, education, innovation, that allow
us to move forward in terms of growing the economy quickly.
Before my time runs out, just one quick question to follow
up on small businesses. We passed the small business jobs bill.
We talked about the importance of supporting community banks. I
would just ask you--on the one hand, we are saying to banks,
``Lend more.'' Regulators are saying, ``Don't lend,''
essentially, or ``Tighten up things.'' It is critical, I think,
that the Fed and other regulators help banks, community banks,
take full advantage of the lending initiatives that we placed
in the small business jobs bill. And I am wondering what
actions the Federal Reserve is doing or can do to help small
business.
Mr. Bernanke. Senator, as it happens, I am going to be on a
panel sponsored by the FDIC, I think it is next week, with
Sheila Bair and with Senator Warner. We will be talking about
small business credit and talking about all the initiatives and
things that the Congress has done, the Federal Reserve has
done, and the other banking agencies have done.
But just very briefly, we are very attuned to the need to
have an appropriate balance. On the one hand, we do not want
banks making bad loans. That is how we got in trouble in the
first place. But on the other hand, creditworthy borrowers need
to have access to credit so that they can hire and they can
expand and help the economy recover. And so we have been
working very hard with the banks and with our examiners to try
to get a balanced approach and I think it is beginning to pay
off. There is some improvement, in my view, in the availability
of credit and I expect to see more lending this year. So there
is--the terms and standards have begun to ease a bit. So I
think there is some progress on that side.
We have also, and I will not take too much of your time,
but we have also undertaken a series of meetings around the
country, more than 40 meetings, where we have met with small
businesses, lenders, examiners, local officials, trade
associations, and the like, and tried to identify technical
problems and other issues that have blocked access to credit
and we have found some very useful things and we are working--
we are moving forward on the things we learned.
Senator Stabenow. Thank you. Thank you, Mr. Chairman.
Chairman Conrad. Thank you very much, Senator Stabenow.
Senator Cornyn is recognized for 30 seconds. No, that is
not--
Senator Cornyn. Mr. Chairman, I cannot clear my throat in
30 seconds.
[Laughter.]
Chairman Conrad. Seriously, we are doing eight-minute
rounds.
Senator Cornyn. Mr. Chairman, thank you very much for your
service in what is, by all accounts, a very challenging job.
But, of course, we are all volunteers here and no one is
holding a gun to our head and making us do these jobs. We
volunteer to do them because we think we can contribute to
doing things that are in the best interest of the country and
appreciate very much your service in admittedly a very
challenging job.
It strikes me that there are three events coming up which
will really provide an opportunity for Congress and the
administration to demonstrate its seriousness at dealing with
the runaway spending and the unsustainable debt problem that we
have. One is the President's budget is going to be due the
first Monday in February. That will be, I think, one of the
first indications, perhaps, of the President's response to the
report of the Fiscal Commission, and I want to congratulate all
of our colleagues who participated in that on a bipartisan
basis who I think demonstrated great courage in voting for a
plan, albeit one that we all can find some differences with.
But again, the time for talk is running out and now it is time
for action.
So it strikes me as the first event that will provide the
President an opportunity to respond to that in a meaningful
way, to set out his budget for the next fiscal year, will be
the first Monday in February, or I hear it may slip by a week
or so.
The second, it strikes me, is the debt ceiling vote that is
going to be coming up, and there has been a lot of talk and
speculation about what might happen, whether there will be some
additional conditions that would be imposed on voting to extend
the debt ceiling, which is obviously a very sensitive and
important issue.
And then it strikes me that the third sort of watershed
that is coming up here that will demonstrate our collective
seriousness of dealing with this, particularly from a fiscal
policy standpoint, will be the expiration of the Continuing
Resolution.
But I want to ask you specifically about something that
Senator Manchin alluded to briefly in terms of not just the
Federal Government's problems dealing with its debt, but the
States and municipalities. Meredith Whitney, an analyst who
correctly foresaw the mortgage crisis in 2008, now predicts
that 50 to 100 sizeable U.S. cities could default in 2011. She
said this could cause hundreds of billions of dollars of
municipal bond defaults and warns that, next to housing, this
is the single most important issue in the United States and
certainly the biggest threat to the U.S. economy. And I would
note, obviously, many States are in deep fiscal trouble, also,
and there is the potential--at least the potential, maybe not
the probability at least imminently, but at least the
potential--that we could see some defaults at the State level.
I heard what you said about the municipal bond market not
showing any imminent signs of crisis, but do you agree that
this is a very serious issue that needs to be confronted?
Mr. Bernanke. Well, I do not have a--I am sorry, Senator. I
do not have a forecast about default risk. I think that sounds
like a somewhat pessimistic view, but something we need to pay
close attention to. Clearly, a lot of cities are under--
certainly, no one can question they are under a lot of
financial stress and it is something we need to pay attention
to because it would have some spillover effects into other
markets. But we do not at this point see anything of that
magnitude happening.
That being said, I think cities and localities will need to
take strong measures to avoid default. Default is only, at
best, a short-term solution for local governments because what
they find is that it will be very difficult to get back into
the market, or if they do, they will have to pay a higher
interest rate, so it would obviously be very much in their
interest to take the difficult measures to avoid default.
So I, again, as I said earlier, while there is no question
that there is a lot of stress at State and local governments,
at this point, the municipal market seems to be operating
fairly normally, but we will watch that very carefully.
Senator Cornyn. That is fair enough. Let me sort of drill
down a little bit, because this is a point I want to get to, in
particular. In 2002, you gave a speech before the National
Economists Club in Washington and you said, quote, and I think
this is a fair quote, tell me if it is not, quote, ``The Fed
has the authority to buy foreign government debt as well as
domestic government debt.'' And we know that under the QE2 plan
that you are implementing at the Fed, you are buying U.S.
Government bonds, but would that extend to State and local
debt, that authority?
Mr. Bernanke. Only in a very, very limited way. So first of
all, we have no intention to buy foreign debt. That is really a
provision to allow us to hold foreign exchange reserves, and we
are not planning any policy in that direction.
Senator Cornyn. My interest, obviously, is really on the
State--
Mr. Bernanke. On the State and local, we have very limited
authority there. We do have the authority to buy very short-
term municipal debt that is within certain categories. So we
have very limited ability to buy State, local, municipal debt.
And moreover, the Dodd-Frank legislation restricts our ability
additionally not to lend to any insolvent borrower and not to
lend to an individual borrower, but only in terms of a broad
program. So we have no expectation or intention to get involved
in State and local finance. I think to the extent that there is
anyone to look at that, it would have to be Congress to look at
that.
Senator Cornyn. Well, I do not have to tell you how a
request for a bailout or for a State or municipality would be
received here in Washington. So let me ask you, under Chapter 9
of the Bankruptcy Code, a municipality could go through a
bankruptcy proceeding. But right now, there is no provision in
the Bankruptcy Code, as I understand, for a State to go through
a bankruptcy-like proceeding, a Chapter 11 where, of course,
the secured creditors, the bondholders and others would
maintain the highest priority, but there would be a procedure
by which the State could ultimately wind its way out of this
crisis situation and get back onto a more sound fiscal basis.
There has been some suggestion among commentators and
others that Congress ought to look at a procedure that would
allow that to happen as one alternative. Would you think that
that would be a wise or a good thing for Congress to do?
Mr. Bernanke. I think it would be useful for Congress to
look at the situation broadly and try to identify what
potential problems that might be there and what lacunae there
might be in the bankruptcy law, et cetera. I think it would be
extraordinarily unusual for a State to default. It has not
really happened seriously for 160 years or so and I think we
ought to focus on States meeting their obligations, which they
do have the tools to do. And again, as I mentioned before, in
most States, the debt and interest payments are the top
priority and they would come in front of provision of services
and so on. So I think we should understand the situation, but I
am very, very hopeful and expect that we will be able to avoid
defaults at that level.
Senator Cornyn. And I share that hope, but if I may
conclude on this question, what would be the consequence of a
large State like California or Illinois defaulting on its debt?
Mr. Bernanke. It is--
Senator Cornyn. In terms of the national economy.
Mr. Bernanke. Well, it is difficult to know, frankly,
because it has not happened for a long time. It would certainly
be a--it would certainly create a lot of stress and volatility
in the markets. There is no question about that. It also would
mean that the State, when it came back into the market, would
probably have to pay a much higher interest rate for a
considerable period and therefore it would be, I think, very
much a last resort for any State to do that.
Senator Cornyn. Thank you very much. Thank you, Mr.
Chairman.
Chairman Conrad. I thank the Senator. I thank the Senator
for asking the question, because I think this is something we
need to be paying close attention to. The Senator has raised
the question of a series of municipalities that may be under
significant stress. We have also been told that there are a
number of States, I have been told as many as 20. Governor
Manchin, maybe you have more recent information--
Senator Manchin. I just cycled out of being Chair of the
NGA and we were very much concerned about this, watching the
fiscal viability of every one of the States, and everything is
back to 2008 levels, is what we were based off, and that is
what you all based off in Congress when you set up the help
that was given as far as the aid to the States. That all goes
away by June 30. Most of our fiscal budgets are done June 30,
2011.
Chairman Conrad. And do you have a rough idea of how many
States are--
Senator Manchin. I think upwards more of in the high 20s,
low 30s, that could be in serious problems. We are concerned.
We are very much concerned.
Chairman Conrad. We have an analysis, by the way, underway
on this question. This may be one of the things we would like
to talk to you about if you have an opportunity to come up and
meet with us in a session with all Senators. We do have an
effort underway based on the conversation I had with Governor
Manchin earlier.
Senator Manchin. If I could ask one question, Mr. Chairman,
and to Mr. Bernanke, is I think what we were asking, and the
Senator from Texas was asking the same, is there any plan--I
know it has not happened for many, many years and maybe--but we
are seeing indications and concerns that we have right now, and
States have done everything humanly possible because they have
to meet a balanced budget every year and they have cut to the
bone, if you will, and if the cash flow is just not there to
suffice with the amount of services they have to give, is there
any bailout or any other proposal that you all have or have
been looking at? I think that is what we are saying. Is there
any plan available that could help a State, that would prevent
this from happening, from falling into default, or could you do
that?
Mr. Bernanke. I do not think the Federal Reserve has the
authority and I do not think it would be appropriate for us to
do that. This is something that would take place over a period
of time. It would not happen in a day or two and there would be
plenty of time, I think, for Congress and for the State
legislature to look at alternative solutions. So I think this
is really a political fiscal issue. We will watch it very
carefully because it has implications for the economy and for
financial markets, but I do not think the Fed really has much
that we can do about it.
Senator Manchin. Mr. Chairman, I would recommend that maybe
as a committee what we should do is check with the NGA. They
will give you a complete status of what they see in real
crisis.
Chairman Conrad. I think we had better think about how we
get input on this. The more we look, and Senator Cornyn has
brought to our attention here what we had heard earlier as a
result of the information you shared with us, this is something
that is out there on the horizon that we need to pay very close
attention to.
Senator Merkley, we apologize to you because we interceded
on your time. We will give you an additional minute and you are
recognized.
Senator Merkley. Thank you very much, Mr. Chair, and I will
use a few seconds of that to say that, Senator Sessions, I am
happy to hear that you are willing to wear Senator Wyden's tie
if Oregon wins. I have a pin right here that maybe you would be
willing to wear this pin after Oregon wins for a couple of
days.
Senator Sessions. I would be glad to, although I am not
going to lose any sleep over that prospect.
[Laughter.]
Senator Merkley. Will you be out there on Saturday?
Senator Sessions. Having an Auburn team going to Tuscaloosa
and come out victorious, I am a little confident. But actually,
it is exciting. It is so much fun and people are so excited. I
am sure they are in Oregon. It is just one of the great things
about America, that people can pick out something other than
politics--
Senator Merkley. Absolutely.
Senator Sessions. --and have some fun with.
Senator Merkley. A little bit of an antidote.
Well, let me turn to the business at hand, and thank you
very much for your testimony, Mr. Chairman. I wanted to start
by asking a little bit around the QE2 policy. As I understand
it, you could summarize it by saying that in buying these
bonds, you are injecting more money into the economy. Doing so
reduces the interest that would be borne on those bonds, which
encourages people to maybe hold less of those bonds and invest
more in either corporate bonds or perhaps stocks, if there was
a substitution effect, to invest in American business. So that
is kind of one category.
Another category would be that in doing this, one also
creates more pressure in terms of those economies such as
China's which are using a pegged exchange rate with the United
States to try to reduce the impact of China's currency
manipulation on our ability to sell our products abroad.
Do you see both of those as key components of this policy,
or is one more important than the other, or could you just help
us get our hands around those two pieces?
Mr. Bernanke. Senator, first, I want to say the Federal
Reserve is neutral on the Auburn-Oregon issue.
[Laughter.]
Senator Merkley. I am disappointed to hear that, because
there are two Senators from Oregon here and only one from
Alabama, so--
[Laughter.]
Mr. Bernanke. Senator, your first part of your description,
I think, was very accurate. I mean, we are trying to ease
financial conditions to stimulate more economic activity. You
know, de facto, this policy has been in effect really since
August, because we, in August, we began to reinvest our
securities and I began to talk about this in public and the
markets began to anticipate these actions. And we have seen
since August significant improvements in stock prices, in
spreads and volatility, in a variety of areas, and I think we
are having some positive benefits on financial conditions and
are contributing to a better outlook for the economy.
It is not our intention to do anything in particular on the
international front. Our objectives are focused entirely on the
U.S. economy, which is what our mandate tells us to do. It is
true that to the extent that China or other countries
undervalue their exchange rate or maintain a fixed exchange
rate, that they import U.S. monetary policy. U.S. monetary
policy, in my view, which is quite accommodative, is
appropriate for the United States. It is not particularly
appropriate for China, given how quickly they are growing. In
fact, they are dealing with some inflation issues now. So, in
fact, it is forcing them to take some actions. Letting their
exchange rate appreciate somewhat would be helpful for them in
this context because it would reduce the inflation pressures
that they are otherwise going to experience. But that is not
the key objective of the policy. The policy's objective is to
try to meet our price stability and employment goals.
Senator Merkley. No, I understand that, but the employment
goals also are impacted by the ability of us to sell our
products overseas, so there is kind of a complete picture that
comes to play in that.
And in that regard, let me turn then to manufacturing,
because one of the challenges certainly for American products,
making them here and selling them abroad, is the difference in
labor rates. But there has also been the argument that in our
trade agreements, we sometimes end up in a situation where
foreign producers seem to have full access to the American
economy while, both through currency manipulation and through
non-tariff barriers, American products do not seem to be able
to get into the foreign markets as easily, and that that
differential has undermined manufacturing in America.
There has also been a related conversation that I just
wanted to lay it out because I see it starting to appear here
and there, and that is that one of the reasons we seem to be
coming out on the short end of these trade agreements is
because we also go into these negotiations with other goals
that are not necessarily economic goals, that is, goals related
to access, military access, finding a key ally to say, as we
did within the markets in China when we were involved in the
wrestling with the Soviet Union, that we take non-economic
goals into these agreements.
So I thought I would just see if you would like to comment
a little bit on these challenges in terms of our ability to
maintain a manufacturing base and some of the interrelated
issues regarding trade negotiations.
Mr. Bernanke. Senator, of course, we remain an important
manufacturing power. I think we still have the largest
manufacturing sector in the world. Employment has been
declining very sharply because of productivity gains. But you
are also correct, I think, that trade and currency issues are
an important factor.
On the currency side, I have been very clear that I believe
that the policy of China and other emerging markets to
undervalue their currencies is counterproductive both for those
countries and also for international imbalances and for global
trade flows and I hope that we can continue to work with China
and those other countries to create a more flexible exchange
rate regime. I think that is very important.
I am not deeply conversant with the details of trade
negotiations. I think every country has multiple objectives
when they engage in these negotiations, but I hope that we will
be aggressive in pursuing WTO remedies, et cetera, as needed to
eliminate trade barriers, both tariff and non- tariff barriers,
and I am very supportive, like most economists, of free trade
agreements which work both ways, that allow both exports as
well as imports to flow freely.
Senator Merkley. Thank you. Let me turn to another issue,
which is the ongoing impact of the high level of foreclosures
on housing prices in America. We have had an ongoing rate, and
I think it is projected through the balance of this year, of
about 300,000 foreclosure filings a month. Not all of those
will result in foreclosures, but many will. We still seem to be
driving down the value of homes, which results in more families
underwater, more families that are in a situation they
certainly cannot borrow against the value of their house since
the house is worth less than they owe.
How does this--and I will just note that our effort to
intervene, which was highly debated two years ago when I first
came here to the Senate, a decision to invest $50 to $100
billion to assist Oregon--not Oregon, but Oregon and the United
States homeowners--as a result of an expenditure over these two
years of less than a billion dollars--I think last I checked it
was about $500 million. So our intervention has been modest, at
most. This remains both a huge factor affecting the quality of
life for families and their ability to look positively on the
future. How does this play into our monetary policy or
interrelate in ways that we should understand better?
Mr. Bernanke. Well, you said it very well. Foreclosures
continue to be very high. There have been sincere government
efforts to try to address the problem, but they run into lots
of bureaucratic and other difficulties, as well as the fact
that in a weak economy with lots of unemployment, there are a
lot of folks for whom there really is no solution or good
alternative, given that income has been lost through job loss.
This is an important consequence--has important
consequences for the macro situation, as I alluded to in my
testimony. The high levels of vacancies, homes that are not
only empty but are, in fact, reducing the value of the
neighboring homes around them are driving down prices, which is
affecting household wealth, which is affecting consumer
spending and confidence. It is affecting the whole residential
industry. Construction is very, very weak because with prices
so low, new construction cannot recover its costs. It has some
implications for the quality of mortgage assets and therefore
for our financial system. In our reviews of bank capital
positions, we are doing stress test scenarios and one of the
main stressors is what happens if house prices were to fall
five or ten or 15 percent more and how would that affect their
mortgage portfolios and their capital.
So in a number of different directions over and above how
it is affecting the individual families, at the community level
and at the broad economic level, it is a very serious problem
and it is one of the reasons that the recovery, along with the
problems in credit markets, one of the reasons that the
recovery is not as robust as it normally would be, given how
deep the recession was.
Senator Merkley. My time has expired. I do have another
question, if it is appropriate.
Chairman Conrad. Given the fact we intruded on your time,
go ahead.
Senator Merkley. Thank you. Well, one of the interesting
developments is that families started saving a substantial
amount, recognizing that they needed to prepare for the
possibility of the loss of a job or the drop in value of their
home and so on and so forth, which, of course, on the spending
side that throws a wrench into the economy. But one thing that
I have heard reference to, but I am not sure if it is right, is
that the amount of consumer debt has decreased by more than the
amount the national debt has increased. That is, if you take
the family debt and the national debt together, our total
indebtedness has dropped. Is that accurate, and how does that
play into the macroeconomic picture in terms of the impact of
our national debt?
Mr. Bernanke. That is correct, and one way to see that is
that our current account deficit, which is our foreign
borrowing, has gone down, meaning that our total need for
borrowing, public and private, is lower than it was before the
crisis. That is the opposite side of saying that the aggregate
demand, that total spending is insufficient to bring the
economy to full employment. So what you say is exactly right
and it, again, is consistent with the need for continued, at
least speaking from the Federal Reserve's perspective,
continued accommodative monetary policy to help support the
economy's recovery.
Senator Merkley. Thank you.
Chairman Conrad. I thank the Senator.
We will go to a second round, and I think maybe what we
will do is reduce this to four minutes so we do not impose too
much on the Chairman's time.
Let me just say, I haveten an initial report now on the
States' situation and I have asked Senator Manchin, as former
head of the National Governors Association, to get us the
latest information that is available from that source. Here is
what I have in an initial review since our conversation on the
floor, I think it was last week, Governor Manchin, maybe a week
ago or so.
In looking at what has happened since enacting their 2011
budgets, 15 States had new budget gaps open by late November
totaling $27 billion. Nearly the entire gap is accounted for by
five States: Illinois, half of it, roughly half; Arizona, about
ten percent; Washington, seven percent; California, roughly
seven percent; Texas, five percent. Those are the new gaps that
opened up in 2011 after they collectively had closed $84
billion of gaps in working on their 2011 budgets.
What is, I think, a serious matter is looking at the
2012 budget gaps. NCSL's survey, the National Committee on
State Legislatures, projected a gap of roughly $97 billion
in 2012. The Committee on Budget and Policy Priorities
reports that gap currently stands at $113 billion and is
expected to grow to $140 billion once all the States have
updated forecasts. So we are talking about a significant
problem here with some 35 States projecting gaps in 2012. Only
11 States reporting no budget gaps for 2012. I must say,
proudly, my State has no budget gap. I think Governor Manchin
left his State in very good shape. I do not think they face a
budget gap.
But that--now, looking back in 2011, they closed $84
billion of budget gaps, so clearly there is capacity there to
do significant budget gap closing looking at 2012. But, I mean,
$140 billion is a big number, certainly for those individual
States, and I think it is--you know, you look at Illinois, for
example. They are talking about a 2012 budget gap of $15
billion, which represents 50 percent of their budget. That is a
whopper.
And I do think we need to be prepared with a plan in case
we are approached by one or more States, because clearly, the
problem is concentrated in a handful of States. As I indicated,
five States were the significant majority of the 2011 gaps--
Illinois, Arizona, Washington, California, and Texas. We have
to be ready with a plan if we are approached with respect to
requests from any or all of those States, and I understand
fully that is not in your domain, but I think we can reasonably
anticipate that we may have requests made to us. I can tell
you, I do not think Congress, the House or the Senate, are
going to be very interested in bailouts to States.
Senator Manchin. Mr. Chairman?
Chairman Conrad. Senator Manchin?
Senator Manchin. If I may, just in open discussion here,
the States are going to be in a situation where they are going
to have to have the flexibility to refinance to put their
financial houses in order. Everybody bet on the come, if we
will. They worked off of 2008 levels, the amount of stimulus
that helped them get through a difficult time, and we thought
the economy would pick up and it has not. They are still left
short, if you will, and they are making some really draconian
cuts and they are all making that effort.
But with that, our know, our ability--our bond ceilings
that we have that we as States were able to go out to the
market with, there might be some creative financing that is
needed to be done here and we are going to need all the help we
can get. Can they raise those ceilings to see if there is a
market so they can refinance zero percent bonds, to go out and
find out if they can create value within their States. I do not
think the appetite is here in Congress to just say, okay, here
is more money to help you. Can we help you help yourself? Can
we give you some flexibility? Are there some restrictions and
regulations that we can ease up on?
I think that is what would be most appreciative, and I
think we should be looking at it now because it is not if it is
going to happen, it is when they are going to need our
assistance and help.
Chairman Conrad. Well, I think you make a very good point,
and I think since our previous conversation, I immediately
asked people to go out and do this survey and I think it is
something this committee is going to have to be prepared with
an answer. And what you are saying, I think, makes eminent good
sense. That is, maybe there are ways to help with creative
financing. I do not think there is going to be much appetite
here to send truckloads of money to States.
I have about used my time on this four-minute round.
Others? Senator Sessions, would you like an additional round?
Senator Sessions. I would, Mr. Chairman, and there is so
much to ask, Chairman Bernanke, I will submit written questions
to you.
With regard to the State situation, the States are
sovereign. They have issued their own debt, and the people who
loan money to States need to know their likelihood of being
repaid is based on the financial condition of that State. And
there is a moral erosion of a significant nature when we
undertake to start bailing out more. I just think this whole
bailout mentality has far more ramifications than a lot of us
think and a lot of people have indicated.
I understand what you are saying, Mr. Bernanke, and that
States need to get their house in order. They should not expect
low-interest loans from the Fed if they get in trouble. Is that
correct?
Mr. Bernanke. They should not expect loans from the Fed,
and I think the numbers that the Chairman referred to are
prospective gaps obviously. They are a measure of how much
spending cuts or tax increases are going to be needed to
achieve balance. It is going to be difficult, but on the other
hand, there is some improvement in the economy, and tax
revenues actually have picked up some. So it is a difficult
situation, but I hope the States will be able to address it.
Senator Sessions. But I have just got to tell you, places
like California have been living beyond their means for a very
long time, even when the economy was in good shape. Our State
is very frugal. We try to operate a good State, and I think I
am not inclined to ask my constituents to rescue someone who
has been improvident.
I will note what Mr. Christie is doing in New Jersey: the
agriculture department, reduced 24 percent; banking, 12
percent; community affairs, reduced 35 percent; education, down
to 8 percent; human services, 4 percent; law and public safety,
7 percent; roads, 3 percent.
Now, I suggest New Jersey is not going to sink into the
ocean. It is still going to be there. And this idea that cuts--
and even this deficit commission, bless your heart, I hope I
would have been willing to support the Commission's
recommendations. It is about as good as anything we have seen.
But it does not call for anything like a reduction in Federal
spending like this. It actually does not call for any, really,
in discretionary accounts of a significant amount. So we can do
better, and the American people are telling us this.
Mr. Bernanke, I have criticized some of you folks,
including President Bush and Mr. Greenspan. I do not think you
realize the political world we live in, the real world we live
in. You think, well, we can--in 2001, when we needed to
stimulate the economy and run a deficit, well, we have had a
surplus for a few years, we can just ask the Congress to spend
money, and then when they get to a certain point, we can tell
Congress to stop. But those of us who committed and were
elected to try to balance the budget and participated in tough
votes to balance the budget really had our legs chopped off. We
were not able then to warn against spending. Even the
Republicans, some of them, and the Fed seemed to be saying
deficits do not matter. And now, see how hard it is to turn off
the spigot? I think the same thing--maybe you and the Fed can
turn off the spigot just like that within your power. But for
us politically it is not easy. So we have to get a consensus.
I think the American people have a sense right now-- don't
you, Mr. Chairman?--that they want us to do something now. And
I want to ask you, are you telling us that you think it is
premature to start reducing some of our spending levels and
some of the Government accounts because it might hurt the
economy? The Brits do not seem to think so. In a similar
situation to our, they are cutting now.
Mr. Bernanke. What I said, Senator, was that it is a long-
run issue. It has to do with--you know, the problems are not
just this year or next year. The problems go out decades. And I
think it is not too soon to have a strong set of measures that
will bring down deficits over time so that we have at some
point a stabilizing and then declining debt-to-GDP ratio.
So I think action is needed, but I think you are not going
to solve the problem by just making cuts for this year's
budget. You need to think about the whole future path and all
the obligations both implicit--I mean, the Chairman talked
about the debt held by the public and the gross debt and so on.
All those debt numbers do not include the unfunded obligations
that we have for entitlements, for example. So the true debt is
probably 3 or 4 times bigger than what the Chairman is talking
about.
So we need to address that, but what I am saying is that we
want to take--we should take a long-run perspective, and that
is really what the markets are looking at, and that is what
economic stability requires.
Senator Sessions. Fair enough. I do believe we have an
opportunity to limit waste and spending right now, and it would
not damage the economy, and in the long run we need to work
together to try to figure out how to create confidence that our
economy is under control and our spending is under control.
Chairman Conrad. Senator Wyden.
Senator Wyden. Thank you, Mr. Chairman.
Chairman Bernanke, I want to ask about China in a different
way. I also chair the Senate Finance Subcommittee on Trade and
Competitiveness, and I want to take you through what I think is
going on with China and get your reactions in the American
economy and particularly the cause of creating more good-paying
jobs.
A decade ago, when China was admitted to the World Trade
Organization, in effect there was a commitment made to
marketplace principles. That was essentially what their entry
to the World Trade Organization was all about.
In the last 6 months--and, frankly, we have seen this over
a considerable period of time--it seems to me we have seen
considerable backsliding in China with respect to these
marketplace principles, and two areas I have been especially
concerned about most recently are rare earth minerals, which
are so important for American manufacturing, green goods and
others, where the Chinese in effect are saying, look, we are
going to keep our rare earth minerals here; and if people in
the United States want manufacturing, they got to come there.
And we are also seeing it in what amounts to discrimination
against American digital goods and services, which is another
important area of good-paying jobs for our country.
My question to you is: What is your sense about the
implications of China backsliding on these marketplace
principles that they in effect committed to? And I will tell
you, just in my view, they are violating World Trade
Organization principles in those two areas, the question of
rare earth minerals and digital goods. What are the
implications of what they are doing there? And what is an
appropriate role that our Government ought to be taking?
Mr. Bernanke. Well, the WTO agreements have specific rules
and procedures, and we have actually brought some actions under
WTO, and I believe we won a couple of them. So within the rules
that China has agreed to, the WTO process looks like it has
been working. But I am not so sure that I would agree that
China is backsliding. I mean, there have been issues all along
with intellectual property and government procurement and a
wide variety of--you know, access to--
Senator Wyden. Well, those are two areas most recently, and
they are very important to the American economy. Rare earth
minerals and digital goods, this is a pretty new phenomenon.
This is the last 6 months, and that is why I am talking about
the implications for the economy.
Mr. Bernanke. Well, on rare earth minerals, you know, I
agree that that is a strategic input. I do not believe the
United States has any current capacity or has very little
capacity in that area, so we might want to consider some
strategic investments in that area. But this is just a number--
there are a number of areas, and the Chinese would raise issues
with us as well about exports and so on, the technological
exports and so on, where I think ongoing engagement is really
going to be important. And, of course, the President of China
is going to be here in a few days, and I hope that will be an
opportunity for high-level discussions. But this is part of the
ongoing process we have had with China for a while, which is to
try to hold both sides to trade and investment obligations, and
it has been a struggle in many cases. I am not disagreeing with
you.
Senator Wyden. Well, I thank you. I clearly come to these
trade issues looking for ways to open markets. That is why I
think that we are at such a critical time. And I have voted for
every market-opening agreement since I have been in public
life. But I also think it is important to adhere to principles
that ensure that in a global marketplace everybody has an
opportunity to make markets work. And I think we are seeing in
a number of areas considerable backsliding from the Chinese,
and I look forward to following up with you on this as well,
because we cannot meet our target of doubling exports, as we
have set out to do in this country, and substantially lowering
the unemployment rate as our constituents are demanding unless
we have an opportunity around the world to have fair access to
markets. And I think in a growing number of areas, that has not
been the case.
I look forward to working with you in the days ahead, and I
thank you for your appearance today.
Mr. Bernanke. Thank you, Senator.
Senator Wyden. Thank you, Mr. Chairman.
Chairman Conrad. Thank you.
Senator Manchin.
Senator Manchin. Just to follow up very quickly on that, in
the State of West Virginia we have been blessed with some of
the highest quality coking coal in the world, and I brought
this to the attention of people in higher places, that we are
concerned about most of our assets are being purchased by
foreign countries. We still have the good fortune of our miners
working and we are mining the coal and the severance tax the
State receives. But as the Senator just mentioned, most of this
product is leaving this country. That is the ingredients of
making the steel that is needed that builds industry, if you
will. And I do not know if we know the critical juncture we are
at, but I can tell you, we can see it every day, the outside
interests and the amount of money they are paying for these
reserves.
With that being said--I know this has been talked about--I
am the new kid, if you will, in town--the TARP, the whole
bailout of the banking system. It is still in my area as far as
in West Virginia, we are very much concerned that small
businesses do not have access to capital, are having a hard
time acquiring it. Individuals, if you will, commercial
developers, the building industry. The thing that is really
lacking and throwing us back right now is the access to
capital. And we have heard it, you know, we bailed out Wall
Street but not Main Street.
When do we see relief or what do you think needs to be
done, sir, for us to opening up the banking industry so it can
start taking, if you will, some calculated risk and putting
money back in the market?
Mr. Bernanke. Well, just on the narrow question of TARP, of
course, capital went out to smaller firms as well as larger
firms, and Congress just recently passed the small business
plan that has non-TARP capital going to small banks that are
willing to make loans to small businesses. So some of this
money has gone to small firms as well as large firms.
It is a tough problem because you have small businesses who
were used to somewhat easier conditions before the crisis.
Terms and lending conditions have tightened up to some extent
for understandable reasons given what happened during the
crisis and given the losses that banks took.
It is also a situation where the economy has been weak and
where the value of collateral, the value of stores or
factories, et cetera, has come down, which makes it more
difficult to borrow as well. So there are some fundamental
reasons why credit is harder to come by.
That being said, I think there is a tendency to overreact.
There is a tendency after a crisis or in a weak period to
tighten too much, to swing too far, the pendulum to swing too
far, and--
Senator Manchin. Do you think that has been done?
Mr. Bernanke. I think in some cases that has been the case,
and that as I have said, the Federal Reserve, we understand--we
have a responsibility to keep banks safe and sound as best we
can. On the other hand, we also have considerable interest in
having the economy grow. And so we have been--and I would be
happy to give you much more detail at a more convenient time
and send you a letter or meet with you personally, however you
would like to do it. But we have taken a lot of actions to try
to create a better balance for banks to make sure that they can
make good loans; that if they are following safe and sound
procedures that we will not criticize them for making a loan to
a small business or even a business where the collateral value
has declined. So we are very sympathetic to what you are
saying, and we have been working hard, and I do think that
there is some progress. I think there is some improvement. And
as the economy expands and as credit needs go up, I think we
are going to see more lending take place.
But we are very much aware of this issue, and we are
reaching out to small businesses, we are reaching out to banks.
And if you have any suggestions or you have--if anyone would
like--we have an ombudsman who will be happy to take any
complaints or concerns. We do want to be responsive on this
issue.
Senator Manchin. I will do that. I will bring specifics, if
I may, and maybe you can give us some help.
Mr. Bernanke. Of course.
Senator Manchin. Thank you.
Chairman Conrad. Senator Merkley.
Senator Merkley. Thank you, Mr. Chair, and I appreciated
the reference, Mr. Chairman, to the Small Business Lending
Fund, which was a proposal that I developed in response to a
problem we saw in community banks in Oregon where they were
noting that because of the FDIC requirements on leverage being
firmly applied, healthy community banks were unable to lend. We
do not yet know the results of that program, but it was one way
to try to get funds into Main Street banks so that they could
assist Main Street businesses. And in addition to banks that
did no have the capitalization to make additional loans, we
have banks that are not only healthy but do have funds but are
kind of sitting on them waiting to see what happens with the
economy. And so we look forward to continuing to brainstorm
some of the ways we can get liquidity in the hands of small
businesses, because if they cannot borrow money, they cannot
seize business opportunities. And they are a job machine that
we have to put fully to work, and finding the right way to do
that is very important.
I wanted to turn back to housing. Oregon produces a lot of
lumber, and many other States produce lots of products that are
not being consumed when the housing market is down. There are a
series of ideas that are still being talked about. Again, a $50
to $100 billion promise has turned into less than $1 billion of
spending to assist homeowners. One of those concepts is to do a
national short sale program in which families who have passed
an economic distress test or filter, if their home is being
sold at a far lower value after being foreclosed on or shortly
before being foreclosed on, that the family itself might have a
chance to buy it back using lending that is fully underwritten
based on their ability to pay, but maybe not the complete
traditional FICO score structure.
A second approach being talked about is downpayment grants
to help first-time homebuyers. Of course, we have experimented
with this program, but to help absorb that inventory of
foreclosed homes, so that instead of having an empty home on
the block, you have a family that is in that home, and to help
arrest the downward direction of house pricing.
A third is another examination of bankruptcy reform as a
way to kind of adjudicate the issues involved in homeownership
where every other contract can be adjudicated by a bankruptcy
judge, a home contract cannot be. And with appropriate
protocols that we have been alerted to in terms of being
backward-looking not forward-looking, great concern to the
banking community.
So as we look at this national housing challenge, which I
think you echoed the concern that it is a major factor in our
economy getting back on track, if these are not the right
ideas, what are the right ideas? What more can we do here in
Congress to take on one of the really big domestic issues
affecting the quality of life for families and the strength of
our economy?
Mr. Bernanke. Well, I am afraid there are no simple
solutions, as you might imagine, and the ones you mention are
all interesting ones, and let me just offer in general that we
would be happy to work--staff would be happy to work with you
on the details of any of these ideas. If you would like to take
us up on that, we would be more than happy to work with you.
The short sale idea has been around. I think it is fairly
similar to the idea of just having a principal reduction in the
mortgage, which is something that is now-- which the Federal
Reserve actually advocated for a number of years, which I have
talked about in speeches for some time as being a way of
creating greater incentives for the homeowner to want to stay
in the home. That is a program that is now currently in place,
building on a program that was passed a couple years ago. I do
not know how far along that hasten, but that is one approach.
Senator Merkley. Not very far.
Mr. Bernanke. Not very fair. I think--
Senator Merkley. And there is an important--I will just
interject here on this. The challenge on the principal
reduction is that as long as the family looks anywhere near
viable, financial institutions are very, very reluctant to
write down the principal. The idea of the short sale is at the
point that a bank or a mortgage holder has concluded that the
family is going to go under and the home is going to have to be
resold, at that point there is no longer kind of this
competition between writing down an existing loan on the books
because the loan is going to be--the house is going to be
foreclosed on, the loan is going to be gone anyway. So that is
why the conversation has migrated in that direction.
Mr. Bernanke. Well, again, economists at the Board and
around the Federal Reserve System have been working on various
plans, schemes to try to address this problem, and I would be
more than happy to work with you in more detail on these
issues. But getting the principal down through some mechanism
is obviously one approach.
On the downpayment assistance, I think you would want to
design it in a way so that--one of the concerns that we had
about the homeowners--the tax credit was that it created a
temporary bump but did not seem to have a permanent impact on
the housing sector. So you would want to do something that did
not just shift purchases in time a little bit, but actually
created a more sustainable demand for housing. And that is
another difficult problem.
But, you know, I have been--I am a member of the committee
that oversees the TARP, and so we have been getting regular
presentations from the Treasury on the various programs, and to
their credit, you know, they have gone beyond their initial
HAMP program to look at a number of different experimental
approaches, giving States money to apply to their own
strategies. So there are a lot of ideas out there and a lot of
things that are being experimented with, but clearly,
particularly in a world where unemployment is 10 percent and
long-term unemployment is 44 percent of that unemployment,
there are situations where it is very difficult to find a
solution.
Senator Merkley. My time has expired, but can I follow up
on one piece of this?
Chairman Conrad. If it is brief, because we have made a
commitment here that the Chairman would get out of here by noon
and we are little past that now.
Senator Merkley. Okay. The concept of a permanent
downpayment grant at a lower level for first-time homebuyers
addresses that issue you were talking about of just shifting
demand forward, but it also addresses something more
fundamental, which is our primary mechanism of reducing the
cost of homes for families, is the home mortgage interest
deduction. But that kicks in primarily when you buy a larger
house and you are in a higher tax bracket. So the vast bulk of
the subsidy goes to the families who need it the least in terms
of actually becoming homeowners. And so the idea of a
downpayment grant--and it should be in addition to. I am not
taking anything away from the concept of interest deduction on
your home. But the idea is that now you have a working family
of modest means that is buying a very modest house, and we are
helping them become homeowners, in which they would hardly
benefit at all from the mortgage interest deduction. And so it
serves as kind of a fairness factor because we should help
working families buy homes as well as help successful families
buy large homes, and yet also help absorb this inventory of
empty homes. So that is kind of the broader, fuller picture of
it.
Mr. Bernanke. The Commission that the Chairman was on
talked a lot about the interest deduction and lots of, I think,
interesting ways to think about whether that could be made more
productive, more constructive.
Senator Merkley. I will mention I am not addressing the
interest--
Mr. Bernanke. No, no. I understand. But it raises the point
that some people it does not really help very much. If you do
not itemize, for example, you do not get the interest
deduction.
Senator Merkley. Thank you.
Chairman Conrad. I thank the Senator.
One final question that we have been asked, and that is,
with the substantial expansion of the balance sheet by the
Federal Reserve to make sure the flow of credit continued
during this downturn, can you anticipate now what percentage of
that expansion would be realized as losses? I have been told
that it is very small. Can you give us some sense of that?
Mr. Bernanke. Well, first, as I mentioned in my testimony,
this is not deficit spending. We are buying assets which we
will either sell back to the market or allow to run off.
Currently we are in a profit position. Our cost of funds is
very low, so the interest that we are receiving we are
remitting back to the Treasury. I got a new number this
morning. For 2009 and 2010, we remitted back to the Treasury
$125 billion from this program, which is much higher than our
normal.
Should it be the case that short-term interest rates rise,
which, of course, could happen if the economy recovers and we
need to normalize monetary policy, then those remittances could
go down. But currently we are in a--you know, this is at this
point a profitable program from the perspective of the Federal
deficit.
Chairman Conrad. And is it your forecast at this point that
you will then not experience losses on this extension of credit
that was made during the downturn?
Mr. Bernanke. As a practical matter, what matters is not
losses, because those are paper losses. What matters is the
amount of funds, remittances we send back to the Treasury.
Under most scenarios, because our cost of funding is so low, we
will continue to remit back to the Treasury significant amounts
of money. Under a scenario in which short-term interest rates
rise very significantly, it is possible that there might come a
period where we do not remit anything to the Treasury for a
couple of years. That would be, I think, the worst-case
scenario. But even in that case, we would have offsetting that
both the early payments, which are above normal, and the fact
that to the extent that this is a successful policy, it will
strengthen the economy and increase tax revenues.
So I think from a purely fiscal point of view, I think this
is most likely to be beneficial, not harmful, to the
Government's financial position.
Chairman Conrad. The reason I asked the question and
phrased it like I did is because in common parlance there has
been a great concern that what the Federal Reserve did was
going to result in large losses to taxpayers or there was the
potential for that. And you do not see that.
Mr. Bernanke. I do not see that as likely, and our record
so far not only in this program but in all of the lending and
other special credit programs we have done, you know, has been
very positive from a perspective of returns to the Treasury.
Senator Sessions. With regard to quantitative easing on the
Federal purchases, that money that you pay back is money that
came from the Treasury. Is that right? It is the interest--
Mr. Bernanke. Well, yes, but it is, of course--another way
of looking at it is that it is interest that the Treasury did
not have to pay to the Chinese.
Senator Sessions. I am aware of that, but it is a zero sum
game I guess in that sense. And you believe it is helpful to
the economy. I understand that.
Mr. Bernanke. That is the main point.
Senator Sessions. That is the main point of it.
On ``60 Minutes'' a couple years ago, you made reference to
this is the equivalent of printing money. Was that when the Fed
buys--is quantitative easing the purchase of Treasury bills, is
that what you meant when you said printing money?
Mr. Bernanke. So I was actually talking about a somewhat
different issue at that point. So let me try to explain what
really happens. What happens is that when we buy securities,
the money finds its way into the banking system and shows up as
reserves that the banks hold with the Fed. So currently banks
are holding a large amount of reserves with the Fed which will
have to at some point be unwound as we exit from this program.
However, I think there are some folks out there who think that
we are literally printing money and putting it in circulation.
That is absolutely not happening.
Senator Sessions. But it does have a tendency, does it not,
to increase the circulation of dollars, which, like more apples
in the marketplace, makes the apple less valuable? Or does it
not?
Mr. Bernanke. The amount of currency and money in
circulation has not really been affected by this program. Very
slightly. And, in fact, money growth over the last year or so,
2 years, has been below normal. So it is not a situation where
the Fed is dumping money into the economy. That is not what is
happening.
Senator Sessions. Thank you.
Chairman Conrad. Thank you. Thank you very much for your
appearance. Thank you for your forthright testimony here, and
we look forward to having you up for a meeting with the members
as we try to craft a fiscal policy to get us back on track.
Mr. Bernanke. I look forward to it. Thank you, sir.
[Whereupon, at 12:09 p.m., the Committee was adjourned.]
THE BUDGET AND ECONOMIC OUTLOOK: FISCAL YEARS 2011-2021
----------
THURSDAY, JANUARY 27, 2011
U.S. Senate,
Committee on the Budget,
Washington, DC.
The Committee met, pursuant to notice, at 10 a.m., in room
SD-608, Dirksen Senate Office Building, Hon. Kent Conrad,
Chairman of the Committee, presiding.
Present: Senators Conrad, Wyden, Nelson, Cardin,
Whitehouse, Begich, Manchin, Sessions, Crapo, Ensign, Cornyn,
Thune, Portman, Toomey, and Johnson.
Staff present: Mary Ann Naylor, Majority Staff Director;
and Marcus Peacock, Minority Staff Director.
OPENING STATEMENT OF CHAIRMAN CONRAD
Chairman Conrad. The hearing will come to order.
I want to welcome everyone to the Budget Committee this
morning. I know there are other members who are on their way,
but they had other business. As you know, this is the day that
Committee assignments are determined, and so there are members
who will be here who are involved in that process.
Today's hearing will focus on CBO's new budget and economic
outlook. Our witness today is the CBO Director, Doug Elmendorf.
Director Elmendorf, welcome back to the Committee. I want
to take a moment to congratulate you on your reappointment that
was formally made yesterday as CBO Director. That is a well-
deserved recognition for your extraordinarily professional
work. I just want to say the confidence that you enjoy on both
sides of the aisle is a testimony to you and to the entire team
at CBO. Over and over, you have demonstrated your independence.
I might add that even when I had a proposal that was very
important to me, you did not give it very good marks, and I
think that demonstrates pretty clearly your independence. But
that is healthy. That is what we need here. We need an
independent scorekeeper who is going to give us their best
assessment of the effect of the policies that are enacted by
Congress.
You have demonstrated, I believe, a very high degree of
professionalism, as has your entire team at the Congressional
Budget Office. You have been unbiased and a fair umpire,
calling it like you see it. Your reappointment by a
Democratically controlled Senate and a Republican-controlled
House speaks volumes of the trust and respect that you and your
team have earned on both sides of the aisle. We look forward to
your testimony here today.
CBO's report should be a red light flashing to the Nation.
Our fiscal situation is serious and becoming more so. We are at
a critical juncture. We are borrowing 40 cents of every dollar
that we spend. Spending, as this chart indicates, is at its
highest level as a share of the economy in more than 60 years;
and revenue is at its lowest level as a share of the economy in
more than 60 years.
Let me just repeat that. Spending as a share of our
national income is at the highest level in 60 years; revenue as
a share of our national income is at its lowest level in 60
years. No wonder that we are headed for the largest deficit
ever. This is utterly unsustainable, and the sooner we address
it, the sooner we come to grips with it, the better.
This next chart depicts CBO's new 10-year baseline
projections with additional policies added in. It shows that,
due to passage of the tax extension package and the slow pace
of the economic recovery, CBO is now expecting to see deficits
of more than $1 trillion a year continuing through at least
2012. It shows that deficits will then briefly fall before
rising again as the bulk of the baby-boom generation begins to
retire and health care costs continue to climb.
Under the same scenario, gross Federal debt is expected to
reach 100 percent of gross domestic product this year and
continue rising. It is important to remember that many
economists regard anything above the 90-percent threshold as a
danger zone. And as disturbing as those near-term deficits and
debt are, the long-term outlook is even more dire. It is the
deteriorating long-term outlook that is the biggest threat to
the country's long-term economic security. The warning signs
are as clear as they can be.
Earlier this month, two of the world's leading credit
rating agencies, Moody's and S&P, warned again that rising U.S.
debt could lead to America losing its AAA credit rating. If
such a thing were to happen, it would be a very serious blow
and could set off continuing tensions in the global financial
markets.
In his recent testimony before the Senate Budget Committee,
Federal Reserve Chairman Bernanke called for a demonstration of
political will to address the long-term fiscal imbalances. He
stated, and I quote: ``Nobody doubts the United States has the
economic capacity to pay its bills. It is really a question of
do we have the political will to do that. And demonstration of
political will, that is what the markets are watching. Is the
Congress and the public and the administration, are they able
to demonstrate that they are serious and that they have enough
willingness to work together to make progress? At the point
where confidence is lost, you could see a relatively quick
deterioration in financial conditions.''
That, again, all from the Chairman of the Federal Reserve.
I hope people are listening. We cannot afford to wait until
the markets lose confidence in the conduct of our financial
affairs. We need to act, and we need to act this year. That
does not mean we need to make steep cuts immediately. All of
the bipartisan commissions have come back with recommendations
and have recommended that we begin modestly because of the
continuing economic weakness, but that we put in place a
credible plan that convinces markets that we are going to get
the result that is required. Enacting such a plan now,
according to the Chairman of the Federal Reserve and others,
would reassure the markets and help boost our near-term
economy.
I believe the deficit and debt reduction plan assembled by
the President's Fiscal Commission provides one way forward, and
I want to emphasize I supported the Commission report. I did so
proudly. There are things in it I do not like, but that is
really not the point. The Fiscal Commission came back with a
plan that 11 of the 18 Commissioners supported, five Democrats,
five Republicans, one Independent. And I can tell you it is not
very popular, certainly by the phone calls I have received and
the letters I have received. We understand that. But it is
necessary. It would reduce the debt by some $4 trillion over
the next 10 years, and it would get us on a path that would
take us back from the brink and do so in a very important way.
The Commission plan was also important because it showed
how to reduce the deficit and debt in a balanced way. It
included substantial cuts in discretionary spending. It
included entitlement reform. It included tax reform--tax reform
that broadened the base and lowered rates to help America be
more competitive. If you focus only on non-defense
discretionary spending, the cuts will have to be so Draconian
that they will simply not be sustainable. That is my judgment.
Tax reform that raises revenue also, I believe, must be part of
the plan.
The result of this balanced approach was to get the deficit
and the debt first stabilized and then over time to bring it
down quite sharply. To solve the long-term challenge, it will
require real compromise and a great deal of political will. We
need everyone at the table, and that includes the President of
the United States. And we need to have both sides, Democrats
and Republicans, willing to move off their fixed positions and
find common ground. We cannot continue to put this off. We need
to reach an agreement this year. It is time for the
administration and members on both sides in Congress to come
together to get this done.
With that, we will turn to Senator Crapo, who is going to
do the opening statement for the Republican side. I want to
welcome Senator Crapo. He served on the Fiscal Commission as
well. He was one of the 11 that supported its conclusions, as
did I. Thank you, Senator Crapo, for that, and please make
whatever statement you choose, and then we will go to our
witness and then open it for questions.
Senator Crapo. Thank you very much, Mr. Chairman----
Chairman Conrad. If you would withhold----
Senator Crapo. Yes.
Chairman Conrad. I want to welcome--we have not formally
recognized the new members to the Committee. That will happen
in a process a little later today, but we now know who the new
members are going to be, and we want to welcome them here this
morning. Senator Portman, Senator Toomey, Senator Johnson, I
know later today you will be formally added to the Committee,
but we want to include you this morning, and we will extend the
courtesy of giving you the chance to ask questions as well.
With that, again, thank you, Senator Crapo.
OPENING STATEMENT OF SENATOR CRAPO
Senator Crapo. Thank you very much, Mr. Chairman, and we
also welcome our new members. We look forward to working with
them, and as you can see, knowing who they are, they bring a
high level of new talent to this Committee, and we appreciate
their willingness to support us.
I also wanted to give Senator Sessions' apologies. He had a
conflict that was unavoidable. He asked that I sit in until he
could get here. He will be the Ranking Member on our side this
year, and we look forward to his solid leadership as well.
I agree very strongly with the concerns that you have
raised as we move forward to deal with America's fiscal
dilemma. And, Dr. Elmendorf, I have appreciated working with
you in the past and look forward to working with you very
closely as Congress moves forward to develop a proposal that is
credible and that will get us out of this difficult problem.
I just want to highlight a couple of points, most of which,
Senator Conrad, you have already made.
First, the time for delay, the time for gridlock, the time
for debate is over, and we must take action. One of the
strongest messages that the economists and experts who
testified to the President's Fiscal Commission gave was that
the single act of the United States Government--Congress and
the President coming together--and developing a credible plan
that had a realistic expectation of being followed would be one
of the most significant things we could do to strengthen our
economy, to give confidence to investors, and to help rebuild
the revenue side of the equation that we are dealing with as we
try to build a solution to this problem. We must act, and we
must act now.
We must demonstrate the political will that will require us
to make a lot of tough decisions. The Chairman was correct.
Those of us who voted in favor of this plan, I do not think a
single one of us liked everything in the plan. But I do believe
that every one of us faced very, very serious criticism because
of the ability to pick apart a proposal to get out of this
difficult fiscal situation that we find ourselves in, and the
fact that there are going to be plenty who will pick it apart,
whatever we choose to do. And we must be prepared to move
forward aggressively, and I give my commitment. I know that on
our side and your side there is the will to engage in this
issue, and we have to move it forward now.
I also believe that the President must be heavily engaged
in this process. To his credit, he established a Fiscal
Commission to deal with the issue. That Fiscal Commission has
now issued a report. The President has an opportunity to either
accept or modify that report or propose some other approach and
give us a detailed plan to move forward on. It will not
necessarily be the plan that Congress adopts, but the President
needs to engage. We need to engage. And we must get past the
politics of the past and deal with this issue, making the hard
decisions that have to be made.
As we move forward in that context, I personally very
strongly believe that all aspects of the spending and revenue
side of the equation must be on the table. They were in the
President's Fiscal Commission's approach. I thought some were
too lightly treated and some were too heavily treated, but they
were all on the table. And as a part of that, I strongly
believe that we must have tax reform.
One of, I believe, the most beneficial developments of the
President's Commission's activities was the elevation of the
understanding that our Tax Code today is so complicated, so
unfair, so expensive to comply with, and puts America as a
Nation in such an anticompetitive position with the rest of the
world that we have a tremendous difficulty on the revenue side
of the equation achieving a solution. We must eliminate those
problems and create a Tax Code in which Americans can thrive in
powerful economic activity.
And I know, Dr. Elmendorf, that your side of that may be
more focused on the budget numbers, but ultimately I believe as
a Committee that we need, Mr. Chairman, to guide as we engage
and put our approach together, we need to guide this Nation in
a comprehensive path toward a solution, a credible plan that
can be put into place and implemented today. I mean literally
this year we have to act.
The last thing I will say is this: Any plan for us to get
out of this difficult fiscal hole in which we have put
ourselves as a Nation must be a plan that will be implemented
over a period of time, a period of years. And that will require
that more than just this Congress participate and more than
just this President participate in implementing this plan.
Because of that, I believe that process reforms are as critical
as the substance reforms dealing with spending and tax policy.
And process reforms are going to have to be strong. What I mean
by that is we need to not only create the plan we have been
talking about and pass the plan and make it law, but also make
it law that Congress must follow that plan and that super
majorities of votes must be achieved in order to change it so
that we can send the strong message to our people and to the
world that we not only have put a plan on the table, but that
we will implement it.
So there are a lot of tough parts of the task that we have
before us, and, Dr. Elmendorf, we are going to be relying on
you for the numbers and the analysis. We have done that on
difficult issues before. I look forward to doing it as we move
forward in this process. But nothing could be more important.
This is the most critical threat to our Nation, in my opinion,
and I include the threats that we receive from external
sources. In fact, the head of the Joint Chiefs of Staff has
said that the greatest threat to our security is our debt. And
I believe that we have to get it right. We have to get the
numbers right, we have to get the policy right, and we have to
get the process right. And I hope that we will be able to build
a strong, bipartisan solution to move forward and achieve that
promptly.
Thank you, Mr. Chairman.
Chairman Conrad. Thank you so much, Senator Crapo, and
thank you for your strong statement here this morning, and
thank you for your service on the Fiscal Commission. Thanks,
too, to the other members from the Senate who supported that
effort: Senator Coburn, Senator Gregg, who is now retired but
was the Ranking Member of this Committee, and Senator Durbin.
Along with my vote, that made five of the six from the Senate
who supported the Commission report, even though we, I think
all of us, believe that if we would have done it, we would have
done a different job and perhaps a better job; but at the end
of the day, we have to get a result. At the end of the day, we
have to find a way to get a result, and----
Senator Crapo. Could I just interject one quick point
there?
Chairman Conrad. Certainly.
Senator Crapo. I think everyone in America knows that the
Commission's report failed to get the necessary 14 votes that
would have been required to force a vote in Congress on it. But
I think it is important to just note that it did get more than
60 percent of the votes, which is what is sufficient in the
Senate to pass legislation.
Chairman Conrad. That is a very important point. Eleven of
18--again, five Democrats, five Republicans, one Independent--
supported the recommendations of the report.
With that, we will turn to Dr. Elmendorf. Again, welcome
back to the Committee, and please proceed with your testimony.
STATEMENT OF DOUGLAS W. ELMENDORF, DIRECTOR, CONGRESSIONAL
BUDGET OFFICE
Mr. Elmendorf. Thank you, Mr. Chairman, Senator Crapo. I
appreciate very much your confidence in me and, much more
importantly, your confidence in the analysis that my colleagues
and I at CBO have been doing and will continue to do for you.
Among my colleagues I want to recognize for one moment Bob
Dennis, who is sitting behind me and who has led our
Macroeconomic Division for many years. He has been one of our
most important people for many years, and he is retiring from
CBO at the end of next month.
Chairman Conrad. If we could ask Bob to stand and be
recognized.
[Applause.]
Mr. Elmendorf. Mr. Chairman, I also want to pass on, on
behalf of my and my colleagues, our unhappiness at hearing
about your plans to retire at the end of this session, as we
were unhappy at Senator Gregg's plan to retire at the end of
the previous Congress. But we look forward to working with you
very intensively for the next 2 years, and we look forward to
working with Senator Sessions and Senator Crapo and the other
members of the Committee throughout this Congress.
Chairman Conrad. Let me just say that I am not going to
retire, but I am just not going to run again.
[Laughter.]
Mr. Elmendorf. I understand.
The United States faces daunting economic and budgetary
challenges. The economy has struggled to recover from the
recent recession. The pace of growth in output has been anemic
compared with that during most other recoveries, and the
unemployment rate has remained quite high.
Federal budget deficits and debt have surged in the past 2
years, owing to a combination of a severe drop in economic
activity, the costs of policies implemented in response to the
financial and economic problems, and an imbalance between
spending and revenues that pre-dates the recession.
Unfortunately, it is likely that a return to normal
economic conditions will take years, and even after the economy
has fully recovered, a return to sustainable budget conditions
will require significant changes in tax and spending policies.
Let me discuss the economic outlook first and then turn to
the budget outlook.
CBO expects that production and employment will expand in
the coming years, but at only a moderate pace, leaving the
economy well below its potential for some time. We project that
real GDP will increase by about 3 percent this year and again
next year, reflecting continued strong growth in business
investment, improvements in both residential investment and net
exports, and modest increases in consumer spending. But we have
a long way to go on the employment front.
Move to the next slide, please. The next one after that,
please. Keep going. I am sorry. And again. So let us focus on
this.
Payroll employment, which declined by 7.3 million during
the recent recession, rose by only 70,000 jobs on net between
June 2009 and December 2010. The recovery in employment has
been slowed not only by the slow growth in output but also by
structural changes in the labor market, such as a mismatch
between the requirements of available jobs and the skills of
job seekers.
We estimate that the economy will add roughly 2.5 million
jobs per year for the next 6 years, similar to the average pace
during the late 1990s. Even so, we expect that the unemployment
rate will fall only to 9.2 percent in the fourth quarter of
this year and 8.2 percent in the fourth quarter of 2012. Only
by 2016 in our forecast does the unemployment rate reach 5.3
percent, close to our estimate of the natural or sustainable
rate.
CBO projects that inflation will remain very low in 2011
and 2012, reflecting the large amount of unused resources in
the economy, and will average no more than 2 percent a year
between 2013 and 2016.
Economic developments and the Government's responses to
them have, of course, had a big impact on the budget. We
estimate that if current laws remain unchanged, the budget
deficit this year will be close to $1.5 trillion, or 9.8
percent of GDP. That would follow deficits of 10 percent and
8.9 percent of GDP in the past 2 years, representing the three
largest deficits relative to the size of the economy since
1945. As a result, debt held by the public will probably jump
from 40 percent of GDP at the end of fiscal year 2008 to nearly
70 percent at the end of fiscal year 2011.
If current laws remain unchanged, as we assume for CBO's
baseline projections, budget deficits would drop markedly over
the next few years as a share of output. If we can go back, I
think, two slides, the darker line shows the deficit under our
baseline projections reflecting current law. Deficits would
average 3.6 percent of GDP from 2012 through 2021, totaling
nearly $7 trillion during that decade. As a result, the debt
held by the public would keep rising, reaching 77 percent of
GDP.
However, that projection is based on the assumption that
tax and spending policies unfold as specified in current law.
Consequently, it understates the budget deficits that would
occur if many policies currently in place were continued rather
than allowed to expire as under current law.
For example, suppose instead that three major aspects of
current policy were continued during the coming decade: first,
that the higher 2011 exemption amount for the alternative
minimum tax is extended and, along with the AMT tax brackets,
is indexed for inflation; second, that the other major
provisions in the recently enacted tax legislation that
affected individual income taxes and estate and gift taxes were
extended rather than allowed to expire in January 2013; and,
third, that Medicare's payment rates for physician services
were held constant rather than dropping sharply as scheduled
under current law. All of those policies have recently been
extended by the Congress for 1 or 2 years. If they were
extended permanently, deficits from 2012 through 2021 would
average about 6 percent of GDP rather than 3.6 percent--that is
the lower dashed line in that picture--and cumulative deficits
over the coming decade would total nearly $12 trillion. Go to
the next slide, please. Debt held by the public in 2021 would
rise to almost 100 percent of GDP, the highest level since
1946.
Beyond the 10-year projection period, further increases in
Federal debt relative to the Nation's output almost certainly
lie ahead if current policies remain in place. Spending on
Social Security and the Government's major mandatory health
care programs--Medicare, Medicaid, the Children's Health
Insurance Program, and insurance subsidies to be provided
through exchanges--will increase from roughly 10 percent of GDP
to about 16 percent over the next 25 years.
To prevent debt from becoming unsupportable, the Congress
will have to substantially restrain the growth of spending,
raise revenues significantly above their historical share of
GDP, or pursue some combination of those approaches. The longer
the necessary adjustments are delayed, the greater will be the
negative consequences of the mounting debt, the more uncertain
individuals and businesses will be about future Government
policies, and the more drastic the ultimate policy changes will
need to be. However, changes of the magnitude that will
ultimately be required could be disruptive. Therefore, Congress
may wish to implement them gradually so as to avoid a sudden
negative impact on the economy, particularly as it recovers
from the severe recession and so as to give families,
businesses, and State and local governments time to plan and
adjust.
Allowing for such graduate implementation would mean that
remedying the Nation's fiscal imbalance would take longer and,
therefore, that major policy changes would need to be enacted
soon in order to limit a further increase in Federal debt.
Thank you very much.
[The prepared statement of Mr. Elmendorf follows:]
Chairman Conrad. Thank you, Director Elmendorf.
You know, one of the things we say a lot on this Committee
is the current trajectory, projected trajectory on our deficits
and debt is unsustainable. You have used that language as well.
What do you mean by that?
Mr. Elmendorf. As the debt rises relative to the size of
the economy, so does the burden on the economy, on American
citizens, of making the payments on that debt, of making the
interest payments. And as that burden rises, it becomes more
difficult to prevent a further increase in debt because the
rising interest payments are tending to squeeze out the other
forms of Government spending or push up tax revenue in ways
that are difficult for the country to absorb.
So the rising debt payments can start to snowball in a way
that can make the debt rise faster and faster, and one sees
that in our longer-term projections as one goes out beyond the
coming decade where the path of debt to GDP can rise quite
sharply.
In order to continue the borrowing implicit in those kinds
of pictures, the Government needs to find investors willing to
purchase Government securities, both to roll over the existing
debt as it matures and to acquire the new debt necessary to
finance the ongoing budget deficits.
At some point investors are likely to become increasingly
nervous about whether the Government can, in fact, manage its
budget. That is what we and others have called a fiscal crisis,
and we have seen very recently other countries encounter a
crisis of that sort in which it becomes impossible for the
Government to finance the trajectory of debt that it has in
mind at affordable interest rates.
Now, we have been very clear that we do not have an
analytic capability of predicting what a tipping point might be
and when it might happen. But as the debt rises relative to GDP
and as the trajectory continues to be steeply upward, the risk
of that sort of crisis increases.
Chairman Conrad. So part of your analysis and reason for
the trajectory of our debt being unsustainable is that puts
upward pressure on interest rates in order to satisfy those who
loan us money to take on greater risk, and that has the effect
of slowing the economy. Is that part of your analysis?
Mr. Elmendorf. Yes, that is right. So as the Government
needs to work harder to find buyers for its debt, it has to pay
higher interest rates over time. And more importantly, from an
economic point of view, the Government's borrowing is crowding
out the borrowing that private firms or households might do to
support investment in plant and equipment or to support new
housing. And it is the crowding out of that private investment
that makes future incomes lower than they would otherwise be.
Chairman Conrad. Well, I think that analysis is very much
in line with what every economist has told this Committee and
what the Chairman of the Federal Reserve has told this
Committee.
Let me go a little bit further because part of your
analysis of the trajectory of future deficits and debt is tied
to the question of interest rate levels. And you have a
projection of what interest rates are likely to be during the
term of this forecast. What would happen if the interest rates
were, for example, 1 percent higher than you project? I think
you did a sensitivity analysis to determine what would happen
to our debt if interest rates were just 1 percent higher than
what you project currently. Could you tell us what you found?
Mr. Elmendorf. Yes, Mr. Chairman, and for others, this is
in Appendix B of our outlook where we illustrate the
sensitivity of those budget projections to a variety of pieces
of the economic forecast.
If interest rates are 1 percentage point higher than we
project throughout the entire decade for both short-term and
long-term rates, we estimate that the budget deficit would be
$1.25 trillion larger over the coming decade than in our
baseline projection.
Chairman Conrad. So you would add another $1.25 trillion--
``trillion,'' that is with a ``T,'' not billion, not million,
trillion--if interest rates were just 1 percentage rate higher
than in your forecast?
Mr. Elmendorf. Yes, that is right.
Chairman Conrad. Let me ask you this: As you evaluate where
we are headed, the Chairman of the Federal Reserve testified
before this Committee in recent days, and basically his advice
to us on deficit and debt reduction was start modestly but then
grow the effort in a very determined way once the economy is on
stronger ground. His argument to the Committee was that this
recovery is still fragile. One in every six Americans is either
underemployed or unemployed. And so what he was saying to this
Committee was you ought to begin the process, but begin fiscal
discipline in a modest way, but put in place a plan that goes
way beyond modest to get the debt first stabilized and then to
bring it down to more manageable levels.
Is that your advice to this Committee as well? Or what is
your advice?
Mr. Elmendorf. Well, as you know, Mr. Chairman, I will not
make policy recommendations to you and your colleagues. I think
in judging the speed of policy changes that you are
considering, you and your colleagues face a difficult trade-
off. On the one hand, as I said, the longer that you wait to
make those policy changes, the more the debt will mount, the
greater the negative consequences of that will be, including
the crowding out other investment, increased loss of
flexibility to respond to future emergencies that we cannot
foresee now; the greater will be the burden of interest
payments and crowding out other forms of spending or pushing up
tax receipts to keep the debt from growing yet faster; and the
greater the risk of a fiscal crisis.
At the same time, the faster that you make policy changes,
especially those of the magnitude required to fix a fiscal
imbalance of this size that I have shown and you have talked
about, those changes can be disruptive to the households that
are planning for certain sorts of benefits, to the businesses
that are planning around certain features of the Tax Code, to
State and local governments that are depending on the Federal
Government to continue its relationship with them as it has
been in the past. And the faster you move, the harder it is for
them to adjust.
Chairman Conrad. Let me ask you this question: I think that
analysis that you have given is very much in line with what
other economists have told this Committee of a broad range of
philosophical backgrounds. Because when we have witnesses
before this Committee, we try to provide a broad range of
philosophical input. Some are telling us that tax cuts are so
beneficial that if we enact tax cuts, they really will not lead
to additional deficits because the cost is offset by the
economic growth that they encourage.
What is your analysis with respect to the effect of tax
cuts on the budget?
Mr. Elmendorf. So the answer, of course, depends to some
extent on the specific tax cuts that one has in mind. As a
general matter, reductions in marginal tax rates, which affect
the incentives faced by households and businesses, reductions
in those rates can encourage work and savings and, thus, boost
the economy, and through that provide some offset to the direct
loss in tax revenue from the reductions in rates.
For broad-based reductions in taxes, I think the consensus
in the economics profession is that the offset provided through
the extra work and saving is significantly smaller than the
direct revenue loss, and thus that the net effect on the budget
is a reduction in revenues. As I said, one might reach
different conclusions for particular changes in tax rates, but
for broad-based changes, I think that is the professional
consensus.
Chairman Conrad. So give us an understanding--and, look, I
supported extending the tax cuts. I supported extending all of
them because I believed the economy was in such weak condition
that we needed some certainty and we needed the additional lift
that those tax cuts can give in the short term. Isn't the CBO
analysis that tax cuts have a differential effect short term
and long term?
Mr. Elmendorf. Yes, that is right. Again, I do not think
that is unique to us either. In the results that we presented
to you in testimony at the end of September about the effects
of different ways of extending the expiring tax provisions that
you and your colleagues were considering, we looked at both the
effects in the next few years and the effects at the end of the
decade and beyond in future decades.
In the short term, we think that reductions in tax receipts
that put more money into the hands of taxpayers that they can
then spend can stimulate economic activity, the demand for
goods and, thus, production and employment. And that is
especially true, I should emphasize, under current economic
conditions where there is so much unused labor, so much unused
industrial capacity, and where the Federal Reserve has already
pushed the interest rates that it controls most directly down
essentially to their lower bound.
But over the longer term, as we showed in these results in
September, reductions in tax revenue that are not matched by
reductions in Government spending and, thus, lead to wider
budget deficits tend to reduce the level of economic activity,
and there are different forces at work there. The lower tax
rates do spur work and saving, as I said, and we incorporate
that in our estimates. At the same time, the larger deficits--
again, on the assumption that spending is not cut
commensurately, the larger deficits crowd out private capital
formation. And for most of the different parameter values, most
of the models that we use--and we us a variety to illustrate
the uncertainties. For most of those approaches that we have
taken, the loss of future output and income from the extra
deficits outweigh the boost from the lower tax rates.
Chairman Conrad. And isn't it your analysis that the tax
cuts we just enacted in fact do add to the deficit and the
debt?
Mr. Elmendorf. Yes, that is correct. The legislation, as we
report in our outlook, that legislation increased budget
deficits this year and next and over the entire decade by
around $800 billion, I believe.
Chairman Conrad. All right. Let me go to Senator Crapo, and
then we will go to members for questions in order of arrival.
We use the early bird rule here, and we will follow that as
well. I think given the number of Senators, we better do 7-
minute rounds. Senator Crapo.
Senator Crapo. Thank you, Mr. Chairman.
I want to followup briefly on the last line of questioning.
In your analysis--and I describe what the Chairman and you were
talking about as ``dynamic scoring of tax policy.'' I do not
know if that is the accurate description of it, but do you take
into consideration the dynamic impacts of tax policy as you
provide us your numbers? In other words, when you do your
analysis and come up with that $800 billion number for a
deficit impact, are you calculating into that the dynamic
impact of tax policy on the economy and on revenues?
Mr. Elmendorf. People use these words in different ways.
Let me distinguish two sets of words and tell you what I mean
by them.
Dynamic scoring I think of as incorporating in a revenue
estimate or a cost estimate a full range of microeconomic and
macroeconomic behavioral responses.
The revenue estimates that you get, like all the revenue
estimates have done for decades in the Congress, are done by
the staff of the Joint Committee of Taxation, not by CBO. Those
estimates incorporate a vast array of microeconomic behavioral
responses. They do not incorporate effects of changing economic
aggregates like GDP.
Separately, we and our colleagues on the staff of the Joint
Tax Committee do dynamic analyses of various sorts, analyses in
which we do allow the macroeconomic aggregates to change
through these behavioral changes along with the various sorts
of microeconomic behavioral effects. And we reported to you
that sort of dynamic analysis in the testimony I did in
September about the effects of tax policy. We do this every
year in an analysis of the President's budget. We have done
this for the American Recovery and Reinvestment Act. We do this
in a whole variety of circumstances. It is a great deal of work
to do. We tend to do it only for particularly significant
pieces of legislation for which we have weeks or months of lead
time in terms of your interest. And the staff of the Joint Tax
Committee does similar sorts of analyses as well.
Senator Crapo. All right. Let me ask you, what kind of
revenue growth estimates are you using throughout the decade in
your projections?
Mr. Elmendorf. So revenue grows slowly for the next--
certainly for this year, because we have the economy growing
slowly.
Senator Crapo. You are at 3.8 for this year, right? That is
your----
Mr. Elmendorf. I believe----
Mr. Booth. 3.1.
Mr. Elmendorf. So for this year--yes, OK. So for this year
we have total revenue growing by 3.1 percent.
Senator Crapo. 3.1, OK.
Mr. Elmendorf. And then much faster on average for the
remainder of the decade, but much of that is from the
expiration of a whole set of these tax provisions at the end of
this year or the end of next year. So over the next few years
between now and 2014, tax revenue rises by about 5 percentage
points of GDP, and three-quarters of that is from the
expiration of expiring tax provisions, and the other quarter is
a variety of other effects, including economic growth.
Senator Crapo. Do you use projections as to what rate of
inflation you expect in the economy?
Mr. Elmendorf. Yes. So obviously the nominal growth rates
of revenues and of spending depend on our projection of
inflation. As I mentioned earlier and as we describe at greater
length in the report, we expect inflation to remain low in the
next few years, then to move up toward the Federal Reserve's
implicit target, which, according to Chairman Bernanke and
others, is at 2 percent or a little under. If there were faster
inflation, that would lead to more revenues. It would also lead
to more spending, and in particular it would lead to higher
interest payments on the debt. And in this Appendix C that was
referenced before, one of the experiments that we did was to
look at what happens if inflation is higher--I am sorry,
Appendix B--is higher than it would otherwise be. Higher
inflation of 1 percentage point a year would add about $900
billion to deficits over the next decade.
The important part of that is that with higher inflation
there tend to be higher interest rates, so this already large
and growing burden of interest payments would grow even faster.
Senator Crapo. And are you familiar--I am shifting gears
here a little bit, but are you familiar with the studies done
by Rogoff and Reinhart comparing debt to GDP of different
nations and so forth?
Mr. Elmendorf. Yes, I am actually. Carmen Reinhart is a
member of our panel of economic advisers.
Senator Crapo. You are aware then that they use gross debt
in their analysis. You have indicated that debt owed to the
public, which is significantly lower than that, is going to be
approaching the 90 to 100 percent mark by the end of the
decade. Could you comment, given the context of their analysis
and the fact that using literally debt owed to the public as
opposed to gross debt, we are rapidly approaching those
markers, on what you expect to be the consequences of our
failure to change that dynamic, that growth in debt?
Mr. Elmendorf. U.S. debt, publicly held debt, is already in
unfamiliar territory for our country, and over the course of
the next decade, if current policies are continued and debt
pushes up toward 100 percent of our GDP, we will be entering
unfamiliar territory for all developed countries over the past
several decades. Not completely unknown territory. Some
countries have gone there. Their experiences have usually been
poor.
The U.S. is different from other countries in a variety of
ways that might affect how far we can push up debt before we
encounter larger negative consequences. People do view the U.S.
economy as a vibrant one and the U.S. financial system,
notwithstanding the events of the past few years, as a reliable
one. That gives us a little more room perhaps.
On the other hand, we have low private saving rates
compared with other countries, so our Government debt cannot be
absorbed as much in U.S. saving. It has to rely on the saving
and investment of others. That may give us less room than other
countries.
Senator Crapo. I want to interrupt because I have one more
question I am going to ask, and so I would just--well, let me
just interrupt and move to the next question----
Mr. Elmendorf. Yes.
Senator Crapo [continuing]. Because time is so short. I do
want to followup on that in a future round.
Quickly, there are four major housing and banking
activities that are reflected in the Federal budget to various
degrees: TARP finance programs, the Federal Government's
obligations to Fannie and Freddie, the premiums paid by and
loss share payments to banks through the Deposit Insurance
Fund, and the Federal Reserve's remissions of interest income
to the Treasury earned on their open market operations and
other portfolio investments.
Could you explain to me what the budget numbers associated
with each of these entities actually reflects? For instance, do
the numbers for these programs in the budget reflect cash,
credit scoring, or actuarial costs? And are we treating these
different aspects differently in our budget analysis?
Mr. Elmendorf. So the answer to the last part of the
question is yes, they are treated differently. The Federal
budget is primarily a cash-flow accounting, money coming in and
money going out. About 20 years ago, in the Federal Credit
Reform Act, there were some changes made to try to better
reflect the true cost of some of the Government's financial
activities, the credit programs. In fact, that methodology,
which we apply to credit programs under the law today, does not
reflect the full cost of the Federal Government, the full cost
in particular of the risk that the Government takes on in
credit programs.
Beyond that, some of these other particular parts of the
Government's activities that you mention have been put in place
with different budgetary treatment. The TARP was set in place
with instructions to us to treat it not exactly under the
credit reform basis, but under a credit reform basis with an
adjustment for the extra risk the Government is taking on, and
we have done that.
Fannie Mae and Freddie Mac were brought into the Government
in our assessment through the conservatorship, and the
ownership and control of the Government has demonstrated. There
is nothing in law that specifies how they should be treated in
the budget. We are treating them, after discussion with the
Budget Committees, on the same risk-adjusted basis that we are
treating the TARP.
The administration, however, still views them as being
outside of the budget. When they record the history of
transactions, they record cash payments to those entities as if
they were outside entities.
Unfortunately, in contrast, our projections, which view
them as part of the Government, which we think is appropriate,
treats them more on--does not record the cash transactions but
imputes to the Federal Government the transactions those
entities are engaged in.
So it is a very complicated business, and we are in ongoing
discussions with the Budget Committee, both sides--here and
also in the House--to try to think through if there are better
ways for us to communicate to you and your colleagues what is
really going on.
Chairman Conrad. Can I just intercede on this point,
Senator Crapo? Because I think it is important for members of
the Committee to know that CBO, when they have a question about
how to do these things, consults the Chairman and the Ranking
Member of both the House and the Senate Budget Committees. They
did consult us on the question of treating Fannie and Freddie
off the books or on the books. We insisted that they be
included because we think that is the most accurate reflection
of the effect on the Federal books. And we were unanimous in
that view. Senator Gregg was the Raking member here at that
time. Congressman Ryan was Ranking in the House. And former
Chairman Spratt, the four of us were consulted. The four of us
agreed unanimously----
Senator Crapo. And I agreed with----
Chairman Conrad [continuing]. That they ought to be
included.
Senator Crapo. Thank you.
Chairman Conrad. And I still believe that was the correct
decision and that CBO wanted to do it that way, and we thought
that was the appropriate way, so that we are not having things
off the books here.
Senator Crapo. Hopefully OMB will follow that lead.
Chairman Conrad. I thank you.
Next, Senator Cardin.
Senator Cardin. Mr. Chairman, thank you very much. Mr.
Elmendorf, I very much appreciate your service.
Mr. Elmendorf. Thank you.
Senator Cardin. I agree with the comments of our Chairman
and Senator Crapo that we need a credible plan, we need a
credible plan now. The support and our enactment of a credible
plan would have an incredible impact, I think, on our economy,
and that all factors need to be part of the solution.
The difficulty is that Congress will normally take up
issues on a specific matter, and then the discipline seems to
break down. We will have a true emergency--a natural disaster,
a Katrina. We will have a national security issue that we
obviously have to respond to. And then we sort of say, well, we
will take care of that, and we do it in a different manner.
Well, we understand that. But then other matters get
categorized as emergencies or urgent issues, and we make
separate exceptions.
I agree that we need to do this in a balanced way, but it
seems like domestic discretionary spending is always the one
that is in the focal point and usually takes the brunt of this
type of discussion.
So I was pleased that the President mentioned discretionary
domestic spending first, and I want to try to get the relative
impact of what the President said. In your CBO baseline, what
projections are you making in regards to discretionary domestic
spending?
Mr. Elmendorf. So the procedure that we follow and have
followed for years is to take the latest level of
appropriations that the Congress has approved and then to
increase that over the remainder of the decade with our
estimate of inflation so as to maintain the same inflation-
adjusted or real level of appropriations for those programs.
Senator Cardin. And the President mentioned the freeze for
5 years. Would that be different than what you had in your
baseline?
Mr. Elmendorf. Yes, that would.
Senator Cardin. Could you tell us what additional savings
would be brought in by the President's recommendation if we, in
fact, did a freeze on discretionary domestic spending over the
next 5 years?
Mr. Elmendorf. So we did a calculation that I think is
relevant. I do not know precisely what the President is
proposing, and, of course, he has not released his budget. But
we did a calculation that involved freezing all non-defense
discretionary spending except that that was directed by the
Subcommittee on Homeland Security of the Appropriations
Committee. And if one freezes that for 5 years and then at the
end of the 5 years increases with inflation, but at a level
that remains below the level that would otherwise have been in
place, the savings over the decade are about $400 billion.
Senator Cardin. Thank you. Now, you mentioned three policy
issues that are not in your baseline but are actively being
considered by Congress for extension: the alternative minimum
tax, the extension of the tax issues that were passed in
December, and the physician reimbursement under Medicare. Let
me take them, if I could, separately.
Could you give me a comparable number as to what negative
impact each of those three policies would have on your
projections?
Mr. Elmendorf. Yes, I think I can. For other people, there
is a table in our outlook, Table 1-7 on page 22, that gives the
budgetary effects of a variety of policy alternatives from
which these numbers are drawn.
The effect of extending the income tax and estate and gift
tax provisions, scheduled to expire at the end of next year, is
about $2.5 trillion over the decade.
The effect of indexing the AMT for inflation is about $700
billion over the decade.
In fact, there is an interaction between those two
policies. The money collected under the AMT depends on the
level of regular tax rates. So if one both does the extension
and indexes the AMT for inflation, there is another almost $700
billion of revenue.
So the extension of those tax provisions and indexing the
AMT together add $3.8 trillion to deficits over 10 years, and
then additionally there would be extra interest costs as well.
The effect of maintaining Medicare's payment rates to
physicians is about $250 billion over the decade.
Senator Cardin. Thank you. The reason I mention that is
that, you know, we spend a lot of time on the spending bills
here, and there is a lot of pain as we talk about bringing down
Federal participation in programs that our local governments
need or we need for our roads or we need for those who are the
most vulnerable. And we have to do that. I think we all
understand that. Part of bringing the budget into balance is
that we are going to have to make those types of sacrifices. If
we do that, we will bring about savings in the budget.
But then if we talk about the tax issues and just say, OK,
well, you know, taxes are different, it pales in comparison,
the extra deficits, what we are doing on the tax side based on
all the good work we do on the spending side.
Now, I have not gotten to the military yet. Your baseline
assumes what for military spending?
Mr. Elmendorf. Well, as for non-defense spending, we take
the latest level of appropriations provided by the Congress and
increase that with inflation. Under the current circumstances
where a good deal of money is being spent in Afghanistan and
Iraq, that level may not be a good representation of what you
or your colleagues would think of as the sort of base level of
defense spending you would like to provide. And we also provide
in the same table in the outlook some alternatives that involve
different paths for defense spending.
Senator Cardin. So you are taking a lower projection for
the future than using the current----
Mr. Elmendorf. No. We are taking the current. That is what
I am trying----
Senator Cardin. But you believe there will be some savings
in the next 10 years as far as the spending in Afghanistan, or
you----
Mr. Elmendorf. Well, I am just saying that you and your
colleagues have often asked us the question about, well, we
think--you think this is higher than what you anticipate to
provide in the future, so----
Senator Cardin. So your baseline starts with the current
level of military action that we are participating in.
Mr. Elmendorf. Yes.
Senator Cardin. So if, in fact, we bring down the military
action and do not have to spend as much on our soldiers
overseas, we can bring some back, that in and of itself would
give us some savings that are not in your baseline.
Mr. Elmendorf. Yes. In and of itself--let me just add----
Senator Cardin. I understand there are going to be
tradeoffs.
Mr. Elmendorf. Let me just add quickly, when Secretary
Gates has talked about savings that he would like to implement
in the base defense budget, not counting those operations, the
savings that he is discussing is from a higher level than our
baseline. He is discussing savings relative to the budget plan
that the Defense Department has put out. So those savings bring
down that budget plan in the direction of but not all the way
to our baseline.
Senator Cardin. Of course, if the recent years are any
indication, the numbers are going to probably be higher,
because they have been higher than, I think, your--if we go
back 3 or 4 or 5 years ago, what CBO's baseline was on military
spending as to what we are spending today, we are spending
more, if I am----
Mr. Elmendorf. Well, so part of the problem is that
depending on where in the year we have done the projections,
whether the Congress has at that point enacted the sort of
supplemental appropriations that have gone for overseas
contingency operations, we tend to be extrapolating first the
higher number, then a lower number, then a higher number. There
has been an odd sort of ping-ponging that I think has been hard
to follow.
Senator Cardin. My time is up. I wanted to do the same
thing with the entitlement spending. I did not have a chance to
go through the analysis. But I guess my point is this: All of
the major areas need to be on the table, and that was, I think,
the credibility of the Debt Commission, Mr. Chairman. I must
tell you, I think all of us were proud that the recommendation
was balanced. Again, you know, we do have problems with
provisions, but you have to have all at the table. Let us not
just pick on discretionary domestic spending.
Chairman Conrad. Thanks, Senator.
Senator Cornynis next. I want to welcome Senator Thune to
the Committee. He was not here when we welcomed new members. I
want to extend our welcome to Senator Thune as well to the
Committee. We look forward to working with you.
Let me just indicate to members, I try not to interrupt
Senators when they are questioning, even though they may be at
the end of their time. If you will kind of look, when I hold up
the gavel, I prefer not to tap it on members, but if you will
try to stick close to the time, in fairness to others.
Senator Cornyn.
Senator Cornyn. Thank you, Mr. Chairman.
Dr. Elmendorf, welcome, and let me start out by saying how
much I, and I know other members of the committee and Members
of Congress, appreciate the professionalism and integrity of
your office. I know the numbers that you report are often
batted around and spun in different ways, which must be a
source of tremendous frustration to you, but you have always
seemed to keep your cool despite that, and it is important that
we get good numbers and thank you for that.
Mr. Elmendorf. Thank you, Senator. That means a lot.
Senator Cornyn. You know, unfortunately, when we talk about
the budget and the economic outlook, though, I feel like Mark
Twain when he said, ``Everyone talks about the weather but
nobody ever does anything about it.'' I think Congress is
guilty of that, and that is why I was pleasantly surprised, Mr.
Chairman, when you and other members of the President's Fiscal
Commission came out with what I thought was a bold and dramatic
and sobering report. And so I hope, and I still hope, that we
will take the opportunity to deal with this crisis, and I do
believe it is approaching a crisis. We do not know when the
tipping point will come, but we are almost there. And so we
cannot just talk about the economic outlook and the budget. We
have to do something about it. I do think that there is an
opportunity, a window for us to do it.
Now, I heard you say we have to be careful about the pace
of some of the austerity measures because it could further
depress the economy, and I hear you loud and clear on that. But
I think the political reality is we have a short time to do
this, and if we do not do it within this six to 9 months, then
the opportunity will be lost.
So I am anxiously awaiting the President's budget, which
will come the week of February 13, to see whether the President
himself is serious about the crisis that was so well documented
and explained by his own Fiscal Commission, and I hope that
opportunity is not squandered by the same old, same old sort of
thing that seems to happen time and time again.
But just to--I know we have talked a lot about the need to
cut, but you alluded to the crowding out effect of more Federal
Government borrowing on private access to private credit and I
would like to just talk to you briefly about the importance of
not just cutting, but growing the economy. I know when Senator
Portman was over as OMB Director at the beginning of 2007, the
budget deficit was 1.2 percent--1.2 percent. Now, it is around
10 percent. One reason why it was low is not because we were
not spending money, because we were, but because the economy
was booming. Jobs were being created. The coffers, the Federal
Treasury was getting a lot of money. But now, for the reasons
the Chairman mentioned, not only are we continuing our bad
habits in terms of spending, indeed growing spending, the
amount of money coming in because the economy is hurting,
because people are out of work, losing their homes, it is a
double whammy.
So let me ask you, on page 51 of the Budget and Economic
Outlook, you have some economic projections in terms of growth
of our Gross Domestic Product, and I believe I heard you say,
and this appears to say on page 51, that in 2011, you are
projecting the Gross Domestic Product to grow at 3.1 percent,
is that correct?
Mr. Elmendorf. Yes, that is right.
Senator Cornyn. Can you tell us at what point, how much
growth of the Gross Domestic Product is required to see a net
increase in employment? In other words, I assume with new
people entering the work force that there is a level--I have
heard it before, but I cannot recall the specific number--is
there a range of growth that we need to see before we are going
to start to see the unemployment rate coming down?
Mr. Elmendorf. Well, at that pace that we project, Senator,
we think the unemployment rate will begin to come down, but
slowly. We think that the potential growth rate of the
economy--I should explain what I mean by that, that apart from
the cyclical issues, if the labor force were almost fully
employed, if productive capital were almost fully in use, that
the economic output would grow by maybe up to 2.5 percent a
year. So if economic growth exceeds that rate, then we are in
the process, we think, of closing the gap a little bit between
the potential level of output and the actual level of output.
That means putting people back to work again and putting
equipment and plants back to work again.
Senator Cornyn. Chairman Bernanke testified a couple of
weeks ago that he thought by 2012, we would still see
unemployment stubbornly high, in the 8 percent range. Do you
agree with that, or what is your view?
Mr. Elmendorf. Yes, I do. So we think that the unemployment
rate will be down to about 8.25 percent by the end of 2012.
That is better than it is today, but obviously still well above
the level that we have seen in strong economic conditions in
the past.
Senator Cornyn. Since time is so short, let me just
conclude on some matters that are of grave concern to me, and
that has to do with energy costs and some of our policies
emanating here from Washington having to do with our domestic
energy supply.
First of all, I do not think it is any secret that the
moratorium that was imposed on drilling for oil in the Gulf of
Mexico, and now that the formal moratorium is lifted, what is
sometimes called the ``permitorium,'' the failure of the
bureaucracy to issue permits to responsible producers to
develop domestic energy, that it is having a dramatic negative
impact on employment, particularly in the Gulf Coast States,
but the ripple effect throughout the economy.
Likewise, we have discovered in the last couple of years as
a result of modern technology a huge amount of natural gas here
in America that is available from shale formations. I guess as
I heard the President talk about green jobs, which sounds very
good, and certainly we are all for conservation, looking for
ways to protect the environment as we develop energy sources, I
was concerned that there was not a whole lot of talk about what
I would call red, white, and blue jobs, and those are jobs
created from our domestic energy sources.
Let me just conclude on this, and I know the Chairman has
held up his gavel, but let me conclude on this and say, what do
you see in terms of energy costs, rising energy costs,
particularly gasoline costs? We see $4 a gallon gasoline by
summer. What are the rising costs of energy going to do to our
economy?
Mr. Elmendorf. I do not know offhand what our projection
is. Normally for oil prices, which are an important economic
factor, of course, we look to the futures markets as our
starting point and follow the path that people buying and
selling the right to have oil in the future, look at the price
that they are putting on the oil. I do not think that calls for
further large increases at this point in the price of oil. I am
not sure about gasoline prices.
Mr. Dennis. Oil prices are here.
[Document handed to Mr. Elmendorf.]
Mr. Elmendorf. OK. So oil prices, we have rising. They are
now about $90 a barrel. We have them rising to about $100 a
barrel by 2017 and $110 a barrel by 2020. Of course, as we have
seen historically, the price of oil can easily shoot up well
beyond that and can fall well short of that for periods of
time. So I think this is an aspect of the forecast that you
could picture having a very large confidence range around these
numbers. But we think this is consistent with what is in
futures markets and with the historical experience.
Senator Cornyn. Certainly, if a conflict broke out in the
Middle East and people became concerned about it, those numbers
could skyrocket almost immediately, could they not?
Mr. Elmendorf. Yes. That is right, Senator.
Senator Conrad. Thank you.
Chairman Conrad. Senator Wyden.
Senator Wyden. Thank you, Mr. Chairman, and Dr. Elmendorf,
thank you for all your good work.
In the middle 1980s, Democrats and Ronald Reagan got
together. They got together on taxes, cut taxes, kept
progressivity, and grew the economy. And we found a startling
number a few days ago. In the 2-years that followed that
bipartisan work, the economy created 6.3 million non-farm jobs.
That is twice as many jobs as were created between 2001 and
2008, when tax policy was partisan.
Now, in your analysis, you, of course, just assume that
between now and 2012, there will be no changes, and then after
2012, we will see what happens. What could you tell us--and
this, of course, would just be a very rough analysis--would
your fiscal outlook be if, say, in the next 2 years, Democrats
and Republicans picked up on the kind of work that was done in
the 1980s and grew the economy? Can you give us any sense of
how your fiscal outlook would change? Obviously, it would
change because you are not making any calculations based on
anything else being done. But just what roughly would you
suggest might be part of the changed fiscal outlook if a tax
reform along the lines of what was done in the 1980s was
enacted?
Mr. Elmendorf. As you know, Senator, my capacity for
analysis usually falls well short of your questions. As a very
general matter, it is a widely held view among experts that a
tax code that had a broader base, with fewer special
exemptions, deductions, credits, so on, and thereby could have
lower tax rates to raise the same amount of revenue, would be a
more effective tax code in terms of raising revenue while
producing less distortion to private economic behavior.
So all else equal, and there is a lot being swept into that
phrase from your question, a tax code with a broader base and
lower rates is one that we would expect to be more conducive to
economic growth. But, of course, we would have to look at----
Senator Wyden. Which would mean that the fiscal picture you
have painted today would not be quite the bleak one that you
have offered.
Mr. Elmendorf. Not quite as bleak. As you understand, the
gap between spending and revenues under extension of these
policies that have been extended in the past is very large.
That is not a gap that the economy can grow its way out of even
with----
Senator Wyden. Understood.
Mr. Elmendorf [continuing]. The world's best tax system.
Senator Wyden. Let us talk about the international
implications of tax law for a minute, if we can. I am very
interested in seeing the corporate rate cut considerably and
have proposed cutting it from 35 to 24 in order to encourage
manufacturing in the United States. In effect, that would
provide us an opportunity to repatriate some of the money that
is parked overseas back here in the United States again to grow
the economy.
Have you all done any analysis with respect to an approach
that, in effect, would promote that kind of repatriation
through a tax code that incented job growth in the country?
Mr. Elmendorf. I do not think we have studied that in
particular, Senator. We actually are doing some work right now
on different approaches to taxing international corporations in
work that we hope to present to the Congress in a few months. I
do not think we have studied that particular proposal, at least
as of yet.
Senator Wyden. I hope you will, and I will followup with
your staff on it because I think it is important. I think we
know that billions and billions of dollars are parked offshore
right now and we ought to make it more attractive to repatriate
that money through tax law and incent private sector job growth
in our country.
I am going to ask you the same question I asked Dr.
Bernanke with respect to tax law, and that is the effect of
doing just corporate tax law changes rather than individual tax
law changes at the same time, because my sense is, because most
businesses pay taxes as individuals, not as C Corporations, you
really have many interactions. And Dr. Bernanke said that he
thought tax reform needed to be done in a holistic way,
corporate changes and individual changes concurrently. Do you
generally share that view?
Mr. Elmendorf. Well, I think from the perspective of an
analyst, tackling all the aspects of a general problem at once
seems most effective. Of course, it is up to you and your
colleagues to judge how many changes you can think through and
agree upon in a finite period of time. I mean, as you
understand, both the corporate tax reform and individual tax
reform agendas are incredibly long and complicated. But yes, I
think from an analytic perspective, trying to think about all
the pieces of the tax code together would be most effective and
most appropriately.
Senator Wyden. I simply think the interactions between what
individuals pay and what businesses pay is now so intertwined
with sole proprietorships, LLCs, partnerships, and others that
to just say you are going to split off one piece of the tax
code and touch on reform there is to vastly oversimplify this
and create a lot of distortions.
One other question. What are the growth implications of
doing taxes on a temporary basis? Let me just read you a
sentence from the Wall Street Journal toward the end of the
year, and I will quote it. ``The United States now has no
single permanent tax regime for levies on salaries, capital
gains and dividends, a Social Security tax, or a slew of
targeted breaks for families, students, and others.'' So in
effect, what America has done is to put the tax system on a
permanently temporary basis. We are phasing things in. We are
taking things out. We have a permanently temporary tax code.
What are the growth implications of having something that
is now a gerry-built, temporary system rather than to look, as
I tried to do at those 1986 numbers, which to me are just eye-
popping. To think that when Ronald Reagan and Democrats got
together, in 2 years, they created more jobs than you saw in 8
years of partisan tax policy, what would be the benefits of
looking beyond a temporary approach?
Mr. Elmendorf. I think the temporary nature of our current
tax system, if you will, is damaging to the economy. We hope
and expect that businesses and families are planning ahead,
that they are making decisions now, making investments for the
future, and it is very difficult for them to make those sorts
of decisions in an informed and thoughtful way if the tax rates
that will apply to them a year or two or three or four down the
road are so uncertain. And I think that resolving that
uncertainty would encourage and support household decisions,
business decisions, investment, and hiring, probably.
Senator Wyden. Mr. Chairman, my time has expired, but
because we are all going to be working closely under your
leadership over the next 2 years, I want to touch on this last
point that Dr. Elmendorf made about the nature of a temporary
set of tax policies. If we have, Mr. Chairman and colleagues,
the same debate in the lame duck session of 2012, where we are
once again talking about extending the tax law today for two
more years, Dr. Elmendorf has told us that will be damaging for
the economy and the country. So with your leadership and
Senator Sessions, my hope is that this time, over the next 2
years, we can make permanent pro-growth changes to tax law, get
it done in this Congress, and not just re-litigate another set
of temporary tax law changes in the lame duck session of the
2012 Congress which Dr. Elmendorf has just told us would be
very damaging.
Mr. Chairman, thank you for that extra time, but I think
the point Dr. Elmendorf made is especially important there at
the end.
Chairman Conrad. Thank you for that.
Senator Sessions is now back. He was at another hearing
that required his presence. I think it is probably most
appropriate that we go to him for any opening statement he
would want to make and then we will resume questions.
OPENING STATEMENT OF SENATOR SESSIONS
Senator Sessions. Thank you, Mr. Chairman. It was a
critical hearing that I had to be at involving my State----
Senator Wyden. Your microphone is not working.
Senator Sessions. Maybe I can just move over here.
Chairman Conrad. It is working now.
Senator Sessions. OK. That is better. Senator Wyden,
fundamentally, you are absolutely correct. I mean, a permanent
tax policy is better than an uncertainty, and we have too much
uncertainty in our economy and we do need more stability. You
have come forward with some proposals and ideas that I think
are worth serious consideration and I look forward to working
with you on it. I truly believe that you are attempting to
accomplish something in an effective way.
I congratulate you, Mr. Elmendorf, for your reappointment
at CBO. You have carried out your duties, I believe, with
honesty and integrity and I look forward to working with you
again. You have some rather specific controls on how you score
and evaluate matters. It is not your fault. They have been
established and you follow them, I think, objectively, whether
we like the outcome or not. The rules are set up mostly by
Congress.
So we got the new baseline from CBO yesterday. The news was
not good. Our deficit is expected to reach nearly $1.5 trillion
this fiscal year as of September 30. That is well above what we
were projecting not long ago. Our gross debt is expected to
reach 100 percent of GDP, meaning the amount of all the money
our nation owes will soon be equal to the value of everything
our nation produces. That is above the level, the 90 percent
level that Rogoff and Reinhart can calculate in their fine,
valuable book and analysis of nations who have defaulted on
their debts. The 90 percent rate is significant. They find it
is a significant number, and we are above that.
Forty cents of every dollar we spend is borrowed. By the
end of the decade, the interest on our debt is expected to rise
to nearly $750 billion in 1 year. That crowds out spending.
People would like to spend more on a host of projects, and I
would like to do that, too, but we are going to have $750
billion less because, first, we have to pay interest on the
surging debt that we have.
Former Federal Reserve Chairman Alan Greenspan said
recently that we have almost a 50-50 chance of a bond market
crisis in the next 2 years. That is the quote up there. It was
apparently at the Wall Street Journal interview, and I thought
that was something that we should hear. I mean, this is a man
of wisdom. He has been around a long time and he said the only
question is will this debt bond crisis be before--excuse me,
that the kind of budget numbers that we need be passed before
or after the crisis. It would be a lot better, I think we would
all agree, critical, actually, that we do it before the crisis.
So the path we are in unsustainable, yet I have to say that
President Obama in his State of the Union Address announced
fundamentally we would just continue as we are. To hear the
President's remarks, one would think his speech had been
written 10 years ago. They were disconnected from the reality
of the debt crisis that we face.
Earlier this week, I said his State of the Union Address
would be a defining moment for his Presidency and I do not
think he rose to the occasion. It was a timid speech. It
squandered a historic opportunity to rally the American people
behind true spending reform. He had the opportunity to look
them in the eye, say what the real dangers we are facing are,
and call on us to meet the challenge as Americans will, if
properly called. It was far short of the standards set by
Governor Chris Christie in New York and Prime Minister David
Cameron in the U.K., in Britain, who are making tough choices.
No one forced Mr. Obama to be President. As my wife says,
do not blame me. You asked for the job. He asked for this job
and he has a real tough job now, and I think he did not lead
effectively. He proposed instead that we continue a 5-year
plan, and this so-called freeze on domestic spending is not a
plan to reduce deficits. It is a plan to preserve the deficits,
really locking in place the very spending levels that had been
dramatically increased by President Obama in the past 2 years.
The plan is remarkable not for its strength, but for its
weakness. In defense of his proposal, the President argued that
the government spending is the engine of the economy, that the
government is the engine of the economy, basically, and he had
this airplane metaphor backward. The engine of our economy is
the private sector, not the public sector. When the private
sector grows, it creates jobs, new industries, new ideas, and
more tax revenue. But when the public sector grows, it simply
consumes more of what the private sector produces and big
government waste is funded on the back on small business
thrift.
The American people deserve candor and directness from the
elected officials. The money to sustain the President's big
government vision, the more investments he called for, is
simply not there. We do not have the money. Meaningful spending
reductions are not a choice, they are an obligation. There is
no serious alternative. We need to take the tougher road, but
the road that leads to prosperity. Reducing the size and cost
of government may not be easy, but it is the only responsible
course, the only one that will lead us to a better future.
So, Mr. Elmendorf, I look forward to discussing the issues
with you now and as we go forward through the next years.
Together, I believe we can make some progress.
Mr. Chairman, there is nobody that has seen this and
studied it more carefully than you, and I look forward to
seeking your advice as we go forward, also.
Chairman Conrad. Thanks, Senator Sessions. You know, it may
turn out it just falls to us on this committee to put forward a
plan. It may be that since the Commission did not get 14 of 18,
it may just be that we have to go back to a process that worked
on this committee when I first came here, which is to have a
real markup and for this committee to lead.
Frankly, I have never thought that on a problem of the
dimensions of this one, where we typically do 5-year budgets,
almost always do, in this circumstance, which really requires a
plan that extends way beyond 5 years, that this was not the
forum to sort it out. But I am not sure anymore. I am not
certain that it is not going to fall to us to put a plan out
there for our colleagues on the floor. I am going to be having
discussions with members of the committee on both sides to see
what the feeling would be about our taking this on and laying a
plan before our colleagues, because this is the Budget
Committee. Even though we have typically been limited to 5-year
plans, maybe we are the only ones who are going to have the
opportunity to lay out a comprehensive plan absent some kind of
summit.
I prefer, I think the thing that makes the most sense is
there is a summit between the White House leaders and the House
and the Senate, because at the end of the day, the White House
has to be at the table, and unfortunately, in the congressional
budget process, the President is left out. The President sends
us a budget, but then Congress passes a budget and it never
goes to the President. It never goes to the President for his
signature or his veto.
But if there is not going to be a summit, there is not
going to be some kind of negotiation, maybe it is going to fall
to us on this committee to put forward a plan.
Senator Manchin is next.
Senator Manchin. First of all, let me congratulate you on
your reappointment.
Mr. Elmendorf. Thank you, Senator.
Senator Manchin. We are glad too that we all agree on
something. With that being said, sir, a couple questions very
quickly.
On health care, as you know, you scored health care, and
you see where we are right now with the bill being sent over in
a repeal, and I have heard of the $200 billion score on that
that it would cost us. Can you elaborate on that and a little
bit about the mandates, what the mandates would do if they were
eliminated? And also from a State's perspective, the 133
percent, Medicaid. And I am not sure if anyone really
understood where we were--as States at that time, where we were
coming from, the Governors were coming from. Most States do not
cover 50 percent of the people that qualify, and we jumped
from, let us say, the 50 percent all the way to 133, which we
had a hard time swallowing. If you could talk about that, and
then I have one final question, sir.
Mr. Elmendorf. OK. You raise a lot of complicated issues
there, Senator.
The original legislation as enacted last March, both the
Patient Protection and Affordable Care Act and the health care
parts of the reconciliation act, set in place substantial
expansion of Federal entitlements for health care and paid for
that expansion by setting in place new tax revenues and by
trimming money from existing health program, in particular
Medicare, and by trimming the money from Medicare in a way in
which the gains to the Government budget would increase over
time because the trimming was of a sort of reducing the rate of
increase of payments to providers. And in our analysis, the
combination of the extra tax revenue and the reductions in
spending laid out in the legislation exceeded the cost of the
new entitlement, so the legislation had in our assessment last
March a small positive effect on the Federal budget.
Therefore, in the preliminary analysis that we prepared in
time for the House vote, we concluded that repealing that
legislation would have a small negative effect on the Federal
budget. We are in the process of constructing a full cost
estimate of the repeal legislation and which we make available,
of course, as soon as we have completed it.
One of the many questions we were asked along the way of
the health debate of the past 2 years, in addition to the
Federal budgetary effects, was the effect on State government
budgets. And as you said, the expansion of Medicaid in that
legislation put additional burden on States. The expansion was
set in place in a way where the Federal Government would pay a
larger share of the cost of the new people made eligible for
Medicaid than it does under the current Medicaid program but,
nonetheless, would not pay all of that bill. And, in fact, the
share the Federal Government will pay of those newly eligible
people actually declines a little bit over time.
Our latest estimate is that the State's share of the costs
associated with that Medicaid coverage expansion will be a
little over $60 billion during the 2011-2021 period, the period
covered by this latest outlook.
Senator Manchin. But 2014, that is when the States--it
basically goes into effect, the expansion of Medicaid?
Mr. Elmendorf. Yes, that is right. We tend to report 10-
year numbers--11 years counting now, but, yes, it is
principally 2014 and beyond. It is not our place to judge, of
course, how States can deal with that or whether it is
appropriate to do that. I will say that estimate incorporates
our expectation of changes in State behavior in response to the
higher burden that they will face. So our estimates cannot
incorporate changes in law that you and your colleagues might
implement at the Federal level----
Senator Manchin. Yes.
Mr. Elmendorf [continuing]. But our estimates do
incorporate responses by families and businesses, in this case
it is doctors, and in this case by State government.
Senator Manchin. If you would do me a favor, because I want
to move on to another question, if you would just give me--and
if you could score the reduction from 133 to 100.
Mr. Elmendorf. I would have to talk to you about----
Senator Manchin. 133 to 100, and also if the mandates were
removed and if there is an offset there. If we could talk about
that after.
Mr. Elmendorf. Yes, we will talk with you, Senator.
Senator Manchin. The other thing, the Debt Commission, I
was very proud of the Debt Commission. I will tell the Chairman
that, and everybody that worked so hard and the courageous
stance you all took, and I appreciate that very much. But, you
know, in West Virginia every family sits down and works through
their budgets, and they set a budget and stick with it. Most
States have a budget balance amendment, and I want to know what
your thoughts would be for this Federal Government, because it
does not seem to me that we are ever going to have the will to
tackle the problems that we have to and the votes that are
going to have to be made unless there is a balanced budget
amendment that forces us. And it would do it over a period of
time because ratification would take some time to do it, and it
would give us a chance to get our financial house in order. But
it sets a firm grip, and you know the States are going through
some very, very challenging, difficult times and making some
difficult cuts, and they are looking at the Federal Government
and saying, ``Why can't you all do it? We are doing it. We are
taking these severe cuts. We are making these tough votes. But
we do not see anything coming from Washington.''
If I could hear your response on a balanced budget
amendment on constitutional change of how we do business in
Washington.
Mr. Elmendorf. So, Senator, I do not think it is
appropriate for me to make a recommendation for or against that
sort of change, but----
Senator Manchin. Can you tell me if it would be----
Mr. Elmendorf. I would make a few observations.
Senator Manchin. Yes.
Mr. Elmendorf. I think one is that the set of budget rules
set in place in 1990 regarding caps on discretionary spending
and a pay-as-you-go system for mandatory spending and taxes
seemed to analysts to have been effective at helping to guide
decisions of the Congress, as long as there was the focus in
the Congress on the deficit reduction. Once the budget improved
and that focus dissipated, then those restrictions were no
longer effective. It was the----
Senator Manchin. But wouldn't a balanced budget amendment--
--
Mr. Elmendorf [continuing]. Combination of rules----
Senator Manchin [continuing]. Hold this check in balance?
Mr. Elmendorf [continuing]. And the focus in the Congress.
Amending the Constitution to require this sort of balance
raises risks that you are aware of. The automatic stabilizers
that the Government has, the Federal Government has, the fact
that taxes fall when the economy weakens and that spending and
benefit programs increase when the economy weakens in an
automatic way under existing law is an important stabilizing
force for the aggregate economy. The fact that State
governments need to work, as you said, against those effects in
their own budget, need to take action to raise taxes or cut
spending in recessions undoes the automatic stabilizers
essentially at the State level. Taking those away at the
Federal level risks making the economy less stable, risks
exacerbating the swings in business cycles.
Senator Manchin. But you would agree that we are very
unstable right now?
Mr. Elmendorf. Yes, the automatic stabilizers are not
perfectly stabilizing, but taking them away would have costs
that you and your colleagues would have to weigh.
The other thing to say, of course, is that that amendment
does not suggest--it does not by itself say how you or your
colleagues would change taxes or spending----
Senator Manchin. Would you be asked to score a balanced
budget amendment?
Mr. Elmendorf. No, I do not believe that we score
amendments to the Constitution. We estimate the effects of
legislation that you and your colleagues are considering.
Senator Manchin. That would be good. I would like to talk
to you further about that, but the balanced budget amendment is
very, very important to me and to every Governor, to every
State, to every household, especially in West Virginia. And if
they can do it, they think we can do it also.
Senator Sessions. Mr. Chairman, I did not ask any questions
on my first comment. Could I have just 2 minutes to ask a
question?
Chairman Conrad. Senator Ensign, is that OK with you?
Senator Sessions. Without Senator Ensign losing his place.
Chairman Conrad. OK. We sort of have an unusual situation.
It is a little unfair to do that, but you are the Ranking
Member, so we will make an exception.
Senator Sessions. You are a great Chairman, and I thank
you.
[Laughter.]
Senator Sessions. Magnanimous.
Governor Manchin, with regard to the score of the health
care bill, Mr. Elmendorf, the money that you have referred to
that came in through the bill was Medicare trims or Medicare
cuts and tax increases, most of which were Medicare tax
increases, I believe, and that money was used to fund the new
program.
But two things are important. First, Mr. Elmendorf has made
crystal clear you cannot count that money twice. It cannot
increase Medicare and fund the new program. This is a very
serious matter that we are talking about. Very serious. And so
isn't it true that the Treasury--the new health care program is
not given new money to fund the new health care program, but
the money they got from the Medicare tax increases and the
Medicare cuts is borrowed by the Treasury and that the Treasury
owes that money back when Medicare continues in default or goes
into default and claims its money back?
Mr. Elmendorf. So let me try to--so Senator Sessions is
referring to a set of letters that we sent at his request in
December of 2009 and January of 2010, and the way I would
describe this is that the analysis that CBO does of legislation
is done on a unified budget basis, taking into account all the
pieces of spending and revenues. And we report the net effect
of legislation on spending and revenues and the deficit as a
whole.
The cutbacks in Medicare spending, which were large in that
legislation, as I have said, together with revenue increases,
more than offset in our judgment the extra spending on the new
health entitlements and expanded health entitlements.
It is also the case, as you are saying, Senator, that the
savings in Medicare, and particularly the savings in the
Hospital Insurance part of Medicare, HI or Part A of Medicare,
then lead to a greater accumulation of bonds in the HI trust
fund. As we wrote in the letter to you, those bonds have
important legal meaning. They are real U.S. debt backed by the
full faith and credit of the U.S. Government like the debt sold
to the public.
They do not have independent economic meaning in the sense
that the fact that the trust fund has an accumulation of bonds
does not give the trust fund some separate way to pay Medicare
benefits, except, as you say, Senator, by coming back to the
Treasury, redeeming those bonds, and getting that cash in the
future.
Another way to say that is just that paying Medicare
benefits in the future relies on tax revenue that will be
raised in the future or borrowing that will be done in the
future, cannot depend directly on the bonds in the trust fund.
Senator Sessions. I think that is fair. I think all of us
need to understand that. But I would go a little bit further.
It increased the internal debt of the U.S. Treasury because the
money expended for the health care program is borrowed from
Medicare, at least a substantial portion of it. And when
Medicare, since we know it is going into default, inevitably
will call those bonds, the United States Treasury will either
have to raise taxes or borrow it on the economy or deflate the
currency, which are the three choices governments have. Isn't
that basically correct?
Mr. Elmendorf. I mean, you are right. The money is being
borrowed from the Medicare Trust Fund, and that----
Senator Sessions. It increases the internal debt, the gross
debt of the United States.
Mr. Elmendorf. And it increases the gross debt of the
United States, yes, absolutely.
Chairman Conrad. I thank the Senator, and I thank him
actually for making the point because we have that same issue
with Social Security. You know, the hard reality is--I hear it
all the time. Social Security has trillions of dollars of
assets. That is true. There are trillions of dollars of assets.
They are special purpose bonds backed by the full faith and
credit of the United States. Those are real assets. The problem
is the only way those bonds are redeemed is out of current
income, and Social Security is going to go permanently cash
negative in 5 years.
So I have to say, those who have--and I have received the
lash from those who say, well, you should not have to touch
Social Security because there are trillions of dollars of
assets. It is true there are trillions of dollars of assets. It
is true that they are backed by the full faith and credit of
the United States. It is also true that the only way those
bonds get redeemed is out of the current income of the United
States. And we are about to see a dramatic shift in the budget
circumstance when we go to having hundreds of billions of
dollars a year of surplus in Social Security that the general
fund could borrow to having a circumstance in which there are
hundreds of billions of dollars of debt that has to be serviced
out of current income.
Senator Ensign, I apologize to you because you kind of got
delayed here.
Senator Ensign. It is OK, Mr. Chairman. The important thing
is getting some of these issues out on the table. What you just
talked about I think is of absolute critical importance. You
talked about the full faith and credit of the United States.
That is really what we are dealing with here.
The Chairman held up, at the beginning of your talk, about
Moody's and Standard & Poor's, talking about the AAA rating of
the United States. Japan was just downgraded to AA. What would
a downgrade from AAA to AA of the United States credit rating
do to the interest rates and do to your budget projections?
Because, by the way, your budget projections, in my opinion--I
know you all try to be conservative, but just as we have seen
last year, I think this year you projected a $1.1 trillion
deficit last year, the year before for this year, right? And it
turned out to be 1.5. And some of that was because of the tax
policy that was passed at the end of the year. I realize that.
I am going to ask a question on that. But the bottom line is
these things can change radically very quickly, and this full
faith and credit idea, this idea of if the bond raters
downgrade our bonds, if the Fed is successful--and a lot of
people think they are going to be successful in raising
inflation, because that is what they are trying to do right now
with their monetary supply. Those all lead to higher interest
rates, higher than what you are projecting. And so that is
basically the question. If it goes to AA, what does that do to
your projections for this deficit?
Mr. Elmendorf. So if the Federal Government's credit rating
were lowered, that would certainly push up the interest rates
the Government would pay, and thus the interest payments we
would have to make. We have not attempted to quantify how much
a given reduction in rating would affect interest rates, but it
certainly would be an adverse effect for the budget.
Senator Ensign. And it would not be insignificant. it would
be very significant. Would you agree with that statement?
Mr. Elmendorf. I think it would be significant, Senator,
absolutely.
Senator Ensign. Yes. And so the point is here we do not--I
think that you talked about this. The sooner we make these
changes, maybe the--they are going to be painful. But the
sooner we make them, maybe a little less painful. As Alan
Greenspan talked about, we are going to have to make these
changes. It is just a question of do we do them in the middle
of a crisis or do we do them to avoid the crisis. And that I
think is the significant part of this.
Senator Cornyn mentioned, and, actually, I think Senator
Sessions mentioned, we need Presidential leadership right now,
and the Chairman has talked about this, talked about this
Committee doing its job. I could not agree more. The President
needs to lead right now. These issues that we are talking
about--and you have been around. You have seen this, Dr.
Elmendorf. These cuts--it is much easier to get reelected by
giving money away, OK? None of us want to make these tough
political votes. But we have a Democrat President, a Republican
House, and a Democrat Senate right now. In my opinion, if the
President would lead, join the two parties together, we could
do actually what is right for the American people. But it is up
to him to lead. He is the President. He is the only one with
the bully pulpit. Our little microphones here do not echo
through the country. He had it on the State of the Union. I
think he failed on the State of the Union, personally, but he
still have plenty of opportunity. We have the CR coming up. We
have the debt ceiling coming up. There are other opportunities.
He has his budget coming up. We have plenty of opportunities
for the President to lead. And forget our party labels. This is
about the future of our country. The debt that you are talking
about, the interest on the debt, you have said that is
unsustainable. It is. It is unsustainable.
Dr. Elmendorf, the reason you got reappointed by
Republicans and Democrats is because you do try to call, you
know, the fair shots. We do not always agree. You know, there
is always--because what you do is unbelievably difficult to
predict. But you play within the rules that you are given, and
some of the rules are not necessarily the best rules for making
the most accurate predictions as well. But the bottom line is I
think all economists agree that our country is in serious
trouble if we do not deal with this debt and deficit problem.
Four hundred billion dollars that the President talked
about the other night, what percentage of that is of the debt
that we are going to accumulate over the next 10 years based on
your projections?
Mr. Elmendorf. Well, under the baseline projections in
which these various tax provisions expire and so on, we expect
the Government will accumulate about $7 trillion in debt over
the next decade, so $400 billion is a little over 5 percent of
that.
Senator Ensign. It is a drop in the bucket, and actually it
will probably--we all think it will probably be lower,
especially if you talk about spending projections, if you talk
about the alternative minimum tax, if you talk about the doc
fix, if you talk about all those things that we know are going
to happen.
Mr. Elmendorf. So if we extend all of those expiring
provisions in the way that I talked about at the beginning, we
look for a debt of $12 trillion under that view of current
policy over the next decade. And $400 billion is a few percent
of that.
Senator Ensign. Yes, and as far as total spending during
that time, projected spending during that time, what percentage
of it? My back-of-the-napkin calculations are it is less than 1
percent.
Mr. Elmendorf. Yes, that is right.
Senator Ensign. So the President has basically said, OK, we
are going to reduce spending by less than a penny out of every
dollar, OK? When this country--all economists say it is
unsustainable. This country is literally headed for a financial
crisis that we maybe have never seen. And for us to sit here--
that is why it is so important for us, in my opinion, to join
together as Republicans and Democrats with the President to
tackle this problem.
You know, Mr. Chairman, what you said with the budget, I am
willing to join whoever it is, but we have to make such
difficult--these are going to be painful--politically painful
is what I mean by painful--politically painful choices to make.
I agree with Senator Wyden. We have to have the kind of tax
policy because you cannot just cut your way out of this. You
have to actually cut and grow. You have to do those at the same
time. It is the only way you are going to solve this crisis,
this financial crisis that could be looming on our country.
So I know there was a lot in there. The only last thing I
have is State pensions now, Moody's is talking about requiring
the States to put their pension obligations on their books. OK?
Now, you talked about these stabilizing factors. What does that
do potentially to, you know, the whole economic projections
going off into the future?
Mr. Elmendorf. So we are actually in the process of
completing an issue brief on State pensions, which we will
release very shortly, Senator. I think that is an important
topic. The issue about the stabilization was mostly in the
context of sort of year-to-year behavior of State budgets
during a recession, an economic downturn and a recovery. But as
you say, a very important long-term financial issue for States
and local governments is the commitments they have made to pay
certain benefits to retired government workers and whether they
have or have not put aside sufficient money to meet those.
Senator Ensign. Right. Mr. Chairman, I realize my time has
expired. Just a last comment. It is not in the future. You are
seeing this. My State is dealing with it right now. My cities
are dealing with this right now. Cities and States across the
country are actually dealing with this problem right now. They
know most of it is in the future, but it is actually affecting
their State budgets currently.
Mr. Elmendorf. Yes, that is right.
Senator Ensign. Thank you, Mr. Chairman.
Chairman Conrad. Thank you, and thank you for your
courtesy, Senator Ensign.
Senator Whitehouse. Thank you, Chairman. And with respect
to your comment about this Committee becoming a forum for doing
some of the significant debt and deficit work that we may need
to do, I can assure you that I am prepared for that work, and I
think every member of this Committee would be prepared for that
work. So if it is your judgment to proceed in that way, I think
you will find that you have both interested and hard-working
Senators who are prepared to engage in that discussion.
Chairman Conrad. I thank the Senator for that. You know, I
have thrown this out as an idea. I think it is going to take
discussion among all the members of this Committee. Again, I
personally would prefer that we have a summit that involves the
President and the leadership of the House and the Senate. But
if that is not to occur, it has to start somewhere.
Senator Whitehouse. Director Elmendorf, if you have an
insurance company and it collects premium in order to make
payments in the insurance program, it builds up reserves that
the insurance company holds. And there are times when fires
take place, Katrinas take place, lives that are insured expire,
and you have to draw on those reserves. And in those periods,
the insurance program may go cash negative but remain fully
actuarially sound.
As I understand it, our problem with Social Security is
that it is and has been actuarially sound, will be actuarially
sound through 2037; but that reserve fund of the incoming
premium that was set aside was not left alone. Congress took
it, borrowed it, left an IOU in its place, and spent it on
other stuff. But I think--I see you nodding. I think it is
important to point out that Social Security as a program is not
actuarially at fault for the need that we will have to fund the
cash needs. The problem that caused the need to fund the cash
needs is not that there is an actuarial problem with Social
Security, at least not for a quarter century. And I suspect
with the President's recommendation that you raise the payroll
tax cap, that even goes away and it becomes fully solvent
indefinitely. What has happened is that management went into
the reserves and took them out and spent them on something
else. And if this were a private company and I were still an
Attorney General, I would probably be prosecuting that
management. But this is Congress, and it is all done in the
light of day, and everybody was in on it, and it is part of the
way in which we have done business.
Is that a fair description of our Social Security problem?
Mr. Elmendorf. So let me just say, back to the parts that I
think I understand and that I think I agree with. Social
Security has sufficient resources, meaning the bonds held by
the trust fund, that together with the expected inflow of
payroll taxes it can meet benefits under current law for
decades to come.
As you are saying and as Senator Sessions said, and Senator
Conrad as well, the rest of the Government in a sense used the
cash, left the trust fund with bonds, which are valuable
assets. If you were running a private insurance company and had
U.S. Treasury securities in its vault, you would view that as a
pretty safe investment for that insurance company. The problem
is that the rest of the Government used that cash. If, in fact,
the Government had run surpluses equal to the saving of the
trust fund over all of those years, then the Government as a
whole would be in better financial shape due to the surpluses.
It would be in much better shape to meet those commitments in
the future. But, in fact, the Government has not run surpluses
commensurate with the increasing balances in the trust fund,
and thus, the Government has not improved its financial
condition using that money. It has mostly used that money for
other purposes. As Senator Sessions notes, the health
legislation enacted last March essentially does with the extra
money building up in the HI trust fund.
Senator Whitehouse. But it is not an actuarial flaw in the
Social Security program that causes the need to fund the
reserves. It is the fact that the reserves were removed and
spent on other things and now need to be replaced.
Mr. Elmendorf. I think that is fair, Senator, but I would
just say again CBO tends to look at the budget in a unified
budget sense.
Senator Whitehouse. No, I understand.
Mr. Elmendorf. In some ways, the underlying problem here is
to have a trust fund which is building up assets----
Senator Whitehouse. That has no funds and nobody----
Mr. Elmendorf [continuing]. Inside a budget that is
essentially a cash-flow budget. And that is true for the Social
Security trust funds, and it is true for the Hospital Insurance
trust fund in Medicare as well. And once one has a trust fund
building up assets inside a budget that is essentially viewed
on an annual cash-flow basis, there is intrinsically in that a
disconnect----
Senator Whitehouse. It is similar to the----
Mr. Elmendorf [continuing]. And the risk of the double
counting that Senator Sessions refers to, just to emphasize,
not that we cannot keep the numbers straight, but that one has
to be careful in thinking and talking about----
Senator Whitehouse. My time is running out. I am sorry to
interrupt. But is it not similar to the difference between a
liquidity shortfall and an insolvency problem? You still need--
--
Mr. Elmendorf. The Federal Government as a whole, there is
a problem that the total revenues that are expected to come in
are not up to the total spending expected to go out. And it is
really at the level of the overall Government that I prefer to
focus, and I think that budgeteers have focused for a number of
decades.
Senator Whitehouse. Let me go on to one other point. I do
not have a lot of time remaining, but it has been recently said
that our debt is the product of acts by many Presidents and
many Congresses over many years. I do want to single out one
President, and that was President Clinton. As I recall, under
President Clinton the Nation saw its first budget surpluses in
decades. And if my recollection is correct, in January of 2001,
immediately after President Clinton left office and when the
Bush administration assumed office, it was the finding of the
nonpartisan Congressional Budget Office, your operation, that
the Clinton era trends, if they had been continued forward,
would have led to a debt-free United States of America by the
end of the last decade. Is that correct? Do I recall correctly?
Mr. Elmendorf. I believe that is correct, Senator.
Senator Whitehouse. So I think it is fair in terms of that
to at least exempt President Clinton from responsibility for
our deficit. He left us on track to being an actual debt-free
Nation.
Mr. Elmendorf. So as you know, Senator, I do not take sides
on Presidents or Members of Congress. It is worth emphasizing
that a number of things happened in 2001 that the CBO baseline
projections in January of that year did not anticipate. One was
very important changes in tax policy, which our baseline is not
designed to anticipate. The other was----
Senator Whitehouse. But those were not----
Mr. Elmendorf [continuing]. A recession----
Senator Whitehouse. But those were not the fault of
President Clinton. He was out of office by then, correct?
Mr. Elmendorf. Again, I am not--I do not talk in President
terms. I am talking about----
Senator Whitehouse. They took place after the President had
left office.
Mr. Elmendorf. That is correct, Senator.
Senator Whitehouse. It is a matter of calendar.
Mr. Elmendorf. The other thing that happened was that the
economy fell into a recession, suffered a very large decline in
the value of stock prices, and then----
Senator Whitehouse. Again, after President Clinton left
office.
Mr. Elmendorf [continuing]. Revenues fell very--well, in
fact, at the time there was some dispute about exactly when the
recession had started. The----
Senator Whitehouse. But as of January 2001, you were
predicting a debt-free Nation. Your organization was predicting
a debt-free Nation.
Mr. Elmendorf. Yes, but the point I am trying to make is
that there were economic developments and changes in the amount
of tax revenue collected for a given economy that were also
adverse to the budget outcomes. And I do not remember offhand--
I think CBO has looked at this, but I do not remember offhand
how much of the deterioration in the budget that occurred after
that was due to legislation and how much was due to revisions
to the economic and technical projections based on----
Senator Whitehouse. I understand, and I am not trying to
fault your predictive capabilities, and I am not trying to
fault the January 2001 report. I am just trying to point out
that at least one President really did the best that he could.
And that is not something you need to react to, because I know
you do not speak in those terms, but for the sake of my
colleagues.
Thank you. My time has expired.
Chairman Conrad. Senator Johnson.
Senator Johnson. Thank you, Mr. Chairman. I would like to
just comment on your earlier comments in terms of I believe
this country hungers for leadership, and I certainly would be
one willing to step up to the plate, also, and take the lead on
this budget, trying to restore some fiscal sanity to this
nation.
Chairman Conrad. Well, I thank the Senator for that.
Senator Johnson. Thank you.
Dr. Elmendorf, just a couple of quick questions. Getting
back to dynamic versus static scoring, does the CBO ever go
back and study what estimates it had done from the standpoint
of revenue and figure out what the actual results were and just
compare what your estimates were?
Mr. Elmendorf. We certainly do go back and look at our
performance as best as we can evaluate it. We do not do the
revenue estimates. We do the revenue baseline projections in
this report, but the estimates of the effects of particular
pieces of revenue legislation are done by the staff of the
Joint Committee on Taxation, so we do not go back and
reevaluate those.
We do look at our economic forecasts and report once a
year, I think, on how accurate they have been. Every outlook or
update reports on the revisions from the previous outlook, so
one can see where--you can see as well as we can see where we
have gone wrong.
We also look back when we can at how different pieces of
legislation have unfolded relative to our estimates on the
spending side. That can be harder to do than one might expect,
because many forces are impinging on the outcomes, and the fact
that the outcome looks different than we thought it would at
the point the legislation was passed might be that we had the
wrong estimate of the legislation, or it might be we had the
wrong estimate of everything else that was going on.
Senator Johnson. Sure.
Mr. Elmendorf. So it is harder to tell, but we do try.
Senator Johnson. I guess I am really trying to zero in on
revenues, in particular, and I am thinking in reaction to if
taxes are going to increase, do we really get this tax revenue
that we were expecting, to do those types of studies. So if you
know of anybody who has done that, I would be interested in
seeing that in my office.
In terms of scoring the health care bill, did you estimate
how many businesses would probably drop coverage, and as a
result, how many individuals would be put into the exchanges
and then what the cost of that effect would be?
Mr. Elmendorf. Yes, Senator. So our estimate of the effects
of the legislation on the number of people with employer-
sponsored insurance, which was a small net decline, represented
the net of a larger gross decline with some offset of
additional insurance coverage by some employers. And that
estimate accounted for the new subsidies being created through
the insurance exchanges and the expansion of Medicaid. It also
accounted for the existing subsidy provided through the tax
exclusion for employer-sponsored health insurance. It accounted
for the penalties that were imposed on individuals and
businesses and the small business tax credit and so on.
And we thought that the overall effect of that set of
provisions would be that some number of people would not
receive insurance through their employers who otherwise would
have. Some others would get insurance through their employers
who would not have otherwise. And the net of those was fewer
people getting health insurance coverage from their employer
than would have been the case under prior law.
Senator Johnson. Do you have some estimated numbers? Is it
a million people----
Mr. Elmendorf. We do, actually. So we estimated that in
2019, that three million fewer people would have employer-
sponsored health insurance, and that reflects the net of eight
to nine million who would have had an offer of employer
coverage under prior law and would not under the legislation
that was enacted, six to seven million who would not have been
covered under prior law but would have had the coverage under
the legislation, and another one to two million people who
would have an offer of employer-based coverage but would get
covered in exchanges instead either by having an exemption to
some of the rules or by sneaking around the rules.
Senator Johnson. Can you give my office the details of
that?
Mr. Elmendorf. Yes, of course.
Senator Johnson. OK. I would like to talk a little bit
about--you were talking about the automatic stabilizers of a
balanced budget amendment. Would an amendment that would just
limit spending to 20 percent of GDP, or 18 or 19 percent of
GDP, would that kind of circumvent that problem? Would that
allow us to have those automatic stabilizers still be
effective?
Mr. Elmendorf. Well, it would allow the stabilizers on the
revenue side of the budget to still be effective, but it might
impinge on the stabilizers on the spending side of the budget.
The fact that even apart from an extension or expansion of
unemployment insurance benefits, if more people lose their
jobs, more people can collect benefits. Under a given set of
rules for what used to be called Food Stamps and is now called
the Supplemental Nutrition Assistance Program, more people get
benefits. So you would still be impinging on that.
I also, again, do not know what changes in policy you and
your colleagues would choose to make to bring outlays down from
the share of GDP they are now to the sort of levels that you
are talking about. And as we discussed a few minutes ago with a
number of members of the committee, the discretionary spending,
and particularly the non-defense part of discretionary
spending, is only one piece of the budget and not as large a
piece as I think many people believe. As you understand, most
of the spending the government does goes to Social Security or
Medicare or Medicaid, that the defense spending--everything
apart from those large health programs and Social Security and
defense and the net interest payments on the debt, everything
else is about a fifth of government spending at the end of the
decade, by our projections. So the sort of reduction that you
are talking about would, as you understand, require changes
across a large swath of government spending programs.
Senator Johnson. I guess the point I am getting at, if you
had a preference to choose between a constitutional amendment
to balance the budget versus one to just limit spending to a
certain percentage of GDP, do you have a preference?
Mr. Elmendorf. I have not thought about that question,
Senator, and even if I did, we are not--I do not come here to
discuss my preferences but the analysis that CBO has done, and
we can look more carefully into that question.
Senator Johnson. OK. Just one final question. It might
actually be kind of a long answer, but maybe not. Can you, in
layman's terms, describe to a family what a debt crisis would
look like. What is going to be the effect on individuals?
Mr. Elmendorf. So if--I will try. If the people we are
relying upon to lend the Federal Government money became
skeptical that the government would manage its budget in a way
that they would get repaid and thus would start to demand
higher interest rates to compensate them for that extra risk,
that could push up interest rates throughout the economy that
would make it harder for households to borrow money. It could
make it harder for the businesses for which they work to borrow
money to invest and expand.
It could--and on the Federal side, if the government were
unable to borrow the money that it was needing to borrow given
the paths of spending and revenue, it could require drastic
changes, sudden large changes in the taxes people are paying to
the government and in the benefits they are receiving from the
government of the sort that we are seeing in some European
nations that have hit a fiscal crisis. And the magnitude and
suddenness of the changes and what the government would have to
do under those circumstances, combined with the effects on the
rest of the economy of that rise in interest rates, would
clearly be damaging to people.
Senator Johnson. Thank you.
Chairman Conrad. I thank the Senator.
Senator Begich is recognized.
Senator Begich. Thank you very much, Mr. Chairman.
A couple quick things. First, Mr. Chairman, I think the
idea of a summit is fine, but I really believe that the role of
the Budget Committee should--as a former mayor, what we used to
do, we would present our budget to the Budget Committee. We
would have to spend the time to explain. Departments would come
in and go through it. I know there are jurisdictional issues,
but it is a Budget Committee, and in my view, I think that is a
role, and rather than wait to find out what the role is, we
should seize it and do it and I think this is a great year to
do it. I am a strong believer in that.
I am happy to sit here and go through departments and try
to figure out what the heck they are up to and give our
version, hopefully in a collective way, of how to move this
budget forward, or future budgets, because the process of a CR
is damaging and is irresponsible. Those that continue to move
that forward on 1-month increments, and I think you would
agree, I am hopefully not speaking for you here, but CRs are
bad. They are not healthy for any type of government to do. So
I think it is in our role and ability to do it, so I would----
Chairman Conrad. If I could just intercede for one moment,
because I think this point----
Senator Begich. Do not take too much of my time----
Chairman Conrad. No, I will not take any of your time.
Senator Begich. OK.
Chairman Conrad. I will not take any of your time.
Senator Begich. I did that so the staff would take note.
Chairman Conrad. It is the Chairman's time. Here are things
people on this committee need to appreciate, especially new
members. No. 1, we typically only do a 5-year budget. Almost
all of the budgets that have been done by Congress have been 5
years. And the problem is, the plan that the country needs goes
well beyond 5 years.
The second big problem we have is we do not determine the
specific policies that are adopted by the committees of
jurisdiction. We give them numerical targets. We tell the
appropriators how much they can spend. We do not tell them how
to spend it. We do not have that authority. We tell the Finance
Committee how much money to raise. We do not tell them how to
raise it. And one of the difficulties of the Budget Committee
being the lead on taking on this task is a lot of the
compromises that need to occur go to the details, and
unfortunately, we do not control the details.
So we tell the Finance Committee how much money to raise.
We cannot impose on them our views of the policy that ought to
be attached to that. That is, we cannot tell them, OK, broaden
the base to raise this money and simultaneously lower the
rates. We might make that assumption, and in anything we pass,
we can state what our assumptions are. But this committee does
not have the authority to determine those specifics.
So it really puts the Budget Committee in a very difficult
position to reach agreement on a multi-year plan that has many
dimensions to it because the specifics become critical. You
know, what do those revenue numbers really represent in terms
of policy?
Again, that will not come out of the Senator's time.
Senator Sessions. But it also is a little bit easier, too.
So we do not have to tell exactly what to cut. Maybe we do have
an opportunity to provide a little leadership.
Chairman Conrad. Well stated. Senator Begich.
Senator Begich. Mr. Chairman, I agree with both of you on
that. You know, if we have those discussions, we may have
assumptions that we can lay down, but then we at least can know
what those numbers will be, so I would encourage that.
The second thing, I think, and before I ask you a question,
I want to echo what Senator Wyden said on a broader sweep, and
that is if I was to pick two items, if we were limited to two
items that this committee would focus on, one would be the
larger budget and the second would be tax reform. The
discussion of tax reform in the broader sense, not these
temporary fixes which I think you said earlier, and I know this
as a small business person, there is no certainty with these 2-
year fixes. Businesses are not going to invest hundreds of
millions of dollars, let alone billions of dollars, when they
have no clue what the tax policies of this country are. They
are going to go to countries that are more stabilized in this
element and invest there. And so the certainty of what our tax
policies are, I think, are going to be very critical long-term,
and these 2-year fixes, again, I do not think are responsible.
We need to look at the longer term. So I would echo what
Senator Wyden said in regards to tax reform.
A couple quick questions, and it may be information you can
just provide to my office. One is we hear on a regular basis,
and I do not know if it would be out of your office or maybe it
is out of Joint Tax, I am not sure which one would be the right
one, but I want to get a good, clear picture. I think I know
this answer, but the picture on who really owns our debt,
because every time you hear it, you hear all these foreign
countries, which they do own a portion of it. But the biggest
holders are retirement funds, Social Security, trust funds, is
that a fair statement?
Mr. Elmendorf. Yes, and we actually released a report in
December on Federal debt and interest costs----
Senator Begich. And who owns it?
Mr. Elmendorf [continuing]. And it is owned largely by
people in this country, but also importantly by people
overseas.
Senator Begich. Right.
Mr. Elmendorf. So it is a combination of both domestic and
foreign----
Senator Begich. Do you know the percentage ratio, just
roughly? Is it about 70-30? Sixty-forty?
Mr. Elmendorf. It is about half-and-half.
Senator Begich. Fifty-fifty?
Mr. Elmendorf. Yes.
Senator Begich. If you could provide that--we may have it,
but just if you can provide that segment, that would be great--
--
Mr. Elmendorf. Yes. Of course, we will do that.
Senator Begich [continuing]. Because every time you hear
it, it is the foreign countries own ours, and actually, the big
chunk of our retirement funds--I can tell you, as a former
mayor, we invested in U.S. securities all the time because it
is the safest and the right place to put the money.
The second, and I know Senator Johnson asked this question,
is it also fair to say to families' impact, it would be on a
local level, that it would impact direct services and potential
services that local governments could provide because their
ability to borrow would diminish if there is a debt crisis. Is
that a fair-I just want to make sure that is on the record,
too.
Mr. Elmendorf. Yes, I think that is right, Senator. I mean,
it is very difficult to predict what will happen if there is a
sudden shift of sentiment against buying U.S. Treasury debt. We
have not seen that in this country. We have not seen it in the
world's most important financial market. We do not know----
Senator Begich. But it is a multi-layer effect. It is not
just the Federal Government----
Mr. Elmendorf [continuing]. But the effects, I expect,
would ripple through the financial system in this country and
would make it harder for borrowing for local and State
governments as well as families and businesses.
Senator Begich. Very good. Let me ask you, and it was an
interesting question that Senator Johnson asked--and I have
actually, when we have had some meetings, this is a question I
always have--in these reports, which are great reports, what I
would love to get, and if it is possible, and some of the
baseline information, maybe the GDP, maybe unemployment,
whatever those items are that you kind of utilize as some of
your base data in projecting, what I want to see is when I see
a chart like this, I actually--not that I want to question
necessarily your track record. It helps me get a sense.
If I look at 2010, it is a flash point. What I want to see
is projections that were projected and what happened actually,
and the reason that helps, at least me, have a better
discussion of--an analysis of it. So, for example, the
questions you had from Senator Whitehouse, here are some of the
things that changed. Why is that important for me? Then I know
policy that we impact has some impact of what you projected
originally. Is that available? If we said to you, here are four
or five areas that you project on into the future, can you go
back 5 years and tell us, when you sat here, or whoever sat
here, projected, and then what those deviations and what
happened, is that something that----
Mr. Elmendorf. Yes. I think we can do that, Senator. We are
willing to talk with you about exactly which----
Senator Begich. Sure----
Mr. Elmendorf [continuing]. Of the thousands of variables
you are most interested in, but we certainly keep the records
and look at them ourselves about how these projections have
turned out.
Senator Begich. Great.
Mr. Elmendorf. So we can put together, I think----
Senator Begich. We will have our staff work with your
staff.
Mr. Elmendorf. Yes.
Senator Begich. And the goal there is, I believe if you get
information like that, you can kind of look back and then we
know if we are the cause which has an effect, or is it
something else, and that helps, I think, form policy or future
discussions we might have here.
The last thing, just as I sit on the Armed Services
Committee and we are going through, and we are going to go
through a process here from Secretary Gates and all the
reductions that will be occurring or are projected, do you
participate in that at any level in the sense of this. As we
know, 95 percent, approximately, of every Defense Department
dollar has a U.S. impact, because they are very focused. Have
you done any cross-analysis of, OK, if that cut occurs as
projected, this is the kind of job impact it would be, because
they are one of the highest in every department we have that
puts money into this economy. Have you done anything like that?
Mr. Elmendorf. Umm----
Senator Begich. Or are you equipped? Two parts. Have you
done it? Are you equipped to do it if you have not?
Mr. Elmendorf. I think we have not done it. I think we
could do it.
Senator Begich. OK.
Mr. Elmendorf. So we have looked at the economic effects of
a variety of policies being considered by you and your
colleagues, including about a year ago we did an analysis of a
whole collection of policies that were being discussed as
possible ways of increasing output and employment, boosting the
pace of the recovery, and we looked at a number of changes on
the tax side, a number of possible changes on the spending
side.
Senator Begich. OK.
Mr. Elmendorf. We did not look at defense spending
separately. We looked at infrastructure spending and we looked
at changes in grants to State and local governments.
Senator Begich. My time has expired, so maybe we will work
with you on it, because Defense Department spending, as you
know, is a huge part of our budget and the cuts that he is
recommending are fairly significant, probably the most
significant of any department that will be reviewed. But
because they have such a high percentage of job impact of any
department in U.S. jobs, we will talk to you about, maybe
through the Armed Services Committee or--I just think it is an
analysis that should be done.
Mr. Elmendorf. Yes, Senator. We will be happy to talk with
you.
Senator Begich. Thank you very much.
Thank you, Mr. Chairman.
Chairman Conrad. I thank the Senator.
Senator Portman.
Senator Portman. Thank you, Mr. Chairman.
It is good to be here to hear from you, Dr. Elmendorf. I
appreciated working with the Congressional Budget Office when I
was on the House Budget Committee, and, of course, at OMB. We
did not get a chance to work together since you came after
that, but I appreciate your testimony today.
We find ourselves here at a very difficult time, do we not,
a day after you have told us that we are facing the biggest
deficit in the history of our country, in fact, in the history
of the world this year. By the way, these projections are
notoriously wrong.
Mr. Elmendorf. Yes.
Senator Portman. Unfortunately, this one looks like it is
more accurate than some. I think Senator Whitehouse, perhaps
inadvertently, just explained to us how wrong CBO projections
can be sometimes, as they were in 2000, but the fact remains,
we face a fiscal crisis. I am delighted to be on this
committee. I just found out last night I was going to be
joining Senator Conrad, Senator Sessions, and others, and I was
really encouraged as much as I was discouraged by your
projections, encouraged by what I heard today from my
colleagues, including you, Mr. Chairman, and you, Mr. Sessions.
I think what you said earlier, Chairman Conrad, is very
significant in terms of looking perhaps beyond the 5-year,
maybe a 10-year budget and also trying in a bipartisan way to
do what all of us, I think, acknowledge needs to be done, which
is to find common ground and solve this crisis before we have
the kind of economic repercussions you talked about earlier.
I had a couple of questions that I wanted to focus on and
that really kind of just go to me understanding more how you
feel about this crisis in your gut. If you were to say what is
the single largest fiscal crisis or fiscal problem, fiscal
issue facing our country today, what would you say it is, if
you had to identify one thing?
Mr. Elmendorf. Well, Senator, again, I appreciate your
confidence in my gut, but I rely on the analysis that we do at
CBO. The risk of fiscal crisis, in our view, comes from the
imbalance between spending and revenues. That imbalance comes
in the projections because spending rises to a share of GDP
that we have not seen before in this country----
Senator Portman. OK, but what is----
Mr. Elmendorf [continuing]. And revenues rise above their
historical average, but not as far as spending, in these
baseline projections.
Senator Portman. But what is it in the spending and in the
revenue side that troubles you most? What is the single thing?
Mr. Elmendorf. Again, it is not a matter of troubling. It
has to be your choice and your colleagues' choice what parts of
the budget you want to address. As an arithmetic matter, of
course, the part of the spending that is growing very rapidly
and growing much faster than GDP is spending on the
government's large health care programs, both because of the
aging of the population, and much of that money goes to older
Americans, and because of rising health spending.
Senator Portman. All right. I am encouraged by your answer,
because I think it is health care, and I think it is not just
health care as it relates to Medicare and Medicaid, which
obviously drives the growth of those programs, and your
projections here of 7 percent growth is, in the Chairman's
words, unsustainable. But it also, of course, affects the
private sector job growth, which leads to lower revenues than
we would otherwise have. So I am going to take your answer to
be health care, which I think is the right answer.
What do you think the most significant risk is in your
baseline projections?
Mr. Elmendorf. I have a long list of worries, Senator. You
know, I think in terms of the budget projection, as you said,
these projections are notoriously wrong because it is a very
difficult business. But the crucial underlying factor here, as
we were just discussing, is the rising number of older
Americans relative to working Americans and the rising cost of
health care relative to other things in the economy. And those
fundamental forces have been foreseen for decades and, I think,
are inexorable under current policies. So although the
specifics will undoubtedly not turn out this way, I think there
is a reason that for many, many reports now, CBO and many
outside analysts, of course, have been looking at a
deteriorating fiscal picture. But I do not view that as----
Senator Portman [continuing]. Your projection, do you feel
the biggest risk is in the area of government expenditures on
health care?
Mr. Elmendorf. So I think that is one very large
uncertainty.
Senator Portman. How about interest rates? We talked about
it earlier, but one of the concerns I have in looking at your
analysis is, and correct me if I am wrong, but I think the risk
premium that the private sector is looking at, and this is why
the Blue Chip estimate, I think, is above yours, I do not see
embodied in your analysis. Do you feel you take into account
the risk premium of these higher debts?
Mr. Elmendorf. Well, in fact, our projection of long-term
interest rates over this coming decade is actually above the
interest rates that you can deduce from the current prices of
Treasury securities in the financial markets. Our projection
here reflects a combination of what we see in financial markets
and our own modeling. Our own modeling actually points to
interest rates being a little higher than the financial markets
have built in, particularly in the latter half of the decade
for the longer-term securities. So we have constructed a
projection that puts some weight on our modeling and some
weight on the financial markets.
But I think the point, as we have made a number of times,
is that the swings in sentiment that drive fiscal crises are
not usually telegraphed very well ahead of time. They often
occur very suddenly.
Senator Portman. Well, I would love some more information
on the interest rate calculation because I think that is going
to be, obviously, a big part of the uncertainty going forward,
and I think it relates directly to the point that has been made
many times here today, that we need to focus, all of us, our
constituents, the American people, on this issue, and part of
it is what is going to happen with rates, because that will
affect everybody's everyday life as well as our business
climate.
Obviously, three issues here. The discretionary side, we
have talked about today. The entitlement side, which we have
not talked about enough today. I wish I had more time. The
third one is growing the economy, and we have talked some about
that and I applaud Senator Wyden, who has now left, for his
comments on tax reform.
I would just ask you one simple question with regard to the
corporate rate. There is some recent research, and you have
probably seen it--I think it is Hassett and Brill--that says
there is a maximization point in the corporate rate of about 26
percent, and I guess that is somewhat obvious. That is lower
than or about at the average of the OECD or the developed
country rates. Have you all looked at that, and do you think we
are leaving revenue on the table now? In other words, by having
a relatively high corporate rate, are we getting less revenue
than we would otherwise get? And do you think we have a
misalignment here because of the competitive nature of the
global economy? What is your view on what the right corporate
rate ought to be?
Mr. Elmendorf. Senator, I am sorry. I am aware of that
paper, but we have not studied that analysis carefully, so I
can't directly answer your question. If you are interested in
our--I am interested, of course, myself. But more importantly,
if you are interested, we can take a closer look at that
report.
Senator Portman. Since we are both interested, let us get
some views from CBO on that, because I think it is a very
interesting analysis, and although, as you said earlier,
whether tax relief pays for itself or not depends on the tax
relief, that this is one area where we might be able to find a
consensus.
Thank you, Mr. Chairman.
Mr. Elmendorf. We will be in touch, Senator. Thank you.
Chairman Conrad. Senator Nelson.
Senator Nelson. A big part of the discretionary outlays
that grew during 2010 was the stimulus bill, and a big portion
of the stimulus bill was the money going to the States, the
State fiscal stabilization. What do you expect would have
happened if a lot of that money, for example, such as Medicaid
money going to the States for 2 years, if that had not gone to
the States, what do you think would have happened?
Mr. Elmendorf. We think that States would have had to make
larger changes to boost revenues or decrease other sorts of
spending, and that would have had a negative effect on their
economies, and that is why in our analysis of the Recovery Act
we think those provisions and others provided an important
boost to output and employment relative to what would have
occurred in the absence of that legislation.
Senator Nelson. In my State, Florida received about $4.5
billion just for Medicaid over that particular period of time,
another $2.2 billion for education. So it was huge. But we are
coming to the end of the 2-year period and we are not going to
be able to continue that. So what do you think is going to
happen?
Mr. Elmendorf. Well, the waning of the effects of the
Recovery Act on the economy is one of the reasons that the
economy is not growing more rapidly over the next few years in
our projection.
Senator Nelson. So we see less of a robust recovery as a
result of all this Federal money not going to the States for
things that are hard to see because they are not roads and
bridges that are being built. It is Medicaid and education
assistance from the Federal Government to the States, and as a
result of that going away, it is going to lessen the
acceleration of the economic recovery.
Mr. Elmendorf. I think that is right, Senator. That is
analogous to what happens with the automatic stabilizers, the
parts that you did not directly change but that occur
automatically in downturns. Picture the economy running into a
hole. The hole is shallower, but on the way out, then the
recovery is also a little more shallow than it would otherwise
be. And, of course, the tradeoff that you and your colleagues
confront is that the large accumulation of debt to pay for the
Recovery Act and for the automatic stabilizers and other things
in the past few years has pushed debt to GDP up in a way that
creates damage and risks itself.
Senator Nelson. OK. So that is one consequence, that by us
not being able to send more money to the States, it is going to
slow the economic recovery.
All right. Now, let us look on the other side. We passed
the health care bill, and if you would state this for the
record, as you have already publicly many times, the health
care bill as it is passed right now and as it is law is roughly
going to save the Federal Government in the next 10 years about
a quarter of a trillion dollars, and your projections for the
second 10-year period, that the Federal Government spending
will be saved about a trillion dollars. Is that correct?
Mr. Elmendorf. So, Senator, you are right that over the
next decade, pending our actual full cost estimate of repeal
which is underway, we think that over the next decade, the
repeal of the health legislation would increase budget deficits
by something on the order of $230 billion.
Over the longer horizon, we think that repeal of the
legislation, assuming that it would be implemented as enacted
without any future changes, the repeal would widen future
budget deficits. That is an estimate that we have not offered
in dollar terms because we think that it is difficult to get a
good sense of dollars figures over such a long horizon in an
economy with rising prices and that is growing. We have said
instead that repeal of the legislation would reduce--rather,
would increase Federal deficits in that second decade, in a
broad range around one- half percent of gross domestic product.
If you want to convert that yourself to dollars, as some
members of the Committee have, you can do so. But for our
purposes, we think it is more constructive for us to report the
number in that sense.
Senator Nelson. OK. But the average American does not
understand that percentage of the GDP, and so in our
calculations, has it not been, Mr. Chairman, widely accepted
that we are somewhere in the range of $1 trillion?
Chairman Conrad. Yes, $1.3 trillion. One-half of 1 percent
of GDP over the second 10-year period. The projected GDP during
that period is forecast to be about $260 billion, so one-half
of 1 percent would translate to $1.3 trillion.
Senator Nelson. OK. Well, then I think it is pretty clear,
as we are going forward, we are going to have a slowed economic
recovery because we helped out the States for 2 years with a
massive infusion of money into the States that people do not
ordinarily see, such as Medicaid spending as well as education.
We enact a health care bill that does from a fiscal standpoint
help the economy by saving the U.S. Government from spending
close to a quarter of a trillion dollars in the next 10 years.
So let me conclude by asking you now if you would help--let us
put a fine point on this, on Social Security. We went through a
long discussion of that with one of the other Senators earlier.
But what is it that is happening in or about the year 2037 with
Social Security that we need to underscore?
Mr. Elmendorf. Well, in some year out there--and we have
not updated those estimates since our last long-term budget
outlook last summer--the Social Security trust fund will have
redeemed all of the bonds that it holds and will have incoming
payroll tax receipts that are not sufficient to pay the
benefits that we project under current law. At that point the
full benefits could not be paid without some action by the
Congress to increase the money going into the trust fund or
reduce the benefits being paid out.
Senator Nelson. OK, that is 26 years down the road. What is
going to happen 10 years down the road with Social Security?
Mr. Elmendorf. Well, as the baby-boom generation retired,
of course, there will be increasing numbers of beneficiaries.
We think at the end of the decade there will be about a third
again as many Social Security beneficiaries as there are today.
That will increase the benefit payments. But there will be
enough money coming in and money in the trust fund--actually
there is a picture at the back of the outlook that shows the
path of the Social Security trust funds, but the OASI fund and
the Disability Insurance fund. For those who want to check, it
is on page 123. And in our estimate, the trust funds together
will be running a surplus at the end of the decade, including
the interest payments they receive from the Treasury on the
bonds in the trust funds.
I should mention perhaps the disability--as you know, the
Social Security trust funds--there are actually two of them.
They are legally separate. The Disability Insurance trust fund
we think will actually be exhausted in 2017 and would need some
further action to pay benefits after that point.
Senator Nelson. At the end of this 10-year period----
Chairman Conrad. Can I just say to the Senator, he has gone
beyond his time.
Senator Nelson. I have. As you have been very generous and
liberal with other Members of Congress, may I conclude with
this one question?
Chairman Conrad. Go ahead.
Senator Nelson. At the end of this 10-year decade, what is
the effect of the trust fund of Social Security on the
operating budget deficit of the U.S. Government?
Mr. Elmendorf. I am not sure what you mean by
``operating,'' I am afraid, Senator.
Senator Nelson. The budget deficit that we are working on.
Mr. Elmendorf. Well, so the Social Security--there will be
a surplus, as I said, in the Social Security trust funds
reflecting the direct flows from payroll taxes and benefits,
but also interest payments in the rest of the Government.
Excluding those interest payments, Social Security will be in
deficit, which is to say that the benefit payments will exceed
the collections through payroll tax receipts and some other
sources of revenue.
So apart from the interest payments from the rest of the
Government to the Social Security trust funds, Social Security
will be in a deficit situation. The dedicated revenues will
fall short of the benefit payments that are promised.
Chairman Conrad. I thank the Senator.
We are now past the hour of 12:30, and we had promised to
get the Director out by that time, so that would mean Senator
Thune would have no time to ask questions. But because he is
from South Dakota and I am from North Dakota, that seems fair,
at least to this Senator. But I am sure it does not sound fair
to the Senator from South Dakota.
The Senator from South Dakota is recognized.
Senator Thune. Thank you, Mr. Chairman, and to you and
Senator Sessions, I welcome the opportunity to serve on this
Committee. There will be some big issues debated here, and I
look forward to engaging in that debate.
I want to thank you, Dr. Elmendorf, for your service and
willingness to take on another stint here in what is under the
best of circumstances a very difficult job, but under these
circumstances an even more difficult and painful job.
You have kind of, I think, touched on this a little bit in
response to some questions already, but Chairman Greenspan
recently said the odds of a debt crisis in the next few years
is nearly 50/50. And I know you would probably have trouble
quantifying that, but what do you view those odds are?
Mr. Elmendorf. As you said, Senator, I would have trouble
quantifying that. I think it is very difficult to make an
assessment of that sort, all respect, of course, to Chairman
Greenspan. A crisis depends not just on the existing level of
debt; it depends on, I think, the projections of debt. In the
cases of some countries, it is dependent on how much debt they
have had to roll over in a very short period. It depends
importantly on the willingness of foreign investors to hold the
assets of this country. And it depends I think most crucially
on investors' perception of the sorts of policies that Congress
and the President are inclined to enact.
So it is a very difficult business, and I think we have
seen in other countries that have had very high debt-to-GDP
ratios that things generally turn out badly unless they correct
course. But exactly what the tipping point might be is just
beyond our analytic capacity.
Senator Thune. But the odds worsen the longer we wait,
correct?
Mr. Elmendorf. Yes, I think the higher the debt gets
relative to the size of the economy, in particular the higher
it gets and still looks to be pointed upward in projections
like the ones that we show you, the greater the risk of a
fiscal crisis.
Senator Thune. You talked, I think, in response to some
questions about the impact of--I think you were asked about
energy costs. And if you talk about $100 a barrel for oil,
which is what we are approximating now, that is one thing. If
it were to go up to $150 a barrel, have you done some
sensitivity analysis about how that impacts inflation and how
much of the inflationary assumptions that you make are based
upon the cost of energy?
Mr. Elmendorf. So the energy is certainly important for our
projections of overall consumer prices. It is not as important
for core consumer prices, prices excluding food and energy. It
matters a little bit because some amount of an increase in oil
prices or the price of energy more generally will end up being
passed through to the cost of other goods and services in a way
that might get built into the underlying inflation process of
the economy. But the evidence is that that passthrough is
actually pretty small, so that means on a year-to-year basis,
of course, changes in the price of energy affect household
budgets, but that those movements tend not to become ingrained
in the inflation process over the past few decades, based on
what we have observed.
A similar point I should say about food prices. It is very,
very important to households, but they do not seem to get built
into the underlying inflation process. They rise and they fall
in a way that seems more or less separate. So we do our best to
try to project changes in those prices, but I think it is not
as large a risk for inflation over the longer run as one might
worry.
Senator Thune. And it strikes me that what probably the
biggest factor impacting interest rates--many factors, but
inflation being one. If inflation starts to pick up, then I
think the markets are just going to start demanding a premium
for that, and that impacts our borrowing costs and everything
else.
How confident are you in your inflation assumptions? Based
upon what you are seeing globally right now, a lot of European
countries and Asian countries are experiencing upticks. We have
seen a little bit in December, probably not as much as other
places in the world. But if we have to where we started having
an issue with inflation, I suspect that the correlation between
inflation and interest rates is really going to drive borrowing
costs. What is your level of confidence in your assumptions
with regard to inflation?
Mr. Elmendorf. You are certainly right, Senator, that if
inflation goes up, interest rates we expect would go up, too,
and that would create further damage to the Federal budget. We
do not think inflation will get high. It is currently below the
rate that the Federal Reserve seems to view as consistent with
their mandate for price stability. It has fallen a good deal in
the past few years. It has fallen in a way that is broadly
consistent with a lot of evidence that when tremendous numbers
of people are unemployed and a tremendous amount of plant and
equipment is not being used, that firms restrain price
increases and inflation comes down.
Now, as the economy recovers, we think that inflation will
move back up, but we see no reason why it will move above the
range that the Federal Reserve is aiming for. The Fed balance
sheet, as everybody understands, is very large, and they will
need to withdrawn that liquidity to prevent inflation from
going up. But we see no obstacle to their doing that, and
certainly the statements of Chairman Bernanke and others show
that they are very focused on the need to do that when the time
arises.
So, of course, all these projections are uncertain, but we
do not view a large increase in inflation beyond the level we
have seen over the past decade or two as a significant risk in
the forecast. It is a possibility, but it is not one of the
risks that I am more worried about.
Senator Thune. You said a 1-percent increase in interest
rates would generate about $1.25 trillion in additional
deficits over the decade. What does a 1-percent increase in
interest rates add to the borrowing costs that we have today?
Which the number I have seen, at least in the 2012 estimate, is
interest will be at or exceed the amount that we spend on
national security. So if we are assuming that number or
thereabouts and you saw a 1-percent increase in interest rates,
what does that do to the annual finance charges, borrowing
costs for the Federal Government?
Mr. Elmendorf. Well, an increase that occurred right now
would not raise interest costs that much in the near term
because much of the debt is outstanding, and we have a fixed
rate. So when one looks at the pattern, we show for a rise in
interest rates, it rises over time. It gets, for example, in
2015 to be about $100 billion in that year of higher interest
payments.
Senator Thune. At 1 percent----
Mr. Elmendorf. The 1 percentage point increase.
Senator Thune. Annually?
Mr. Elmendorf. Annually. And by the end of the decade, 1
percentage point higher interest rates is worth about $200
billion a year. And it is growing so much because the debt is
growing very rapidly.
Senator Thune. Right.
Mr. Elmendorf. In addition to the redemption of maturing
securities and the issuance of new ones.
Senator Thune. All right. Mr. Chairman, my time has
expired.
Chairman Conrad. I thank the Senator.
Senator Thune. In deference to the Director, thank you.
Chairman Conrad. I would like to just for a moment followup
on this point that Senator Thune is raising, and I talked about
it in my questioning period, too, because I think it is very,
very important for people to understand. In a forecast you are
trying to give us the best assessment on critical variables.
You are trying to give us an assessment on economic growth, on
interest rates, on rates of inflation, how all that comes
together to affect Federal expenditures and Federal revenues,
to give us an assessment of what is happening to the deficit
and debt.
Many economists have told us they do not believe the
economic world is perfectly predictable with respect to
especially at the breaks. That is, when something turns, it can
turn rapidly, and no forecast tends to capture that accurately.
How would you assess the risk of the basic underlying
assumptions in the forecast that you provided to us yesterday
on economic growth, inflation, and interest rates? Of those
three, which are you most concerned about in terms of your
underlying forecast not coming true or being at some
significant variance?
Mr. Elmendorf. Well, Mr. Chairman, I worry about all of
them. Interest rates are the ones that can move around most
dramatically in short periods of time. The inflation rate can
spike. Economic growth, of course, can slow very sharply in
recessions. But the variable that is most volatile on an
average day or a month is interest rates, and all three are
very important, of course, to the Federal budget. And that is
why we look--in our appendix that illustrates the effects of
changes in economic projections, those are three of the four
experiments that we examined, precisely those three variables
that you mentioned.
So I would hate to convey a sense that I am not worried
about any of them, but I think the interest rates are the ones
that are intrinsically most volatile and also, I think, given
the Government's fiscal position and the fiscal trajectory, are
the ones that are the greatest risk.
Chairman Conrad. All right. I thank you for that. I think
it is just important that we have that on the record for the
benefit of the Committee.
Senator Sessions.
Senator Sessions. Isn't it a fact the Fed is artificially
keeping the interest rates low through their quantitative
easing and there is a limit at some point on how much that can
be utilized?
Mr. Elmendorf. The Fed is keeping interest rates low. I
would not describe the current situation as any more artificial
than what they normally do. They move interest rates up and
down, as you know, to affect inflation and the path of the
economy. And it is certainly right that they have pushed
interest rates down. Both the Federal funds rate that they
directly control, but also interest rates at longer maturities,
they have pushed down through a variety of measures, including
the latest quantitative easing. And we do not expect that to
continue.
Senator Sessions. There is a limit to how much that can
be--I just hate to press this health care cost. Someone could
interpret your testimony as saying that the health care bill,
if eliminated, would raise the deficit, and under one method of
accounting, perhaps that is so. But under these circumstances,
I have to say in my view it is not accurate, because we know
that Medicare will be going into deficit, and they will call
their bonds. It is not as if we do not know outside this 10-
year window what is going to happen.
So when the United States Treasury spends money on a new
program and that money is borrowed from Medicare, and Medicare
we know is heading into default, it really increases the debt
of the United States. It absolutely increases the internal
debt, and I think any fair reading would suggest it increases
the overall debt exposure of the United States.
Mr. Elmendorf. So, Senator, you are correct that it
increases the internal debt. I certainly agree that Medicare
will redeem those bonds at some time in the future. And as we
have discussed, that obligation can only be met by revenues
that are available in the future.
When I refer to deficit effects, I refer, as my many
predecessors as CBO Director have, to effects on the unified
budget deficit. But you are correct, there are other ways of
toting up what is happening in the Government's accounts. I
will try to be more specific about that when I mean unified
budget deficit.
Let me go back one more time to the internal debt, the
gross debt, and I have agreed with you about the effects on
gross debt. The way that CBO--again, this is not idiosyncratic
to my leadership of CBO. The way that we look at budgets is to
focus on the unified budget, the debt held outside of the
Government, the debt held by the public. And then we show you
projections of spending for Medicare and Social Security and
Medicaid and so on going forward. And we think that the best
way to assess the sort of current financial state of the
Government in terms of the immediate obligations is debt held
by the public or perhaps debt net of financial assets, as we
show in our report; and that the best way to look at what the
Government is going to encounter financially in the future is
to look at our projections of spending and revenues and the
effect that those paths have on future debt held by the public
relative to GDP.
So we are consistent in our treatment of that. The future
Medicare obligations are not lost in the approach that we take.
They appear in the projections of spending and revenues that I
have shown and that lead to that path of debt that most of this
hearing has been about. But I understand, Senator, that there
are different ways of looking at the pieces of the budget that
may be useful to you and others for some purposes.
Senator Sessions. And is it your policy decision to use a
unified score? Is that statutory or congressionally mandated
that you produce first a unified budget score?
Mr. Elmendorf. The focus on the unified budget began in the
late 1960s. There was a Commission on Budget Concepts, and part
of what that Commission did was to realize that at the time
there were lots of different pieces of the Government where the
money was being kept track of, observed, followed separately.
And the judgment of that Commission, and I think of most budget
experts in the subsequent 40-some years, has been that it is
most effective to look at the budget of the Government as a
whole in assessing the demands on credit markets and, thus, the
crowding out of private borrowing and in assessing the
Government's fiscal trajectory. It does not mean that all those
people have been right, but I think that has been the standard
in place for a number of decades.
Senator Sessions. It clearly has been the standard, and you
have always made clear how you account for it, so I am not
criticizing you.
Chairman Conrad. Can I just followup on what Senator
Sessions is raising? Because, you know, we have a budget
responsibility in this Committee, and we understand that
economists look at this, and they prefer looking at it on a
unified basis. I think the problem that it leads to is when you
look at this from a budget perspective, that alters your view,
because the hard reality is all this debt has to be serviced,
and it has to be serviced out of current income. And the
frustration that some of us have had is that the press tends to
focus on the unified concept. We understand that is because
that is what affects the overall borrowing by the Government.
On a unified basis--when you look at everything coming in,
everything going out, that is a unified basis.
The problem that we run into in a budget context is those
bonds that Social Security holds that are real assets, the
redemption of those bonds can only occur out of current income.
And what has been happening from a budget perspective is the
general fund has been borrowing from Social Security, and we
have borrowed well over $2 trillion. That money has to be paid
back. How is it going to be paid back? It is going to be paid
back by the other general expenditures of the Federal
Government having to be reduced to make way for the payments
that we are going to have to make on those bonds. And so it has
a very specific and, we are going to see, dramatic impact on
budgets because we have been enjoying in effect a subsidy from
the Social Security trust fund of several hundred billion
dollars a year. And that is about to change--in fact, has
changed.
I want to correct one thing I said earlier, because I was
working off the old forecast that Social Security is going to
go permanently cash negative in 5 years. My staff informs me,
under the new report, Social Security has gone permanently cash
negative now. Is that the case?
Mr. Elmendorf. Yes, that is right. As you are viewing cash,
not counting interest payments from the rest of the Government.
Chairman Conrad. Yes.
Mr. Elmendorf. Yes.
Chairman Conrad. So the budget problem that presents us
with, instead of having several hundred billion dollars a year
coming in from Social Security that we could send somewhere
else, those days are over. Those days are over.
Mr. Elmendorf. Yes, that is right, Senator. I would just
emphasize one more aspect of this. The bonds that are held in
the Social Security trust fund and those held in the Hospital
Insurance trust fund are much less than the total future
obligations. That is what we mean by saying the trust funds
will exhaust their resources at some point. So the projections
that we do of the spending for Social Security and Medicare
under current law capture all of the benefits that would be
paid under current law.
So in that sense, the gross debt that you are talking about
is only capturing a subset of the future obligations. If you
look at our projections of total spending and total budget
deficits over a decade and beyond, they capture all of the
benefits that we pay under current law, not just those for
which there are bonds tucked away.
Chairman Conrad. Yes.
Mr. Elmendorf. It is also true there are some things in
gross debt that may not reflect future obligations. It is not
just the Social Security trust fund, although that is a big
part of it. There is right now almost $2 trillion held by other
Government--bonds held by other Government accounts. Not all of
that does represent future obligations. So that is why we have
focused, again, for many years on the overall budget situation,
but we do report projections of gross debt. We report the
Social Security surplus and the surplus in--which is almost all
the off-budget surplus, and the surplus or deficit in the rest
of the Government for you to use as you think about the budget.
Chairman Conrad. Well, look, again, we recognize the
professional job that CBO does, and we respect--there has to be
an independent scorekeeper, and you are it. We also know that
these things----
Senator Sessions. You are all we have.
Chairman Conrad. Yes. We know that these are based on
assumptions, and you have to make assumptions about growth,
about inflation, about interest rates. And we all know they are
going to be wrong. We all know they are going to be wrong
because we look back in history and see that they have been
wrong in the past, and they are very likely to be wrong going
forward. But they are the best, most professional estimates
that can be had at the time, and that really has to be what
governs our decisions.
Let me just conclude by saying I think we are going to need
at some point to maybe focus a little more directly on the
entitlements and on their budgetary effects longer term. We do
not have that scheduled at this point, but I do think_and I
will talk to Senator Sessions about this. There is so much
misunderstanding, I find, in the general public and in the news
media with respect to the liabilities of the United States that
I think we may need a hearing just on that. We have a lot of
new members who may not understand quite how these funds flow
and what their budgetary impacts are as well as their economic
impacts.
With that, thank you very much, Dr. Elmendorf.
Mr. Elmendorf. Thank you.
Chairman Conrad. We stand adjourned.
[Whereupon, at 12:57 p.m., the Committee was adjourned.]
THE U.S. ECONOMIC OUTLOOK
---------- -
- -
TUESDAY, FEBRUARY 1, 2011
United States Senate,
Committee on the Budget,
Washington, D.C.
The Committee met, pursuant to notice, at 10:00 a.m., in
Room SD-608, Dirksen Senate Office Building, Hon. Kent Conrad,
Chairman of the Committee, presiding.
Present: Senators Conrad, Wyden, Warner, Begich, Sessions,
Thune, Toomey, and Johnson.
Staff Present: Mary Ann Naylor, Majority Staff Director;
and Marcus Peacock, Minority Staff Director.
OPENING STATEMENT OF CHAIRMAN CONRAD
Chairman Conrad. The hearing will come to order.
I want to welcome everyone to the Senate Budget Committee
today. Today we will focus on the U.S. economic outlook. This
is one of a series of hearings on the economy. We are taking a
close look at how the economy is performing and where it is
headed. Later this week, we will examine specific challenges
the economy faces, such as housing, unemployment, and the State
fiscal crises that are occurring around the Nation.
Today we are fortunate to have three really outstanding
witnesses, economists who all have a long history of providing
valuable testimony to this Committee and others. We look
forward to hearing from Dr. Richard Berner, a Managing Director
and Co-head of Global Economics, Chief U.S. Economist at Morgan
Stanley. Good to have you back, Dick. Dr. Simon Johnson, Senior
Fellow, the Peterson Institute for International Economics and
a professor of entrepreneurship at MIT's Sloan School of
Management. Good to have you back, Simon. And Dr. David
Malpass, president of Encima Global. Am I pronouncing that
correctly?
Mr. Malpass. That is right.
Chairman Conrad. Thank you, sir. We thank all three of you
for making yourselves available to the Committee. We deeply
appreciate that.
Let me begin by having a brief review of where we have
been, my own analysis of what has brought us here and where we
are headed. Let me just start by saying I believe TARP and
stimulus were critically important to averting a global
financial collapse. I was in the room when the Secretary of the
Treasury in the Bush administration and the Chairman of the
Federal Reserve told us that if we did not act on TARP, there
could be a global financial collapse in days. Those are the
words they used to us. They minced no words with us. They were
as clear and compelling as they could have been.
So TARP was put in place--and let me just put up the first
chart that shows what I think is the very clear evidence that
TARP was effective. This chart shows the TED spread, the
difference between what the Government can borrow for and what
the private sector can borrow for. And during the height of the
crisis, the TED spread was 9 times normal. You can see it at
the peak. When TARP was put in place, it came back very
markedly to more normal levels and only now has really gotten
back to its historic relationship.
Again, the TED spread is the difference between what the
private sector can borrow for and what the public sector can
borrow for, and we have seen a normalization in the TED spread.
In fact, one of the tipoffs that we had that we were headed for
trouble in 2008 was we saw erratic behavior in the TED spread
in the year before.
Let me go to the next chart, if we can. Economic growth, we
had a negative 6.8 percent in 2008, the fourth quarter. We now
see that economic growth has resumed. In the fourth quarter of
2010, we saw positive growth of 3.2 percent, and we have now
had six consecutive quarters of growth. And we see the same
evidence, evidentiary pattern in the private sector job growth.
I think we all recall in January of 2009 the economy was losing
more than 800,000 private sector jobs a month. In December
2010, the last month we have data for, the economy gained
113,000 private sector jobs. We have now had 12 consecutive
months of private sector job growth.
Third, we have also seen a dramatic rebound in the stock
market. After falling to a low of 6,500 in March of 2009, the
Dow has now risen back up well above 11,000--in fact,
approaching 12,000.
Two highly respected economists--Dr. Alan Blinder, the
former Vice Chairman of the Federal Reserve, and Mark Zandi,
who was an adviser to the McCain campaign--completed a study
last summer that measured the impact of Federal action,
including TARP and stimulus, including both the Fed's monetary
policy actions and the fiscal policy actions by Congress and
the administration. Here is a quote from their report:
``We find that its effects on real GDP, jobs, and inflation
are huge and probably averted what could have been called
`Great Depression 2.0.' When all is said and done, the
financial and fiscal policies will have cost taxpayers a
substantial sum, but not nearly as much as most had feared and
not nearly as much as if policymakers had not acted at all. If
the comprehensive policy responses saved the economy from
another depression, as we estimate, they were well worth their
cost.''
The next chart shows Dr. Blinder and Dr. Zandi's estimate
of the number of jobs we would have had without the Federal
response. It shows we would have 8.1 million fewer jobs in the
second quarter of 2010 if we had not had the Federal response,
specifically the TARP and the stimulus.
A similar story can be told by studying the unemployment
rate. The unemployment rate averaged 9.7 percent in the second
quarter of last year. According to Dr. Blinder and Dr. Zandi,
if we had not had the Federal response, the unemployment rate
would have been 15 percent in the second quarter and would have
continued rising to 16 percent in the fourth quarter of 2010.
There is no question that the unemployment rate has remained
stubbornly high. Just a little over 3 years ago, it stood at 5
percent. It nearly doubled within a year's time and has
fluctuated in the 9-percent-plus range ever since.
Last week, the nonpartisan Congressional Budget Office
issued its budget and economic outlook projecting the
unemployment rate will fall only slightly, to 9.2 percent by
the fourth quarter of this year, and fall farther, to 8.2
percent by the fourth quarter of 2012.
And the economy is growing at a much slower pace when
compared to past recoveries. When measured against the nine
previous recoveries over the past 60 years, we see the current
recovery lags considerably the nine previous recoveries. Why is
that? I believe it is because so much damage was done to the
fiscal and financial system in this downturn.
If you look at the previous recoveries since World War II,
some of them have been relatively sharp, but none have seen the
damage to the financial system done in this downturn. And so
that dramatically affected the credit markets, and that
dramatically affected business. That obviously affected
economic growth and economic activity.
You know, I will never forget when Ms. Romer put out her
forecast that we would see 8 percent unemployment, and I told
the White House at the time and told anybody listening that
they could throw that forecast right out the window, because
that forecast was based on the last nine recoveries since World
War II. And there was no basis for comparison because there was
not the damage to the financial system in the previous
recoveries as we experienced in this one. And so I thought it
was a forecast that had no merit.
But we are now at a critical juncture. We have been
borrowing about 40 cents of every dollar that we spend. That is
clearly not sustainable. Spending is at its highest level as a
share of the economy in 60 years. Revenue is at its lowest
level as a share of the economy in 60 years. It seems to me
readily apparent we have to work on both sides of the equation.
Gross Federal debt is already expected to reach 100 percent
of gross domestic product this year, well above the 90-percent
threshold that many economists see as the danger zone. Let me
just recommend to my colleagues the work that has been done by
two of our most distinguished economists. Carmen Reinhart was
the lead author of the book reviewing 800 years of financial
crisis. In her work and the work of Professor Rogoff at
Harvard, they concluded that when countries reach a gross debt
of 90 percent of GDP, they see future economic growth reduced
substantially. And we are at 90 percent gross debt to GDP.
Now, one thing I want to be clear on is in the press
typically you do not read about gross debt. You read about the
publicly held debt. Publicly held debt is about 30 percentage
points lower than the gross debt. So our publicly held debt
today is in the 60 percentile range, but the gross debt is over
90 and will be at 100 by the end of this year. And, again, the
work that was done by Carmen Reinhart at the University of
Maryland and Dr. Rogoff at Harvard concluded that when your
gross debt reaches 90 percent, you see future economic growth
impaired, and impaired in such a way that it translates into a
million fewer jobs. That at the end of the day, I think, is
what we must keep in mind.
I believe that the deficit and debt reduction plan
assembled by the President's Fiscal Commission on which I
served got it about right. The plan would stabilize the debt by
2014, lower it to 60 percent of GDP--let me emphasize that is
on a publicly held debt measure--by 2023, and roughly 30
percent by 2040. So publicly held debt would first be
stabilized, then be brought back from the brink, and over time
worked down to what most economists say is a far more
sustainable level.
There were 18 members on the Commission. Eleven supported
the report--five Democrats, five Republicans, one Independent.
That is, 60 percent of the Commissioners supported the
conclusions of the report that would reduce the debt by $4
trillion over the next 10 years. I believe that proved that
Democrats and Republicans can join forces when we face an
imminent threat to this country, and I believe this debt threat
is an imminent threat to the Nation. We can put together a
credible, responsible, realistic bipartisan budget plan, and
this year we need to finish the job. It will require
Presidential leadership, and it will require a Congress that is
willing on both sides to come together to do things both of us
would prefer not to have to do.
I hope very much we face up to this because a failure to do
so would mean very serious consequences for the country in the
future.
We will now turn to Senator Sessions for his opening
remarks, and I want to thank members for their attendance here
today, and, again, I thank the witnesses for their
participation. Senator Sessions, welcome.
OPENING STATEMENT OF SENATOR SESSIONS
Senator Sessions. Thank you, Senator Conrad. You have
raised the challenge that is facing us very well and I know
have made a case that a lot of what we have done has been
successful. I understand that, but there are others who have
concerns about what we have done and how well it has worked and
how much we have accomplished.
I would like to get into a good discussion with our
excellent panel, and I am sure we will learn a lot from them.
It does appear we have been kicking the can down the road, and
I thought that the roundtable discussion in Barron's with some
of the world's biggest financial investors earlier this year
raised some of the same problems and questions that you have
raised and maybe some others also that lead us to a conclusion
we are facing a very, very serious national challenge that I
believe this Committee, as you indicated at our last meeting,
will have to provide leadership for. And I would be glad to be
with you in that effort.
I had the honor to meet with Mr. McTeague, former Prime
Minister of New Zealand, who took over a country that was
running systemic deficits for quite a number of years, and he
participated in leading that country to sustained surpluses and
unprecedented economic growth, growth in sound currencies, and
he told me recently that he believed we need to have a goal of
a balanced budget. I think that is a psychological, political
question for us to ask. It is not easy to get there. I am
convinced we can get there, but the American people are goal
oriented, and if we can articulate for them a real substantial
reduction in this debt and show them how there may be some
short-term pain but long-term gain, I believe politically we
are in a better situation to accomplish that than we have been
in some time.
I just would quote from that Barron's roundtable interview
some interesting questions. Mr. Zulauf out of Switzerland said,
``There are two worlds: the industrialized world and the
emerging world. The industrialized world continues to live in a
fiction that it can afford its current lifestyle by going
further into debt. At some point the bond markets will rot
against that. The private household sector, not only in the
U.S. but several industrialized countries, remains stretched
financially and will continue to deleverage, reduce their debt,
but the public sector is leveraging up, and there is the
threat,'' he suggests.
Bill Gross, who I guess handles more money than any man in
the world, at PIMCO Bond Fund said, ``Printing your way out of
this or kicking the can is possible for some countries, but the
solution is not to create paper. It is to create goods and
services the rest of the world wants to have.''
They asked, ``What are the prospects for that?'' And he
said, ``The Obama administration has failed miserably in that
regard. It has focused on consumption and fiscal stimulation
that will give us 4-percent growth in 2011"--his estimate. The
estimates of these experts were from 2.5 to 4. He had the
highest growth projection for this year. But then he adds,
``But it gives us nothing more than that. It is a sugar high
that quickly disappears in 2012.''
So we are facing some serious, grim prospects. Unemployment
has not come back well, as we would like to see it. Indeed, at
the end of the year, the Government survey indicates that the
hours worked had not increased, which is an indicator that
unemployment will go down if weekly hours are going up. That is
not a good factor. The wage increases were slight, very slight
this year, and below inflation, so that puts our net wage
income not in a very good position. The amount of jobs added
looked better than they are because we have to add 150,000 a
month to stay level, and so we have seen job increases, but not
much above the level you have to have to really reduce
unemployment. And if wages are not increasing, the net money
circulating is not where it needs to be. So I am worried about
that.
And what I think--what I would like to be in a position
where we were with Mr. Volcker. One of his associates just
retired from the Fed. Brookings said that Mr. Volcker said,
``Enough is enough. We have to get off this road. And he stood
firm. They protested. They asked for his resignation. Tractors
circled his building, probably some from North Dakota, and
Alabama, too, probably. But he said, ``We knew we were right.''
``We knew we were right.'' And I just do not sense we have that
kind of leadership today.
I was disappointed that the new chief of staff, Mr. Daley,
taunted the Republicans on his show Sunday, saying, ``Where is
the beef? You tell me where you are going to cut.''
What did that mean? I say that means that the
administration is not prepared to lead. They are not prepared
to discuss the seriousness of the challenge we face and
suggests that if somebody else steps up and makes suggestions
about how to reduce this deficit, they may well even be
attacked by the President and his administration. So I hope
that is not true, but that is what it seemed to suggest for me.
And I did not see the kind of leadership I hoped for in the
State of the Union.
So, Mr. Chairman, you said a few things political, I said a
few things political, but the truth is our country is in
serious trouble. You and I both agree with that, and we are
going to have to work together to do better. And thank you for
calling this hearing.
Chairman Conrad. Thank you, and let me just say to members
of the Committee, what I said at the last hearing, I think even
more strongly today, it has to start somewhere. And in the
congressional process, we are it. I do not know what other
Committee is going to take this on. The Appropriations
Committee, they are not in a position to do it. The Finance
Committee is not in a position to do it. So I think very
clearly it is going to fall to us.
Look, I would much prefer that there would be a summit with
the White House, the congressional leaders, Republican and
Democrat, House and Senate, sit down and craft a long-term plan
to get us back on track. I think that would be the best way to
proceed because I think it is very important this be done
before we get into a debate on the debt limit extension,
because if the debt limit extension has to be the way of
getting a result to get a plan, that in itself has serious
risks attached to it. We could lose credibility in the bond
markets globally if that is the leverage that has to be used.
So we are much better off as a country if a plan is put in
place prior to getting to the debt limit debate.
But if there is not going to be that kind of summit, then I
do not know of an alternative to this Committee and the
Committee in the House trying to craft a long-term plan and
begin sort of bottom-up. So, again, I issue again a call for a
summit involving the leaders of the House and the Senate and
the President or his designees to come up with a credible long-
term plan before we get to the debt limit crunch, which I think
will come probably in May.
But I do not think we can wait for that. I think we have to
prepare ourselves to begin crafting a plan here. And, look, it
is not going to be easy. But we have a good beginning. We have
had an excellent hearing with the head of the Congressional
Budget Office. We have an excellent hearing today, and we will
turn now to our witnesses.
Dr. Berner, welcome back to the Budget Committee, and
please proceed. I understand that you are going to be retiring
soon from this position, not retiring but leaving this
position. You have always been somebody who has been an
important resource for this Committee. Thank you.
STATEMENT OF RICHARD BERNER, PH.D., MANAGING DIRECTOR, CO-HEAD
OF GLOBAL ECONOMICS, AND CHIEF U.S. ECONOMIST, MORGAN STANLEY
Mr. Berner. Thank you, Senator. Thank you, Chairman Conrad,
Ranking Member Sessions, and other members of the Committee for
inviting me to this hearing to discuss the outlook for the
economy, to outline some things that you can do to improve it,
and briefly to discuss some of our budget challenges.
And, Senator Sessions, let me tell you that your anecdote
reminded me of when I was back at the Fed, because I was in the
building when the tractors were circling the building.
In the 6 months since I last appeared before this
Committee, the economy has improved. Aggressive and
unconventional monetary policy and fiscal stimulus helped.
While the recovery remains subpar, recent additional monetary
and fiscal stimulus will promote faster growth this year.
But the legacy of the crisis endures. Lenders are still
hesitant to lend. Home prices are still declining. State and
local budgets are strained, and we need much faster job gains
to lower the unemployment rate.
Now, we expect the economy to grow by 4 percent after
inflation over 2011 and about 3.25 percent over 2012. Two
policy-related factors assure at least moderate growth and
raise the odds of a somewhat better outcome: first, the one-two
punch from new fiscal stimulus and a Fed committed to achieve
its dual mandate; and, second, a dramatic reduction in
political uncertainty after this summer.
Three key temporary elements in the stimulus package--a 1-
year payroll tax holiday, a 13-month extension of emergency
unemployment benefits, and expensing of business investment
outlays--will boost growth this year, as you can see in the
slide here that I am putting on the screen, but partly at the
expense of 2012.
Now, there are four other factors that are already
promoting more sustainable growth. First, ongoing balance sheet
healing is easing financial conditions, except in mortgage
credit. Second, the handoff from rising output to increased
hours, employment, and income is slowly underway. Third,
stronger global growth is finally boosting U.S. output. And,
finally, pent-up demand for capital spending is healthy.
Thus, however, we have a two-tier economy. Strong
leadership from exports and capital spending are offsetting the
drag from weak housing activity and home prices and from cuts
in State and local government budgets. Low inflation has
promoted low bond yields. In turn, this has helped restrain
Federal interest costs. We believe that that will be changing
as inflation bottoms and begins to move higher. Significant
economic slack will depress inflation. But rising inflation
expectations and global pressure on food and energy quotes will
push it higher.
Let me talk about six risks that still lurk for the
economy. Two of those are domestic. Home prices could decline
by more than the 6 to 11 percent in our baseline forecast, and
State and local budget cuts could be more intense than we
expect.
Four risks are global. There could be more spillover from
Europe's sovereign credit crisis; more intense policy
tightening in China and other emerging market economies. Crude
quotes could surge past $120. That would be a risk. And
politics could interfere with appropriate policy responses, as
you alluded to.
That last risk has a new domestic dimension: The battle
over budget priorities here does seem likely to crystallize in
a showdown over increasing the Federal debt ceiling, which
could disrupt financial markets.
So the outlook is improving, but we certainly cannot be
complacent. Congress might consider other policies to improve
the outlook for housing and employment, and thus the economy.
Two years ago in testimony before this Committee I argued that
tax cuts and stepped-up infrastructure outlays really do not
get to the causes of this downturn. They mainly tackle its
symptoms and can only cushion the blow.
Likewise, the recent fiscal stimulus package will boost
near-term growth, but I will not put our economy on a strong,
sustainable path. It will boost deficits and debt, netting to a
negative for the economy over a longer time frame, unless we
adopt policies aimed directly at the cause of our problems.
So what are some of those policies? America's housing and
mortgage markets remain dysfunctional, thwarting recovery.
Reducing principal is the right remedy. Only when some cushion
of owners' equity returns and there is less risk of declining
home prices will lenders readily offer credit.
Policy options to reduce principal take two forms: those
encouraging writedowns to avoid default and those encouraging
short sales, which allow underwater borrowers to sell their
house at market value without writing a check to the current
lender.
Adding incentives for both borrowers and lenders could
energize such policies. Earned principal forgiveness is one
such. Streamlining short-sale programs would help the writedown
process for those borrowers facing foreclosure.
The recent discussion about fixing housing finance has
involved the right role for Government and how to reform the
GSEs. This debate is entirely appropriate, but it does create
uncertainty for lenders, and it overlooks the critical need to
sequence policy choices correctly. First, focus on repairing
the legacy of bad loans. Only then can policymakers implement
reform.
What about policies to improve employment? Private payrolls
have risen by about $1.2 million over the past year, but over
the past 18 months have been essentially flat. Much of that
weakness is cyclical. However, there are four structural
culprits involved: labor immobility from housing lock-in,
mismatches between skills needed and those available, rising
benefit costs, and uncertainty around policies in Washington.
Briefly, fixing housing will improve labor mobility and help
employment, and better training will improve worker skills. I
will discuss remedies for benefit costs and uncertainty in a
moment.
The economic outlook has clear cyclical implications for
the Federal budget, and addressing our structural budget
problems will improve long-term economic prospects. I would
like to conclude with a couple remarks on each.
A healthier economy would directly improve the cyclical
budget outlook, as we all know. More indirectly, fixing our
housing and employment problems with targeted remedies would
sustainably boost the economy and narrow the budget gap. Then
we could safely unwind the fiscal stimulus now in place,
further reducing deficits. But addressing structural budget
challenges by reducing entitlement outlays will free up
resources and capital for productive investment.
In the long run, the structural budget deficit is almost
entirely about Federal health care spending, directly through
Medicare and Medicaid and indirectly through the tax treatment
of employer-provided health care benefits.
In addition, addressing health care costs would improve
employment and the budget. High and rising health care benefits
provided through the workplace drive up labor costs, reduce
employment, and hurt growth. The cost of employee health care
benefits is fixed because benefits are paid on a per worker
basis. In my view, that helps explain why American employers
cut payrolls relative to GDP more aggressively than other
countries.
The plunge in employment also increased Medicaid
eligibility, pressuring State budgets. FMAP grants plugged the
States' budget holes but added to Federal red ink. The upshot
is that high fixed costs of health care benefits have enlarged
both our job deficit and our budget deficits at every level of
Government.
Reducing health care costs is the next logical step in
health care reform. The Affordable Care Act includes reforms
aimed at Medicare cost savings, but more is needed to reduce
the costs of health care for employers and employees alike.
Changing the tax treatment of health care benefits would be a
good place to start.
We are only starting to debate solutions for our long-term
budget challenges. We need your bipartisan leadership to tackle
them and steps that are fair and call for shared sacrifice and
benefits. Proposals to freeze or cut non-defense discretionary
spending do not address these challenges. In contrast, the
Commission that you mentioned, Senator, the Commission's report
offers sound principles and a balanced menu for action.
In the heat of those debates, let us remember that
uncertainty about coming policy changes, including the size of
prospective tax hikes, may weigh on decisions to hire, to
expand, to buy homes, and to spend. You can reduce that
uncertainty by crafting a credible plan to restore fiscal
sustainability.
Mr. Chairman and members of the Committee, we have many
challenges ahead. Our short-term challenge is to enhance the
odds for a more vigorous, sustainable recovery. Our long-term
challenges are to promote a sustainable fiscal policy and to
preserve our important safety nets. Thanks for your attention
and for the opportunity to offer advice. I would be happy to
answer any of your questions.
[The prepared statement of Mr. Berner follows:]
Chairman Conrad. Thank you very much.
Now, we will go to Dr. Johnson. Welcome back, Simon, and
please proceed.
STATEMENT OF SIMON JOHNSON, SENIOR FELLOW, PETERSON INSTITUTE
FOR INTERNATIONAL ECONOMICS AND RONALD A. KURTZ PROFESSOR OF
ENTREPRENEURSHIP, SLOAN SCHOOL OF MANAGEMENT, MASSACHUSETTS
INSTITUTE OF TECHNOLOGY
Mr. Johnson. Thank you very much, Senator, and I would like
to begin, if it is appropriate, by endorsing your call for a
summit on these issues before the debt limit comes to a point
and before we have a crisis.
I am, among other things, a former Chief Economist of the
International Monetary Fund, and as you know, the IMF feels
constrained in what it says to the U.S. Government for fairly
obvious reasons. I do not feel so constrained. I would like to
channel that experience and those kind of sentiments you would
hear from them. They are very worried. They think that you face
a potential issue with the U.S. debt, particularly as
international investors shift around the world, which, as I
will explain in a moment, I think is going to be happening in
the shorter term towards Europe and in the longer term towards
Asia.
And Senator Sessions, I think your citation of Bill Gross
in this context is entirely appropriate and exactly right. My
recollection, though, is that Mr. Gross, who was in no way
responsible, I think, for the financial crisis, was at the
forefront of people in the fall of 2008 calling for various
kinds of bail-outs and calling for the public sector to use its
balance sheet to support the financial sector and prevent a
second Great Depression. We can go and check the record, but I
am pretty sure that is where Mr. Gross was. And actually, I
think at that moment, his advice was fairly appropriate. But
now, of course, we see people like himself, people who are
seeking appropriate levels of yield at reasonable and
acceptable levels of risk, they will start to look elsewhere.
They start to press us.
And I absolutely think that the Chairman put the emphasis
in the right place at the beginning, which is saving the
financial sector given the alternatives in fall 2008 was the
only reasonable, responsible thing to do. But the fiscal costs
of that were enormous.
I actually like to quote, Senator, the change in net
Federal Government debt held by the private sector as you
compare the CBO baseline from early 2008, before the crisis
really broke in earnest, to the latest one. That is about a 40
percentage point increase, a roughly doubling of net Federal
Government debt as a result of the measures the government had
to take, most of which were the automatic stabilizers, most of
which were the fall in tax revenue that you get from having a
massive recession. A very small part of that was the stimulus.
And I would also remind you that the Bush administration
had a stimulus in early 2008 and the Obama administration had a
stimulus in early 2009. We can go back and second guess how
maybe you would like to redo the composition. It does not
really matter in terms of the impact on the debt. The fiscal
issue we face is because the financial system blew itself up,
and I think on this dimension, the financial crisis inquiry
commission got it exactly right. The financial system,
particularly some of the bigger players in the financial
system, got out of control, captured the hearts and minds of
the regulators, took on reckless risks, and caused enormous
damage.
The Bank of England, by the way, talks of their experience,
which is parallel to our experience and, of course, part of our
experience, as part of a ``doom loop,'' where you go through
repeated cycles of boom, bust, bailout. But, of course, you
cannot do it indefinitely because you run up against a debt
constraint, which is what Professors Reinhart and Rogoff have
pointed out to us. That is the general experience. And there is
no reason why the U.S. would be exempt from that.
And if we look at where we are in this cycle, I agree with
much of what Dick just said, but I am less positive, I am
afraid, on even this moment in the cycle when we should be
having some recovery. If you look at what is happening to
employment and compare the same metric as you used, Senator
Conrad, but just focus on loss of employment compared with peak
employment before the recession started, we are down by six
percent--we went down by six percent. We are still down five
percent from that peak. That is not like any other recession in
the post-war period. Every other recession goes down, you go
down by two or three percent in terms of employment and you
come back within 12 to 24 months. The 2001 recession was a slow
recovery, but we did not lose anywhere near as much employment.
This, I would submit to you, is actually not a recession of
the post-war variety. It is a mini-depression of the pre-1907
variety, when there used to be big financial crises in the
United States, a lot of balance sheet damage, a lot of farmers
would go bust, for example, out in the West and the Midwest,
and it would take a long time to climb out of those debt holes.
I think that is what we are looking at.
And I think in terms of the employment picture, I am very
pessimistic. I was in Davos at this World Economic Forum last
weekend and was asking everyone I could find, where are the
jobs, because the corporate sector has come back. The big
companies, the 1,600 companies represented at that forum are
doing very well. Their CEOs are happy. There are plenty of
profits, but they are not hiring in the United States. They are
hiring elsewhere. And I think even this part of the recovery is
not going to go very well for us. We are going to struggle.
And we have not fixed the problems in the financial sector.
The financial sector still has too little capital. Again, this
is the view of the Bank of England. David Miles, a member of
the Monetary Policy Committee of the Bank of England put out a
very influential paper last week. The Financial Times has its
lead editorial on it today. We do not have enough capital. We
did not fix the other dimensions of risk within our financial
sector. Even after we propped them up and put them back on
their feet on extremely generous terms, they do not want to
lend, at least to the small- and medium-sized business sector.
So that is not a good deal for the rest of the economy. It is
not supporting the recovery and employment. And there is, I am
afraid, an incentive for them to take on exactly the same kinds
of risks as they had before.
Professor Admati at Stanford University and about 24
colleagues have been working on this issue and writing about it
very clearly and very forcefully. We do not have enough equity
in our financial system. We did not have before. We did not
learn that lesson. And this is not just about the United
States. It is a global problem, but we should be the leaders of
this and we are not. We are, if anything, the laggards, at
least compared to the British and compared to the Swiss, who
are moving more decisively on this question.
In summary, I would say that while we are in a recovery
phase, while we should expect the next four months to improve
and we should expect some jobs to come back, this is going to
be very slow and very painful. It is already worse than any
other recession we have seen. It is primarily because the
financial sector got out of control, and unfortunately, when we
had the opportunity to fix it, we did not do it completely.
The Financial Stability Oversight Council, which has a
macroeconomic responsibility--financial stability, we have
learned, is absolutely critical to overall macroeconomic
policy. You cannot separate it from monetary policy and from
fiscal policy in the way we thought we could separate it over
the past 40 years. The Financial Stability Oversight Council, I
am afraid, is not so far doing a very good job on these
dimensions. There is too much trying to push the banks forward
with very thin capital levels and there is too much
encouragement of or allowing them to take on what begins to
look again like irresponsible levels of risk and excessive
leverage, which, of course, again, will come back and hurt us.
Whether or not we fix the fiscal problem--and I share your
worries that we will not fix it in the short term--the
financial sector will come back and hurt us again and again and
again unless we really reform it.
[The prepared statement of Mr. Johnson follows:]
Chairman Conrad. Thank you very much.
Now, we will go to Mr. Malpass. Again, welcome.
STATEMENT OF DAVID MALPASS, PRESIDENT, ENCIMA GLOBAL
Mr. Malpass. Thank you very much, Mr. Chairman and Senator
Sessions and others on the committee. It is a great pleasure to
be here, and thank you for the invitation to testify.
I think we have a full-blown fiscal crisis. We have been
kicking the can down the road and it is time now for action to
hold the line on spending. I think we need a full upheaval in
the culture of spending and deficits that is controlling our
government processes.
Before turning to my testimony, I would like to give a
little background. My slides are available on EncimaGlobal.com
and also GrowPAC.com, which is dedicated to smaller
governments, so people watching can follow on. I am going to go
through some of the slides.
As an aside, Senator Sessions mentioned Paul Volcker. I was
in this room--before I worked for the Reagan administration, I
was on the staff of the Senate Budget Committee, like many of
the people here, and I was in this room when Paul Volcker said,
``Enough is enough.'' And I think we are at that point where
people need to be saying, we cannot afford it, even though it
might be a good program.
If I may, I will go to the first slide. My testimony is
broken into four parts. One is the economic outlook, which is
for moderate growth. The second is the fiscal outlook, which is
for lots more debt and deficits. The third part, I address the
risks of this high a debt-to-GDP ratio. The question is whether
we are at a turning point--a tipping point where we could see
investors turn away from U.S. debt, so I am going to address
that in some detail.
And then in my testimony, I give some policy suggestions.
In particular, I think we need to start cutting spending now
rather than the summit approach which has been tried so often.
I think the goal should be to find a cut that you could make
tomorrow or late this week and find a process that can actually
implement that. You will have the Continuing Resolution
expiring on March 4, so that gives a very good opportunity to
begin cutting spending.
A second policy suggestion is that we need a debt-to- GDP
limit that is not there right now. When they wrote the
Constitution, they had no idea that people would be able to
borrow $9 trillion, as we are now, and CBO's numbers put us up
to $24 trillion. So if the Founding Fathers had known that that
was possible, they would have put a limit on that into the
Constitution, and I think they also would have said that the
maturity of the debt needs to be long-term, because we make
ourselves riskier by having a short maturity for the debt. I am
going to show you a graph on that.
And then two more policy points. I am very concerned about
the Fed's policy of quantitative easing where it is buying up
the government debt. This is a huge new role for the Federal
Reserve that should be wound down without delay.
And fourthly, tax reform is critical, and I advocate
putting a permanent extension of the existing tax rates into
the baseline so that there can be an actual process where
growth-oriented tax reform could be produced by Congress. With
the baseline the way it is now, with many of the tax rates
temporary, it is too high a hurdle for Congress to actually
come up with growth-oriented tax reform.
So in the next slide here, I show you the economic outlook.
You know, we have had a very severe recession. What this shows
you is the GDP of the country and the hammer blow that was hit
in 2008 and 2009. I expect GDP growth to rise from 2.8 percent
in 2010 to 3.5 percent in 2011, but that is still not going to
be enough to make up for the losses.
We have structural problems. I will mention three, the tax
code, the labor barriers, and the regulatory expansion. So
those slow down the private sector.
Secondly, we have growth of the Federal spending and debt,
which is a burden on the private sector. And third, the debt
and credit problems which still plague, and I will show you a
graph on that.
The next slide here gives you a little bit of good news.
Tax receipts are rising. This is the fourth quarter of 2010
divided by the fourth quarter of 2009. We are up eight percent
in tax receipts.
The problem is--
Senator Sessions. Of what period?
Mr. Malpass. So that is the fourth quarter of 2010 over the
fourth quarter of 2009. So it is up through December, eight
percent growth, eight percent higher money coming into the
Federal Government. The problem is, as you can see, that was
from a very low base, and so in our next slide, you can see the
dip in receipts. Under CBO's very optimistic projections, that
is going to gradually be made up, but even so, the debt is
yawning widely. And so the problem is that the growth that we
are envisioning does not really reduce the magnitude of the
deficit.
You can see that the budget moved into surplus in the
Clinton administration. It narrowed in the Bush administration,
the expansion in 2007 and 2008. And so what we need is to get
it much narrower than what the current CBO projections are
doing. Unfortunately, in their work last week, in their new
baseline, they increased the deficit to $1.5 trillion just for
this current fiscal year. This is a yawning deficit.
This is the total debt of the United States, and one point
for concern is even though the private sector is deleveraging,
the government is borrowing as fast as the private sector is
deborrowing, is deleveraging, and so we have 245 percent of GDP
in debt.
The next slide shows you the break-up of that debt. So as
we break down, where is that debt, so it is $35 trillion of
debt in the country and it is broken down here. Household debt
is roughly $13 trillion. The Federal, State, and local debt is
$11.4 trillion, but let us pause. Where is that number going to
go? The Federal, State, and local debt is going to $28
trillion, meaning way up in the ether of this hearing room, way
off the chart, in just the next five or ten years because of
the large deficits. And you can also see the non-corporate
businesses at the bottom here are shrinking. They are losing
credit and they are getting taken over by bigger businesses. We
have an economic policy that favors big government and big
business right now and that is hurting jobs.
On the next slide here, you can see the projection, Federal
Government marketable debt going to 100 percent of GDP,
assuming the Bush tax cuts are extended.
And on nine--I will go quickly through these first ones
because I want to dwell on the maturity of the debt later on.
This shows you the detailed numbers, $35 trillion, and the
breakdown of the various debt, including $9 trillion of
marketable Federal debt and then an additional $4.6 trillion
that is in the Social Security Trust Funds. So that shows you--
this is a way to tie out where the national debt really is
residing.
The next slide shows you a barrier on--
Chairman Conrad. David, can I just stop you on that point--
Mr. Malpass. Yes.
Chairman Conrad. --so the people that are listening maybe
are able to understand. I think the point that you have just
made is the total debt in the United States, Federal, State,
local, corporate, individual, about $36 trillion.
Mr. Malpass. Yes.
Chairman Conrad. So if we were to have a one percent
increase in interest rates, that would add $360 billion a year
in burden to this economy. That would be like a tax increase,
right? It would be the effect of a tax increase. If we had a
one percent increase in interest on $36 trillion of debt, it
would be like a $360 billion tax increase.
Mr. Malpass. That is true. It would be a burden on people
who are borrowing money. Now, the good news on an interest rate
increase is the U.S. household sector--I will show you a graph
in a minute showing that the U.S. household sector is the
biggest net creditor in the world, and so much of that interest
would be paid to the people in the United States who are saving
money. And so you are right that it would be a burden on the
people who are now maybe growing, expanding, borrowing money,
but it would sure help a lot of seniors who are right now
getting nearly zero interest on their savings.
I actually favor some increase in the short-term interest
rates by the Fed in order to bring some stability in the short-
term credit markets. It is very odd to have a country running
with interest rates near zero.
But the point is exactly right. There is a giant debt
burden out there, and so as we think our way through this
crisis, one of the hard parts is we have not reduced the total
amount of debt at all and probably will not and it makes us
sensitive to interest rates.
So what are the banks doing? Here, the large banks are
beginning to lend a little more. The top line is large banks.
The bottom line is small banks. And you can see there is no
loan growth going on from the smaller banks. They are still
under the regulatory thumb. It is a very harsh regulatory
environment--
Chairman Conrad. David, can you just tell us, in terms of
the chart, what is the period of time we are dealing with? I
cannot read the--
Mr. Malpass. This runs from December of 2008 through
present. So just in 2009, large banks reduced their lending
from $850 billion down to $650 billion--
Chairman Conrad. So very dramatic. That is what I was
referencing earlier in terms of financial crisis, dramatic
effect on credit markets, huge effect on the economy.
Mr. Malpass. That is exactly right, and we are still, as
these show, not exactly digging our way out of that. Most of
the new credit that is being created in the economy is coming
from the government, which may have been stabilizing as it goes
along, but it creates its own set of risks.
To wit, the next chart shows us CBO's various forecasts. So
every couple of years, CBO says the debt-to-GDP is going to
stabilize at an ever-higher level. So in 2005, they said it
looked like 30 percent debt-to-GDP. In 2009, they said 50
percent debt-to-GDP. Just in August of 2010, the debt was
expected to stabilize at 65 percent of GDP, and now CBO is up
to 77 percent of GDP. This is not--I am not making the point
that CBO cannot forecast. No one can forecast. I am making the
point that the government debt is growing at a huge rate and
CBO is recording it.
The next chart shows us two kinds of debt. The lower line
is the publicly held debt, the marketable debt, and that is the
$9 trillion number--
Chairman Conrad. What page is that in your--
Mr. Malpass. This is on page 12 in the graphs, and in the
testimony, it is on page nine.
Chairman Conrad. Okay.
Mr. Malpass. And the testimony gives the background and the
numbers to it. And so what we see is that the debt limit, the
statutory debt limit is now up at $14.3 trillion, almost at the
size of the GDP, and certainly going to go above it. My own
view is that the debt limit has to be increased. It is not the
right debt limit to try to regulate because it goes up with
inflation. It goes up with the growth of the economy and also
with the Social Security Trust Funds and the other trust funds.
And so that number, Congress really, I think, could not use as
an appropriate limitation on the amount of debt and I am
recommending that we shift over to marketable debt-to-GDP as a
ratio that you could limit for the next 100 years. That number
should be decided on and then used as a limitation on
government debt.
On page 13, then, this shows you--and I will not dwell--you
know better than I the various breakdowns of spending, but I
will note, this shows you the spending per GDP for various
parts of the budget, and notable is that the interest costs are
going to go up very dramatically, even in CBO's really
optimistic--they are assuming interest rates stay really well
behaved, nothing like what has gone on in Greece, well behaved
interest rates. The interest costs shoot up, and look where the
loss comes from. Defense spending is--this is the President's
budget from fiscal year 2011, and also all other spending,
meaning you are not controlling Medicare costs, Medicaid costs,
or Social Security. It is going to come out of huge cuts just
in the next five, eight years for all the other government
spending and services that come out of the Federal Government.
The next chart shows us the same kind of presentation, but
in dollar terms. So what you can see is the Medicare and
Medicaid costs are $1.6 trillion, and notable on this graph is
interest costs will almost overtake the entire defense budget
by 2021 in the CBO ten-year budget window.
One point I will make on this graph is I think Congress
should be looking at spending this way, meaning that there are
all these things that you spend money on, and it does not
matter so much whether it is an entitlement, whether it is a
mandatory, whether it is discretionary. It is all just dollars
and it goes out very rapidly.
So rather than dividing the debate into what we do about
entitlements and what we do about the rest, just find a way to
cut $1 billion this week and $2 billion next week and we would
be ahead of the game. And whatever it comes out of, the public
will cheer and say, good job, and then you will get some
support for doing the next round of restraint.
On 15--I only have a few more here--on 15, this shows you--
I am going to show you two or three graphs that are the
optimistic side of the CBO forecast. CBO is assuming that tax
receipts go above the 20 percent level that we have never gone
above before. So look how much it does. By 2016, 2017, 2018,
2019, we are above 20 percent of the economy in tax receipts. I
do not think we can achieve that. I think once you get up to
that barrier, you kind of hit a wall for the economy. So I
doubt--you know, we have been talking about how huge the debt
projections are coming out of CBO. I am afraid it is going to
be worse than that.
The next page shows you--I mentioned one saving grace for
the United States that is not available in Southern Europe is
we have a huge amount of assets that have been built up. This
country has been growing for 200 years and people put it away
in houses where the mortgage has been paid off, in corporations
where you have a lot of assets. And so it is 425 percent of GDP
in household assets versus that 245 percent debt. So that
should give us some hope. We can dig our way out of this hole
if we start restraining spending.
The next chart shows you, again, an optimistic CBO
forecast. Again, these are legitimate forecasts. I am not
saying anything wrong with CBO doing it this way. They get
guidance from the committee, from Congress itself. What I am
saying is that we will be lucky if we get the deficit and debt
numbers that they are projecting because it can be worse.
This shows you the net interest per debt goes up to 4.5
percent or maybe five percent of debt, which is a lower
interest rate. They are assuming the interest rates are lower
on this coming debt than what we have had on the past debt,
which is hard to imagine since we have so much more debt.
Normally, as your debt grows, you have to pay more on it. We
are assuming in their forecasts that we pay less than
historical.
I want to shift now to the tipping point. The next chart
shows you the difficulty here. Here is CBO's forecasts. What
they shows you is that interest rates are expected to rise to
the four to 4.5 percent yield curve. That means at the short
end, by the end of this budget window, we will be borrowing at
four percent on the short end and 4.5 percent on the long end.
That sounds good, but as the next--but challenging that is,
and the next chart shows this, the very short maturity of our
debt. This is a key point, that we have not only a huge, record
amount of debt, but it is also a record short-term nature of
that debt, which means that if we get into a hiking cycle, we
are in deep trouble, and I am worried that that is what we will
get to.
What this chart shows you is the effect of the Fed now
buying back the long-term debt. Look, the Treasury has issued
long-term debt which stabilizes the country because it means we
do not have to roll it over. The Fed is buying precisely that
safest debt and buying it back into the U.S. Government. And so
the effective maturity on the national debt has gone down to 40
months, which is--we are back to the 1970s level of risk in
terms of the short nature of the debt.
A couple more charts. If we think about how a crisis
happens, a tipping point happens, the yield curve for Greece--
next chart--shows you what happened to Greece. They were going
along happily in 2007 with that low-yield curve, and then
whammo. They hit a tipping point and the debt exploded higher.
And the same thing happened on Greece--excuse me, on
Ireland. When they went above 90 percent, as the Chairman
noted, the Reinhart and Rogoff book points out what happens
when you hit 90 percent, and the U.S. is headed there. They hit
that in 2010, and look what happened to their interest rate.
They spiked interest rates in the middle of 2010 and that just
created a catastrophic problem in the budget deficit as they
hit that.
So as we think about the tipping point, my concern is that
we are going to be stuck with such slow growth that the living
standards will continue going down. Look at the two periods.
The 1970s and the 2000s have seen a decline in the median
household income and that puts us at risk. If we are not an
economic superpower that adds to the median household income,
we are in trouble as a country, and that is where we stand
right now.
The next chart shows you that we do not want to get to this
point. This is Europe hitting the tipping point and the
interest rates shoot up, the deficits explode, and they cannot
roll their debt. So that is what we are trying to avoid, and 25
shows you the Fed's explosion of assets, which is one thing
that has been distorting the markets because the Fed is
absorbing such a huge amount of the fiscal deficit right now.
They are using extreme leverage, 40-to- one type leverage. The
Fed now has its balance sheet up to, or is heading toward $3
trillion of assets with little oversight from the normal
Congressional appropriations process.
So in conclusion, I will mention four policy points of
view. I think you should use the opportunity of the Continuing
Resolution on March 4 to cut spending. Just do a little, or do
more. Do more every day, if you can. Second, you should use the
opportunity of the debt limit increase-- which I support, you
have to increase the statutory debt limit--but use that
opportunity in a thoughtful way to add new controls to the
national debt.
I recommend a debt-to-GDP limit as opposed to the current
nominal debt limit. A debt-to-GDP limit, say, at 50 percent and
also a limitation or a requirement that the average maturity of
the debt stay at five years or longer. We are cheating
ourselves by having the current government issue short-term
debt, putting us at risk.
And then, thirdly, the Fed should wind down its asset
purchases. They are shortening the effective maturity of the
debt. They are causing substantial market disruptions and they
are climbing rapidly.
And finally, tax reform is a high priority and I think in
order to get it done, what you should do is make the extensions
of the current tax rates permanent in the baseline, and that
way you could have a legitimate discussion about what to do
about future tax rates.
Thank you very much, Mr. Chairman and Senators.
[The prepared statement of Mr. Malpass follows:]
Chairman Conrad. Thank you. Let me just go to each of you
and ask you in turn, look, we have--this Committee is the
Budget Committee, and our obligation is to provide a budget
outline to our colleagues. We have a lot of decisions to make.
One of the fundamental questions is how quickly do we impose
fiscal discipline, fiscal austerity.
The Commission concluded--and it is interesting. Not only
did the President's Fiscal Commission conclude this; the
Domenici-Rivlin Commission concluded this, and the Esquire
Commission concluded this--all of them bipartisan Commissions.
All of them concluded for the next 18 months to 2 years we
ought to make modest changes, but put in place a plan that over
time, over the next 10 years, substantially reduces the debt,
on the rate of the President's Commission, $4 trillion of debt
reduction. Domenici-Rivlin was even more aggressive on deficit
reduction, as was the Esquire Commission--all of them
bipartisan Commissions.
What would your advice to us be in terms of a 10-year plan?
How aggressive should we be on the front end with imposing
austerity? How big a chance should we be seeking to achieve
over a 10-year budget window? Dick?
Mr. Berner. Well, Senator Conrad, I think that I would
generally endorse the timetable and the general tone of each of
those three Commissions, namely, that we do not have a short-
term debt problem; we have an enormous long-term debt problem,
and we need to come to grips with that. If we had a short-term
debt problem, then the market and market participants would be
reflecting that.
One of the things we can use as a barometer to gauge
whether we have a short-term debt problem is the response of
markets, and when markets start to question whether or not you
can service your debt, then you will see a rise in interest
rates and a widening in spreads relative to other benchmarks in
the marketplace on a global basis. We do not have that yet, so
we enjoy low interest rates, and we enjoy favorable borrowing
terms right now. But, of course, that is going to run out, and
I think, as I emphasized in my testimony and as you just
mentioned, the important thing is to craft a credible plan to
address our long-term problems. And I just want to emphasize
that credible does not mean saying that we are going to cut
$100 billion here or that we are going to have a 5-year freeze
on discretionary spending. Credible means that we are going to
attack those long-term problems. We are going to look at them
specifically and address the root cause of our long-term fiscal
problems.
Chairman Conrad. Dr. Johnson, what would your advice be to
us with respect to the question of timing?
Senator Sessions. Mr. Chairman, could I ask him to do that
in an economic sense, not adjusting your comments to what you
might think the political realities are, because that is up to
us to try to face. But we would like to have your best opinion
on what we should do.
Mr. Berner. Senator, if I could just add, my comments were
not adjusted for political reality.
Senator Sessions. I felt that. Thank you.
Mr. Johnson. Well, I think we are--I am not in favor of
precipitous, immediate fiscal austerity of the kind the British
Government is now embarked on, and we will see in the quarters
ahead how that program does. The data from the last quarter is
rather shocking. They had a decline in GDP far below all the
private sector forecasts in the U.K. Partly it was bad weather
in December, but also October and November were very bad
months.
As Dick said, we do not need--they do not need also, but we
do not need that kind of immediate cuts, but I think we do need
something over the medium term, in my opinion, that is even
more aggressive than I think where Dick is and certainly than
where David is. I think when you are carrying massive financial
sector risk, which is what we are carrying--and it is also, by
the way, what the Irish carry. If you look at page 21 in
David's charts, the Irish were considered to have responsible
fiscal policy. They blew themselves up on the fiscal side
because three banks went rogue and destroyed themselves and
were taken over by the government, because the government felt
they did not have an alternative. That is where we are. So 50
percent of GDP or 60 percent, the number commonly used, I think
is to high when you have--unless you want to deal with the
financial risk. But we did not do that. So when you are
carrying this amount of implied contingent liability over a 10-
year period, I want to get the debt down even lower because I
fear that the markets can turn very quickly. This is the Bill
Gross test, Senator Sessions. Next time you or I see Mr. Gross,
we should ask him: How long would it take you to change your
mind and shift your portfolio, for example, towards the euro
zone if they sort out their fiscal financial problems? Which I
think they will do in the next 12 to 18 months. I think he
would tell you it takes, you know, 20 minutes for him to move
his portfolio. That is how fast the yield curve can move
against this, and that is what happened, as David said, to the
Irish.
Chairman Conrad. That is what Tom Friedman called ``the
electronic herd.''
David?
Mr. Malpass. I think the goal is to avoid that electronic
herd and actually to get the private sector to start hiring
people. So I think I feel a little differently than many
economists, that if we cut a lot now in the Federal Government,
people would perk up and take notice. Global investors would
start putting their money into the United States rather than
moving it to Asia and elsewhere. So I want to emphasize that
positive feedback mechanism from going on a diet now. If you
are going on a diet, do not say, well, 3 months from now we
will have our plan laid out. Just stop eating as much this
evening, and then if you can, start your exercise program.
Chairman Conrad. But, David, let me just say to you, you
know, the problem is that is not the way the schedule of
Congress works.
Mr. Malpass. Yes.
Chairman Conrad. You know? We have a schedule here, and the
schedule is we have to have a budget resolution that guides the
Appropriations Committees. I happen to agree with you. I think
it would be wonderful if we could do it. But it does not work
with the schedule of Congress. So we have to deal with that,
and that is why, again, I asked for a summit. I think if we
want to send a signal that America is going to face up to this
problem and we are going to put together a credible plan,
nothing would be more effective than the leadership of this
country sitting down and coming up with that plan and not wait
for the debt limit. You know what I am saying? I mean, we are
not going to have appropriations bills for months because they
come later in the cycle. So we cannot do what I think you would
like to see happen, what I think would be helpful to
credibility, because, you know, we just do not get to that
stage until a little later.
Mr. Malpass. Yes, this is a tough fix. I agree with all of
you that we need the longer-term cuts and rethinking of how we
spend money, and it needs to be rather substantial. So a wonder
in the markets right now is whether there will be any ability
by the U.S. Government to actually do some of these cuts. So is
there some middle ground between what the U.K. did and doing
nothing over the next 6 months. That at least would, I think,
begin to change the minds--right now U.S. corporations are
taking their money outside the United States. They borrow in
the U.S. at very cheap rates and invest in Asia because they
are worried that the U.S. cannot cut spending. So if there
could be some symbolic or concrete types of changes to give
them reassurance, I think we would start getting jobs right
away.
Chairman Conrad. All right. My time has expired.
Senator Sessions.
Senator Sessions. Dr. Johnson, I would just say that the
TARP bailout has not cost the taxpayers a lot, but the stimulus
bill cost $900 billion at 4 percent interest. that is $36
billion a year we will pay for the rest of our lives, I
suppose, because of this one effort. Nobel Laureate Gary
Becker, whom I quoted on the floor before that bill passed,
said he did not think it would be sufficiently stimulative, and
I believe he is proven to be correct. He said it would be far
less than--I think he said 0.7 and should try to be above that
if you could get there. But anyway, neither here nor there.
I guess in one sense you could say this is not a crisis
now, but I would contend that a $1.5 trillion deficit is a huge
thing, and we will pay interest on that forever, presumably.
Interest is crowding out so much of our future potential to
invest, as the President would say, in things we would like to
spend money on. It is just going to be a huge thing even if the
interest rates stay at the rate CBO projects.
Mr. Malpass, you did not comment, I do not think, on the
Rogoff-Reinhart theory, but it is that if you get debt so high,
it reduces growth and puts you in a serious stagnant position.
Do you agree with that theory? Does that provide greater
urgency for us at this point in time?
Mr. Malpass. I think it definitely does. So as more and
more of the economy is directed by the Government, as the debt
goes up, that reflects the Government directing more parts of
the economy, and your growth rate goes down. And I think we are
already seeing that in the slower average growth rate for the
U.S. over recent decades. It is a grave concern.
Senator Sessions. The income, revenue to GDP, you referred
to--I believe you referred to it.
Mr. Malpass. Yes.
Senator Sessions. 14.8 percent. One thing I believe causes
that--and I have not seen any research done on it, but we have
skewed our revenue to high-income individuals whose income
tends to be more volatile. So now I understand it is down to--
is expected to be 14.8 percent of GDP by 2015, and Moody's is
concerned with our debt rating. How would you comment on that,
Mr. Malpass?
Mr. Malpass. The slower economy hits people that were
earning more, and so that is showing up in this lower rate-- or
smaller percentage of taxes coming from high earners. I think
it also means and helps explain why job growth has been so
weak, that we really depend a lot on new businesses and small
businesses for creating jobs. And so in the current
environment, they are not doing that as much. They are not then
scoring, you know, creating things like Google. We are going to
have this dry period of entrepreneurism and innovation. So that
will be costly to us in the long run, too.
Senator Sessions. Dr. Berner and Mr. Malpass, to follow up
on Dr. Johnson's comment about what the U.K. is doing, I think
a fundamental question is: Are they taking their medicine now
that will put them in the longer term on a healthy growth path?
Or is their reduction in spending and increase in taxes--I
think it is three to one revenue cuts to tax increases. Is that
too much austerity? And I would like the two of you to add your
views on that.
Mr. Berner. Well, you know, Senator, each country has to
determine the pace at which they decide to impose austerity,
and in the U.K. they have decided to stretch out over a 4-year
time frame the kind of austerity that we are seeing. I think
the U.K.'s particular problems right now in terms of growth
relate to other things besides the fiscal austerity that they
have imposed. But one thing we know is that they also have an
inflation problem in the U.K., which is higher than ours and
higher than most of the developed world's, and so that limits
their flexibility to maneuver as well. So they have a little
bit less flexibility to maneuver than we do. Right now we have
low interest rates, low inflation, a Federal Reserve that is
very supportive of growth. We may not have that flexibility in
the future.
So the answer, I think, is to--
Senator Sessions. Well, with regard to the U.K., just
looking at them, do you think in the long run they will benefit
from the austerity measures?
Mr. Berner. In the long run, they will benefit from those
austerity measures. The question is whether they have the right
balance given their other policies. That is absolutely right.
Senator Sessions. And, Mr. Malpass, you comment.
Mr. Malpass. I agree with that. I think we would be better
off if we could move faster even in the short run on fiscal
austerity. I take to heart the Chairman's point that our system
is not a parliamentary system. They have a way where a small
group of people can say, look, let us change the fiscal course.
Ours is going to take a lot of work among a lot of Senators,
Congressmen, the administration, and so on to get it done.
I would note the pound strengthened quite a bit when the
U.K. made this change, and that helps them in terms of their
living standards. If you think of the dollar per capita incomes
in the U.K., they have gone up while ours are going down
because of that change. And, also, I do not think we should
measure it only in terms of their GDP growth rate, which was
weak in the fourth quarter. We have to look at jobs and future
jobs that are being created, and I think by the Government
showing some discipline, that is attractive to the business
environment, and we will see the job growth doing a little bit
better even in the short run for the U.K. than what we have
been experiencing here.
Senator Sessions. Well, to you economists, thinkers,
Masters of the Universe, as I affectionately call you, the
political world is unusual. It is not quite the same. And the
idea that we can just move in and out and make changes is not
accurate. It happens that there are opportunities to make
changes. My firm belief is right now there is an opportunity to
go further than Wall Street thinks is possible in reducing
spending and put us on a sound path. Now, we do not want to do
something that, you know, would be disastrous to the economy,
but I think we better take advantage of the opportunity to
reduce spending now.
I criticized the Bush administration. We had surpluses, and
somehow it got around that deficits do not matter. They forgot
the political world. I am in here saying we cannot spend more
because it is going to run up the debt and we will lose our
surpluses, and they are saying it does not matter. But once you
politically get that ideology going, it runs out of control.
And so the American people are at a point of wanting to be more
frugal right now. I think we better go meet them halfway and
push them a little further and take the gain that we can get
now.
Thank you.
Chairman Conrad. Thank you.
Senator Wyden.
Senator Wyden. Thank you, Mr. Chairman, and I thank all
three of you for a fine presentation.
Before this meeting, there was an extraordinary discussion
that you do not see very often in the Senate. Senator Conrad,
Senator Coburn, and others put together a meeting on the debt
and where the economy is headed. At a little after 8:00, there
were more than 30 United States Senators there interested in
actually getting into the details. You do not see many meetings
like the one that was held this morning.
And what I was struck by--because the numbers are just a
clear wake-up call. I mean, if you are spending $3.7 trillion
and you have receipts of 2.2, it is not hard to figure out that
math and what the implications are. And what I was struck by
was the sense that the single most important thing here is to
send a major message to the country and to the financial
markets that you are getting serious, that you are doing
something significant. And what Senators seemed to get focused
on was the idea that you would make a substantial downpayment
this year in deficit reduction and deal with at least one major
long-term problem, one major structural problem.
I admit that I think the structural issue ought to be tax
reform. Senator Gregg, Senator Sessions' predecessor, and I
introduced legislation that would create, according to the
Heritage Foundation, 2.3 million new jobs per year, and I think
because of what you have described in terms of the economy,
what is done in terms of the long term has to give a shot in
the arm to the economy.
But I would just like to go down the row and ask each of
you to give us your sense, first of all, of a number, an actual
number that would constitute a real message that you are making
a downpayment this year in terms of deficit reduction, and then
your take on what would be the major long-term issue that
Congress would actually tackle this year and enact it into law.
And you have already heard my judgment that it ought to be tax
reform because of growth.?
So we will just go all three of you, and I would also note
Mr. Malpass spent years in Oregon, and we are glad to have an
Oregonian before the panel. We will claim you.
Mr. Berner.
Mr. Berner. Thank you, Senator Wyden. You know, we do not
know exactly what the number is, but--
Senator Wyden. Just a ballpark.
Mr. Berner. --$100 billion is not impressing financial
markets. Something, you know, quite a bit larger than that,
something on the order of $400 or $500 billion. And I think
what is really important here is not so much, as the discussion
has revolved around, that that be implemented today, but that
you commit to a large number and you have a plan to make that
number understandable and to make it credible so that financial
markets will take it on board and will be positively surprised
by that number.
And I want to say I fully support--and I support David's
argument and yours for tax reform. I think that would have
enormous benefits for the economy in a number of respects, and
I hope you find a co-sponsor on the Republican side--
Senator Wyden. We will.
Mr. Berner. --to support your proposal, because I strongly
support it.
Senator Wyden. Very good. Mr. Johnson.
Mr. Johnson. I think this is absolutely the right question
at the right time. Clearly something on the order of tens of
billions does not do anything in this context, and I doubt that
even if you are talking about hundreds of billions that makes
that much difference. I think you need to be talking about the
big trillion-dollar items over a 10- to 20-year horizon, and
there are two. One is tax reform, where the good news is our
tax system is so antiquated and so messed up that even if you
do not want to raise revenue as a percent of GDP over the
cycle, there are plenty of ways to improve incentives. And when
you are improving incentives, you will actually get some
additional revenue. We take in, in terms of taxes relative to
GDP, 10 to 15 percentage points less than other industrialized
countries that have better-run tax systems. So you decide
whether or not the revenue--it certainly makes the tax system
better.
And the second is health care, Medicare in particular. That
is a big budget buster by 2030, 2040. I doubt that you want to
take on Medicare in this Congress, but those are really your
two choices. Those are the two things that would really make
the difference here. And I have to say in this context I did
not support the tax deal at the end of last year. That was a
big number over the next--over the foreseeable future. That was
a big number in the wrong direction. That was a bipartisan
consensus away from fiscal responsibility, quite contrary to
the spirit of everything that has been said here this morning.
And I am sorry that Senator Sessions stepped out because he
said that somebody said deficits do not matter during the Bush
administration. I believe that was Vice President Dick Cheney
who specifically said, ``Ronald Reagan taught us that deficits
do not matter.'' And I hope as we approach Ronald Reagan's
100th anniversary next week we all reflect on how far from
being appropriate for today's reality is that message.
Senator Wyden. I do think one other part of your testimony
that is very helpful is you are conveying a sense of urgency,
because in this town it is all about the politics of
procrastination. What I wanted as part of the end-of-the-year
agreement was a 1-year extension of the Bush tax cuts so that
you would force Congress to step up this year and actually deal
with these kinds of issues, because my concern is unless you
all and others can help us convey this sense of urgency, we
will have exactly the same debate in the lame duck session of
the 2012 Congress as we had during the lame duck session of the
2010 Congress. And that was why I wanted something that would
force action this year.
Mr. Malpass, your thoughts, the number and the question of
the big structural issue, if you get to pick one.
Mr. Malpass. Thank you for representing Oregon. The markets
are cynical about how much can be done here in our system, and
so I think as you go through this, one of the most heartening
things, if 30 Senators this morning were together, as you
mentioned, that is a big step. That is the kind of change that
people want--I mean that markets will be looking for and say,
Golly, if you got all those people in the room, something might
come out of it.
My view is--and I think you are hitting on it--that short
extensions of existing spending where you take many bites at
the apple I think would be a procedure that might work. So as
the continuing resolution discussion comes up, whatever the
amount of spending cuts that can be done in that resolution, if
you can do it multiple times in a given year, that is going to
get you a lot of credibility in terms of the financial markets
and job creation from the private sector.
So I think $100 billion in near-term spending cuts would be
very useful. Whatever the number is, then kind of make a
promise or a pinky promise of some kind that you are going to
come back 2 or 3 months later and try to do another round of
things that you can work on.
As far as what is structural reform longer term, I think
tax reform would be--Wyden-Gregg was very good, if you can get
another co-sponsor and go forward with that, and I recommend a
baseline where you look at directing the baseline so that it
gives a more level playing field. Otherwise, you are swimming
up this fast current. The CBO scoring undercuts the tax reform
process to such a degree, the normal scoring, that you will not
be able to get a growth-oriented reform.
The other procedural change I am suggesting is that you
fill this vacuum of limits. A debt-to-GDP limit would be very
comforting to markets because markets' concern right now is you
are going from 60 percent debt-to-GDP, marketable debt-to-GDP,
right up to 90, and it looks like we might go to 110, meaning
right across that threshold that the Chairman mentioned. So if
we could have some new kind of limitation other than the
statutory debt limit, that would give some underlying
confidence.
I need to make one defense of President Reagan. There was
the idea that his economics were not the right economics.
Remember what he was saying, that we cannot look at the deficit
alone; we have to look at the tax rates and at the spending.
And so we needed to cut both of those to enable the private
sector, and my view is that worked very well in the 1980s, and
we created a huge amount of jobs and growth out of good, sound
economic policy in those years.
Senator Wyden. My time has expired. Thank you.
Chairman Conrad. Senator Toomey.
Senator Toomey. Thank you, Mr. Chairman. I would like to
thank the panel for their testimony as well.
I have several questions. The first is I would like to
follow up on something that Mr. Malpass addressed, which is the
increase in the debt limit. You have advocated that we make
some structural changes essentially to get this escalating
deficit and debt under control. I happen to share the view that
we should make structural changes. We might have a difference
as to exactly which ones to make, but I do think it is very
important that we use this occasion to begin to get our long-
term spending problem under control.
So I am not in the camp that argues that under no
circumstances should we raise the debt limit. I also accept
your general premise that it is a rather blunt instrument, and
the disruptions that would occur are to be avoided, if we can.
However, I think it is very important as we approach this that
we understand exactly what might occur and what would not occur
if there is some period of time during which we do not raise
the debt limit upon reaching it.
So my first question is a simple and factual, historical
question, and that is, is it true that we have had recent
episodes in the past several decades where we have reached our
debt limit, we have not raised it immediately upon reaching it,
and we nevertheless did not default on the marketable debt
securities issued by the Government?
Mr. Malpass. To me, sir? Yes. In the late 1990s, there was
a period of roughly 4 years. It is on page 9 of my testimony.
My view is those were rather unique years. One of the things
that was happening was defense spending was being cut sharply.
Another thing that was happening was there was a temporary
slowdown in the entitlement spending. It had to do with the
generation--you know, the baby-boom generation had not yet
started to retire. So on page 9 it goes through those.
Also, in those years something was happening--yes, here it
is on the screen. Fannie Mae and Freddie Mac were really
ramping up, which operated almost like Government spending.
Remember they were kind of off-budget, and yet they are really
ending being taxpayer liabilities. So that helped paper over
that particular period of time.
I do not think we could mimic that right now.
Senator Toomey. Well, if I could interrupt for just a
second, the point is that for a short period of time the debt
limit was not raised.
Mr. Malpass. Correct.
Senator Toomey. And when the debt limit is not raised, is
it true the tax revenue still comes in?
Mr. Malpass. That is right. Money floods in.
Senator Toomey. Right. And next year, for instance, if my
numbers are right, something on the order of 70 percent of all
the money that the Government is expected to spend is going to
come in in the form of tax revenue. Is that true?
Mr. Malpass. Yes.
Senator Toomey. And something on the order of 6 percent of
all the money the Government is going to spend is currently
scheduled for interest on our debt.
So I guess the question is: Is it possible for the
Treasury, in the event that the debt ceiling is not raised, and
acknowledging that this is in some ways a disruptive thing if
that does not happen, but that the Treasury could,
nevertheless, ensure that those people holding the marketable
securities of this Government would receive their interest
payments and that those payments can be made?
Mr. Malpass. Yes, that is plausible. The fiscal deficit is
large now, so each month, the government is in a negative cash
flow of roughly $120 billion. So what would happen each week is
someone, meaning the Treasury Department or you, members of
Congress, would have to be deciding who not to pay--
Senator Toomey. Right.
Mr. Malpass. --and my concern is the disruption as--
Senator Toomey. I understand this is very disruptive and I
have acknowledged this. The point is a narrow point, and that
is do those people holding securities necessarily need to not
get their interest and principal payments, and I think you are
acknowledging that.
Yes, sir?
Mr. Johnson. Senator, I think you are playing with fire in
this scenario. One point that was not covered in David's
otherwise comprehensive review of the debt situation is
borrowing from abroad. You have to remember that it is not just
an internally funded debt. We are the world's largest borrower
and this is very dangerous. There are alternative assets out
there in the world. I know that the Eurozone does not look very
appealing right now, but I think they will turn themselves
around. The Chinese are working very hard to create alternative
reserve assets--
Senator Toomey. Right.
Mr. Johnson. --including the Renminbi. I really do not
think that you want to create potential disruptions of this
kind, because there is nothing that says that the dollar has to
be the number one reserve asset forever, and the British pound
lost this position earlier in the 20th century exactly through
fiscal irresponsibility and global overreach.
Senator Toomey. I would simply argue that I think the
fiscal irresponsibility is what hasten us into this situation,
and the refusal to do anything about it is the worst message we
could send to the market. The fact that revenue will be more
than ten times the expected cost of interest makes it very
clear to me that no responsible Treasury Secretary would ever
allow a default to occur on our debt. It would be so disruptive
and so damaging to our entire economy, to the millions of
savers, Americans as well as others, that I cannot foresee how
a Treasury Secretary would permit that to happen when he or she
would have more than ten times the revenue needed to prevent it
from happening.
Let me move on to another question, if I could, and that is
as alarming as the magnitude of the debt that we have discussed
today is, I may have missed this, but I do not recall a
discussion about another component that worries me, in fact, I
would argue is even bigger than what we have talked about, and
that is the unfunded liabilities implicit in the promises we
have made through the big entitlement programs. If you
quantified the present value of that shortfall, is it true that
that is actually several multiples of the actual publicly
traded debt that we have?
Mr. Berner. Yes, it is, Senator. It is, and obviously
different calculations will give you different results, but I
think everybody agrees that the present value of those
liabilities is enormous. In fact, if you add up Medicare,
Medicaid, and Social Security, you come up with an unfunded
liability, when added to the debt, really would exceed the
value of the assets that David showed in his charts.
Beyond that, if you look at another issue, which is the
unfunded liabilities of State and local governments, those that
are on the books as the gap between the promises they have made
for their pensions and the assets that they have, as well as
the unfunded liabilities for the health care promises that they
have made, that would add, on top of the Federal liabilities,
to what you are talking about. So the answer is definitively
yes and resoundingly so.
Mr. Johnson. But we also need to add and score
appropriately the contingent liabilities that arise out of the
financial sector--
Senator Toomey. Right.
Mr. Johnson. --because we just pushed up debt by 40
percentage points of GDP because of the way the financial
sector--
Mr. Taylor. Agreed.
Mr. Johnson. So I think all of this needs to be included,
and I think we agree on that.
Mr. Malpass. And can I add one more? I agree with those
points. The actual size of government is going to go on. Fifty
years from now, there is going to be a defense budget and there
is going to be probably a Federal education budget and so on.
So I think as you think about the problem, I am not as focused
on dividing entitlements from discretionary spending. They are
all commitments to the people that there is going to be a
government in the next generation and the next and we just do
not have the money for it right now.
Senator Toomey. Thank you very much. I see my time has
expired. If there is time in a future round, I would like to
address yet another respect in which I think this problem is
even worse, and that is something that Mr. Malpass mentioned
briefly, which is what strikes me as potentially a very
optimistic forecast about the level of interest rates, and
when, of course, you have a huge debt, if you are wrong about
your optimistic forecasts about interest rates, then that has
devastating consequences.
Thank you, Mr. Chairman.
Chairman Conrad. Thank you for that point, because I think
that is one of the critical points, somehow, we need to be able
to persuade our colleagues of. What is the risk of a failure to
act?
You know, we have a very benign interest rate environment
now, very low interest rates, even record low interest rates.
Some are saying that is an indication we do not need to act. My
own view is it is giving us a period of time within which to
act. A failure to act within that period of time could lead to
much more serious consequences. And if you look at that ten-
year CBO outlook, they are projecting a low interest rate
environment for a decade. Well, maybe that happens, maybe it
does not. If there is one thing that is clear, we have seen it
in the case of Greece, it was clear in Mr. Malpass's
presentation, Greece, Ireland, everybody else that has run into
one of these situations, the change in your interest rate
environment can happen like that and then you are really in the
soup.
Senator.
Senator Toomey. Mr. Chairman, thank you. Just a quick
observation about how very optimistic this interest rate
assumption strikes me, and that is the assumption is that
interest rates revert to something less than their 20-year mean
over the last 20 years. That, despite the fact that the Fed is
embarking on an absolutely unprecedented program, the very
purpose of which is to increase inflation expectations. It is
my fear that they will be very successful at increasing
inflation expectations, quite likely increasing inflation
itself, and it is very hard to fathom how interest rates do not
respond by going considerably higher. If that happens, all of
these numbers change pretty dramatically.
Mr. Berner. Senator, if I could--
Chairman Conrad. Yes, go ahead.
Mr. Berner. If I could add a point to that, I think one of
the--beyond the inflation issue, it seems to me that one of the
biggest issues that is out there is that in this global
environment, market participants around the world view us as
the best credit around the world. If they start to question our
ability to service our debt and our ability to meet our
obligations, that is when interest rates adjusted for inflation
will start to rise and the risk premium on our debt will start
to rise, and as you put it so eloquently, that is when we are
really in the soup.
Mr. Johnson. But Senator--
Chairman Conrad. Simon?
Mr. Johnson. Let me pile on. It is worse than this, I
think, because again, thinking globally, I would commend to you
this new report by McKinsey Global Institute on real interest
rates. So what are global savings going to be? What is global
investment going to be? In their assessment_this is a very good
report led by Michael Spence, a Nobel Prize winner--their
assessment is, just in real terms, looking globally, interest
rates will head up. So you should add your concerns about
nominal interest rates, about inflation expectations onto the
real rate, and they say we are coming out of a period where we
have had unusually low real rates globally because we have had
savings that were higher than investments for reasons that are
now receding.
Mr. Berner. And let us be clear. If real rates go up
because economic performance is good, and as Simon just put it,
if we see strong growth around the world, then real rates
actually should go up. But if real rates are going up because
there are concerns about our creditworthiness, then that is
where our economic performance on a long-term basis will really
suffer and where the spiral becomes quite negative.
Chairman Conrad. Can I just make this point? One of the
concerns I have in listening to the discussion that is
unfolding in this town is the focus on non-defense
discretionary spending, because non-defense discretionary
spending is about 16 percent of our budget. The President used
the number 12 percent in his State of the Union because he had
an unusual treatment of Homeland Security and some other things
that he put in the defense pot that normally would not be
there. I think he put international in the defense pot.
But let us go back to that basic formulation. Non- defense
domestic discretionary spending is about 16 percent of our
budget, and yet it is getting almost all the attention for how
we solve this problem. And we are borrowing 40 cents of every
dollar we spend. If you eliminate it all, you have not solved
this problem.
So the part of our budget that is growing as a share of the
size of the economy are our entitlement accounts-- Medicare,
Social Security, primarily the health care accounts, much
bigger than Social Security. That is seven times the problem of
Social Security. And yet, you know, somehow, we do not want to
talk about it. I think I know why we do not want to talk about
it, because if you ask the American people, they say you do not
need to touch Medicare. You do not need to cut Social Security.
You do not need to touch defense. You do not need to touch
revenue.
Well, I just say this. If that is really the conclusion,
that Social Security does not have to be touched and it is
cash-negative today, Medicare does not have to be touched,
defense does not have to be touched, revenue does not have to
be touched, you cannot solve the problem. There is a
mathematical certainty you cannot solve the problem.
So some of us are going to have to help the American people
understand the unfortunate reality here, and the unfortunate
reality is, I believe, all those things are going to have to be
touched, and the sooner we do it, the better, because the less
draconian the solutions will be later on. The worst time to
deal with this is when you are in a crisis. If there is
anything Greece should have taught us and Ireland should have
taught us and Portugal should teach us is the worst time is
when you are in a crisis.
Dr. Johnson, you are the former Chief Economist at the
International Monetary Fund. Probably nobody that I am aware of
has a deeper understanding of global economics than do you.
What would be your advice to this committee with respect to the
question of how you deal with this in a systematic way? What
parts of the budget have to be dealt with over the longer term?
Does domestic discretionary spending, non-defense, does that
get you out of this hole?
Mr. Johnson. No, Senator, it obviously does not. The IMF
advice would be, or maybe will be if we get sufficiently
desperate and we need to take their advice, would be you need a
medium-term fiscal framework. You need some very clear agreed
upon rules. You need your summit. You need a bipartisan
consensus. You need to say, this is what we are going to do on
tax reform. This is what we are going to do, particularly on
Medicare. Social Security is a problem, I agree, but that can
be addressed in a relatively straightforward way. Medicare and
medical costs explode as a percentage of GDP.
And by the way, compared with other countries like, for
example, in Europe, they have the same problem. They just do
not account for it as honestly as we do. If they scored their
future medical spending like the CBO scores for us, we would
see the same problems in most of Western Europe, also, if that
is any consolation.
But if you had that framework, if you had rules that were
agreed upon, then you have the flip side of the point David
made about us not being a parliamentary democracy, which is it
is not easy to change our rules. So if you have locked into
those rules in the U.S. constitutional framework, the markets
are going to know it would take a lot to undo them and you can
lock into something five, ten, 15 years down the road which the
markets would respect because it is hard to undo. Now, it is
also hard to get there, I understand, but that is, from a
global comparative perspective, the advice that you would get.
And honestly, that is what the Chinese--we are very big
creditors to the Chinese. I guess the Chinese President paid us
a visit recently to see how his money is doing and felt okay
about that. But ultimately, they will not feel okay.
Ultimately, our creditors will demand this kind of change, too.
This is what the IMF has demanded on behalf of the IMF to
highly indebted countries around the world.
So we should do it ourselves now, as you said, before we
are rushed and before we are in a situation where it is a
crisis and you can only do really, really damaging cuts that
hurt a lot of people.
Chairman Conrad. Let me say one other thing and then we
will go to Senator Sessions. I hope very much when we deal with
these opportunities this year we are not just dealing with
short-term non-defense domestic discretionary spending. We are
talking about $60 billion, $100 billion. In one year, we got a
$1.5 trillion problem. And while that may send a useful signal,
it does not touch the problem.
We need a multi-year, comprehensive plan that reduces the
debt over the next ten years by, I believe, at least $4
trillion. Now we are talking on the scale that really has some
credibility.
Senator Sessions.
Senator Sessions. Thank you. This is a very difficult
issue. I have been with my staff since I have been Ranking
Member and I still do not have a handle on it, but I can tell
you, anybody who thinks it is easy to get this house in
financial order is not correct, as you indicated, Mr. Chairman.
I would note, though, we ought not to think that we should
ignore discretionary spending. I feel very strongly about that.
We had 35 percent in the State Department just last year, 35
percent increases for EPA, double-digit increases for
agriculture. President Bush was criticized for agriculture
increases. I saw his ten-year budget. I do not think he had a
single year over a two percent increase. We had a 12 percent--I
think it is a 12 percent increase. I am just saying, we have--
2010 levels are unusually high and we are going to have to go
back to 2008, if not lower.
I criticize the Debt Commission and their work on one
point. They certainly served a national purpose and I may well
have voted for the product if I had been on the committee. But
I would just say, their goal as given to them by President
Obama was to reduce the deficit to three percent of GDP over
ten years, and that is what they did. I understand that
projected--that deficit in ten years, three percent of GDP, is
$700 billion to $1 trillion. So I would ask the three of you
first, is that a sustainable deficit, first, just briefly, if
you would.
Mr. Berner. Senator, if that is the end of the story, then
the answer is no.
Senator Sessions. It would be good progress.
Mr. Berner. It would be good progress, absolutely, if the
story continued and there was a continuing credible commitment
to make further progress so that you got that deficit down,
because ultimately, in order to stabilize the debt in relation
to our economy, you are going to have to make further progress
on it over time and that is really what is important.
Chairman Conrad. Could I just make a point on--
Senator Sessions. Yes.
Chairman Conrad. I just want to make a correction. In terms
of the Commission, the President gave us the goal of three
percent, but we exceeded it.
Senator Sessions. Oh, you did?
Chairman Conrad. We went to 2.3 in 2015 and then down to
1.2 in 2020 because we believed, and I think it was a strong
consensus, that we had to go further.
Senator Sessions. Well, thank you, Mr. Chairman. I am glad
to correct that because it was depressing me more than I should
have been depressed.
Mr. Johnson. Senators, could I--
Senator Sessions. Yes, Dr. Johnson?
Mr. Johnson. Look, I think you should push this as far as
you can. It is a question of the risks in the global economy,
where you do not know--you are going to want to borrow this
money from somebody else. They may have a better use for their
money. They may prefer to keep their funds in another currency.
Over a 20-year horizon, I would be very surprised if the U.S.
dollar has the same level of predominance as a reserve currency
as it has today, and I would not be surprised if we shared the
stage with a stronger Euro and a much stronger and liberalized
Renminbi, the Chinese currency.
You quoted earlier that somebody said during the Bush
administration, deficits do not matter. I think that was Vice
President Dick Cheney--
Senator Sessions. I heard--I was on the--
Mr. Johnson. But I wanted to make sure--I said you were in
the room, and I think, did he not actually say, Ronald Reagan
taught us that deficits did not matter?
Senator Sessions. I am not sure, but I think that was a
private conversation that sort of leaked out and became part of
the agenda. But Mr. Greenspan recently said to a luncheon I was
at that, well, in the early 2000s, we had surpluses. We could
handle a little extra debt. So even, I think, the Fed was in
the view that when we went into the recession in 2001, a little
deficit would not hurt us. But the truth is, politically, once
you lose the high ground-- when you lose the political high
ground in Congress, it is hard to get it back.
Mr. Johnson. If I could just reinforce that point, Senator,
with regard to David's proposed debt-to-GDP limit. Certainly
debt-to-GDP is the right way to think about this, but if you go
with a 50 percent limit, or, of course, the Europeans have a 60
percent limit under the Maastricht Treaty, an intergovernmental
treaty, it has not done them any good at all. It is far too
high. In the modern world when you are hit with these nasty
shocks and you want to be able to use fiscal policy to respond
and to offset something that just strikes you completely out of
the view, 50 or 60 percent of GDP, I think, is too high because
the shocks are going to be big, very big, and push you over the
90 percent level that we are all worried about.
Mr. Malpass. I take that point well, and maybe a lower
number, 40 percent debt-to-GDP ratio, would be more acceptable.
What you need to do, I think, is have escalating penalties if
you are above it, in other words, some discipline on the
budgeting process, on OMB to produce budgets that bring us down
below the debt-to-GDP limit or some kind of mechanism to give
it some teeth.
If I may, I have written down several--I think in terms of
this problem as one where you should begin today making small
decisions, or they are not really small, but do the things that
you can, so I will list several things that we have talked
about.
One is I think the Fed should wind down its buying of
Treasury bonds. This is a huge problem where the Fed is buying
the long-term debt and therefore shortening the maturity of our
national debt. That puts us at risk.
Second, in the same vein, Treasury should be issuing more
long-term debt. We have to get our debt maturity longer to be
prepared for what comes in the future.
Third is the directed baseline in order to open a window
for tax reform. Right now, the way Congress procedures work, it
is not credible to embark on tax reform because you have to
soak up the--making permanent the existing rates. The
Alternative Minimum Tax, for example, expires, and yet everyone
knows it is going to have to be patched into the future. That
should not be part of the baseline, the cost of that. And so
you need a directed baseline in order to create a more level
playing field.
Fourth is using the Continuing Resolution--
Chairman Conrad. David, can I just stop you on that point?
Mr. Malpass. Yes, sir.
Chairman Conrad. This is one--the only thing I have heard
you say today with which I strenuously disagree--
Mr. Malpass. Uh-huh--
Chairman Conrad. --and the reason I do is if it is not in
the baseline, what does that say to Congress? That it is free.
And you and I know it gets added to the debt. And I will tell
you, I am in the Sessions camp on this. As soon as you send a
signal around here that you can cross lines and it does not
matter and things are for free, that psychology takes a hold
around here. When we crossed the line on Social Security and
went back to raiding the Social Security Trust Fund--and I use
those words, I know economists have a different view--I tell
you, that broke a discipline around here. I begged Chairman
Greenspan not to take that position because it is, yes, it is
psychological, but it matters around here. And when you cross a
line around here, Katy, bar the door.
Mr. Berner. Senator, if I could just interrupt for a moment
and agree with you on that point. One thing we have not
discussed today is budget process, and back when David and I
were working in Washington together, budget process was really
important and Congress had a process in both Houses. That
process was stuck to. Your predecessors, really Gramm, Rudman,
and Hollings came along and reinforced that process. That is
something we have not discussed today and something we need to
restore to the discussions about the budget, because if we
think in terms of credibility, what will help restore our
credibility besides the commitment to really deal with our
long-term structural problems is a game plan for getting there
and the process--
Chairman Conrad. Let me just say that the dirty little
truth in this town is that people do not want to deal with
budget process disciplines because the truth is, they do not
want the discipline.
Mr. Berner. Right.
Chairman Conrad. They want to be free to cross every line,
and it is on both sides of the aisle, I regret to say. And you
are right. We should have, I think, a return to some of the
strict disciplines we had that helped us get out of the hole in
the 1980s and in the 1990s that really proved to be quite
effective. But, you know, absent will, absent will, no process
solves the problem.
Now, I took away from your time.
Senator Sessions. No. Well, this is fabulous. These are
really serious, important issues, I think. Senator McCaskill
and I offered legislation, and we got 59 votes, that would have
made statutory caps using the President's budget and it would
take a two-thirds vote to violate that. It would have been a
firewall, although in truth, now, I think we realize that those
numbers were too high. We will have to wrestle with it.
This is about the economy, and one question I would like to
pursue a little further--Mr. Malpass made reference to it--is
the QE2 and the Fed's action. That same Barron's article I was
reading, Mr. Hickey, the editor of High-Tech Strategist in
Nashua, New Hampshire, said we continue to print money, and am
I not correct, Mr. Malpass, that the Fed buying Treasuries is
printing money? Is that fair to say?
Mr. Malpass. It risks that. I will make maybe a rhetorical
point or a mild point here. Technically, the Fed borrows it
from banks, and so as long as--and creates excess reserves at
the Fed. So as long as we have this stoppage in the regulatory
process where banks are not lending, then there has not been an
actual expansion of the amount of money in the private sector.
So--
Senator Sessions. But with the leverage that the Fed uses--
Mr. Malpass. All that has happened so far is the Fed is
taking on the risk of the private sector by owning long- term
debt. So they are exposed if interest rates go up. We, the
taxpayer, are exposed. But from the standpoint of the actual
lending going on by banks, it has not expanded.
Now, this may be a distinction without a difference. So I
think the point is well taken that by the Fed going down this
line, people worry about the Fed. They worry about the dollar.
They worry about the United States, and that is not good for
us.
Senator Sessions. Mr. Bernanke answered similar to you at
the hearing a few weeks ago when I asked that question. He
said--I quoted him as being 100 percent certain that he could
pull back and not allow inflation to take off. But he said he
really said he is certain he has the tools to avoid that.
Mr. Malpass. And I would say we should not be taking this
risk. His original goal was to lower the interest rates on
corporate bonds. That has not worked. And what we are exposing
ourselves to is this shorter maturity of--they are buying the
long-term bonds in. That is the opposite of the direction we
should be going.
Senator Sessions. Leaving us more exposed to short- term.
Mr. Malpass. That is right, and so it is like you are
taking--here you are, worried about keeping your job, and the
banker calls up and says, hey, would you not like to move from
a 30-year mortgage down to a three-year floating rate mortgage?
Now, you know what to do. Do not take that choice. And that is
what the Fed is doing. They are moving the country from a long-
term fixed rate mortgage to a short- term floating rate
mortgage at a time when we are already a little bit shaky.
Senator Sessions. Well, with regard to this question, maybe
I will let any of you who would like to comment on it do so. I
think it is a matter out there in the public and in the
financial markets. Mr. Hickey says that in 2000, easy money led
to gross imbalances. In the mid-2000s, one percent interest led
to a housing bubble, and then the credit crisis, and now rates
are zero. To get a response from the economy, the Fed must
print ever more money. It did, and everything looks great right
now. But as of June when the $110 billion they are printing per
month ends, things might not look so rosy. The economy has
structural problems and we are not dealing with them. Money
printing will not work, yet that is the prescription we
continue to give the patient. If the Fed keeps printing after
June, we will have higher gasoline and food prices and more
imbalances until this ends, and at some point, it will end
because the dollar will fall apart, and what we are now doing
makes everything appear rosy, but it is devastatingly terrible
policy for the long run.
I think that is a perception out there by a lot of people.
You guys are really sophisticated. Let me ask you to respond to
that.
Mr. Malpass. May I interject one thing briefly? Paul
Volcker in this room in the 1980s, facing a big fiscal deficit,
said, ``The Fed could have a looser monetary policy if Congress
would have a tighter fiscal policy,'' meaning spend less and we
will have the looser monetary policy. We are breaking that rule
now in the way that you said. We are putting a near zero
interest rate on top of a massively stimulative fiscal policy.
So this is simply not the right mix.
Chairman Conrad. Can I just intercede on this point?
Because when I go back to what led to the financial crisis in
2008, my own reading of economic history is it was a
combination of an overly loose fiscal policy--we were running
massive deficits then, even in good times--an overly loose
monetary policy because the Fed was very accommodating after 9/
11 for an extended period of time, coupled with a failure to
regulate very risky financial instruments. You know, Warren
Buffett called derivatives ``a nuclear time bomb waiting to go
off,'' and in some ways that occurred, certainly with AIG.
And so you had a perfect seed bed for bubbles to form, and,
boy, did we get bubbles. We got a housing bubble. We got a
commodity bubble. Wheat went to $20 a bushel. We got an energy
bubble. Oil went to $100 a barrel. So we did not just have a
housing bubble. We had a whole series of bubbles in which we
had really laid the foundation by loose monetary policy, loose
fiscal policy. Unusual to get them at the same time. That is
another whammy to the economy. And here we are cleaning up the
economic wreckage. Dr. Johnson?
Mr. Johnson. Morgan Stanley has a very nice report on the
so-called global carriage rate which is fed by this very low
interest rate environment. I do not have my copy with me. I am
sure Dick can send it to you. I think you should look at that,
Senator Sessions, and think about these dynamics.
The points, by the way, that the two of you are making
strike me as just incredibly parallel to the debate we had in
the United States between 1907 and 1913 before the founding of
the Federal Reserve. One the one hand, there was Nelson Aldrich
who was making very similar points to you, Senator Sessions,
worrying about the fiscal implications and the inflationary
finance that would be facilitate by an overloose Fed. On the
other hand, there was the Pujo Committee and Louis Brandeis,
Senator Conrad, who was articulating a position very much like
yours, which was that the financial sector, without a surety
that the financial sector was going to be reined in and
regulated and controlled--they did not use exactly those
words--financial stability would be the ruin of us all. And I
have to say, a hundred years later both of those individuals
were right.
Mr. Berner. And I agree with that, Senator. I would say
beyond that, you know, we are using monetary and fiscal tools,
which are blunt tools, to try to solve our problems. But as we
have all talked about, we are just still experiencing the
legacy of this financial crisis. And as I indicated in my
testimony, we have not employed the tools that we could to
clean up the legacy of that financial crisis. If we did, then
the Fed would not have to run the kind of monetary policy it is
running. And as I also indicated, we would have a better-
performing economy. We could unwind some of that fiscal
stimulus that we have used to help the economy in the short
run.
Mr. Malpass. Mr. Chairman, your statement was one of the
best, succinct statements of the causes of the crisis. You
mentioned loose monetary policy, loose fiscal policy, poor
regulatory policy, and I would add in mistakes on Wall Street,
and that is the sum of it. And if everyone would accept that
and then try to avoid that in the future, we would be a step
ahead. A very good statement of it.
Chairman Conrad. Senator Toomey. Could I just say to my
colleagues, we promised to end this hearing at noon for our
witnesses, but Senator Toomey has not had his second round, and
we will go to him now.
Senator Toomey. Thank you, Mr. Chairman, and I will just be
brief. It seems to me that if you look at many traditional
measures of monetary policy, we are currently embarking on a
very unusual and, it seems to me, dangerous course. Please
correct me if I am wrong, but my understanding is prior to the
recent huge purchases of Treasuries by the Fed, the traditional
measures of money supply were already growing significantly, M1
and M2 and so on.
If you prefer to look at the Taylor Rule, for instance,
which some do and some do not, but by that measure interest
rates are well below where they ought to be.
If you look at commodity prices across a very broad range--
precious metals, agricultural, other commodities--we are seeing
very, very high rates, in some cases record rates. Does not the
cumulative evidence here suggest that there is a very
significant risk of much higher inflation? And when CBO
projects less than 2 percent, I believe, over the next several
years, could each of you just suggest whether you think it is
likely that inflation in the United States will remain at or
about 2 percent in the coming years?
Mr. Malpass. I think it will be above. I think you are
exactly right in describing the problem. I will add in we
already see the inflation in other countries where they are
closer to commodities in their CPI baskets, so that evidence is
there. And I will add in the point that the Fed has been very
wrong on that inflation estimate in the past. So, in 2003,
2004, and 2005, when the Chairman was describing the 1-percent
interest rate policy and the small increases, the Fed
drastically underestimated the core PCE deflator that would
come out and--
Chairman Conrad. David, can we just stop you on that? For
people who are listening, the core PCE, can you explain what
that is?
Mr. Malpass. Yes. PCE is the personal consumption
expenditures, and that just means consumption, and the Fed uses
the core measure, meaning excluding food and energy, let us
measure inflation by core prices.
Chairman Conrad. And they underestimated at the time that
increase.
Mr. Malpass. There is, I think, a huge mistake in the
technique the Fed is using because when they look at the number
today, it is based on what people bought last year and the
prices of those old items. And because people are very fad
oriented, meaning they want to buy the hot items, when you
measure your inflation based on what people bought last year,
those prices are going down. That is like taking the sale
items, the old model cars, where the new model cars are going
up in price. And what happened very distinctly in 2003, 2004,
and 2005--and 2005, really--is after revision, the inflation
was above the Fed's top limit, above the 2- percent ceiling
every quarter from 2003 to 2007. And yet the Fed kept saying
and promising during that period that inflation was moderating.
So it is making Senator Toomey's point that we really should
not be so confident of that--I mean, I am not confident at all
that we are avoiding inflation. Now the Fed is very loose.
Mr. Johnson. I think we are definitely not avoided
inflation. To state this in a slightly different way, headline
inflation, which is the inflation that you care about, is going
up, and there you will feel it. The Fed takes food prices and
energy prices out of its measure of core inflation. Other
central banks do not do that. The Canadians, for example, take
out the most volatile items, but those are different items from
what the Fed takes out. And this is a very conscious decision
based on the historical view of what drives inflation over a
longer period of time. We will see whether that turns out to be
right, but certainly in terms of purchasing power of consumers,
David's point, people who consume particularly things that are
really commodity intensive, relatively poor people have a
larger pot of--their consumption goes on food, for example.
They are going to be hurt by what happens.
Mr. Berner. Inflation is partly set globally. We are
clearly seeing commodity prices and food and energy prices
rising. It is already rising, as my colleagues have pointed
out, in other countries. And so, you know, the Fed, as you
pointed out, Senator Toomey, is trying to boost inflation
expectations. We do have a tug of war going on. There is a lot
of slack in the economy, and that is keeping inflation in
check. But those global forces together with rising inflation
expectations are going to lift not just headline inflation but,
in my view, core inflation over time.
Now, a little bit of that in the next year is not a bad
thing. What would be a bad thing is if we got a lot of it,
obviously, we would see not only inflation rise, but we would
see the interest on Federal debt, as you pointed out earlier,
rise very significantly.
Senator Toomey. Thank you, Mr. Chairman. I would just point
out that we learned in the 1970s that we can have a lot of
slack, weakness in the economy, and still have very high
inflation. So it is a real concern of mine. But I thank you all
for answering the question.
Chairman Conrad. Thank you, Senator Toomey.
Senator Sessions.
Senator Sessions. Well, forgive me if I do not think they
are Masters of the Universe that fully understand the
complexities of the market. You would all be billionaires
instead of millionaires, I suppose. It is hard to predict what
is going to happen, and I certainly do not think Mr. Bernanke
has had--I do not think he deserves credit for advising Mr.
Greenspan to prolong easy money too long. And I would just--Mr.
Zulauf in the roundtable added this--and I will ask this as a
final question since we made reference to Mr. Volcker. ``In the
late 1970s and 1980s, Paul Volcker crunched inflation by
applying very real high interest rates for several years. Now
we are seeing the same process just in reverse. Just as it took
several years for the market to see that Volcker's policies
would lead to declines in inflation and interest rates, it will
take years for the market to realize the Fed's current policies
are highly inflationary.''
Any comment on that?
Mr. Malpass. I agree with that concern, and I think the Fed
should stop buying bonds. It is a high priority from both a
fiscal standpoint and a monetary policy standpoint that they do
that.
As far as the risk then for us of higher inflation, one
problem that we run into is whenever the problem is distant,
then people will not focus on it. So if I say when do I think
we are going to go over 5 percent inflation, probably not for 1
or 2 years, and so that does not give you the urgency.
So one of the things we are doing today is trying to say,
look, we do not know what is going to happen next month or next
year, but what we do know is we are too close to the brink on
the tipping point. So if you can, please stop spending. Try to
find procedures that give us some confidence about the 10-year
outlook on spending as well.
Mr. Berner. I would just reiterate, Senator, the points I
made earlier. Number one, if we adopted the right policies to
fix our economic problems and housing and other problems, then
the Fed would not be running the policy that it is running
today. And I agree with David that, you know, inflation is a
process that works gradually, and that gives us a little bit of
leeway in terms of where it is going to go. But, of course,
because it has a lot of inertia to it, once it gets going then
we need to be careful, and the market reaction to higher
inflation will not be kind to the Federal budget.
Mr. Johnson. Senator, I think there is a floor in the
Federal Reserve Act. The Federal Reserve Act says that the
mission of the Board in this instance is to aim for full
employment and price stability. There is no mention about
financial stability. None of the discussion that you were both
putting before us in terms of the financial dynamics and how
things went wrong and what is likely to happen in the cycle,
none of that is seen as their top priority. And as a result,
they feel the need to pursue this policy that makes you
uncomfortable, and I think you are right to feel uncomfortable
and very nervous about it. This is a very bad place to be. It
would be better if we had had more fiscal space coming out of
the last boom. Then you would--I mean, you could still argue
whether you want to do the tax cuts or the spending increases.
Fine. But you would have had more space within which to react
to the financial crisis without pushing up against the
Reinhart-Rogoff limit or David's debt limits. But that is not
how we ran things in the boom, and as a result, we have over 9
percent unemployment. The Fed's job is to get that down, and
that resulted in this monetary policy that is a huge Hail Mary
pass, if I may use a Super Bowl metaphor.
Chairman Conrad. Thank you. Thank you all. We appreciate
very much your contributions to this Committee, and I think
this has been an excellent hearing. I want to thank Senator
Sessions for his contributions as well.
We will stand adjourned.
TAX REFORM: A NECESSARY COMPONENT FOR RESTORING FISCAL RESPONSIBILITY
----------
WEDNESDAY, FEBRUARY 2, 2011
U.S. Senate,
Committee on the Budget,
Washington, DC.
The Committee met, pursuant to notice, at 10:01 a.m., in
room SD-608, Dirksen Senate Office Building, Hon. Kent Conrad,
Chairman of the Committee, presiding.
Present: Senators Conrad, Murray, Wyden, Nelson, Stabenow,
Cardin, Sanders, Whitehouse, Warner, Merkley, Begich, Coons,
Sessions, Grassley, Enzi, Crapo, Ensign, Cornyn, Graham,
Alexander, Thune, Portman, Toomey, and Johnson.
Staff present: Mary Ann Naylor, Majority Staff Director;
and Marcus Peacock, Minority Staff Director.
OPENING STATEMENT OF CHAIRMAN CONRAD
Chairman Conrad. The Committee will come to order.
I want to welcome everyone to the Senate Budget Committee
today. Today we focus on tax reform and the important role that
many of us believe it can play in addressing our Nation's long-
term budget challenges.
We are fortunate to have four outstanding economists with
us this morning who are deeply knowledgeable about tax reform.
Dr. Gene Steuerle, Senior Fellow at the Urban Institute.
Gene has been before this Committee many times. He is somebody
that enjoys credibility on both sides of the aisle. Dr. Donald
Marron, the Director of the Urban-Brookings Tax Policy Center,
somebody who is very familiar to the Committee as well, and we
very much respect his advice. Dr. Rosanne Altshuler, Professor
of Economics at Rutgers University, who testified before the
President's Fiscal Commission, as did Dr. Marron and Dr.
Steuerle. And Dr. Larry Lindsey, President and CEO of the
Lindsey Group, very well known in economic circles as well. We
thank all of you for agreeing to give us some of your time. We
deeply appreciate it.
Let me just begin by reviewing the State of our fiscal
affairs. Last week, the Congressional Budget Office released
its annual outlook report. That report should serve as a wake-
up call to everyone who is concerned about the Nation's
finances. The chart depicts CBO's new 10-year baseline
projections, with additional policies added in, those policies
that are most likely to be adopted. We all know that CBO does
not do a forecast of what might be adopted. They do a forecast
based on current law. Then we try to add to that things that
are most likely to be adopted to get the most realistic look at
where we are headed.
That shows that due to passage of the tax extension package
and the slow pace of economic recovery, CBO is now expecting to
see deficits of more than $1 trillion a year continuing through
at least 2012. It then shows that deficits will briefly fall
before rising again as the bulk of the baby-boom generation
begins to retire and health care costs continue to climb. Now,
if this is not a sobering picture of where we are headed, I do
not know what would be sobering.
Make no mistake. We are at a critical juncture. We are
borrowing 40 cents of every dollar that we spend. Spending is
at the highest level as a share of our economy in 60 years.
Revenue is at its lowest level as a share of our economy in 60
years.
Many of us believe that tax reform must be part of an
approach to addressing our fiscal problems. The current State
of the Tax Code is simply indefensible. Our Tax Code is out of
date and clearly hurts U.S. competitiveness.
No. 2, it is hemorrhaging revenue. The tax gap, tax havens,
and abusive tax shelters undermine the effectiveness of the Tax
Code, depriving the Treasury of revenue. I believe the combined
effect of the tax gap, offshore tax havens, and abusive tax
shelters is leading us to lose more than $500 billion a year.
More than $500 billion a year.
In addition, the Tax Code is riddled with expiring
provisions. This creates enormous uncertainty for citizens and
businesses, making it difficult for them to plan. If we took
steps to simplify and reform the Tax Code, we could reduce tax
rates below where they are today and still get more revenue.
Now, let me repeat that. If we were to broaden the base and
fundamentally reform the tax system, we could actually lower
rates, helping America be more competitive and generate more
revenue. Along with lower tax rates, the tax reform would then
allow us to increase revenue to help reduce the deficit.
I think we also need to be realistic about what is
necessary to meet the needs of the Nation and return the Nation
to a sustainable, long-term fiscal trajectory. Looking at
revenues has led some to argue that revenues should be held at
the historic level over the past 40 years, about 18 percent of
GDP. Revenues, I want to point out, at that level would not
have produced a single balanced budget in all of that time
because spending exceed 18 percent of GDP in every year. In
fact, on the five occasions when the budget has been in surplus
since 1969, revenues have ranged between 19.5 percent of GDP
and 20.6 percent of GDP. It is this higher level of revenue
that I believe provides a more useful guidepost for what is
needed if we hope to dig ourselves out of the fiscal hole and
set the budget on a sustainable path. Let me indicate that
would mean we would have to have very significant cuts on the
spending side because we are well over 21 percent of GDP on the
spending side. We are over 24 percent of GDP on the spending
side.
Tax reform gives us an opportunity to lower tax rates at
the same time we are raising revenues. Tax reform achieves this
goal by broadening the tax base by eliminating or scaling back
so-called tax expenditures. Tax expenditures are all of the
deductions, exclusions, credits, and set-asides in the Tax
Code. They are costing the Treasury more than $1 trillion in
revenue a year. That matches all of domestic discretionary
spending, and many are no different than traditional spending
programs. They are simply spending through the Tax Code.
Here is how well-known conservative economist Martin
Feldstein described tax expenditures in a recent piece in the
Wall Street Journal, and I quote--this is, again, from Martin
Feldstein: ``Cutting tax expenditures is really the best way to
reduce Government spending. Eliminating tax expenditures does
not increase marginal tax rates or reduce the reward for
saving, investment, or risk taking. It would also increase
overall economic efficiency by removing incentives that distort
private spending decisions. And eliminating or consolidating
the large number of overlapping tax base subsidies would also
great simplify tax filing. In short, cutting tax expenditures
is not at all like other ways of raising revenue.''
I think this is a critically important point.
The President's Fiscal Commission, of which I was a member,
issued its report last December, and I believe that tax reform
may be the most important component of the Fiscal Commission's
plan. Here are the key elements of tax reform included in the
Fiscal Commission's plan:
One, eliminates or scales back tax expenditures and lowers
tax rates. This promotes economic growth and dramatically
improves America's global competitiveness. It makes the Tax
Code more progressive. The Commission's report included an
illustrative tax reform plan that demonstrates how eliminating
or scaling back tax expenditures can lower rates. Instead of
six brackets for individuals, the plan includes just three
brackets of 12, 22, and 28 percent. The corporate rate would
also be reduced from 35 to 28 percent, helping improve the
competitive position of the United States.
Capital gains and dividends are taxed at ordinary rates.
The mortgage interest and charitable deductions would be
reformed, better targeting these tax benefits. The child tax
credit and earned income tax credit would be preserved to help
working families. And the alternative minimum tax would be
repealed. That is the kind of tax reform that I believe we need
to adopt.
The Commission plan was also important because it showed
how to reduce the deficit and debt in a balanced way. It
included cuts in discretionary spending, entitlement reform,
and tax reform. You need to have those three fundamental
components to be successful. At least I believe that is the
case.
In total, about two-thirds of the deficit reduction between
2012 and 2020 in the plan resulted from reductions to spending.
The proposed spending cuts were significant. I would even argue
on the domestic side probably went too far. Taking revenues out
of the equation would have made it impossible to obtain the
desired deficit reduction goals. Cutting spending alone or, as
some would suggest, only cutting non-defense discretionary
spending would require such Draconian reductions that they
simply could not be sustained.
Let me just conclude on this chart. Chairman Ryan's road
map that he has laid out--this is the Chairman of the House
Budget Committee--I believe proves the point that revenues have
to be part of a plan to reduce the deficit and the debt. He
proposes discretionary and mandatory spending cuts, but
actually makes things worse on the revenue side. The result is
that his plan increases the debt as a percentage of GDP for the
next 30 years. In fact, he does not achieve balance for 53
years. He does not achieve balance for 53 years. He
dramatically increases the debt, both in dollar terms and as a
share of GDP.
To solve the long-term challenge, it will require real
compromise and a great deal of political will. We need everyone
at the table, and we need to have both sides, Democrats and
Republicans, willing to move off their fixed positions in order
to achieve a result important for the Nation. We cannot
continue to put this off. We need to reach an agreement this
year. It is time, I believe, for the administration and leaders
of Congress, Democrats and Republicans, to sit down and hash
out a long-term plan.
We will now turn to Senator Sessions for his opening
remarks. I apologize to my colleagues for the length of that
introduction, but I thought it was important in light of the
subject we have before us today. Senator Sessions.
OPENING STATEMENT OF SENATOR SESSIONS
Senator Sessions. Thank you, Mr. Chairman. I am glad to see
your passion and leadership showing itself on this issue
because we have to do some things. We cannot continue business
as usual. The article in the Wall Street Journal in which the
International Monetary Fund--I believe it was in the Washington
Post, in which the International Monetary Fund called on the
United States to get its house in order like other nations in
the world, used the phrase that all the other developing
nations who are facing debt crises--and most of them are--are
entering into a dialog with their people to explain to them why
changes have to occur. So I have been critical of the
President's State of the Union address in which he spent very
little time in an honest, direct, open way discussing with the
American people why business as usual cannot continue.
I so much appreciate your Statement that this Committee may
be where the leadership has to come, and I would be there with
you.
I am totally appreciative of the concept that you, Senator
Wyden, the Deficit Commission, and others--conservatives,
writers, and intellectuals--who favor tax simplification. Mr.
Lindsey, I was really--I hope you do not mind me quoting from
your remarks. But you quote a number of economists who say that
sensible, revenue-neutral tax reform could result in 5 to 10
percent more of GDP growth over 10 years in one study, an 18-
percent increase in GDP output. Larry Summers, the recent
former adviser to President Obama, found in another study that
there was 19 percent more growth. These are stunning numbers.
So we would leave that on the table. Frankly, I doubt they are
that high, but if we could get close to that, if we could get a
third of that, that would be marvelous for us because it would
be, as you indicated, sort of free money, Mr. Chairman. In
other words, it would create more growth which would create
more revenue.
President Obama in his State of the Union address said,
``For example, over the years, a parade of lobbyists has rigged
the Tax Code to benefit particular companies and industries.
Those with accountants or lawyers to work the system can end up
paying no taxes at all. But all the rest are hit with one of
the highest corporate tax rates in the world. It makes no
sense, and it has to change. So tonight, I am asking Democrats
and Republicans to simplify the system. Get rid of the
loopholes. Level the playing field. And use the savings to
lower the corporate tax rate for the first time in 25 years--
without adding to our deficit. It can be done.''
Well, I think if we simplify the corporate tax rate
properly, we can in a revenue-neutral way probably create more
revenue.
But let me tell you, the problem is far more serious than
that. We have, even in the real rate terms, one of the highest
if not the highest corporate rate in the developed world.
Corporations are making decisions every day where to expand,
where to hire workers. We learn things in airports. I happened
to be on the plane with a very impressive CEO of an
international corporation. CEO North America had an Alabama
plant, and he was so frustrated. I ended with an empty seat,
and he came by and sat by me and told me this story. This is
the story he told: that they had competed within their plants
worldwide in this big company to do a new chemical process that
would create 200 jobs. They had worked extremely hard at the
Alabama plant and had won the competition. He submitted it, and
they had the lowest cost per gallon of chemical stuff, and the
plant was going to be expanded in Alabama, we were going to
gain 200 jobs--until the people back in Europe said, ``We have
to calculate the taxes,'' and they recalculated the bid based
on taxes. We lost 200 jobs.
This is not academic. This is going on every day. We have
an unemployment rate that is unacceptable, and to have the
highest corporate tax rate virtually in the world, and other
nations are seeing the light and reducing it, and we remain
high. So even if we eliminate certain deductions and have a
flat rate that appears lower, it seems to my simple mind that
we have no less real burden on the corporate community than we
had before. So I think we need to figure out a way to reduce
the rates. And if it has to be paid for by some tax increase in
some other area, I am willing to consider doing that.
So I believe we need to simplify, but I also think it would
be a big mistake if we do not reduce the rates. Of course, the
U.K. is reducing their rates. Canada, I understand, is going to
16 percent. So if we are at 28, 27 after we have adjusted, we
are still way above that, and a company making the decision of
where to produce a product might well choose another country
than our own country to produce that product and cost us jobs.
So, Mr. Chairman, that is kind of where I am. I do not
think I am prepared to support just a tax simplification of the
corporate rate because I believe the entire world is
recognizing that the corporate rate is a job factor, a big job
factor. And I think in terms of the Laffer factor, if you want
to call it that, reducing the corporate rate I believe is--one
of our colleagues said the other day a study has come out and
shown that if you reduce that rate, you get more economic
growth than you would in almost any other place in the economy.
Thank you for your leadership. Thank you for this good
hearing. I look forward to the testimony of our excellent
panel.
Chairman Conrad. Thank you very much, Senator Sessions.
Now we will turn to our panel. We will start with Gene
Steuerle, Senior Fellow, the Urban Institute. Welcome back to
the Committee, Gene, and please proceed.
STATEMENT OF C. EUGENE STEUERLE, PH.D., INSTITUTE FELLOW AND
RICHARD B. FISHER CHAIR, THE URBAN INSTITUTE
Mr. Steuerle. Thank you, Mr. Chairman, Mr. Sessions, and
members of the Committee. Many tax and budget reforms know no
ideological or party boundaries. No one favors the unequal
justice, inefficiency, and complexity we see in our Tax Code
today. Neither does anyone really favor the ways that
tomorrow's scheduled deficits threaten our economy and our
children.
You have asked that I concentrate my remarks on what makes
reform most likely. Reform often starts from a common consensus
that a variety of fixes would be better than what we have.
Bipartisan agreement led to past successful tax reforms such as
in 1986, 1969, and 1954. Such bipartisan consensus also
informed close to two-thirds of the members of President
Obama's own Debt Commission. And such agreement, I would
suggest, with admitted bias, is displayed by the panel before
you. Three of us are from the Tax Policy Center. We are former
Deputy Assistant Secretaries and heads of CBO, and senior
economists on advisory panels, appointees by both Republicans
and Democrats, often come to very common conclusions. We are
not led by any party identification.
The more general point is that good Government at either 17
percent or 23 percent of GDP trumps bad Government at both
levels. When Theseus, the mythical founder-king of Athens, went
into the Labyrinth to slay the half-bull Minotaur, he was able
to escape only by following a ball of string back to where he
had entered. If we are ever to escape the tax labyrinth into
which we have journeyed, I suggest that, like Theseus, we
follow the string back along four dimensions that define our
larger budgetary problems.
First, we must move to an era of more fundamental reform. A
simple explanation of the Tax Code's evolution in recent
decades is that it broke away from its narrow revenue-raising
foundation and began to evolve much like the spending side of
the budget. Yet large systemic reforms require fundamentally
different strategies than the tax cuts and benefit expansions
that seem only to identify ``winners.'' Many domestic reforms--
like Social Security reform in 1983, tax reform in 1986--are
the harbingers of the types of tradeoffs that modern Government
must increasingly engage.
Second, we must limit how much any Congress can commit for
the future--before that future arises. I no longer divide the
budget balance sheet into spending and taxes, but into give-
away and take-away. Especially after the 1990 and 1993 budget
administrations, both political parties have increasingly come
to believe that it is political suicide to operate on the take-
away side of the budget to balance the sheets. The consequence
of fiscal democracy I have developed shows that in 2009, for
the first time in U.S. history, all revenues were committed
before the new Congress even walked in the door.
Third, we must account for and report to the public in a
more honest way. Right now, for instance, tax subsidies show up
in the budget as a reduction in taxes when they are bigger
Government in disguise.
And, fourth, we must cut across institutional boundaries.
Even today, tax reforms are unable to replace an education tax
credit with the higher Pell grant or a housing tax credit with
a housing voucher. At the same time, I believe that serendipity
arises by playing the odds in the right way. Tax reform's
probability of success can be increased by the following steps.
First, we must seize today's and not yesterday's
opportunities. Yesterday's included large individual tax
shelters, very high tax rates, and ever increasing taxation of
families with children on children and the poor. Today's
include the deficit, high corporate rates, and the
extraordinary complexity of the tax system.
Second, we must base reform on well-established principles
of public finance. Principles like equal justice have powerful
appeal and lead logically to a whole host of reforms.
Third, we must comprehensively tackle the problem. Yes,
reforms create headlines over who loses some subsidy and who
pays more tax. But the size of the headline is often
indifferent to the size of the reform. If one is going to take
a political hit, one ought to achieve something valuable, such
as a simpler Tax Code or a more sustainable budget.
Fourth, we need to shift the burden of proof. Let opponents
argue why they oppose a standard based on equal justice or
simplicity. When the standard is current law, the burden of
proof resides with reformers who appear to be picking on
particular groups.
Fifth, we must form coalitions based on legitimate liberal
and conservative principles. Tax reform in 1986, for instance,
in no small part was supported by two broad coalitions: pro-
poor and pro-family, and lower rates and reduction in tax
shelters.
Sixth, we must seek better ways to present information. In
1986, the old way of presenting tax burdens would have treated
those with tax shelters as poor people with large tax
increases.
Seventh, we must empower knowledgeable, non-partisan staff
to navigate the complexities before too many political
constraints are placed down. The tax reform acts of 1986 and
1969 came out of studies of the Treasury Department that were
conducted mainly with non-partisan staff, with most of the
political decisionmaking held off until later.
And, finally, at the political level, we must encourage
elected officials, A, to lead; B, to be held accountable; and,
C, to be empowered. In 1986 tax reform, Dan Rostenkowski and
President Reagan led by agreeing not to criticize each other.
Also, as the effort moved through at least four different
stages, someone was always held accountable and feared being
shamed by the failure to enact tax reform. At the same time,
tax reform succeeded because leaders were empowered to execute
a strategic plan as they moved through the political minefield.
Thank you, Mr. Chairman.
[The prepared Statement of Mr. Steuerle follows:]
Chairman Conrad. Thank you, Gene. Excellent testimony.
Dr. Marron? It is good to have you back.
STATEMENT OF DONALD B. MARRON, PH.D., DIRECTOR, URBAN-BROOKINGS
TAX POLICY CENTER, AND VISITING PROFESSOR, GEORGETOWN PUBLIC
POLICY INSTITUTE
Mr. Marron. Thank you, Mr. Chairman, Ranking Member
Sessions. It is a pleasure to be here to talk about the
important issue of fundamental tax reform.
Kind of echoing some of the things that have already been
said, America's tax system is clearly broken. It is needlessly
complex, economically harmful, and often unfair. It fails at
its most basic task, which, lest we forget, is raising enough
money to pay for the Federal Government. And increasingly, it
is unpredictable, with large temporary tax cuts not only in the
individual income tax, but also in corporate payroll and eState
taxes.
For all of those reasons, our tax system cries out for
reform. Such reform could follow many paths. Some analysts
recommend the introduction of new taxes, such as a value-added
tax, national retail sales tax, or pollution taxes to
supplement or replace our current system. Those ideas are worth
serious discussion, but in today's testimony, I would like to
focus on a more traditional approach to tax reform, redesigning
our income tax.
I would like to make seven main points. First, as has
already been mentioned, tax preferences pervade the tax code.
These preferences total more than $1 trillion annually, which
almost as much as what we collect from individual and corporate
income taxes combined. These preferences narrow the tax base,
reduce revenues, distort economic activity, complicate the tax
system, force tax rates higher than they would otherwise be,
and are often unfair.
Second, the first step in any tax reform should be to
broaden the tax base by reducing or eliminating tax
preferences. Doing so would help level the playing field among
different economic activities, reduce the degree to which taxes
distort economic behavior, and make taxes simpler to file and
administer.
Third, policymakers can use the resulting revenue,
potentially hundreds of billions of dollars each year, to lower
tax rates, reduce future deficits, or both. Lowering tax rates
would further reduce the economic distortions created by the
tax system and would encourage economic growth. Reducing future
deficits would help tame our Federal debt, which threatens to
grow to unsustainable levels in coming years and thus poses a
significant risk to our economy.
Fourth, many tax preferences are effectively spending
programs run through the tax code. That poses a challenge for
how we talk about tax reform and the size of government. Any
cuts to these spending-like preferences will increase Federal
revenues, but will reduce the government's influence over
economic activity. Advocates of smaller government are often
skeptical of proposals that would increase Federal revenues.
When it comes to paring back spending-like tax preferences,
however, an increase in revenues actually means that the
government's role is getting smaller.
Fifth, other tax preferences, however, are not spending
programs in disguise. More and more observers have embraced the
idea that tax preferences resemble spending through the tax
code. That is a promising development. Unfortunately, that
enthusiasm has sometimes led to the misconception that all
items identified as tax preferences are akin to spending. That
is understandable, given that these items are often called tax
expenditures, but it is not correct. Preferential tax rates on
long-term capital gains and qualified dividends, for example,
are an admittedly imperfect effort to limit the double taxation
that can occur when investment income is subject to both
personal and corporate taxes. Such provisions should be viewed
and evaluated as tax measures, not as hidden spending programs.
Sixth, many tax preferences provide benefits to millions of
taxpayers. They are not just tax breaks for special interests.
For example, the three largest tax preferences are the
exclusion for employer-provided health insurance, preferences
for retirement saving, and the mortgage interest deduction.
Americans should understand that to get the benefits of tax
reform, lower rates, simpler taxes, and a more vibrant economy,
they will need to give up some popular tax breaks.
Seventh, policymakers should reevaluate the design of any
tax preferences that they decide to keep. Some preferences are
needlessly complex and could be simplified. That is true, for
example, of the preferences aimed at low-income workers and
families. Other preferences might operate more efficiently as
credits rather than as deductions or exclusions. Credits can
provide more uniform incentives to particular activities, for
example, home ownership, than deductions or exclusions whose
value depends on whether a taxpayer itemizes and what tax
bracket they are in.
Bottom line: By reducing, eliminating, or redesigning many
tax preferences, policymakers can make the tax system simpler,
fairer, and more conducive to America's future prosperity,
raise revenues to finance both across-the-board tax cuts and
much-needed deficit reduction, and improve the efficiency and
fairness of any remaining preferences.
Thank you. I look forward to any questions.
[The prepared Statement of Mr. Marron follows:]
Chairman Conrad. Thank you.
And now we will go to Dr. Altshuler. Welcome.
STATEMENT OF ROSANNE ALTSHULER, PH.D., PROFESSOR, RUTGERS
UNIVERSITY
Ms. Altshuler. Thank you. It is an honor to appear today to
discuss the need for and the benefits of fundamental tax
reform.
Building the case for tax reform is easy. The current
system is riddled with tax provisions favoring one activity
over another or providing targeted tax benefits to a limited
number of taxpayers. These provisions, as you know, create
complexity, generate large compliance costs, breed perceptions
of unfairness, create opportunities for tax avoidance, and
encourage the inefficient use of our economic resources.
The many changes we have made to the tax code, more than
4,400 over the past 10 years, have made the income tax even
more difficult for taxpayers to understand, less stable, and
increasingly unpredictable. We seem to have forgotten that the
fundamental purpose of our tax system is to raise revenues to
fund government. Reducing the deficit to an economically
sustainable level, as we must do, will require both a scaling
back of expenditure programs and an increase in tax revenues.
The question I address today is how best to reform the tax
system so that it can raise revenue in a manner that is simple,
efficient, and fair. I will make three broad points.
First, the fiscal challenges ahead require that we reform
our income tax system or turn to new revenue sources. Raising
significantly more revenue from the current tax system is
politically infeasible and would be damaging to economic
growth.
Second, we must broaden the base of our income tax.
Although politically difficult, this type of reform is
implementable and follows a wave of similar base-broadening,
rate-reducing tax reforms that have been enacted in developed
countries over the past 30 years.
Third, the current U.S. approach to international corporate
taxation needs to be updated to reflect the increased
competition our U.S. multinationals face from foreign-based
corporations. Broadening the base and lowering the rate are
essential and straightforward first steps to international tax
reform. We should also consider updating our system to reflect
the international tax rules used by our major trading partners.
The remainder of my testimony elaborates.
Before considering fundamental reform, you might ask, can
we not just dial up the current system, increase statutory
marginal tax rates to raise the revenue required to bring the
deficit under control? A 2010 Tax Policy Center study suggests
that the answer is no. We considered illustrative changes to
the current system aimed at reducing the deficit to an average
of 3 percent of GDP. Let me briefly summarize the results.
It cannot be done. We cannot reduce the deficit to a
sustainable level with personal income tax increases alone. It
is not feasible. We looked at the revenue raised by
proportional increases in all of the current marginal tax
rates. Roughly speaking, if the system we have today were
extended, we would have to increase all statutory rates by 50
percent to reach our deficit target--all statutory rates. What
if we tried to protect low- and middle-income taxpayers from
these marginal tax increases? This would result in top rates
that would stifle economic activity. The two top rates would
need to rise to 84 and 89 percent. It is shocking. And we did
not even take individual behavior into account. Changes must be
made to the tax base if we hope to raise much more revenue from
the current system.
What about the corporate tax? Can it raise significant
revenues for us, significantly more than now? In my written
testimony, I argue that the answer is no. Most revenue from
today's corporate income tax comes from corporations that are
competing in a global market. Increasing the corporate rate is
problematic given how high our rate is. In 2010, the average
combined national and State corporate tax rate in the OECD was
25 percent. The U.S. rate was 39.2 percent, second only to
Japan. But do not worry. On April 1, Japan will reduce its
corporate rate by 5 percentage points and we will have the
dubious honor of imposing the highest corporate tax rate in the
OECD.
Keep in mind that any increase in the corporate tax rate
can be expected to induce tax avoidance through transfer
pricing and other methods of income shifting. This leakage in
revenue, along with the small role played by the corporate tax
in the current U.S. revenue structure, suggests that corporate
rate increases can, at best, move the deficit only marginally
toward a sustainable path. Our fiscal challenges require either
more comprehensive income tax reforms or new sources of
revenue.
What are the economic benefits of base-broadening reforms?
The income tax imposes efficiency costs on the economy when
taxes distort the economic decisions of individuals and
businesses and divert resources from productive uses.
Economists call the efficiency cost the excess burden, and
economic theory shows, while it is hard to understand that,
roughly speaking, if you double the tax, you quadruple the
excess burden. So as you increase the tax, the burden on the
economy increases more than proportionally.
It is easy to understand that raising a set amount of
revenue with a narrow base requires higher tax rates, but what
is often ignored is the drag on the economy created by higher
rates. The National Commission on Fiscal Responsibility and
Reform demonstrated that cutting back tax preferences and
broadening the base--by doing so, the current system could
generate revenues of about 21 percent of GDP, with top
individual and corporate statutory rates of 28 percent.
Stripping away tax provisions that distort economic
activity and lowering the rates would leave us with a system
that is less costly to our economy. It would be fairer than the
current system, less complex, and easier to administer.
Senators Wyden and Gregg also have a plan that shares these
attributes.
Let me focus on the corporate base for a second. Broadening
the base and lowering the rate could reduce a number of
distortions caused by the current system. It will not be easy
to cut corporate tax preferences to raise revenue for a
corporate rate reduction, however. While some preferences
benefit only a limited number of businesses, and we hear about
those a lot, others cut taxes for a broader set, and in
addition lower the costs of domestic investments. But it is
just not possible for us to stay competitive and grow our
economy with a tax rate that is 14 percentage points above the
OECD average.
One often hears that the statutory rate, the fact that it
is high is not important, since our narrow rate reduces the
effective tax rate. But this argument ignores the important
role that statutory rates play in business decisions. They
influence where our corporations do business, how they finance
investments, how much they invest, and their incentives to
shift income to avoid taxes. Retaining a corporate rate that is
significantly out of line with our competitors is just not a
viable path for increasing U.S. investment, jobs, and economic
growth.
What about the international tax system? You will not be
surprised to hear ours is very complex and induces inefficient
behavioral responses. Under our system, all income of U.S.
corporations is subject to U.S. corporate tax whether it is
earned at home or abroad. A number of reform proposals have
recommended a territorial tax system, which would exempt
foreign-source income from U.S. corporate income tax. All other
G-7 countries and all but six other OECD countries have adopted
territorial tax systems. Abandoning our worldwide approach
would be a major policy move and it deserves careful analysis.
We should be doing this analysis now.
The fiscal challenges ahead are daunting. Instead of
spending the next 2 years engaging in an endless debate of
whether to extend the 2001 and 2003 tax cuts, I urge you to
instead focus on building support for and designing a base-
broadening reform of the current system that can reduce our
future unsustainable debt burdens and enhance the growth of the
U.S. economy and the well-being of Americans.
Thank you. I look forward to questions.
[The prepared Statement of Ms. Altshuler follows:]
Chairman Conrad. Thank you very much.
Dr. Lindsey, thank you for coming, and please proceed.
STATEMENT OF LAWRENCE B. LINDSEY, PH.D., PRESIDENT AND CHIEF
EXECUTIVE OFFICER, THE LINDSEY GROUP
Mr. Lindsey. Thank you, Mr. Chairman. I appreciate your
invitation and that of the members of the committee.
It is amazing, listening to my colleagues. I have to tell
you, we did not collaborate in writing our testimoneys and I
will change what I am going to say, in part to avoid
redundancy.
As Senator Sessions pointed out, there is a broad consensus
in the economies profession that substantially more economic
growth can be had through a sensible tax reform. I would add to
that that in addition to the growth issues, it is important to
take a look at the static behavioral issues that my colleague,
Professor Altshuler, mentioned, and that is she observed that
the excess burden of a tax doubles--is proportional to the
square of the tax rate. So if you double the tax rate, you
quadruple the excess burden.
Senator Sessions. What does that mean?
Mr. Lindsey. Well, it is how much----
Senator Sessions. It sounded important when I heard her say
it.
Mr. Lindsey [continuing]. you distort the taxpayers'
behavior, how much more you make them worse off on top of the
rate that he has to pay. So you not only have to send a check
to the government, but because you face these high rates, you
have to do things you would not ordinarily do just to comply
with the tax code.
Just to put it into context, in the current income tax,
when you add all taxes in, including things like the Medicaid
tax, we are now debating whether we should be at 40 percent or
50 percent. When you go in that range, the excess--the burden
on the taxpayer, the total, the tax check he has to pay and the
excess burden is at $1.70 for every dollar the government
collects. When you start going over 50 percent, the numbers
become quite high. You make the taxpayer four times as worse
off as you make the government better off.
So no sensible person should think, you know, let us make
the government as well off as we can simply by taxing the
population when we know we are making the people we are taxing
one-and-a-half, two times, three times, four times worse off
than we are making the government better off. That is not the
way to enhance the wealth of the Nation.
Where I would separate myself from my colleagues, and I
certainly endorse their ideas of trying to make the income tax
better, I think looking at the problem here, we really have to
move away from an income tax-based system toward something
else. The current high economic cost of the tax system is due
to a number of factors that I think lead me to that conclusion.
The first is complexity. A lot of the tax code is really a
judgment call about what income should be taxed and what should
not. Now, in the context of our various financial problems in
the last two decades, a line came up that we should all bear in
mind. Cash is a fact. Income is an opinion. And in our income-
based system, a tax system is really about creating an opinion
about what should be taxed and what should not.
We have a lot of opinions out there. There is GAAP
accounting, Generally Accepted Accounting Principles. Those, by
the way, are not fixed over time. They change. The SEC has
certain modifications to GAAP accounting to get another opinion
about what income is. And then our tax code has a third opinion
about what income is and that changes over time. It seems a
little bit odd that the government at one time is rendering
three or more different opinions about what income is. We have
to move toward a cash-based system.
Let me give a very simple example. I have a small company
and just one of the peculiarities I face every year has to do
with my health insurance premiums for my company. Now, I am
obviously an employee of my company and that cash item is
considered deductible. It is a business expense for my
employees. I am in exactly the same health system. It is not
considered a business expense, what I pay for myself and my
family. And then when I take that, it is considered an
adjustment on the income tax, but it is fully taxed on the
payroll tax side, but not to my employees. So here you have one
cash item, identical across the board, two different taxes have
a different opinion about it, and they have a different opinion
depending upon whether you are the owner of the company or
whether you are an employee of the company.
That leads to the second problem, which people have talked
a lot about. It is horizontal inequality. Because you have all
these different taxes and each has a different opinion,
essentially, similarly placed individuals pay radically
different amounts of tax. I know Mr. Buffett is often up here
talking about tax reform and he has admitted that his taxes are
too low. He has an average tax rate of about 16 percent, if I
believe the papers. That is about half what other entrepreneurs
have.
Now, how do you fix that? Well, you do not fix it by
raising the taxes on the other entrepreneurs. You fix it by
moving toward a system that defines the income he gets in a way
that is similar to what others receive, and that is why I think
we have to move to a cash-based system.
The third problem has been touched on by a number of
comments, and that is that our income-based system, because of
the nature of the opinions that it renders about what should be
taxed, encourages economic activity to go abroad. So, for
example, an item that is manufactured in China but purchased in
America has a cost structure that involves no U.S. income or
payroll taxes on its labor content or on the profits that are
rendered. China, of course, does have a tax system, but its
rates are quite low relative to ours. The Chinese individual
income tax produces just 1.2 percent of GDP. Ours produces 7
percent. So our income tax burden is six times what China's is.
The largest tax in China is the value-added tax, which produces
a third of their revenue and is rebated on the exports they
send here.
So having an income-based system while most other countries
in the world, including Europe and Canada, are moving away from
an income-based system and toward value-added taxation or
indirect taxation, puts us at a competitive disadvantage. We
complain a lot about the advantages the Chinese give themselves
through their exchange rate, but we have a major self-inflicted
wound that we cause ourselves because we have income-based
taxation.
So again, I do not believe that these fundamental problems
with our tax structure can be adequately addressed by changes
to the income-based system. Rate reductions within the current
system have been economically successful because the excess
burden within that is so great. But further revenue reductions
are not possible. America must move away from its income-based
system toward a cash-flow system.
This should not be done as an add-on. We do not need extra
complexity. We need simplification. So adding yet another layer
of complexity is inappropriate.
Goods that are imported from abroad, even those that find
their way into products produced here, would not have to pay an
American business receipts tax, and so would not be available
for such a deduction by an importing firm.
Governments and nonprofit entities could be given separate
treatment so that only the labor component of their expense
structure would be covered by the tax.
The problems of horizontal inequality in such a system
would be minimized by having all receipts taxed once and at a
single source, regardless from where they were derived. Issues
of vertical inequality, making sure that the rate was higher
for higher-income individuals, could be accomplished through
the two-tier business receipts tax system, where the higher tax
rate exempted employee compensation below a certain amount. The
problem with encouraging lower taxes for very low-income people
could similarly be incorporated in there.
We certainly need to address our budgetary challenges, but
I do not believe that we can move forward tackling those issues
with a tax system that imposes such high economic costs when we
raise our rates to produce additional revenue. Our tax system
is limiting American prosperity through needless complexity,
horizontal inequities, and implicit subsidies of economic
activity outside of our borders. A switch to a cash-flow-based
tax system, such as a business receipts tax or even a value-
added tax, would greatly facilitate our ability to address
these budgetary issues.
Thank you very much, Mr. Chairman. I would be happy to take
your questions.
[The prepared Statement of Mr. Lindsey follows:]
Chairman Conrad. Thank you. Thank you. Really excellent
testimony, Mr. Lindsey. All of the members, I think, have made
a real contribution to the beginning of this discussion.
Let me go, if I could, to a concept that was proposed by
Professor Graetz at Yale. I think he is now at Columbia. He
made a proposal that we go to a system that is really a hybrid,
which is what most countries do. He proposed we go to a
consumption tax for the vast majority of people, take 100
million people off the income tax system completely,
substantially reform and reduce the corporate rate, broaden the
base, and he argued that this would dramatically improve the
efficiency of collection, that is that we would have less
leakage in the system; No. 2, that it would make America far
more competitive.
Let me just go down the line and ask if you have looked at
Dr. Graetz's work and what you think of his proposal and what
it would mean for both helping us reduce the deficit and at the
same time improving the competitive position of the United
States. Dr. Steuerle?
Mr. Steuerle. Well, as I tried to outline very briefly in
my testimony, I think there are actually a variety of fixes
that would be better than current law, so I would certainly say
what Michael Graetz suggests is better than what we have now.
The question is how far you want to go in adding on what would
be essentially a VAT, a value-added tax, which is the basic tax
that he would use to collect revenues from the majority of
people.
My principal concerns with Mr. Graetz's proposal, and I
think it actually is very illuminating, is at the very bottom
of the income distribution, the very top, and not the middle,
so he solves and simplifies a lot of things in the middle of
income distribution.
At the bottom, I do not think he has really grappled with
the very tough issue of how you integrate things like Earned
Income Credits and Child Credits--we could have separate
testimony on this--with Food Stamps and TANF and now health
subsidies that phaseout when your income goes up. So we have
all these indirect tax systems at the bottom that are based on
income and I do not believe that he actually has solved that
problem for the bottom.
And at the top, he leaves in place all of these deductions
and credits for high-income people, so the notion of high-
income people getting a home mortgage interest deduction and
low-income people not getting any subsidy for their housing, it
seems to me, does not quite work, either.
But if you asked for the base, the core of the proposal,
would you consider replacing a significant portion of the
current income tax with a value-added tax, I think that a lot
of economists might not agree that that is the reform they
would favor--Mr. Lindsey indicated another way he would go
about it--but I think they would say it is better than the
current law.
Chairman Conrad. If you were to move in that direction, how
do you protect the most vulnerable among us? How do you protect
those that are at the lowest end of the income scale?
Mr. Steuerle. This is a subject that has not gotten much
attention lately, but as I say, we now have low-and moderate-
income tax payers and so many phase-outs of so many programs
that their marginal tax rates are among the highest in the
Nation. Some of them face 70 or 80 percent rates. Forty or 50
percent rates are very common. You lose your Food Stamps. You
lose your--the new health law, there is a ten cents or more
phase-out of your health benefit. You lose your Earned Income
Credit. You lose your Child Credit. All these phase-outs
basically start adding up, and then you add on the Social
Security and the income tax rate.
I think we have to actually think about reform of what we
want to do at the bottom of the income distribution, in the
middle of the income distribution, and at the top of the income
distribution, almost think about them separately so we take the
progressivity issue on the side. We decide how much we are
going to collect or how much we are going to get from these
groups and then we try to simplify for each group. I think that
requires a reform effort that even goes beyond what we are
discussing today.
Chairman Conrad. Dr. Marron.
Mr. Marron. Thanks. I guess my approach is to say that
there are several things we are trying to accomplish in a tax
system. One is to raise as much revenue, the revenue we need to
pay for the government without harming the economy, and the
best way to do that is to go toward a consumption tax.
One of the other things we would like to do is achieve
certain progressivity goals. The tax system is a very important
way that we think about the distribution of after-tax income in
the United States, and frankly, income taxes tend to be a
better lever for doing that. And what the Graetz proposal is
trying to do is, in essence, find a compromise sweet spot in
there that is recognizing that for the economy as a whole, it
is better to have more of the tax base be consumption-based--
that is why he introduces a VAT--but then recognizing that if
you want what I think is widely held as kind of a fair
conception of what the distribution of the tax burden ought to
be, that you are going to need something like an income tax at
the higher level to collect that, and he is trying to strike
that balance.
My sense is that he succeeds in the sense of creating a tax
system that would strengthen the economy, be beneficial for
competitiveness. As Gene says, there are a lot of difficult
details about how you actually implement that and accomplish
all the goals throughout the income distribution, but as a
basic structure, I think it is an interesting one to think
about.
Chairman Conrad. Dr. Altshuler.
Ms. Altshuler. Yes. I agree with Donald. I am a fan, and I
very much believe that all roads lead to a VAT. I just think
that that is where we are going to have to end up. Adding a VAT
onto the system would allow for lower rates, so you get all the
benefits of the lower rates. You would have a system that is
much less complicated, I believe. You would have much less
incentives for income shifting.
It is implementable. We can do this. Canada, I mean, all
other countries in the OECD have a VAT. This is how they raise
their revenue. Virtually every other country in the world has a
VAT. So it is something that could be done.
Chairman Conrad. But how do you protect those who are at
the lowest end of the income distribution, those who are the
most vulnerable among us? How do you protect them in that
system?
Ms. Altshuler. That is the difficulty and that is what Gene
and Donald have also talked about. Now, remember that you are
going to be retaining the income tax, so you can run refunds
and transfer programs through the income tax. So by retaining
the income tax----
Chairman Conrad. You could keep the Earned Income Tax
Credit----
Ms. Altshuler. Absolutely.
Chairman Conrad [continuing]. you can keep the Child Care
Credit-----
Ms. Altshuler. Exactly. So you can help the distributional
consequences of moving to a VAT through the income tax system.
I know--I believe the Tax Policy Center is studying this right
now, and as Gene said, with more study into this, I do think
that we could get the distributional consequences to be
something that we desire, and I think what we need to remember
is that we are keeping the mechanism of the income tax, so that
is going to help us out at the bottom of the income
distribution.
Mr. Lindsey. Well. first of all, I think we all agree that
almost anything would be better than what we have, and that
would be what I would think about Mr. Graetz's comment.
I also agree that, as I said in my testimony, I think we
have to move toward a business receipts tax or VAT.
I would reject retaining the income tax along with it
because I do not see where adding yet another definition of
income or another calculation everyone has to do is a net gain.
I think within the context of a business receipts tax, you can
have substantial progressivity.
For example, you could have a base business receipts tax
rate, call it 20 percent.
Chairman Conrad. Explain that for those listening and for
the members of the Committee. What do you mean by that? How
does that work?
Mr. Lindsey. Well, a business receipts tax or a VAT are
very similar concepts. Essentially, the base would be total
receipts by the company minus what was paid and taxed to a
different company. So, for example, if I am making a car and I
buy steel, I send the steel company a check to buy the steel,
and the value-added tax on that steel is part of that. So to
avoid double taxing, if I can show that I have---basically it
is called an invoice. If I have an invoice that says you paid
tax on that once, you do not have to pay tax on it a second
time. So the base would be all the money coming in minus the
cash going out that you paid a tax on.
Now, if I bought that steel from China, I did not pay a VAT
on it or a business receipts tax, no deduction, and so we would
be leveling the playing field between purchases of goods here
and purchases of goods from overseas.
Chairman Conrad. So that would help the competitive
position of the United States vis-a-vis taxes with respect to
one of our toughest competitors, and all of our competitors who
have a similar system.
Mr. Lindsey. Absolutely. And if you think of it, that is
the central issue, and I think that it really is our central
economic issue. You have to say why wouldn't I want to throw as
much--if I am going to move to that system anyway, why wouldn't
I want to move as much of our tax base into that system as
possible? If I know I am going to gain competitiveness by doing
it, why would I only want to gain competitiveness on half my
tax system? Why wouldn't I want to gain competitiveness on all
of my tax system? And that is why I would move to the one tax.
Now----
Chairman Conrad. This one goes to--it takes us right back
to this fundamental question. If you do it all on that side of
the ledger, how do you maintain progressivity in the system so
that especially those who are the least vulnerable who benefit
from the current tax system through the earned income tax
credit, child care tax credit, how do you maintain that support
for that end of the spectrum?
Mr. Lindsey. Sure. Let me mention the high end as well.
There is no reason why--again, you have the business filling
out its tax form. They do the calculation on the base I just
said. Then you have a second line that says subtract the first
$10,000 a month you paid to every employee; in other words,
wages up to $10,000. You get another line. You put another tax
on top of that. So that high-end wages and profits, including
interest and dividends, would be subject to the higher rate. I
think that is how you get progressivity on the higher end.
On the lower end, this is not a hard problem. I mean, there
is no reason why you cannot have wage subsidies built into an
EIC--an EITC. Right now we incorporate the EIC right into the
payroll checks of most companies. You can get--I think it is
called pre-paid. There is a way. We have it in the tax system
where you can get--you do not have to wait for April 15th to
get your earned income tax credit now. You can get it in every
paycheck you file. There is no reason why you cannot do that in
the VAT system either.
The other aspect of the help for people on the lower end of
the income distribution, it has been pointed out that right now
we have among the most complicated set of rules because we have
different rules for food stamps, for health care, for what have
you. So that is something that you can reform separately. You
can run it through the tax system. You can run it through a
direct payment system, which is what a lot of what we do now
is. When you think about ``welfare'' in the old days, it had
nothing to do with the tax system. It was a direct payment to
people based on their income and based on the number of
children they had. So I do not see where there is an obstacle
toward providing progressivity in our combined tax transfer
system by moving to a value-added tax or a business receipts
tax.
Chairman Conrad. All right. Senator Sessions.
Senator Sessions. Thank you. Mr. Chairman, I would yield my
time to Senator Portman. I would just note that we have three
new Senators that have joined our Committee. Senator Portman
was, of course, at OMB, which is the heartbeat of Federal money
management, and a member of the Ways and Means Committee in the
house for a number of years. And Senator Toomey was on the
Budget Committee in the House for a number of years and was a
businessman. And Senator Johnson, who is not with us now, is a
full-time career businessman who got elected to the Senate. So
I think they all three are going to add some real experience
and perspective to our debate. Senator Portman, thank you for
being with us, and I yield my time to you in the first round.
Senator Portman. Thank you, Senator Sessions. I appreciate
your yielding your time. You know, we have all got four or five
things going on at once here, so I am going to have to step out
after my questions. But I really enjoyed the testimony, and,
Mr. Chairman, thank you for bringing this panel together. It
looks like we need to get Michael Graetz here next time so he
can talk about his ideas. You know, I did read his book, and I
am intrigued by his concepts. I will tell you, I think in the
politics of today and with the urgency of addressing our fiscal
crisis, I am not sure where to make that leap.
I will also say to the Chairman's question that one of the
thoughts that came up in relation to the Graetz ideas was to
deal with progressivity among lower-income workers by
offsetting the payroll tax, which is a good way, I think, to
both simplify the Tax Code and also to provide relief because
most low-income workers are working and do pay payroll taxes.
Those who do not, there are other ways to do it, as the panels
have talked about.
But I kind of want to take us maybe back to the kinds of
proposals that the Commission has looked at and the kinds of
proposals that the Wyden-Gregg legislation would indicate, and
that is simplifying the current code. Again, as interested as I
am in what Dr. Lindsey and others are talking about in terms of
moving to a VAT tax, I am not sure I see that as politically
viable here in the short term.
But perhaps we could move to an income tax that is simpler,
that has fewer economic distortions, that makes us more
competitive, that moves us toward eventually looking at some of
the more dramatic changes in terms of a consumption-based tax.
So a couple questions for you.
One, what should the corporate rate and the individual rate
be? There is a study we talked about in the last hearing that
is out recently by Alex Brill and Kevin Hassett from AEI
indicating that we are leaving money on the table right now
with the corporate rate being so high. In fact, I think they
say the optimal corporate rate is in the mid-20s, and the point
has been made here this morning that we are not competitive
with our OECD trading partners. Japan is going to relinquish
first place to us in terms of the highest corporate rate come
April. And this is a jobs issue.
What should the rate be? And what should the interaction be
between the individual rate and the corporate rate? The
question I, of course, have is: Given the fact that most
businesses in America do not pay their taxes at the C rate but
rather at the sub-chapter S or as partnerships and sole
proprietors, what kind of behavior will result if the corporate
rate, let us say, were at 26 percent and the individual rate
was relatively higher? Would you see that shift back to the C
corporations? And is that good for taking the economic
distortions out of our system? I do not think so because then
you would have more double taxation on the corporate side.
So I will start with you, Gene, if you do not mind and just
go down the panel, if you all could tell me again in sort of a
realistic scenario here of getting a corporate rate down, what
is the right corporate rate? And what should the right top rate
be for individuals?
Mr. Steuerle. Well, thank you, Senator Portman. It is good
to work with you on this side of the Congress this time.
Let me answer your second question first, which I think is
the easier one. I think the individual rate and the corporate
rate should be fairly near to each other. That is the
conclusion we came to in the mid-1980s, and I think it is the
right conclusion today. And I think if you ask me personally
where I would come, I would actually try to keep the rates down
into perhaps the high 20s.
But here is my dilemma. I believe that the effective rate
of tax on the public is equal to the spending rate, and the
spending rate right now is about 24 or 25 percent of GDP. The
typical tax base, the income tax, Social Security, value-added
tax, is only about half of GDP. So you are really running
rates. If we really add them all together, so you add in how
you come in the back door, through Social Security taxes, you
phaseout this, you phaseout that, most people are facing 40, 50
percent rates if you really look through the system. So the
statutory rate is hiding the effective rate that they are
facing from being phased out of all these programs, from having
all these combined tax systems. And so it is very hard for me
to give you a rate in the individual and the corporate tax that
get balanced. And the system is so out of balance--in fact, one
thing, Mr. Chairman, I hope you will consider that I think you
could even work with the House Budget Committee on is ways to
report to the public better. I really think that one way to get
at the deficit issue is to start reporting to the public that
the tax rate is equal to the spending rate, that what we are
spending as a society now and what we are spending in the
future is the taxes we are collecting, just as if it were a
household, and we're spending $100,000 and borrow $50,000, we
are still spending $100,000. We still have to pay that
$100,000, and somebody is going to pay it, and we need to
report that unidentified payer, which is the person who has to
pay for that deficit in the future. We need to start reporting
that as a tax or a burden on future generations or on future
taxpayers.
So to answer the question, I would put the rates near to
each other, but I have to solve the question of where you want
the system as a whole to come out. I think that the rate of tax
we pay should be equal to the spending we promise the public as
a way to get the deficit in order. And even if that makes the
tax rate way too high for where I want Government to be, at
least it is an honest system, and we are not trying to hide the
rates in the deficit.
Senator Portman. We also need to do both. The Chairman
talked about that earlier, on the spending side as well.
Dr. Marron.
Mr. Marron. So perhaps not surprisingly, I will be in a
similar place to Gene. On the corporate side, the pressures
around the world are such that the world is moving into, you
know, tax rates that have a 2 at the beginning of them, and
that would seem to be where the United States ought to go if it
can figure out a way to get there. You would like the
individual rate, the personal rate to be near that. I am not
sure they need to be necessarily identical, so it could
possibly be somewhat higher. But you are going to want them to
be similar.
But you have the challenge that Gene said, which is, you
know, we have to pay for the Government that we are going to
have and whether that is going to be possible with those lower
rates. And I would say, you know, going back to my testimony,
the emphasis on the tax preferences, that how one feels about
being able to bring the rates down by a sizable amount I think
is going to depend a lot on how aggressive folks can be in
rolling back tax preferences, both in finding what will count
as revenue, although often I think as effectively spending to
offset any budget impacts from that. And then also if you are
concerned about the distributional impacts, you know, if you
are bringing down top rates, you are going to want to find--
look at the tax preferences in particular that systematically
benefit those folks as an offset to that.
Senator Portman. Let me just ask, Dr. Altshuler, before you
answer, just a simple year or no. Does it make sense to reduce
the corporate rate, which I think there is a broad consensus on
now, without dealing with the individual rates? Yes or no. The
answer is no. Just say it.
[Laughter.]
Ms. Altshuler. I am going to lead the witness.
Ms. Altshuler. It is going to be difficult.
Senator Portman. But, seriously, if you still have a top
rate of 35 percent and you do reduce the corporate rate to the
mid-20s, that creates----
Ms. Altshuler. I think there is going to be a problem, yes.
Yes, yes.
Senator Portman. So yes, no.
Ms. Altshuler. I guess the answer is no, right.
Senator Portman. Thank you.
Ms. Altshuler. And so can I go on to----
Senator Portman. Yes.
Ms. Altshuler. OK. Now I am confused as to what yes and no
mean.
Well, just getting back to the question that you asked me
directly, I think it is going to be hard through revenue-
neutral corporate income tax reform to get the corporate rate
down to 25 percent. So I do not really see that--I would love
to be able to do that, but just looking at corporate tax
expenditures and just cleaning up the base, I do not think we
get to 25 percent. And I think that is where we do need to go.
So in answering your question, you know, it makes sense to
try to get to the OECD average because of the competitive
pressures that we face that are not going away. Other countries
besides Japan, Canada and the U.K. are also lowering the rates.
I am not saying that we should engage in a race to the bottom.
I do not think that is good for the world either. But the
reality is that our rate is 14 percentage points higher than
the OECD average right now.
As Donald said, the two rates do not have to be identical,
but they should not be too far apart. What you are pointing out
is absolutely right. If you have a corporate tax rate that is
much lower than the individual tax rate, then all of a sudden
the corporation becomes a tax shelter for high-income
individuals, and there are tax lawyers that are just going to
jump all over that and advise people how to deal with that. But
you should keep in mind that once I incorporate myself to get
money out, I am going to be paying the corporate rate along
with the individual rate, and that is why there is room for
there to be a little bit of a difference between the two rates.
How do we get to these rates that begin with a 2? Well, I
think we have all been saying the same thing, and the
Commission showed us: broaden the base. Take a deep breath;
broaden the base.
Senator Portman. Larry.
Mr. Lindsey. Yes, the answer to your question is I think
you do have to lower the rate. What has increasingly happened
since S corporations have become common is that the corporate
rate is really a way to purchase--it is a convenience for the
business organization to be structured that way. And the only
people for whom it really makes sense anymore are large
institutions that are internationally competitive.
So I actually think that although it would be ideal to
lower both, the damage done would probably be manageable in
part for a reason that Professor Altshuler mentioned, which is
if you are now a sub-chapter S and you switch over to a C, you
pay the 25-percent rate that a C corporate rate would be. But
then your money is stuck in the firm, and you have to take it
out somehow; and as soon as you take it out, you are subject to
the personal rate. So the advantages, I think--I mean, this
gets back to the main point that an income-based tax system
really, really does not make sense, because you get into all
these complexities. Is it going to be taxed once, twice, two
and a half times, three times? And I know it is politically
difficult, but in the end, as Rosanne said, we have no choice.
All roads are going to lead to a VAT. If we intend to be
competitive, that is where we are going to end up.
Senator Portman. Thank you, Mr. Chairman, for the time.
Chairman Conrad. Thank you.
Let me just say to colleagues we are at 11:10. We have a
good turnout. We have more colleagues coming, so I think we are
going to have to go to 5-minute rounds, and we will start with
Senator Wyden. Senator Portman was on Senator Sessions' time.
Senator Wyden. Thank you, Mr. Chairman, and I thank all the
panel.
As far as I can tell, reforming the Federal income tax is
the only major policy response with an actual track record--an
actual track record of creating millions of private sector jobs
without adding to the deficit. And here are the numbers.
Two years after a big group of populist Democrats and
Ronald Reagan worked together, the economy created 6.3 million
non-farm jobs. That is twice as many--twice as many jobs as
were created between 2001 and 2008, the period of time when tax
policy was partisan.
So my question particularly for you, Mr. Steuerle, because
you have this great history of 1986: Is there any reason why
the principles of tax reform that were pursued in 1986 would
not be once again an engine for job growth? The Heritage
Foundation scored Senator Gregg's proposal with me as creating
2.3 million new jobs per year. That is in the here and now. We
have to create more good-paying jobs, and because of your
history, the first thing I want to ask is: Do you see any
reason why the principles of 1986 tax reform would not be an
engine for job growth again?
Mr. Steuerle. Well, you sort of set me up, Senator Wyden. I
agree with your conclusion. I think tax reform, lowering the
rate, broadening the base, is good for the economy.
Now, how far and how fast it goes, I am one of these people
who is always a little reluctant to make that type of
prediction, but it is in the right direction. And I believe
that there are so many areas of tax and budget reform where we
know what to do, and if we do them and move in the right
direction, we often get surprised. And what actually happened
in 1986, we actually thought that perhaps there was a
transition period where we might have actually had a little bit
of a slow growth to be able to compensate for the reform. And
you may remember, by 1986 we were already into about the third
or fourth year of an expansion at a time when we often slow
down. Instead, what happened after tax reform was that things
actually sped up.
So, yes, I think tax reform especially is good for long-
term growth. What happens in the short term is hard to predict,
but the lessons of 1984 to 1986 actually are fairly positive.
Senator Wyden. Well, those numbers are just stunning. I
mean, twice the job growth in the 2 years after bipartisan tax
reform compared to the whole period between 2001 and 2008, and
that is a matter of public record.
The second question I want to ask, we will get you, Mr.
Marron, and you, Professor Altshuler. I will tell you, I find
it pretty alarming how short shrift small business is getting
in this whole discussion about tax reform. Now, in the
proposals Senator Gregg and I put together, we get the
corporate rate down to 24 percent. That was scored by Joint
Tax, so, again, that is a matter of public record. But small
business, that is 80 percent of the businesses in this country,
sole proprietorships and partnerships and the like. And it
seems in much of the discussion small business is almost
getting to be an afterthought. And I am going to do everything
I can to keep that from happening.
I wonder what your sense is about how small business is
fitting into this discussion, Professor Marron and Professor
Altshuler.
Mr. Marron. Well, the first point, which is I think where
you are going, is that, as was discussed before, we now have
many businesses that are structured so that they pay their
taxes through the individual income tax, and that as
passthroughs--as you think about tax changes, it may make life
easier for businesses to create jobs, you are going to want to
think not just about corporate tax reform but possibly about
the benefits of, say, lowering rates and what-not on the
individual side.
Now, the caveat with that is that while many, many
companies and businesses show up on personal income taxes, the
really, really large ones and the multinational ones are still
over on the corporate side.
Then, with the security and safety of being a think tank
and academic guy, I will inject the one thing that there has
been a lot of interesting recent research on what are the key
things for creating jobs and moving the economy forward. And it
turns out that small business is not exactly the slice that
drives it; that it turns out that there are a lot of small
businesses that do not grow--I mean, the perfectly respectable
businesses we like, but that if you are interested in kind of
what are the job creators, the things that move the economy
forward, it is a small subset of them that turn out to be
really the gazelles that really create a lot of jobs. And one
of the challenges in thinking about public policy is how do you
design things particularly if you want to help those.
Senator Wyden. I would only say--and I want to get you into
a different area, Professor Altshuler, because I know my time
is up. That is where most of them are, and certainly small
businesses can become big businesses because of the
entrepreneurial ingenuity, and that is why I just do not want
them forgotten.
A question for you, Professor Altshuler and Dr. Lindsey.
More than 90 United States Senators voted against a VAT, and as
far as I can tell listening to the debate, the only surprising
part was that it was not more than 90. And I think the big
concern for those who have been for a VAT is there is a sense
that it is just a back-door plan to hike taxes, and
particularly taxes that are seen as regressive.
Since both of you are for this, how would you deal with the
politics today of more than 90 United States Senators coming
out against this concept? And, of course, the Volcker
Commission did not bring forward a proposal that was in favor
of it. I look back at the Bush proposal, and they said, well,
you can talk about it, but they certainly did not come out for
it. How would you deal with trying to bring people around to
your point of view given that recent Senate vote and certainly
the product of the other reports.
I thank you for this extra time, Mr. Chairman.
Chairman Conrad. Let me just say it is very clear 5-minute
rounds are not going to work, so we will go to 7-minute rounds.
Senator Wyden. Great. Thank you, Mr. Chairman.
Ms. Altshuler. Senator Wyden, thank you for the question.
The answer is perseverance; education, education, education;
helping people understand that the current income tax is broken
and that the VAT is an efficient tax, and it is not necessarily
a money machine. This is what people are afraid of. There is
this idea that it is a hidden tax. It absolutely does not have
to be a hidden tax. You just put it right on the receipt like
Canada did. Speak about the Canada experience. They are just
north of us. They adopted a Federal VAT. It is not a perfect
VAT, but if you talk to Canadian policymakers, they will say
that it works very well for them.
So I think education--I mean, the problem is that when you
support a VAT, it is politically very difficult.
Senator Wyden. My time is up, but, Dr. Lindsey, the people
of my State have voted against a VAT something like 850 times,
which is barely an exaggeration. So you should know that your
education challenge will be great.
Mr. Chairman, you have given me lots of time. Can Dr.
Lindsey just respond quickly?
Chairman Conrad. Go ahead.
Mr. Lindsey. Thank you. First of all, if it were an add-on
VAT--in other words, you were adding it on to what we already
have--I think the 90 Senators were correct. Why do we want to
add another layer of complexity? But I do think in the end, if
you want to regain competitiveness, that is going to be the
only avenue that is available.
Chairman Conrad. Senator Toomey. And we will go to 7-minute
rounds now for everybody.
Senator Toomey. Thank you, Mr. Chairman. I just want to
followup on a point that Dr. Steuerle made earlier with which I
fully agree, which is the idea that we ought to really equate
and think about the total tax burden by looking at the total
amount of spending. Ultimately, all spending has to be funded,
and it is all going to come from taxes, whether the--at any
given point in time there is a combination of debt and taxes.
The real measure of the burden on the economy is the level of
taxes.
Now, to just connect a few dots here, it is also
interesting to hear the discussion about how there is a
disproportionate negative impact--in other words, the negative
impact from higher taxes exceeds the revenue benefit to the
Government from an increase in taxes. If we are saying that
taxes are essentially equivalent to spending, then what we are
saying is that as Government spending grows and, therefore, the
corresponding taxes, we are doing harm to our economic growth,
which is what--I think we are well within the range at which
increases in spending are doing net negative consequences to
our economy.
The question I have is also about the VAT. Now, Dr. Lindsey
has argued against a combination of income taxes and VAT, and I
think if I understand you correctly, it is because of a concern
about an additional layer of complexity. But I wonder about
something else also that concerns me, which is if we had both,
we could at least initially have both at what would appear to
be nominally relatively low rates since you have two different
sources of revenue. And I worry that that would make it easier
politically to raise rates and to increase the total tax burden
on the economy, which we have already established from this
panel has a disproportionately negative impact on economic
growth and, therefore, job creation.
So I wonder if those of you who, I think, you might support
a combination of a VAT and an income tax, if you share that
concern that it could lead more easily to a higher total tax
burden and, therefore, poorer economic performance and lower
job creation.
Mr. Steuerle. Well, Senator, again, part of the dilemma is
our spending rate is so much higher than our tax rate where
basically for every $2 we collect in taxes, we are spending $3
now. And, actually the spending rate goes up in the future,
particularly because we have these mandatory spending programs
that have growth rates that are faster than the economy and
they are unsustainable--as well as, by the way, a number of tax
subsidies as well that have very high growth rates.
So we have a dilemma here, and I go to some elaborate ways
in my testimony a little bit, but the dilemma for both
political parties is that there is a sense that if they do not
control the future, the other party will. So for Republicans,
it is often--you know, if I actually raise rates to balance the
budget, all that is going to happen is that is going to keep
spending higher. And for Democrats, you know, our experience is
if we basically get spending under control, which some of them
believe that they did in the 1990s, well, then all that happens
is we end up financing these tax cuts. And, actually, I think
both parties are right. I mean, in technical academic language,
they are in what I call a classical prisoner's dilemma. Without
going into the details of it, it is basically you always want
to argue for one side because if you do not, somebody else is
going to take advantage of you. But it is an unsustainable
situation, and so to me, the answer to your question, which
sort of goes beyond tax policy, is I think you have to come up
with budget rules that limit both political parties, whether
they are in power or not in power, from controlling the future.
So that, yes, if the public wants to vote for higher spending
in the future and finance it with a higher VAT, then they get
it, but they cannot do it in a way that they vote for higher
spending now that forces the taxes to go up. But, similarly, on
the other side of the aisle, you cannot vote for tax cuts now
that basically try to force spending cuts into the future
because of these deficits, because what both political parties
have succeeded in doing is creating not only this enormous
deficit but boxing themselves in so much that, as I say, we
have now got a Government where when you walk into the office--
when you walk into the Congress, both this Congress and the
last Congress, every dollar of revenue was already committed.
You did not have a single dime of discretionary to spend on
discretionary spending or to do any reform because it had
already been committed by your colleagues in the past.
Senator Toomey. I understand. I am wondering if we could
focus a little bit on the narrower question I am trying to
pose, the danger of escalating--the increasing danger of
escalating taxes if we had both a VAT and an income tax.
Mr. Steuerle. I guess the bottom line is I am saying, yes,
I think the danger is there. The danger is on both sides of the
aisle unless you figure out ways to constrain both parties as
to how much deficit they can do now that they ended pushing the
tax rate up or, if you want, the spending rate down.
Senator Toomey. Dr. Marron.
Mr. Marron. So a couple of thoughts. First, as Rosanne
said, I would invoke the example of Canada as an interesting,
important one to keep mind, where they introduced a VAT in the
early 1990s at a 7-percent rate. They made it very visible. And
then eventually, over time, they actually brought it down to 6
percent and, I believe, 5 percent, which shows that a country
that is relatively similar to ours in many regards was able to
introduce a VAT as an add-on and not let it grow like Topsy.
The other would be I would just sort of echo some of what
Gene said. Ultimately, the challenge is that we have to afford
the government that we are going to choose. What you discover
if you look internationally is that societies that have chosen
to have larger governments tend to choose more efficient tax
systems. So they tend to do more consumption taxation in
relative terms and less income taxation in relative terms.
And I think the reason folks here have been talking about a
VAT as a possibility is that we think that given the pressures
of an aging population and rising health care spending, that
that may be what the future looks like for the U.S., and that
rather than try to pay for that by just racheting up income
taxes, it would be much better to go to a mix and more toward
the consumption end.
Ms. Altshuler. I do not think I can add much more to what
Donald just said. I think I agree with everything that he just
said. I think the idea that by having a VAT you automatically
have a bigger government is based on this idea that it is a
hidden tax and that people will just let that tax go up and up
because they do not feel it or because they do not see it, and
I just do not see that as being the case.
Senator Toomey. But Dr. Marron did seem to be suggesting
that there is certainly at least a correlation between big
governments and a VAT and that some here who are advocates for
expanding government see that as a good way to get there. My
concern is that ever-bigger government, however you fund it,
leads to slower economic growth and lesser job creation and a
lower standard of living.
Dr. Lindsey, I would if you could comment.
Mr. Lindsey. I think you are exactly right on the hybrid
system. Because you have two apparently lower rates, it makes
it easier to raise one and then the other. So I think you are
right.
I was struck by Senator Wyden's question. I had an answer
which I will direct to you, but it is really to his, on a
political issue. You know, there is a large movement in the
country for something called a fair tax. Now, I personally do
not think that is as effective as what I am suggesting, but
economists disagree. But there is an example of something that
is close to a VAT that has a large political constituency for
it in a place you would not expect. And so I do not think it is
at all an impossible task.
Chairman Conrad. Thank you. Let me go to Senator Coons.
Senator Coons, I want to welcome to the committee. He is a new
member here, actually filling out the term of Senator Biden,
who was a founding member of the Senate Budget Committee.
Senator Coons was the County Executive of Newcastle, the
largest county in Delaware, so he has actually balanced budgets
and worked on ways to promote economic growth. We are delighted
to have you join the committee, Senator Coons, a graduate of
Amherst, a Bachelor of Science in Chemistry and Political
Science. He holds a graduate degree from Yale in Law and
Divinity, so maybe we can get some spiritual guidance here, as
well. That would be valuable to the Budget Committee. And he is
the first Truman Scholar to serve in the Senate.
Senator Coons, welcome to the committee.
Senator Coons. Thank you very much, Mr. Chairman, and thank
you for your leadership on these very important issues. I very
much look forward to working with you and with Senator
Sessions.
As you both said in your opening Statements, we recognize,
I think, across the partisan divide of the Congress and broadly
across the country, regardless of region, background,
experience, or education, that we have, as this panel has so
uniformly and compellingly testified, a simply unsustainable
and unworkable tax system in the United States. We face a
crushing national debt burden, a challenging deficit. You have
all worked clearly very hard in putting together a series of
proposals, and as the questioning so far has surfaced, one of
our big challenges is taking insightful, detailed, thorough
proposals and actually moving them into political reality, and
we have some very real challenges doing that.
In my role as County Executive, as you mentioned, Chairman
Conrad, I did balance six budgets. It was not easy. It required
a broad recognition of a need for shared sacrifice, both
reductions in spending and broadening our base and increasing
revenue. And before that, I spent 8 years as in-house counsel
for a multi-national corporation that is one of Delaware's most
innovative manufacturers.
I will focus my questions, if I might, on the question of
corporate taxes. I am very interested in how we might
successfully encourage or incentivize through repatriation of
foreign-earned profits, increase corporate investment in R&D,
in manufacturing, and in new hiring in the United States, and
in what our longer-term trajectory for it ought to be on
treating corporate tax rates, and I am really more interested
in this exchange, in larger corporations who have significant
offshore balances.
One of the comments that was made, I think it was by Dr.
Marron, was about the sort of distorting effect of temporary
tax programs. As a participant in the lame duck session, I was
particularly disappointed that we made some large tax moves
that were for 1 year. As someone who was long concerned about
or interested in the R&D tax credit, for example, it makes
absolutely no sense to me that it is here, gone, here, gone. We
do not do long-term sustainable tax policy.
So if I might, to every member of the panel, please, I
would really appreciate a response. If we are in a global
situation where, as I have heard from you, most of our
competitors are at a VAT style system, a cash system rather
than an income system, and we do have, or will have the honor
as of April of having the highest of the OECD countries
combined corporate income tax rate, what is the best path
forward to incentivize both in the shorter term the
repatriation or the mobilization and deployment of capital from
American-led corporations, and then in the longer term, what is
the balance that makes us most competitive as a national
economy, given the political realities that were pointed to by
the panel of the difficulty of moving easily to a VAT.
Is it to dedicate the VAT to particular purposes? Is it to
apply it only to narrow classes of economic activity? Some have
proposed a repatriation of foreign-earned profits holiday or
for limited purposes. How do we strike a balance here that
allows us to most effectively access and mobilize the
innovative capital reserves of the American corporate sector?
Please.
Mr. Steuerle. Senator Coons, I confess that when it comes
to international, my complication is I do not think there is
ever a perfect answer. You start with inconsistent tax
systems----
Senator Coons. Of course.
Mr. Steuerle [continuing]. because different countries have
different tax systems. So you never can get all the neutrality
you want across the systems. You start with inconsistency and
then you have to decide how can you try to minimize some of the
distortions that result. So I can only make some suggestions
that I think move in the right direction without giving you a
perfect solution.
I should comment that in tax reform in 1984, I went around
to every staff member--I had divided up tax reform into 20
modules with like several hundred pieces, which is an issue we
have not even gotten to here today. There are thousands of
provisions we are talking about here and we are talking in a
very shorthand basis. I went to the national people. They
hesitated. They hesitated. They hesitated on what form to
propose. They ended up suggesting something. We finally got it
in our proposal at the last minute. Three weeks after we got it
in the proposal, they came and they said, you know, we do not
think we got that right. So ever since then, I have been
skeptical about getting a perfect solution.
So my colleagues, especially Rosanne Altshuler, who is a
real expert in international, have made several suggestions. If
you lower the rate, you move in the right direction. Nothing
else that really helps a lot. Just lowering the rate moves it
in a long direction. With the value-added tax, you can do
border tax adjustments to the extent that makes a difference.
The repatriation issue, I think, is a bit of a bogus issue.
You know, basically, that is where the people put a little
check mark on where they are keeping their account. I mean, the
money is accessible in a lot of different ways regardless of
whether they repatriate. I do think that we have not given much
attention to the way that our current system allows people to
arbitrage----
Senator Coons. Right.
Mr. Steuerle [continuing]. moving debt abroad. But it is
not just corporations that can do it. We individuals can do it,
too.
Senator Coons. Individuals do it, too.
Mr. Steuerle. We borrowed to put money in our pension
accounts, and that is one way of getting at some of the
arbitrage in the system.
So I think there are several things we can do to move in
the right direction. I am less enamored of whether--I am not
opposed to it, but I do not necessarily favor whether going to
a territorial or not makes a difference.
Senator Coons. And Dr. Altshuler in her testimony said that
we really should not have a race to the bottom in terms of
lowering corporate rates. Is there a point below which--I mean,
this is obviously a hypothetical--is there a point below which
you should not keep reducing income tax rates for corporate
income?
Ms. Altshuler. Is this a question----
Senator Coons. Sure.
Ms. Altshuler [continuing]. a question for me? Is there a
rate--boy, then what you are thinking about is we are all in
this together as a world and how are we all going to behave as
a world, and I think that you are not going to get----
Senator Coons. No, I am pretty narrowly interested in how
we are going to----
Ms. Altshuler. Yes, exactly. You are not going to get
cooperation. The point is, just to answer your original
question in terms of what can we do, as Gene pointed out, step
one, lower the rate.
Step two, look at that rate. If the rate is low enough,
then it really does not matter if you are territorial or if you
are worldwide. That becomes less important. Getting the rate to
that level is going to be very difficult. You could not do it
without a VAT.
So step three is deciding--is stepping back and saying,
incremental reform at this point does not work anymore. We
cannot just do a repatriation tax holiday. As Gene mentioned,
it does not necessarily lead to firms bringing back money and
then investing it in the economy. It is just--it keeps us going
down this temporary tax holiday path that is very unhealthy,
unpredictable, and not good for the economy. It is time for us
to sit down and get the information that we need to decide
whether or not territorial would be good for us, and that does
depend on what rate we get down to, or should we go to a
worldwide system, for instance, that gets rid of deferral. But
we need to be thinking about fundamental reform of the
international tax system, not incremental reforms.
Senator Coons. Thank you.
Chairman Conrad. Thank you, Senator.
Senator Coons. If I might, Mr. Chairman, any other comments
from the panel just in response to that?
Chairman Conrad. I think we had better, in fairness to the
colleagues who are here, we should go----
Senator Coons. Thank you very much.
Chairman Conrad. Senator Whitehouse.
Senator Whitehouse. Thank you.
Chairman Conrad. Oh, I am sorry. Wait a minute. I skipped
Senator Sessions. He had ceded his time initially, so we have
to go back and forth here.
Senator Sessions. I will followup on Senator Coons's
excellent line of questioning. It is something I do not fully
understand. Mr. Lindsey, you did not get to comment on it, but
maybe you could start. I understand we are one of the very few
nations that tax out-of-territory income, and is this good for
jobs in America? Is it good for the economy? And do you have
any comments to followup on Senator Coons's question?
Mr. Lindsey. I am going to give you an answer that you are
going to hate and I hate, and the answer is it depends, and I
think that was the comment about whether or not we should move
to a territorial system. We set it up that way. Remember, we
tax everything, but then we give a credit against the foreign
income taxes paid, and then we tax the money when it is
repatriated. It gets to be very complicated.
If one looks at why we did what we did when we did it, it
was really a decision post-World War II to encourage the global
participation of American firms in the rebuilding of the world.
At that point, it made sense because we did not have
competition. It makes less sense now.
I think, Senator Sessions, that the theme you heard here
was the single first thing you can do here is lower the rate,
and as evidence, in all the agony that Ireland has gone through
recently, the one thing they refused to give on, with all the
pressure on them, was their 12.5 percent corporate rate,
because for them, that is a key competitive advantage and it
just underscores the importance of us lowering our rate as a
first step if that is what you are going to focus on.
Senator Sessions. I have heard it Stated, some might
suggest that that low rate was somehow a problem in causing
their economic difficulties. I have been told that is really
not so. Do you have an opinion on that?
Mr. Lindsey. Well, they have--most of their problems are
self-inflicted and has to do with their financial system.
Senator Sessions. Financial condition.
Mr. Lindsey. But what they have been able to do is attract
a lot of headquarters from manufacturing companies,
particularly the European headquarters, by offering that low
rate and it is of enormous competitive advantage to Ireland. We
are not Ireland, but I think lowering the rate would be the
consensus first thing you could do. And again, there is a lot
of evidence that you could raise revenue without broadening the
base simply by lowering the rate here to something that is more
of an international norm.
Senator Sessions. A lot of people do not realize how close
the competition is among businesses in the world for market
share. Let us say Canada goes to 16.5, as I think they are, and
we were to reduce our rate to 28 or 27. Companies seeking to
build a plant along the border, would that be a factor in
whether or not they built that plant in the United States or
Canada?
Mr. Lindsey. It would certainly be a factor, and it might
be a decisive factor, but there would be a lot of issues.
Senator Sessions. There would be a lot of factors, but I do
not think there is any doubt that it has the potential to cost
economic growth in our country. A corporate tax higher than the
worldwide rate is a threat to us, and at this point in history,
job creation is so important. Everybody is saying the
corporation is doing pretty well and this is happening, the
stock market is doing well, but jobs are not moving much and we
cannot have tax policies that depress job creation.
Briefly, let me ask you, committee members, as part of
complexity, should not we consider the uncertainty of our tax
situation, the temporariness of it? For example, we have the
rates just for 2 years. The death tax is set for 2 years. The
AMT comes up every year. Nobody ever knows for sure. Physicians
are worried over their doctor fix on Medicare. Are those
factors that have an adverse impact on our economy, the
uncertainty of what will be in the future? Mr. Steuerle?
Mr. Steuerle. Mr. Sessions, the answer is clearly yes, and
I think everybody at the table will say that. I am going to
give one caveat, though. Sometimes people say, well, let us
deal with this uncertainty by making permanent everything in
the code, and there is this tendency to look at mandatory
spending and say, well, gee, we have all this stuff on
automatic pilot. We need to get it off of automatic pilot. I
think we have to be careful when we talk about getting rid of
the uncertainty. We do not want to put everything in the tax
code, including a lot of things we do not like, say five
educational subsidies instead of one or none if we put it in
the direct spending budget, to put those on automatic pilot,
too.
So when you go toward certainty, that not mean you have to
make something permanently growing. You may put it on a 5-year
fix or 10-year fix or something like that. I am hesitant on
solving that problem by making everything permanent.
Senator Sessions. I recognize that is a fair point, but I
think all of you would agree that that uncertainty is another
negative factor for our economy.
Mr. Marron. Yes, if I can, absolutely. I think, as I said
in my opening remarks, I think it is quite striking today that
every single significant component of the U.S. Federal tax code
now has significant temporary tax cuts in it. That is not
something that we should aspire to in the long run. We ought to
eventually settle in for everyone understands what the tax code
is, and as Gene says, make sure you have a system in place so
you can review important provisions periodically to see if they
make sense, but allow people to have some notion of what is
coming.
The one caveat I would put on that is just the elephant in
the room is the unbalanced fiscal situation we have, which even
if we allegedly passed a permanent tax system today, unless we
have some solution to that so that we are going to be able to
avoid the unsustainable buildup of debt, there is still going
to be uncertainty out there about where we are going. So
solving the long-run fiscal challenges is going to be part of
eliminating uncertainty.
Senator Sessions. Well, Mr. Lindsey, you have been there in
the government. To do tax reform and deficit reduction all at
the same time sounds almost unthinkable, but in a way,
politically, sometimes it may come together better in a crisis
than in a non-crisis. Do you agree, Mr. Chairman?
Chairman Conrad. I do.
Senator Sessions. So would you agree with that, Mr.
Lindsey?
Mr. Lindsey. Yes. I think that we have no choice. Sometime
in this decade, economic circumstances are going to force us
into solving our problems.
Senator Sessions. Briefly, let me just say, Mr. Chairman,
that I think Senator Toomey is correct, and for you thinkers,
the reality politically is that it is not that American people
oppose something like a value-added tax. The Neal Boortz Fair
Tax idea is very popular with a lot of average American people.
But what they believe, and I think they are correct, if we make
another revenue stream possible for the government to extract a
larger percentage of their wealth to send to Washington, they
are not happy about it.
So, Mr. Lindsey, you suggested you could solve that
problem. Briefly--maybe we should not go there, Mr. Chairman,
but do you think you could do it in a way that would give
confidence that we were not just adding a new way to extract
more money from the American people?
Mr. Lindsey. Well, I am not the expert at the politics of
it, but it would seem to me one of the concerns is if you add
on another tax, not only is it bad from an economic point of
view because of the complexity, but you also have the issue
that you are talking about. And so, again, I would stress of
getting rid of all of the current taxes, and I would add the
payroll tax, as well. If we are disadvantaging American workers
because we do not have border adjustability, you want to make
everything border adjustable. Throw as much of the tax system
into something that is rebatable at the border as you can.
Senator Sessions. And you think that is doable? I mean, we
could actually accomplish such?
Mr. Lindsey. Well, the members of the panel might be able
to think it is doable. We do not have to run for reelection,
so----
[Laughter.]
Senator Sessions. Thank you.
Chairman Conrad. All right. Senator Whitehouse.
Senator Whitehouse. Thank you, Chairman.
I noticed the other day that the IRS had reported that the
400 top income earners in the country, who averaged income each
of $344 million in the year that they were reporting, had paid
total Federal taxes of 16.6 percent. So I asked my staff to
tell me at what point in the income level an ordinary working
American got to start paying 16.6 percent. It turns out it is
$28,100. So I said, well, what are some regular jobs that are
in that area? Give me an example I can use. Well, a hospital
orderly in Providence, Rhode Island, earns, on average, $29,100
a year.
So if you look at our current tax system and you start with
the average taxpayer, who makes $60,000 a year and pays about
20 percent in taxes into the system. And then you drop to my
orderly who makes less and so he pays less. He pays 16.8
percent, it turns out. Then you drop to the 400 highest income
earners in the country, who pay less still. They pay only 16.6
percent. Then you drop to General Electric, which on $11
billion in income paid 14.3 percent. Then you drop to
Prudential Financial, which on three-plus billion dollars in
income over 5-year averaging here paid 7.6 percent. And if you
go to the Ryan plan, those $344 million earners will drop to
around zero percent, maybe one or 2 percent at highest because
of the elimination of the capital gains.
I cannot help but agree that the facts show that we have a
tax system that is upside down and that the better off you are
and the more powerful you are, the less taxes you pay as a
percentage of your income, with the poor hospital orderly in
Providence, Rhode Island, paying a higher percentage of his
income than the average of the top 400 income earners in the
country at $344 million a pop. So I applaud your direction. I
think we need to go there.
In evaluating the VAT tax, which a great number of you have
talked about, my question is this. Could you tell me a little
bit more about the trade and competitiveness effect of the VAT
tax, particularly in light of how many other nations have gone
to one, and given what appear to be its trade and
competitiveness benefits, do you believe that the huge move by
other nations which export a great deal into our economy was
done strategically to take advantage of those trade and
competitiveness effects? So in a nutshell, are there valuable
trade and competitiveness effects to a VAT tax, and do you
think other nations that have gone to it did it with that
purpose?
Mr. Steuerle. I think most economists would argue that
competitiveness is not driven by whether you have a VAT. The
competitive--if you want to call it the competitive advantage
of a VAT is that it keeps you from raising high tax rates
through an income tax. That is----
Senator Whitehouse. Well, let me give you an example----
Mr. Steuerle [continuing]. if that makes sense.
Senator Whitehouse. Let me give you an example. Let us say
that you have a car made in Sweden or Germany and they have a
VAT tax. So the revenue that they are collecting from the VAT
tax, it never attaches to that product. It leaves their country
tax-free and it comes over to our country and is sold tax-free
here in our country, in effect, from their home tax burden.
We, on the other hand, have home companies that pay
corporate income tax and various other taxes. That tax burden
gets put into the price of the car, so when the Ford comes up
against the Volvo in the American market, the Volvo is, in
fact, tax advantaged versus the Ford because Sweden chose to
collect revenue in a VAT tax that we choose to collect through
a corporate tax. The VAT tax does not go into the price of
their export product. The corporate tax does go into the price
of our competitiveness product. And if that is accurate, does
that not create a competitiveness effect, at least as to that
transaction?
Mr. Steuerle. Again, your analysis is correct. I think that
the higher tax rates on the income taxes do create some minor
competitive disadvantages. I do not want to overState the case,
however, because I do want to emphasize that a lot of issues of
competitiveness have to do with wage levels, have to do with
entrepreneurship, have to do with education levels, and so I
just do not want to over-emphasize----
Senator Whitehouse. I was trying to isolate that.
Mr. Steuerle. The advantage of the VAT that I see--I do
favor a VAT for those reasons, but I do not want to over-
emphasize that I see the main advantage is that it keeps you
from raising rates outside the VAT. It is not that putting on a
VAT gives you a competitive advantage, it is avoiding some of
these high rates.
Senator Whitehouse. Dr. Altshuler?
Ms. Altshuler. Let me answer the question about why the
other countries had a VAT. I think when you look back at
history, what happened was they had very inefficient cascading
retail sales taxes, and the reason that they went to the VAT
was to replace those retail sales taxes with a more rational
system of VAT as a more efficient sales tax.
If you look at Canada, and I have looked at that
experience, it really was, we have a big deficit problem. We
need this revenue.
I do not think that us adopting a VAT on its own is going
to have huge competitiveness--if we were to just take the
system today and add a VAT on, what would happen is, over time,
exchange rates would adjust and it would not add to
competitiveness. What Gene said is exactly right. What the VAT
would allow us to do is buy down--the VAT in combination with
broadening the base would allow us to buy down our corporate
income tax rate and that would have a big competitiveness
impact for us.
And do keep in mind that those other countries do have
corporate income taxes, also. It is not like they do not have
corporate income taxes. They do.
Senator Whitehouse. Thank you all very much.
Chairman Conrad. Senator Sanders.
Senator Sanders. Thank you very much, Mr. Chairman. These
hearings are like a narcotic to me. I can be here all day. I
really get hooked on these things because they are absolutely
fascinating, and I appreciate the panelists who are here. As we
mentioned the other day, Mr. Chairman, I do applaud the
panelists, but they have a perspective and I hope at another
point we can bring in some economists who have a somewhat
different perspective.
I think Dr. Steuerle made a point a moment ago which I
agree with, that you cannot just look at one--if you are
talking about international competitiveness, for example, you
just cannot look at tax rates, for example, or a dozen other
factors. I live an hour away from Canada and my Canadian
friends would be very impressed by the degree to which you laud
Canada. We do not always hear that. The Canadian health care
system costs about half of what our health care system does.
By the way, do you think that moving to a single-payer
national health care system, as they have in Canada, would help
our economy? I mean, if we are going to talk about the Canadian
government and their policies, they have a single-payer
national health care system which spends about half per capita
that we do. Health care is a huge burden, as you all know, on
our economy. How is the Canadian health care system? Should we
adopt that? Dr. Steuerle?
Mr. Steuerle. Well, I would not necessarily say that it is
that Canada is successful because it has a single-payer system,
but the simple fact that they have a much lower health spending
rate----
Senator Sanders. Right. That is what I am talking about.
Mr. Steuerle [continuing]. means that they can keep a much
lower tax rate, which is an advantage.
Senator Sanders. And everybody who has studied the issue
understands that if you wanted to go forward with a cost-
effective health care system--and I do not want to get into a
health care debate now--single payers, Canada versus the United
States. Should we look at that?
Mr. Steuerle. I guess what I would suggest is that--this is
the Budget Committee. My own belief is what--we always have a
debate over what health system we will adopt----
Senator Sanders. But you told us----
Mr. Steuerle. To me, the simple answer I have is whatever
health system we adopt, no matter what the hybrid, it should be
within a budget, and you----
Senator Sanders. But that is not my question. My question--
--
Mr. Steuerle. You cannot have an open-ended system.
Senator Sanders. But you talked about the Canadian tax
system. You lauded certain provisions of that.
Dr. Marron, should we look at the Canadian single-payer
system which provides health care to all of their people at
about half the cost of the American----
Mr. Marron. I am trying to figure out the right words to
wiggle out of this question the same way Gene did.
[Laughter.]
Mr. Marron. it is absolutely true that there is a lot of
wasted spending on health care in the United States, and if we
could eliminate that, that would be broadly----
Senator Sanders. All right. You wiggled out of it.
Canadians are doing just great. How about our health care, Dr.
Altshuler?
Ms. Altshuler. I am not an expert on health--on health
care.
Senator Sanders. But economically you will all agree that
health care is a huge burden on our economy. No one disagrees
with that. Canadians seem to have done substantially better.
Dr. Lindsey, something we should look at?
Mr. Lindsey. Oh, we should look at everything, and I think
what really decides competitiveness is cost-effectiveness. So
you could have a--I mean, the worst thing you can have is a
high-tax, low-benefit system. If you have a State, for example,
in the United States with, you know, relatively modest taxes
but efficiently delivered public services, those States are the
ones that are gaining population and jobs. So I do not think
you can look at anything in isolation, but we need to improve
efficiency.
Senator Sanders. And that is my point. I think we look at--
for example, we could talk about Canada again. Again, I live an
hour away from Canada. When Wall Street collapsed here, their
banking system did not collapse because of much heavier levels
of regulation. Right?
Mr. Lindsey. Senator, that is something I do know something
about, and I would not wish the Canadian banking system on
America. It is basically a four-company oligopoly and----
Senator Sanders. Good point.
Mr. Lindsey [continuing]. and that is what protects----
Senator Sanders. All that I am saying--all that I am saying
is that on these issues you cannot isolate--if you are talking
about international competitiveness, not to talk about wages,
not to talk about environmental protection, not to talk about
trade policy, they are all lumped together. I do not think
anyone disagrees with that.
All right. The other point that I wanted to make, not to
talk about a Canadian single-payer system, is what I have not
heard discussed, while taxes are enormously important,
everybody agrees that our current system is not working, needs
fundamental reform, we have to look at it within other contexts
as well.
For example, during the Bush years, we saw substantial tax
reductions given to the wealthiest people in this country, and
yet we had perhaps the worst record of job performance at any
time since Herbert Hoover. So it is not quite so clear, and
other factors may be involved in that. But under Bush in 8
years, we lost 500,000 private sector jobs. We gave tax breaks
to the very wealthy. Gentlemen, we lost jobs. Dr. Steuerle?
Mr. Steuerle. Well, Senator, there are a lot of factors
involved. At the end of the Bush years, we went into a
recession. When politicians in the executive branch brag about
the job growth they have had, 90 percent of what they are
talking about is the influence of demographics. And what we
have dodged for several decades is when we moved into the--
after 2008 and we have all these people starting to retire
almost at the rate that we are bringing people into the work
force, it is going to dramatically decrease the amount of jobs.
And I would suggest----
Senator Sanders. And I am not arguing--I am just saying
that--my only point was that these things are complicated.
Mr. Steuerle. Yes, but as a matter of revenues, I mean, I
have emphasized in a lot of other testimony it is something
that has been hard to get into the budget calculus. But if we
can figure out ways to get older workers to work who I think
are the largest group of potential workers, the most--the
largest pool of underutilized human capital in our economy,
people 55 to 75 to 85, it has a revenue effect that right now
we do not score--a potential revenue effect we do not score----
Senator Sanders. When we have such a----
Mr. Steuerle [continuing]. when we talk about revenue. So
there are other reforms that can affect revenues beyond----
Senator Sanders. I do not have a whole lot of time. Great--
that is what I mean, I get hooked, Mr. Chairman. We could go on
for many hours.
Dr. Lindsey, you mentioned that you thought it might be
advantageous to eliminate the payroll tax. You just said that a
couple of minutes ago, if I heard correctly.
Mr. Lindsey. What I said was that if you go to a value-
added tax, you want to roll everything into it.
Senator Sanders. OK.
Mr. Lindsey. Because the value-added tax--again, it gets
back to the competitiveness issue and how you play it out. If
you are going to take advantage of the competitiveness
advantages of the value-added tax--and I think there are some,
and I also acknowledge exchange rate issues--then why wouldn't
you want to do it for all our taxes? I mean, it is American
labor that gets----
Senator Sanders. All right. But because we live in the real
world and as of today, to the best of my knowledge, Social
Security is completely funded by the payroll tax, what would
you do with Social--do you believe in Social Security?
Mr. Lindsey. Of course.
Senator Sanders. OK.
Mr. Lindsey. What I am suggesting is that if you are going
to take advantages of tax reform, you want to roll as much of
the Tax Code as you possibly can into the most efficient tax
you can. And obviously you would continue to fund Social
Security with that new tax. I do not see where there is any
inconsistency there at all.
Senator Sanders. Well, the----
Mr. Lindsey. Also, Senator----
Senator Sanders. Let me--one second. Excuse me. I----
Mr. Lindsey [continuing]. you said something about the
Bush----
Senator Sanders. Hold it, hold it. Hold it, hold it. Mr.
Chairman, I do not have a whole lot of time here, so let me
just ask you the questions, OK? My point was that right now we
are having a major debate about the future of Social Security.
Mr. Lindsey. Yes.
Senator Sanders. And Social Security is funded
independently of the U.S. Treasury by the payroll tax.
Lumping--let me finish. That is a fact. Lumping all--you can
certainly fund a retirement program for the elderly in ways
other than the payroll tax. I am not arguing that. But right
now the strength of the payroll tax in terms of protecting
Social Security is that it has nothing to do with the deficit.
If you lump everything together--and there are guys around here
who say, well, you know, we have to make cuts. You will agree
with me that one of the areas that could be cut if you are
funding a retirement program for seniors out of the general
Treasury could be programs for the elderly. Is that a fair
Statement?
Mr. Lindsey. This Congress has cut Social Security any
number of times, even though it is funded by the payroll tax.
So there is no linkage between how a program is funded and
whether or not it is cut.
Senator Sanders. Oh, I would not say that.
Mr. Lindsey. 1981, 1978, those would be two good examples.
Changes in the tax on Social Security benefits, I forget which
year it was passed. Mr. Chairman, you may remember.
Senator Sanders. 1983, I think.
Mr. Lindsey. So, yes, there were many, many times when we
have adjusted Social Security----
Senator Sanders. You adjusted Social Security, yes.
Mr. Lindsey. Cuts. We cut Social Security benefits without
changing the payroll tax one bit, so I----
Senator Sanders. Well, actually, we raised the payroll tax
in 1983 so that it is now a viable program. All right. I do not
want to belabor the point.
I guess I have run out of time, Mr. Chairman. Thank you
very much. Thank you.
Chairman Conrad. Senator Merkley.
Senator Merkley. Thank you very much, Mr. Chair, and thanks
to the panel for your presentations. I want to compliment my
colleague from Oregon, Senator Wyden, for consistently and
effectively raising the issue of tax simplification and putting
forward the bill he has this year.
One dimension of this is that Oregon and our Federal taxes
may have something in common; that is, a fairly high marginal
rate, but then tons of exceptions in terms of deductions and
credits. A few years ago, when I was in the State legislature,
I went to the Portland Development Agency and said, you know,
Oregon is 47th in the Nation--in other words, one of the lowest
States in terms of the tax burden it places on business. Is
this a selling point in attracting business to the State of
Oregon? And the answer was, no, it is not. And I said, well, we
are 47th, one of the lowest effective tax systems in the
country. Why isn't it a selling point? And the answer was,
well, we have a very high marginal rate, and companies largely
look at that marginal rate. They do not count on getting the
exceptions and the credits of the deductions and the credits,
and so it has proved of little value in attracting business to
our State.
So I said, well, wouldn't it make a lot more sense for us
then, if we are going to be 47th, to be 47th with a very low
marginal rate and fewer deductions and credits, and wouldn't
that prove more attractive? And the answer was, yes, that would
be a much better sell. And I think the United States as a whole
seems to have a parallel problem. So I just wanted you all, as
you would like, to comment on this question of whether we
become much more attractive to companies deciding whether to
site themselves in the U.S. or overseas if we had--we collected
the same amount of tax we do now, but did so with a far lower
marginal rate.
Ms. Altshuler. Just a quick answer. Absolutely, and that is
what I wrote about in my testimony. You hear a lot of people
saying, well, you know, the statutory rate is really high, but
once you take all of those credits and deductions and loopholes
into account, the effective tax rate is really low. So we
really do not have to do anything about the statutory rate.
I have two problems with that. One is that I think if you
look at effective tax rates, they are not as low as you may
think. They are not that much lower than the statutory tax
rate. But most importantly is it depends--it is very individual
firm-specific. The statutory rate is an important factor as you
just pointed out. It affects location decisions. It affects
financing decisions. It affects how much wasteful tax planning
you do. It affects how much you invest. So it is a very
important policy lever, and it does make sense to lower the
corporate tax rate.
Senator Merkley. Anyone else want to comment on that?
Mr. Steuerle. Senator, I think we would all agree. I have a
somewhat tangential point, but a lot of the discussion we have
had at this table has gone to issues like international tax,
which can be very complex. But I would like to bring us back to
where maybe all our testimoneys began, which is there are a
whole variety of tax changes that appeal to both sides of the
aisle that are not--when we have these debates on taxes--but,
remember, taxes is the entire revenue side of the budget and a
quarter of the expenditures, so we are talking about thousands
of programs. There are so many things that cut across the aisle
that both sides would agree we do not need five educational
subsidies, we do not need ten capital gains tax rates. We could
report on the burden on taxpayers is including the deficits we
are putting on them. This is the type of thing Senator Wyden I
think went through when he did his tax reform, is you can
narrowly--you can start with the issues on which there is a
consensus, and then build out to the issues on which there is
not a consensus. And one of them is the one you are including,
that if we can broaden the base--at least to the extent we
broaden the base and lower the rate, that there are a lot of
common elements. There is a certain beyond which--well, that
does not work because, as Dr. Altshuler keeps mentioning, there
are certain rate reductions that are hard to finance with the
base broadened. That does not mean you cannot go as far as you
can with the type of proposal you are suggesting.
I think there are a lot of things that we can agree to
across the aisle if we are just willing to sit down and do
them. Start with them as a base and hold off the issues on
which there is more controversy across the aisle.
Senator Merkley. Let me turn to another topic. When I was
here in 1976 as an intern, there was a tax reform up that
addressed a lot of various exemptions, deductions, credits, and
so folks from Oregon were writing in with all their
perspectives on could their home office be deducted and blah,
blah, blah and so forth. Just a lot of anxiety over each and
every one of those potential changes.
But a number of changes were made, and then in 1986,
Senator Packwood led a major effort, a much larger effort, to
do the same, to simplify in large degree. But it appears to me
that between 1986 and now we basically have had a 24-year
period where we have not gone back. So instead of having 10
years of handing out credits and deductions and then kind of,
OK, let us come back to some form of sanity, we have had 24
years in which we have been handing out complexities in the Tax
Code without coming back. Are we long overdue for this type of
major discussion?
Mr. Marron. Yes, absolutely. And I think going back to one
of the issues I raised in my testimony, I think one of the
things that has driven that over the last 25 years is that you
can dress up special deductions, exemptions, and credits as tax
cuts, which are often politically more palatable than if you
form them up as spending increases. Nonetheless, many of them
look from an economic and budget point of view basically to be
the same thing, where you are using the Federal Government to
direct resources to a certain kind of activity, but politically
they have looked to be tax cuts.
And going back to one of the things that Gene has
emphasized several times, I think there is a challenge in the
way we communicate about these issues and that clarifying that
some of these provisions really are effectively spending
programs will be part of the steps toward addressing them.
Mr. Lindsey. Senator, in addition I would point out we took
the top statutory rate up from 28 to 39.6 over that same period
of time, and the two go hand in hand. And so both I think is
what is on the table.
Senator Merkley. OK. I want to slip in one final question--
oh, go ahead.
Mr. Steuerle. It is just that when I have looked at the
numbers, what has increasingly happened over the years you are
talking about is that Congress has increasingly gone to what I
call the give-away side of the budget, that is, on both
spending and--both tax cuts and spending increases, which is
what one wants politically, and the challenge always for the
Budget Committee is you recognize there is the other side of
the ledger. And we have to figure out a way to raise the
importance of what that means. We cannot let deficits act as if
they are free money when we do spending increases and tax cuts.
Senator Merkley. Mr. Chair, I think I am out of time. Is
there a possibility of slipping in one more question?
Chairman Conrad. Yes, sir.
Senator Merkley. OK. Thank you.
I have asked my team to help identify specific examples of
how our Tax Code subsidizes the export of manufacturing or jobs
overseas, and one specific example that they have put forward
is that when an American company decides to build an overseas
factory, if they take their loan out to build that factory in
the United States, the interest becomes tax deductible. So
essentially the American taxpayer is, therefore, subsidizing
the financing of the overseas construction that then
incentivizes the shifting of jobs overseas.
Is there a rational argument for this? Or is this just
plain out a crazy thing to do, to subsidize the construction of
factories that compete with American factories?
Ms. Altshuler. Do you have an hour to get into this and a
lot of headache medicine?
Senator Merkley. It sounds like we are going to have a
followup discussion.
Ms. Altshuler. Yes. It is not the case that all
corporations are able to deduct all of their interest expenses
that support foreign investment from the U.S. rate. We do have
a system where interest on domestic lending is allocated abroad
so that you are not allowed to deduct 100 percent of your
interest on foreign--domestic interests to--you are not allowed
to deduct 100 percent. There are interest allocation rules.
They are very, very complicated. We have a better rule that
actually is on the books to be enacted, but we just keep
pushing it out. I am not sure when it is. It is called
worldwide fungibility. Maybe it has been pushed out to 2018
now? I am not sure, but we keep pushing it out.
What you raise is a really interesting issue because if a
firm can deduct interest on loans that they take out in the
United States to build a company abroad, they have generated
for themselves a negative marginal effective tax rate, which
means that we are subsidizing their investment abroad.
The difficulty of this is understanding the extent to which
this is happening to specific corporations. It is complicated.
Chairman Conrad. But it is happening. I mean, I have had
people come to me who are in very large multinational
accounting firms who have had clients who were doing precisely
this. And it so troubled them that they came to me, and they
did not divulge the company because that would be a breach of
their confidentiality agreements. But they showed me very
specifically companies from the United States developing a net
marginal negative tax rate and in effect being subsidized by
American taxpayers to put jobs overseas. And I tell you, this
is, I think, a bigger problem than has been acknowledged. It
is, according to people who have come to me from very large
accounting firms, they believe, a rapidly growing problem as
people figure out this mechanism.
Before I go to Senator Wyden for an additional question,
just as a factual matter, earlier on we were talking about
Canada's deficits, so I asked to look into that. They were at
101.7 percent of GDP in 1996. They brought that back down to
69.7 percent of GDP, partially with the institution of a VAT.
It was not exclusively a VAT, but they used a VAT in
combination with other taxes. You do not see many countries
that have exclusively a vat. Almost always they are hybrid
systems, part income tax, part VAT. And there was an earlier
question from Senator Whitehouse with respect to the
competitiveness advantage. One part of the competitiveness
advantage is those taxes are rebatable at the border. And so
the example that Senator Whitehouse was giving is quite
accurate. We have our taxes built into our products that we are
trying to compete with foreign countries. They have a tax that
at least partially is rebatable at the border, so when those
goods come into this country, they have less of a tax burden on
them. That confers a competitive advantage.
Now, we have tried to counter that with DISC and FSC and
how many iterations. Mr. Lindsey, you would probably know. And
the problem is we keep getting ruled GATT illegal on the things
we do to try to level the playing field for our manufacturers.
Many of us believe that we are on a course here that at some
point we are going to lose our ability to try to make our
people competitive. That is, we are going to get ruled GATT
illegal. We are not going to be able to fix it. And then we are
going to face a 20-percent, 25-percent, depending on what the
VAT is, advantage going to the foreign manufacturer.
So, you know, one of the reasons we wanted to hold this
hearing today, I mean, these are serious, serious matters for
this country's competitive position. And I do not think we want
to allow ideology on either side here to get us away from the
practical reality of what we confront as a country, and that is
the competitive position of the United States.
Senator Wyden.
Senator Wyden. Thank you very much, Mr. Chairman. I think
you make an important point. My friend and colleague from
Oregon, Senator Merkley, as usual does as well. These
international questions are enormously important, and I thank
my colleague for making it.
That was the one I wanted to ask you about, Dr. Altshuler,
and that is transfer pricing. Just to kind of put this in a
little bit of context, Senator Gregg and I went at the tax
reform issue week after week for 2 years in order to get where
we were, essentially a modernized version of 1986, and my guess
is we could have probably spent another 5 years working through
the territorial and the international situation.
I think we got to where we were by asking the 1986
question, which was how low would you have to get the business
rate to be in order to get rid of some of what you are doing in
terms of deferral and credits. And that is how we got to the
corporate rate of 24 percent and junked a lot of what currently
goes on internationally in terms of deferral and foreign
credits.
Transfer pricing takes this to a whole different level, and
here is the question for you, Dr. Altshuler. In effect, the
definition here is you can create paper transactions between
subsidiaries of the same company to allocate expenses and
profits to selected companies. That essentially seems to be the
consensus view of the definition of transfer pricing.
What we found is people like Ed Kleinbard, who was then the
head of the Joint Tax Commission, who said, look, if all you do
is go to the territorial system, you are going to make these
problems of transfer pricing worse, and we are already losing
$60 billion offshore and it is a significant problem.
Territorial will not do anything about it.
The question for you, Dr. Altshuler, and I appreciate the
time the Chairman is giving me. Dr. Altshuler, do you agree
essentially with that Kleinbard theory that pure territorial
tax approaches as constituted today would not do anything about
transfer pricing, could make the problem worse? And if you do,
what would you do about it? Because that is where we bog down,
and a lot of my colleagues clearly are interested in this. I
want to be responsive to them. But if you agree with that
Kleinbard theory, what would you do about it in order, again,
to try to bring folks together like they did in 1986 and
actually get something done?
Ms. Altshuler. This is a tough one. Going to a territorial
tax system does increase transfer-pricing pressures, income-
shifting pressures, but only to the extent to which the
repatriation tax is a burden in the first place. So let me just
be simple. Yes, income-shifting incentives will go up with the
territorial tax system. How much they go up is an open
question, which, again, I guess I am saying yes to you. And the
question that I have these days is: How much worse does income
shifting and transfer pricing get if we go territorial and
lower the rate to 24 percent? Because the studies that I have
been looking at and the studies that have been done in the past
always look at territorial with the 35-percent rate. But if you
are lowering the rate to 25 percent to the OECD average, you
are taking some of the pressure off. Of course, there is still
zero percent taxes out there.
Both solutions to the international tax problem are not
perfect. I like your solution quite a bit. I wrote a paper on
it. It is elegant because by getting rid of deferral, you get
rid of the transfer-pricing problem faced by--with U.S.
multinationals. That does not mean--but there are two problems
that we have and territorial has problems, too, but just to
bring them up.
What I worry about is if we were to get rid of deferral and
what we would be doing is going in the--and I am playing a two-
handed economist here, OK? So if we were to get rid of deferral
going in the opposite direction of other countries, yes, we get
rid of this transfer-pricing problem with our U.S.
multinationals. But we are still at, you know, this 24-percent
rate. The OECD average is 25 percent. Are we going to lose
headquarters? In other words, you are going to have foreign
multinationals that are going to be able to enjoy our lower
rate, OK, but not face worldwide taxation. So do we lose U.S.
headquarters? And I do not have the answer to that question,
but I think it is really important.
Senator Wyden. Mr. Chairman, you have given me a lot of
time, and I think Dr. Altshuler puts her finger on really a
very appropriate point as we wrap up. What the whole exercise
is about is creating incentives for this economic renaissance
that this country wants so much at this time. And, in fact, the
reason, if you go to a labor union meeting or a business
meeting, that you can get applause for a 24-percent rate, is
you are junking these incentives for taking jobs overseas in
order to get red, white, and blue jobs here in America by the
incentives for bringing those kinds of operations back and
having the headquarters you are talking about.
Mr. Chairman, thank you so much for all this time. It has
been a great hearing.
Chairman Conrad. Yes, I think it is very important time.
Let me just say I used to be tax commissioner; I used to be
chairman of the multi-State tax commission. I engaged in
negotiations in the Reagan Administration on the question of
these multinational jurisdictional issues. I have spent a lot
of time in it. When I was tax commissioner, we found some
amazing things. I will never forget. We followed transactions
of a major grain company and found that one shipment of grain
changed hands eight times before it left the continental United
States before we lost track of it offshore.
I have seen other examples, not in my tax work but in
conjunction with the revenue service, where a company showed no
profits in the United States, a series of transfer-pricing
transactions showed $20 million in profits in the Cayman
Islands where conveniently there were no taxes, with one
employee. And I always said that one employee was the most
efficient worker in the world to produce $20 million of
profits, and he actually produced nothing. The only thing he
produced was tax returns and corporate Statements showing that
they had had periodic board meetings to meet the requirements
of that.
So, look, these are enormously complex subjects, but we
have an obligation to sort through them, and I think this has
been an especially valuable meeting. I also want to commend my
colleague Senator Wyden. I said this in another forum. There
are very few members who have come up with such significant
contributions in tax reform and health care reform, operating
with just his own individual staff, not a Committee staff, not
a Committee chairmanship, and really sweeping, well-thought-
out, bipartisan proposals. And he deserves tremendous credit
for that, and I am glad we pursued the questions here today.
I thank this panel so much. I think you have been terrific
and really thought provoking. I appreciate all of your
participation here today.
The Committee will stand in adjournment.
[Whereupon, at 12:23 p.m., the Committee was adjourned.]
CHALLENGES FOR THE U.S. ECONOMIC RECOVERY
----------
THURSDAY, FEBRUARY 3, 2011
U.S. Senate,
Committee on the Budget,
Washington, DC.
The Committee met, pursuant to notice, at 10:01 a.m., in
room SD-608, Dirksen Senate Office Building, Hon. Kent Conrad,
Chairman of the Committee, presiding.
Present: Senators Conrad, Cardin, Whitehouse, Merkley,
Begich, Sessions, Thune, and Portman.
Staff present: Mary Ann Naylor, Majority Staff Director;
and Marcus Peacock, Minority Staff Director.
OPENING STATEMENT OF CHAIRMAN CONRAD
Chairman Conrad. The hearing will come to order.
I want to welcome everyone to the Senate Budget Committee
today. Today we will focus on challenges that are facing the
U.S. economic recovery. We are going to look specifically at
challenges in the areas of unemployment, housing, and the State
fiscal crises. We are really fortunate to have four outstanding
witnesses with us today:
Dr. Mark Zandi, Chief Economist at Moody's Analytics. Dr.
Zandi has been very helpful to this Committee and has testified
here several times in the past. We are grateful to have you
back again today.
Dr. Till von Wachter, Associate Professor of Economics at
Columbia University, and I would just say parenthetically my
daughter is getting a Ph.D. there. I was up there a few weeks
ago. She was teaching a great books class. It was very
interesting.
Dr. Ray Scheppach, the Executive Director of the National
Governors Association. We understand that after nearly 30 years
he is retiring and going to go to UVA. I commend you on your
years of public service, Ray. Always somebody that has enjoyed
credibility on both sides of the aisle for his professionalism.
And Mr. Chris Edwards, Director of Tax Policy Studies at
the Cato Institute. Good to have you back as well. Thank you
very much.
Let me begin by providing a brief overview of my own on the
economic challenges that we currently confront. The Federal
response to the recession and the financial crisis successfully
pulled the economy back from the brink. In the fourth quarter
of 2008, the economy was showing negative growth of 6.8
percent. Economic growth has since returned, although not as
strongly nor as quickly as we would have liked. In the fourth
quarter of 2010, we saw positive growth of 3.2 percent.
Private sector job growth has also returned, although not
as much as we would like. In January 2009, I think it is
important for us to remember, the economy was losing more than
800,000 private sector jobs a month. In December of 2010, the
last month we have data for, the economy gained 113,000 private
sector jobs. So we now have 12 consecutive months of private
sector job growth.
Despite this improved picture, it is clear the economy is
growing at a much slower pace than in past recoveries. When
measured against the nine previous recoveries over the past 60
years, we see the current recovery lags considerably the
typical recovery. I personally believe a key reason for that is
the damage done to the financial sector.
And the unemployment rate has also remained stubbornly
high. Just a little over 3 years ago, it stood at 5 percent. It
nearly doubled within a year's time and has fluctuated in the
9-percent-plus range ever since. The Congressional Budget
Office now projects the unemployment rate will fall only
slightly to 9.2 percent in the fourth quarter of this year and
still remain stubbornly above 8 percent in the fourth quarter
of 2012.
Another concern is the number of long-term unemployed,
those unemployed for 27 weeks or longer, which is
extraordinarily high. The average rate of long-term
unemployment over the period from 1948 to 2007 was eight-tenths
of 1 percent. Just prior to the recession, in December of 2007,
the rate was very similar, at nine-tenths of 1 percent. Now the
rate of long-term unemployed has surged to 4.2 percent. This is
a clear sign of the persistent economic weakness experienced by
Americans across a broad front.
We also continue to face a crisis in the housing market,
the sector of the economy that sparked the recession. One out
of five mortgages remains underwater, meaning the home is worth
less than the remaining balance on the mortgage. And in some
markets, that number is much higher. In addition, one out of
eight mortgages is delinquent or in foreclosure, and home
prices have fallen 31 percent from their peak in 2006 and are
expected to continue falling in the near term.
We can see that new home building has fallen dramatically
and remains low. In January of 2006, we had 2.3 million housing
starts. In December, we had just 529,000 housing starts.
Finally, the Nation's economic recovery also faces a
challenge from the fiscal crises occurring at the State and
local level. Here is a recent headline from the New York Times.
It reads: ``Mounting Debts by States Stoke Fears of Crisis:
Costs remain hidden; analysts who predicted mortgage meltdown
see a similarity.''
Since most States have balanced budget requirements, they
are forced to close their budget gaps with layoffs and cuts in
social services and tax increases. Such cuts have a ripple
effect through State and local economies. This undercuts the
recovery efforts underway nationally.
I think it is very clear there is little appetite in
Congress for providing further help to States, so we need to
consider what else can be done to help States get through this
challenging period. I hope this hearing can shed light on all
of these issues.
Senator Sessions is not here yet. He is delayed. So I think
what we will do is go right to the witnesses, and we would ask
you to limit your stated remarks to 5 minutes or thereabouts,
and then we will have a chance to get to questions.
Again, thank you very much for participating. This is an
important day for the Budget Committee because we are trying to
deal with a series of challenges that the country faces all in
one hearing. I cannot think of a better panel of witnesses to
do that.
Mr. Zandi, why don't you proceed.
STATEMENT OF MARK ZANDI, PH.D., CHIEF ECONOMIST, MOODY'S
ANALYTICS
Mr. Zandi. Thank you, Mr. Chairman, and thank you and the
rest of the Committee for the opportunity to participate in
today's hearing. I should say that the views I express are my
own and not those of the Moody's corporation. And you should
also know, because I will be speaking about the housing
mortgage markets, that I am a Director of MGIC, the largest
private mortgage insurer in the country.
I will make three points in my remarks.
Point No. 1 is that I am optimistic with regard to the
economy's prospects; that after 3 very lean economic years, a
year and a half of recession, a year and a half of weak
economic recovery, I think we will experience much stronger
growth this year and in 2012.
Just to give you a sense of what that means, in terms of
GDP, the value of all the things that we produce, that fell 2.6
percent in 2009, obviously a very bad year; grew 3 percent,
almost 3 percent in 2010. I expect GDP growth to be near 4
percent this year, and roughly the same in 2012.
In terms of jobs, we created 1.35 million private sector
jobs in 2010, December to December. I expect double that in
2011 and roughly the same in 2012. And I agree with the CBO's
projections on unemployment. The unemployment rate should end
this year closer to 9 percent and closer to 8 percent by 2012--
still, obviously, a pretty deep hole. It will be a number of
years before we get back to anything anyone considers to be
good, but we are making our way in the right direction.
There are a number of reasons for this optimism. I will
just mention two quickly.
First is businesses are very profitable. Big companies,
mid-sized companies in particular, their balance sheets are
very strong. I do not think it is any longer a question of can
they invest and hire more aggressively. I think it is just a
question of willingness. And I think they are going to become
more willing. Sentiment is improving quite rapidly, and I
expect conditions to improve.
The other key reason for the optimism is policy. I think
the policy response by the Federal Reserve, by you and Congress
and the administration has been excellent and has made all the
difference; that without your policy response, the downturn
would have been measurably worse, the cost to taxpayers
measurably greater. I think you did the right thing. We can
take exception with any individual aspect of the response, but
the totality was, I think, quite impressive.
Point No. 2 is, despite my optimism, obviously there are
challenges and risks, and I clearly could be wrong, and we are
going to talk about a few of those today. State and local
governments obviously face very serious challenges. The
European debt situation remains very unsettled. Policymakers
there need to do more, and until they do, obviously that is a
concern.
The events in Egypt and the Middle East remind us of the
risks posed by higher oil and other energy prices, and that is
worthy of concern.
But at the top of my list of concerns, at least for the
near term, the next 6 to 12 months, is the ongoing problems in
the housing market, the foreclosure crisis, and let me just
turn to a few slides to make the point clearer.
The foreclosure crisis continues on. You can see here the
number of first mortgage loans that are in default, somewhere
in the foreclosure process, or headed in that direction. They
are seriously delinquent and likely to go into default. That is
close to 4 million loans. For context, there are roughly 50
million homeowners with first mortgage loans, so 4 million is a
lot of loans.
You will note that the good news here, if there is any good
news, is that the problems appear to have peaked. But the
concern is, at least in the near term, that there are many,
many loans now coming to the end of the foreclosure process.
REO, which is the last stage in foreclosure before a distressed
sale, is building again, and you can see that here. This shows
the number of properties in REO, and I have broken that down
for you----
Chairman Conrad. What does REO stand for?
Mr. Zandi. Other real estate owned. So it is when the
lending institution takes back title from the homeowner. That
is now in their inventory, and that is the last point before
they actually sell it into the marketplace as a foreclosure
sale. And you can see it is building. And this is very
important because these distressed sales will put further
downward pressure on housing values.
Chairman Conrad. Can I stop you on this point? Let me just
say we are going to run this hearing a little differently than
we typically do. If you are wondering why I am the only one
here, the Prayer Breakfast is this morning, and the Prayer
Breakfast is running long because of events, as you know. Our
colleague Gabby, her husband is giving the final prayer. The
President is at the Prayer Breakfast. We were informed that it
would be concluded by this time. That is why we scheduled the
hearing for this time. But because of the unusual
circumstances, the Prayer Breakfast is running quite long. So I
apologize to you that we do not have the typical turnout we
would, but people will be here.
Let me just say this to you: I have been watching the
question of short sales, and it is very clear that short sales
where the property is underwater--they owe more than the
property is worth--requires a two-level negotiation. First you
negotiate with the homeowner, and then it goes to the bank for
approval. And I am being told by people in the real estate
industry that the gap in time is losing a lot of sales; that
is, that the inability to turn around the decision at the
lending institution leads a lot of people to just get
frustrated. They need a house. They bail out. They go in
another direction.
Is that an accurate assessment of part of the problem here?
And is there anything that could be done about short sales?
Mr. Zandi. Yes, that has been a problem, in part because
the lending institutions, the banks, are very nervous of being
defrauded, and they need to make sure that the short sale is an
arm's-length transaction.
Moreover, many institutions really did not have the
infrastructure necessary to engage in a significant number of
short sales. They had not done many in the past, and to ramp up
has been difficult. It is not an easy thing to do, to do well.
My sense is that the impediments to short sales are
abating, that we are seeing more short sales. I will just give
you a sense of the magnitude, and these are rough orders of
magnitude.
If you go back to, say, 2007, 2008, in the start of the
crisis, we were getting 25,000 to 50,000 in short sales per
annum. We are now running probably closer to 250,000, 300,000
per annum--which is still small in the context of all the
problems that we have, but it is moving in the right direction.
And some of the major institutions have established within
their organizations groups that are focused solely on the
short-sale process.
Also, the administration, in its HAMP efforts to facilitate
loan modifications and short sales, has provided incentives to
all the various parties involved--homeowners, mortgage
servicers, mortgage owners--to engage in more short sales. This
is much preferable to everyone involved than going down the
road to a foreclosure sale. That has not been nearly as
successful as HOPE IV, but it is helping, I would say. So I
think we are moving in the right direction.
With regard to what else can be done in this regard, I
think the best thing that can be done is vigilant oversight. So
I would continue to ask very strong questions of the lending
institutions: Where are we? Where were you? Where do you think
you are going to be? What are you doing to facilitate this?
Just to make sure that, you know, they understand that everyone
is watching this very, very carefully.
I think all the tools are in place, the policy tools are in
place to make this work better. I just think it needs a little
bit of oversight push to make sure that it works in a
reasonably orderly way.
Chairman Conrad. OK.
Mr. Zandi. So as you can see, the REO inventory is--would
you like me to proceed with----
Chairman Conrad. Yes.
Mr. Zandi. OK. So the REO inventory is rising. There has
been, I would say, a reasonable effort to try to forestall
foreclosures and short sales through loan modification efforts.
But I would say I think it is now widely understood, and I
think appropriately so, that the modification efforts have been
inadequate or they have certainly not lived up to anyone's
expectations. And you can kind of get a sense of the
modification efforts here. They have improved. If you go back
to 2007 at the start of the foreclosure crisis, we had 250,000
in loan mods, private sector loan mods. That has ramped up. We
are now seeing loan mods of somewhere between a million and a
half and 2 million per annum, which is helpful but, you know,
in the context of all of the problems we have, it is still
quite small.
My own view here, though, is I do not know that
policymakers should do anything else with regard to the HAMP
program, which is a major effort of policymakers to facilitate
loan mods. One of the problems has been that the HAMP plan has
been changing so much; it has been very difficult for servicers
and lenders to get their arms around it and to implement it. I
think we have it where it needs to be. We just need to let them
use it as best they can. And, again, vigilance here would be, I
think, very therapeutic to make sure that they are remaining
engaged.
But, nonetheless, having said that, the mods are not going
to solve our problem. We are going to see a lot of loans go
through the foreclosure process to a foreclosure or short sale,
and I would anticipate more house price declines. You can see
that here. This shows house price growth per annum.
Chairman Conrad. Somehow we are not getting it on the
screen here. We have a little technical issue here.
Mr. Zandi. OK. Well, I will just describe it.
House prices, as you pointed out in your slides, are down
from the peak just over 30 percent. I would anticipate this
year another 5-percent decline in national housing values. If
that is all it is, I think, you know, we are going to be OK,
and my script for the economy will roughly hold. But this is
where the risk lies, a significant risk, and that is, we have
14 million homeowners underwater. If house prices decline
more----
Chairman Conrad. 14 million underwater.
Mr. Zandi. 14 million homeowners underwater.
Chairman Conrad. They owe more than the house is worth.
Mr. Zandi. Yes. The value of their home is less than the
mortgage debt they owe on that home.
Just to flesh that out a little bit more for you, of the 14
million, 4 million are--and these are my estimates, and they
are approximations. Four million are underwater by more than 50
percent. That is deeply underwater, and obviously that is the
fodder for default.
You know, in many cases these homeowners want to hold onto
their home, but suppose you spring a leak in your roof and you
are told you have to put $3,000, $4,000 in your home. I mean,
does that make any sense to anybody for them to do that? Or
your air-conditioning unit breaks, you know, and it is another
$2,000, $3,000.
So with house prices falling more people will be
underwater. That is fodder for more default. You get more
default, that puts more foreclosure short sales, more downward
pressure on prices, and you can construct a scenario where you
get into a very vicious cycle--the very same vicious cycle we
were in back in 2008 and early 2009 before the policy response.
In this go-round, it is not clear how you would respond to
that. I do not think this is the most likely scenario, but
certainly it is a very significant threat and risk, a challenge
to the economic recovery.
So point No. 2 is that at the top of the list of concerns
is the ongoing foreclosure crisis. I do not think the coast is
clear.
So this goes to point No. 3, and that is, well, what can
policymakers do to try to mitigate this potential threat, this
potential risk. We talked a little bit about some policy, but
let me mention a few things. In fact, I will focus on--am I
taking too much time?
Chairman Conrad. No.
Mr. Zandi. OK. So I would focus on three things.
First is I think there are things that can be done to
facilitate the loan modification/foreclosure process, and let
me mention a few aspects of what I mean there.
First, I think it would be very important if mortgage
servicing companies appoint one person as a point of contact
for the homeowner. So right now, if you are a distressed
homeowner and you call a mortgage bank, each time you call, you
get someone else. They have no idea who you are. It is just a
nightmare and very frustrating for everybody involved. You get
documents lost. The loan officer says, ``Send me this
information, this information, and this information.'' You send
it in. You hear nothing. You call back. You get a different
person, and they do not know what you are talking about. They
say, ``Oh, you sent it to the wrong department. You should have
done this. Send it here.'' And so the process is very elongated
and very cumbersome, and I think it would be prudent for--and
this is a regulatory, I think, point of contact to require
servicers to have one person in charge of each loan file.
Another aspect of this is there is so-called dual tracking
that creates a great deal of confusion in the foreclosure
process. That is, when you are a distressed homeowner, you are
considered for a loan mod, but you are also put in the
foreclosure process at the same time. They are both occurring
at the same time. So you could be talking to one person in the
institution about your modification. Then you get a notice in
the mail saying, you know, ``You are in default, and we are
going to take you to court.'' So this becomes incredibly nerve-
wracking, frustrating, everyone is very upset by this.
I would suggest, another regulatory point of contact, to
end the dual tracking. You go through loan modification. If you
do not make it through loan modification, you cannot get
through these programs. Then you go through the foreclosure
process, and that gives everyone enough time to sort of get
their minds around what is happening, get all the loan
documents in place, and really make a good decision here.
The other thing I would suggest is third-party review. Some
States--Connecticut, I believe New York, New Jersey, Florida--
are now asking mortgage companies to work with a third party,
and this third party would help the homeowner to go through the
process: makes sure that the homeowner knows all of their
rights, knows all of the options open to them, helps them get
all their loan information together, and shepherds them through
the process. They are an advocate for the homeowner. This is an
incredibly complex, difficult, messy thing. Most homeowners
really do not have the skill sets to do it well, and I think
they should be given resources to do that. It would not be very
costly, and I think it would make the entire process more
efficient, and we would get better results.
Finally, Sheila Bair, Chairwoman of the FDIC, has made a
very good proposal that I would advocate, and that is,
establishing a fund financed by the mortgage servicers that
would compensate homeowners that are shown to be wronged in the
foreclosure process. As we know, there is a range of problems,
affidavit signing issues and other related issues. I think this
would be a way to light a fire under the industry and say, you
know, if it is shown to be that you messed up here, then you
have to compensate these individuals for the screw-up.
So these are foreclosure modification process changes that
can be, I think, tweaked in the regulatory process that would
make this a much better process.
I will mention one other thing because I am taking a lot of
time. One other policy response which would be helpful in the
next 6 to 12 months is to try to facilitate mortgage
refinancing activities. As you know, fixed mortgage rates are
very low. They are below 5 percent for the prime borrower. Part
of this reason is because the Federal Reserve is engaged in
quantitative easing and keeping--the whole intent of
quantitative easing is to keep long-term rates, particularly
fixed mortgage rates, down. And one of the key conduits through
which low rates help the economy is through refinancing,
mortgage refinancing.
The level of refinancing is incredibly low. One of the
reasons for this is that for borrowers with poorer credit
scores and who are underwater, they do not get that interest
rate. They get a much higher interest rate. Fannie Mae and
Freddie Mac, for example, charge much higher rates for people
with lower credit scores and higher LTVs, even if they own the
loan. Even if they own it in their portfolio or they insure it,
they own the credit risk. But they are still charging these
higher rates, which is forestalling refinancing activity. So I
would suggest that there is a requirement on Fannie and Freddie
not to charge those higher rates to facilitate more refinancing
activity. And it will cost Fannie Mae and Freddie Mac in
interest income, but it will benefit them in the form of fewer
foreclosures, because these homeowners are going to have lower
monthly mortgages payments and be less likely to go into
default. And they own the loan. I am not suggesting this for
anyone but Fannie Mae and Freddie Mac. So net-net it is not
clear to me that they would lose money, right? And this would
facilitate more refinancing now when mortgage rates are still
low before they start to rise. And they will definitely rise by
the end of the year. And this will put money in their pocket to
distressed homeowners, like a tax cut, and it costs the
Government nothing. And I think this is a very efficacious way
to help very, very quickly.
So there are other things, but I will stop there.
[The prepared statement of Mr. Zandi follows:]
Chairman Conrad. Well, this has been very useful. You have
given us a lot of good ideas in a very short period of time.
Senator Sessions is now here. I was explaining the National
Prayer Breakfast was this morning, and that was running long.
Senator Sessions. Yes.
Chairman Conrad. Would you want to make your statement at
this point, or would you prefer that we continue with
witnesses? What is your preference?
OPENING STATEMENT OF SENATOR SESSIONS
Senator Sessions. I will just briefly say thank you for the
hearing. I thank the witnesses for being here. We did have a
good breakfast this morning. The President spoke eloquently, as
he usually does. And I guess I have given him a hard time
lately about not leading on the budget, and I think that was a
valid criticism, but we all have some challenges. We have to be
honest about it and see how we can work our way through this
deficit cycle, and I appreciate the insights each of you bring
to the key issues that face us.
Mr. Chairman, we have had a lot of hearings this week. This
is the third one this week. I believe you are correct to push
us because these are critical issues facing the country. We do
not have time to put off decisionmaking, and it is well that we
are moving forward, and I support your strong leadership.
Chairman Conrad. I thank you so much, Senator Sessions. I
appreciate you being a partner in this effort to really get
serious about our deficit and debt.
This morning, we really are focusing on these special
areas: State debt, housing crunch, long-term unemployment,
these special challenges to the economy and what could be done.
We will now go to Dr. von Wachter for your testimony. Dr.
von Wachter, Associate Professor of Economics at Columbia.
STATEMENT OF TILL VON WACHTER, PH.D., ASSOCIATE PROFESSOR OF
ECONOMICS, COLUMBIA UNIVERSITY
Mr. von Wachter. Chairman Conrad, Ranking Member Sessions,
it is a great honor to be with you today. I am going to read my
testimony, but feel free to ask any questions at any moment in
time.
Unless we see an unprecedented job growth in the near
future, our best available estimates, as we have seen earlier,
suggest the process of reintegrating the large number of
unemployed into employment is going to be very long lasting and
gradual. During this process, many individuals are at risk of
permanently leaving the labor force. Those most likely to drop
out are older, partially disabled, and less educated workers.
This development is potentially costly for society, since these
workers, while able to work, do not pay taxes, are more likely
to draw Social Security benefits early, or enter costly
programs, such as Federal disability insurance.
Moreover, in the process of searching for jobs, many
workers are likely to exhaust unemployment insurance benefits.
It is well known that upon exhaustion of unemployment insurance
benefits, families' consumption falls and the incidence of
poverty rises. Moreover, only a very limited fraction of
individuals exhausting UI actually find a job.
Upon finding a job, for those who do, experience from
previous large recessions has suggested earnings of laid-off
workers are substantially lower. For example, the average
mature worker losing a stable job with a good employer in the
last big recession saw earnings reduction of 20 percent lasting
15 to 20 years. So there seems to be a permanent decline in
earnings of job losers.
And during this period of earnings decline, job losers can
also experience a decline in health. So in severe downturns in
the past, these health declines have led to significant
reductions in life expectancy of one to 1.5 years.
The effects of unemployment and job loss are also felt by
workers' children, who can suffer from the consequences even as
adults and by their families. Similarly, evidence from past
recessions suggests that entering the labor force in a large
recession such as this one can lead to reduced earnings for
young workers for ten to 15 years.
Now, the rest of my comments will focus on government
policies that I think can reduce the impact of extended
joblessness on both affected individuals and possibly on
government finances. So my recommendations fall into the
following four areas.
My first recommendation, and this is not news, to extend
unemployment insurance benefits for those who are about to
exhaust. On the one hand, extensions of unemployment insurance
benefits prevent large declines in consumption for the
substantial number of workers who are at risk of exhausting
benefits. On the other hand, research implies that the negative
effects of extending unemployment insurance benefits on
employment are not that large in a large recession such as this
one. So on balance, if you count the benefits for those workers
who are about to exhaust benefits and the cost to society for
lower unemployment, the net suggests that extending UI benefits
in recessions are likely to outweigh the costs.
Extension----
Senator Sessions. Extensions are raising benefits. The
phrase ``unemployment benefits''----
Mr. von Wachter. Say that again?
Senator Sessions. Your written remarks said that raising
unemployment insurance. Does that mean raising the amount
received or extending the time that they are received?
Mr. von Wachter. Thank you, Senator Sessions, for
clarifying. I mean extending the time, not the amount of
benefits. So my research is focused on the typical policy,
which is extensions and the durations, and what this means is
that you target those workers who are really at the risk of
going to zero after exhausting, not the workers who have
already benefits and then would consume more.
Now, one added advantage of extending the duration of
benefits is that it can prevent some of those individuals who
are at risk of permanently leaving the labor force from doing
so and possibly apply for disability insurance or claim Social
Security benefits. Now, these possible cost savings should be
incorporated into the calculations of the overall costs of UI
extensions, and the available approximations we have suggests
that cost savings from UI extensions through these channels
could be substantial. However, although the exact
quantifications of these mechanisms is in principle possible
using available data, this data is currently not available to
researchers. So we cannot really exactly say, tell you how much
we would save in terms of Social Security benefits or
disability payments by extending UI, but we could.
My second policy recommendation is the need to prepare an
exit strategy for unemployment insurance recipients once the
labor market shows signs of recovery, and there are several
policies that have been evaluated within the current UI system
that seem to be cost effective. These policies would make sure
that once the labor market improves, both the unemployed would
benefit and also the finances of the unemployment insurance
system would benefit.
One of these mechanisms is job search assistance, and job
search assistance has been widely shown to be very cost
effective and efficient in getting workers back to employment,
and this is very helpful because searching for a job in
environments such as this one is very time consuming and also
frustrating and uncertain, because many individuals do not know
where the economy is leading. Now, we all do not know where the
economy is leading, but there is a lot of potential information
that can be provided to workers in this long and time consuming
process, starting with that it is a long and time consuming
process. If workers want to go back to work at the level that
is not too low in terms of earnings, they really have to do a
lot of work and stay in the game of searching for five to 10
years.
Now, research has also suggested that the current
infrastructures of one-stop shopping or career centers could be
improved and extended. So we have a system in place that could
provide services to workers, but it could do a better job, and
we can talk about what fixes have been proposed.
Another typical suggestion is that workers could be
trained, and not all training programs work as well as others,
and so finding out which training programs really work and then
advising workers what training programs to take is a really
important step. And again, I think the data is there to
evaluate these training programs, but not all of it is
available to researchers.
For some workers, a long period of time may elapse before
finding a job, and especially for those workers on unemployment
insurance, providing them with bonuses to find jobs might
actually be cost saving from the point of view of the
unemployment insurance system. Workers may have lost touch with
the labor market, lost touch with what they can expect in the
new labor market, may search for too long, and providing them
incentives to take the job earlier may be cost savings. And if
these incentives are targeted to the workers who are most
likely to exhaust benefits, they have been shown to be cost
effective.
Now, although these mechanisms to help workers to find a
job help raise employment, at least that is what our past
experiences say, none of these mechanisms have been shown to
actually help reduce the earnings loss of job losers, meaning
even once workers find a job, partly because of these programs,
because of the economy recovery, their earnings will be lower
for a very long time.
And so a recommendation I have made before--that is my
third recommendation--it is worth considering trying to reduce
the massive amount of layoffs that we have seen in this
recession in the future, and there is a program in place to do
that that is called work sharing, and 17 States have work
sharing, but it is currently underutilized. It is partly
underutilized because it is not a very generous system, partly
because it is not well known. And more research into how we
could prevent such costly layoffs in the future is very useful.
My fourth recommendation concerns assistance for those who
are unlucky enough to be looking for a job for the first time
in this recession. One way to help those workers who are bound
for college is to provide financial aid. Financial aid can be
an important buffer against labor market shocks that affect
parental income or students' own ability to work while in
school. But it turns out that not all eligible students apply
for the aid that they could have, and current research suggests
that reducing the complexity of financial aid and informing or
even assisting students with applications will probably raise
the take-up of financial aid and raise college attendance.
And another concern which I only touch on briefly is that
many resources available for low-income college students are
provided at the State level. This is subsidized community
college or merit scholarships. And these resources are at risk
as State budgets are being cut, and so it is worth considering
how one could maintain these resources for young college
graduates at the risk of dropping out.
Let me just conclude. Something could also be done for
those young individuals not bound for college. In particular,
recent research has shown that sectoral training programs--
these are relatively small programs in which the program
cooperates with an employer to find out what type of training
is needed--these programs have been evaluated in randomized
studies and have been shown to be very effective in placing
young workers into jobs.
An alternative, of course, is to encourage the use of
financial aid, such as Pell Grants, to send individuals to
private institutions, private vocational schools, and that has
been a tremendous growth area in the past. But again, we know
very little how these private colleges and private vocational
programs really affect workers' earnings outcomes later. And so
mandating scientific evaluations of the returns of private
schools receiving Federal funding through financial aid would
be a useful policy.
To conclude, job loss and unemployment during severe
recessions, such as this one, can impose substantial and long-
lasting costs on affected workers, their families, in terms of
earnings, health, and other outcomes. This testimony has
focused on potentially cost effective ways to alleviate the
burden for these workers. It is also recommending making data
and information available to allow researchers to give a better
assessment of the full costs and benefits of these programs.
Thank you.
[The prepared statement of Mr. von Wachter follows:]
Chairman Conrad. Thank you. We appreciate very much your
testimony. I think you have given us some interesting ideas
that we can hopefully pursue as we go through the budget
process this year.
Next, we are going to turn to Dr. Ray Scheppach, Executive
Director of the National Governors Association. One of the
things that has come before the attention of this committee and
other committees is the fiscal crisis at the State level, There
is probably nobody better positioned to help the committee
understand the dimensions of that challenge than Ray. Welcome.
It is good to have you here, and please proceed.
STATEMENT OF RAYMOND C. SCHEPPACH, EXECUTIVE DIRECTOR, NATIONAL
GOVERNORS ASSOCIATION
Mr. Scheppach. Thank you, Mr. Chairman and Senator
Sessions. I am pleased to be here on behalf of the nation's
Governors.
Let me say first, if you drop back and look at the long-run
growth of State revenues, really over the last 30 years, 1978
to 2008, it grew about 6.5 percent per year, relatively robust.
There was only 1 year during that period, 1983, when revenues
were negative, and it was only negative by about less than 1
percent.
If you look now about what happened during this so- called
great recession, we had five quarters in a row of negative
revenues and the numbers went from 4 percent, to 12.2 percent,
to 16.8 percent, to 11.5, and then 4 percent again, so huge
declines in revenues over that five quarters.
There is some good news. Really, we have now had positive
revenue growth over the last four quarters. The first three of
those, it was about 3 percent. But just yesterday in a
preliminary way, it seems to be that revenues for the fourth
quarter of 2008 were up 6.9 percent. Now, that is based on
about 41 or 42 States, so it can be modified, but it is an
encouraging number. I will say, however, in spite of that, we
have to remember that revenues in 2010 versus 2008 are down
about 9 percent.
States reacted to this by cutting spending by $75 billion
and raising taxes and fees by about $33 billion, so close to
well over a $100 billion swing. Those cuts would have been much
more draconian if the recovery package had not provided States
with an additional about $103 billion in Medicaid and about $48
billion in education money, and then there was an additional
$10 billion that went through States to locals.
In spite of that money, however, the States are still
looking at a shortfall over the next two-and-a-half years or so
of about $175 billion, and that includes the so-called cliff
when the Federal Medicaid money goes away at the end of State
fiscal year 2011.
When I look at this impact, this great recession was so
deep and so broad that, unfortunately, it is going to send
implications through State government for almost the rest of
this decade. I think of it really in terms of three stages.
The first is we know from the previous downturns the
biggest impact on States is one, two, and sometimes 3 years
after the recession has been declared over, and that is largely
because that is when you lose the maximum amount of income tax
revenues and that is when you see the explosion of Medicaid. I
think we are still in the end of that stage.
The second stage, however, is going to be the so-called
jobless recovery. We do not expect States to come back to the
2008 revenue level until 2013 or 2014, and in some cases 2015.
That means, Mr. Chairman, literally five to 6 years of zero
revenue growth relative to a baseline where we were getting 6.5
percent per year. So that is virtually over that period, like
at the end of it, a 30 percent swing.
The third stage is that at some point, they have to go back
and take care of some of the unmet needs that they did not fund
during the downturn. So that goes all the way from maintenance,
rebuilding rainy day funds. I think the big one, of course, is
the pension thing because States did not pay into the pension.
States have always had what I would call long-run
structural problems, largely because they have antiquated tax
systems on one hand, and you have had Medicaid, which is about
22 percent of State budgets growing at nine or ten or 11
percent. Unfortunately, what has happened with the great
recession is that that long-run structural problem is a lot
worse now. I would probably argue that the revenue path going
forward over the long run is not going to be 6.5 percent. I
suspect we may see slower economic growth.
But the revenues that are being lost in the sales tax now,
which is about 40 percent of State taxes, is quite significant
because we do not tax services, we do not tax downloads from
the Internet, we do not tax goods sold over the Internet. In
other words, if it is a new economy good and growing, we do not
tax it. If it is an old economy good and contracting, the odds
are we tax it. The erosion of this tax base over time now, I
think, is getting to be a particularly big problem.
Medicaid is the 400-pound gorilla. It continues to be that.
If you just look at the actuaries from HHS estimates, they say
that the rolls will increase by 11.6 million people in 2014 and
almost 20 million people by 2019. And the numbers that they
have are essentially between 2010 and 2014, States will have to
pay an additional $90 billion, and between 2014 and 2019, an
additional $100 billion. So you are looking at States' growth
over the next 10 years of virtually $190 billion.
Now, you might ask, why is that so big? There are three
things coming together at the same time. No. 1, because of the
recession, the case loads are higher and therefore you start
with an increase with that. The second problem is, of course,
that the enhanced Federal match goes away at the end of fiscal
year 2011. And then you have the impact of health care reform.
So when you add those three impacts together, they make a
huge change. I would have to say, as we get on the telephone
with State budget directors every other week, what they will
tell you is we do not know how to get from here to there,
largely on the Medicaid issue.
On the unfunded pension liabilities, the numbers here are
always a little bit suspect depending on the discount rate
assumption and so on. But clearly, as of the year 2000, I would
argue States and municipalities were in pretty good shape. It
began to deteriorate. I think we probably have an unfunded
liability of about 23 percent of obligations now, so it is
significant. On the other side----
Chairman Conrad. Can I stop you on that point?
Mr. Scheppach. Sure.
Chairman Conrad. Can you repeat--I want to make sure I
understood this last point, the 23 percent.
Mr. Scheppach. Well, that is sort of the unfunded portion
of it. So if you are assuming that whatever that commitment is,
and the numbers change a little bit depending. If it is a
trillion dollars, then you are down $230 billion in terms of
the unfunded portion of it. But the pension contributions are
generally less than 4 percent of State budgets.
Chairman Conrad. What is the--can you help us understand,
because this became a source of discussion in a previous
hearing when we had Chairman Bernanke before the committee. It
seems to be concentrated in a relatively small number of
States. Is that your understanding? That is, a disproportionate
share of the unfunded liability is in a relatively small number
of States.
Mr. Scheppach. Yes. It is not four or five, but it is eight
or ten, I would say, yes.
Chairman Conrad. Eight or ten States that are really in----
Mr. Scheppach. Right. And some of those are--I mean,
Connecticut is one, for example, Hawaii, or smaller States. But
then there is also the New Jerseys, the Illinois, and so on. As
I remember, actually, California is better on this issue than
in a lot of others.
Chairman Conrad. My recollection was Illinois was in the
most serious shape.
Mr. Scheppach. Correct. I think that is right.
Senator Sessions. This shortfall, some of that is tied to
the stock market?
Mr. Scheppach. That is correct. There are two things-----
Senator Sessions. The market being down, so it is not 23
percent if the market were to continue to go up?
Mr. Scheppach. That is exactly right.
Senator Sessions. So it is hard to exactly estimate, but it
is dangerous. The numbers are so high that it should raise red
flags, that number.
Mr. Scheppach. No, you are right. It is the return in the
markets, in bonds, and then it is States did not pay in during
this crisis. It is a twofold issue.
But as I said, it is probably less than 4 percent of State
budgets. And I will say that we tend to track what is going on
in States here and you will find that 30 States have made
changes in pensions over the last 5 years and we have 20 States
that have made pension changes this year. So they are really
beginning to face up to it. What is happening is that they are
forcing current employees to pay in more. They are making
adjustments on COLAs. They are extending the number of years.
So there is a lot of activity in this particular area right
now.
Chairman Conrad. Ray, could we stop you on the point,
because Senator Sessions and I were wondering, how could States
fail to pay into their pension plans during this period? What
legally allowed them not to pay in?
Mr. Scheppach. Well, it differs by State, but some States
just do not have requirements on it. In fact, I think some
actually borrowed from the fund. So you will find them
sometimes borrowing from different trust funds when times, you
know, highway trust funds or such.
Chairman Conrad. We know a lot about that here.
[Laughter.]
Mr. Scheppach. I did not want to say that.
[Laughter.]
Mr. Scheppach. So in terms of what else is going on, I do
think, as I said, the shortfall is about $175 billion, and----
Chairman Conrad. And what period is that over?
Mr. Scheppach. It is really over the next two-and-a-half
fiscal years. But I do see a commitment among Governors that
they--you know, initially, I think, there was a feeling that
they needed to cut, furlough, consolidate, and eventually the
economy would come back and sort of save them. I do not think
anybody believes that now. I mean, I think the feeling is among
Governors that they have to continue to do this to make the
long-run sustainability.
In fact, we do not really believe we can cut our way out.
We think we have to really redesign State government in terms
of how it delivers services. So--but I think this group of
Governors are moving on it and I think that I am fairly
optimistic that they will work through this problem, including
the pension problem.
In terms of things that you can do, I would say the first
thing is please do no harm. As you begin to cut budgets, please
do not cap the Federal share of Medicaid and shift it to
States. I would encourage you to look for things, and there are
a number of them where we could both save money, both the
Federal Government and States, and so please do not do any
harm.
And then the other areas are more around flexibilities on
programs. Maintenance of efforts are causing big problems. So
to the extent waivers in certain areas, all would be very
helpful.
I will reiterate that the Governors are not requesting any
additional assistance, financial. They are appreciative of what
has happened. But they feel that they need to work their way
through it and make these programs sustainable.
The only final comment, again, is that all roads lead back
to Medicaid. This is a serious problem. I think that it has to
be dealt with, where the Feds and the States sit down and try
to make this program much more efficient. Plus, I am not sure
States can continue to pay for the long-term care of the dual
eligible portion of it as the demographics changes. There is
just not the tax base going forward to support it.
With that, thank you very much, Mr. Chairman.
[The prepared statement of Mr. Scheppach follows:]
Chairman Conrad. Thank you very much.
Mr. Edwards, thank you for your patience and thank you for
being here. Dr. Edwards--I am not sure it is Doctor, is it?
Mr. Edwards. I am not a doctor.
Chairman Conrad. But, you know, you have that credibility.
You seem like a doctor.
Mr. Edwards. I appreciate that very much.
[Laughter.]
Chairman Conrad. Chris Edwards, Directors of Tax Policies
at the Cato Institute. Welcome back.
STATEMENT OF CHRIS EDWARDS, DIRECTOR OF TAX POLICY STUDIES,
CATO INSTITUTE
Mr. Edwards. Thank you very much, Chairman Conrad and
Senator Sessions, for having me here today. I am going to talk
a little bit about challenges for Federal spending and then a
little bit about challenges for State budgets. federally, we
have seen an extraordinary increase in spending over the last
decade, from 18 percent under President Clinton's last budget
to 25 percent today. I believe the spending explosion really is
sucking the life out of the private sector economy, and the
real problem I see is that the United States is no longer
really a small government country. In my testimony, I have OECD
data showing that total Federal, State, local spending in the
United States is now 42 percent. We used to be about 10
percentage points smaller than the average OECD country in
terms of spending. Over the last decade, that gap has closed to
just 5 percent.
So I think, historically, our uniquely high living
standards in this country were built partly on our relatively
smaller governments and I think we are really risking becoming
sort of just another stagnant welfare state in the years ahead,
which I think is mainly going to result in less opportunities
and higher tax burdens for young people.
So we need to cut spending. Obama's fiscal commission, of
course, had lots of great spending cut ideas. I know, Chairman,
you have been a real supporter of that report, as I am. I put
together all kinds of spending cut ideas at Cato's website,
downsizinggovernment.org. And here is the thing that really
strikes me, is that other countries have cut spending when they
haveten into crisis. We see cuts in the U.K. right now.
And I think Canadian reforms in the mid-1990s are a real
model that we can look at. In the mid-1990s, Canadian
government spending was up to 53 percent of GDP. Their debt was
exploding. Then their liberal government really changed course
and they chopped spending from their Federal budget 10 percent
in 2 years, which would be like us chopping $370 billion in
just 2 years. Then they held spending flat for a number of
years after that. The result was dramatic. The Canadian
economy----
Chairman Conrad. What years----
Mr. Edwards. Yes?
Chairman Conrad. And I apologize for stopping you, but----
Mr. Edwards. No, that is fine.
Chairman Conrad [continuing]. This is very interesting to
us. We were talking about this actually in the committee
yesterday. Canada, with respect to a VAT, because they imposed
a VAT at 7 percent, actually have reduced it to 5 percent----
Mr. Edwards. Right.
Chairman Conrad [continuing]. And during this period,
brought their debt as a share of GDP down from over 100
percent, 101 percent of GDP----
Mr. Edwards. Right.
Chairman Conrad [continuing]. Down to 69 percent. So it was
this combination of revenue and spending cuts, and the spending
cuts were quite tough, were they not?
Mr. Edwards. They were, again, 10 percent in 2 years. They
brought the VAT in in the late 1980s under a conservative
government. Then it was the left-of-center liberal government
in the 1990s that dramatically cut spending, as well as they
privatized a lot of their government corporations. This was the
liberal party, and the liberal party did two rounds of
corporate tax cuts. So the politics are really kind of strange
up there. But the Canadian economy boomed for 15 years and I
think we really need to look at what they did.
Let me switch over to State and local budgets for a couple
of minutes, and my views will, I think, contrast pretty sharply
with Ray's, I think. There have been a lot of horror stories in
the papers over the last couple of years about how States are
in a crisis and drastically slashing their budgets, and it is
true State general fund budgets have been cut pretty
substantially in 2009 and 2010, although they are growing
again. But if you look at total State and local spending in
Bureau of Economic Analysis data, it was never cut. Total State
and local spending, according to the BEA, rose 55 percent
between 2000 and 2008. Then it was flat for 2009. Now it is
growing again, 2010, 2011. So I do not----
Chairman Conrad. Does this----
Mr. Edwards. Yes?
Chairman Conrad. I apologize. I just want to make sure I
understand. You are talking now all States?
Mr. Edwards. Yes, all States and local governments. So, you
know, general fund budgets are only about half or so of State
budgets. So if you look at total State budgets as well as the
local together, it has been a lot more stable than just the
State general fund budgets, which as you know, they have to
balance every year.
So I think the States can solve their short-term problems.
The real challenge, as has already been touched on here, is
this long-term problem with debt. State bond debt, State and
local bond debt has doubled over the last decade, from about
$1.2 trillion to $2.4 trillion.
Unfunded pension liabilities, depending on what the
accounting assumptions here, are $3 trillion or so. On top of
that, as you probably know, there is the problem of unfunded
retiree health plans in the States, which I think is about
another $1.5 trillion problem on top of the pension problem.
I agree with these comments, and this is something I think
the media often misses. These problems vary dramatically by
State. So if you look at bond debt, you get States like
Massachusetts that have very high bond debt. Other States, like
Nebraska, have virtually no bond debt. I mean, Nebraska----
Chairman Conrad. Let us talk about North Dakota.
Mr. Edwards. You know, I should have brought the North
Dakota numbers. I do not know off the top of my head. Maybe you
know, but----
Chairman Conrad. Very low.
Mr. Edwards. Right.
Chairman Conrad. Very low.
Mr. Edwards. And so a lot of States, they rely on--their
capital budgets rely on pay-as-you-go financing more than
issuing debt.
Pension debt, according to figures by economist Andrew
Biggs, vary from 11 percent of GDP, again in Nebraska, up to 49
percent in Ohio.
And I would say something else that is interesting is that
State worker unionization rates vary dramatically in the States
and this affects fiscal policy. So California, New York, two-
thirds of State and local workers are unionized. Other States,
like Virginia and North Carolina, they do not have unionization
in their public sectors. So this affects fiscal policy because
I think unions can affect the flexibility of managers to cut
costs and make needed reforms.
So I think the upshot here is that the States have taken
widely divergent paths, which is OK. We have a Federal system.
I wish the poorly managed States would learn more from the
well-managed States. But ultimately, I think, the States should
be left to solve their own problems. I do not believe in
Federal bailouts because I think that is unfair to the frugal
States.
But I must say, I also do not favor this idea that has been
talked about in the last couple of months about a new Federal
statute for State government bankruptcy that some conservatives
have been pushing. I think that is interference in State local
affairs that we do not really need. I think the States have the
tools at their disposal to solve their own problems without
that sort of intervention.
So that is all my comments, and thanks again.
[The prepared statement of Mr. Edwards follows:]
Chairman Conrad. Thank you. I am going to diverge from
typical practice because I have been asking questions as we
have gone along here. So we will go to Senator Sessions for his
questions, and then we will go to other members of the
Committee, and I will withhold my questions until others have
had a chance.
Senator Sessions. Thank you, Mr. Chairman. It is, I
believe, pretty much a truism of State and local and even the
Federal Government that financial crises provide the
opportunity for improvement of efficiency and productivity.
While money is flowing in generously, we just add, we spend
more, and we do not focus on the difficult task of
productivity.
Forgive a personal story. I was elected Attorney General,
and my predecessor mismanaged the finances very badly. That is
probably the only reason I could get elected. And it came out
he was not able to pay the light bill right before the
election. And it turned out to be a $5 million deficit on a $15
million budget. This was 1994, and people were not happy with
Government them like they are today. And I did not want to ask
the legislature for more money until I had done everything I
could.
So we examined the office. We found that one-third of the
people had been hired outside the merit system. It was a 200-
person offices, and I terminated 70 people and brought on seven
new people. We closed offsites. We got rid of automobiles that
people were driving home, lawyers were, and we reorganized
entirely, and the office today--and that was in 1994--is well
below 200 employees today, and I think doing at least as good,
or better job of serving the taxpayers.
So I just want to say that State governments are
challenged, we are challenged. The idea that we cannot reduce
10 or 15 or 18 percent spending on most of our agencies is not
accurate. We will be leaner, more effective, and more
productive if the leaders get on board and do what they should
do instead of, as the Interior Department does, close down the
Smithsonian when you ask them to cut their budget. So this is
big-time stuff. So I am not timid about the challenge and
opportunity of tight budgets.
Mr. Scheppach, the spending on the States, it has been
suggested, has been too often driven by matching funds from the
Federal Government, and this has lured the State to commitments
that now they are not able to meet, Medicaid I suppose being
one of them. I see Governor Christie was having to make the
choice about the tunnel, and he was attacked for turning down
Federal money. And he said, ``Well, I do not have the money to
build a tunnel. I do not have the money. I cannot help it if we
are turning down money.
In your opinion, have Federal policies seduced or encourage
the States to undertake expenditures that they might not
otherwise have? Is that part of the problem that we have?
Mr. Scheppach. Yes. It is particularly acute, I think, in
the Medicaid area. If you trace Medicaid historically, what
happened was the Federal Government would provide options to
States, and those States who were a little wealthier than some
others would exercise those options. And then you would have 25
or 30 States exercising the option, and then Congress would
say, ``Well, if it is easy for those 35, let us make a
mandatory.''
And so we have been in this iterative process around
Medicaid, and now, depending on how you measure it, you have 60
million people in Medicaid, and you are picking up another 20
million. So that is going to be 80 million people in Medicaid.
And it is an engagement, and there are very few cost control
strategies that States can utilize, and particularly around the
long-term care and the dual eligibles.
I mean, you would never build a system from scratch to say
if you are in relatively good health and relatively high
income, you are in Medicare. Now your health deteriorates and
your income deteriorates, and you get half of your services
from Medicaid and the other half from Medicare. It makes no
sense. People are confused. The incentives are all wrong
because we do not do certain things to save money because we
end up saving money from Medicare. And you do not do things in
Medicare that make sense because the savings come to Medicaid.
So you have expanded this program that at its very fundamental
basis has huge problems.
Now, we could talk about some of the other areas, you know,
discretionary grants. There are like 200 discretionary grants,
from the big ones in education and highways right down to a lot
of small ones. But it is true that at some point there are some
of those that certain States really cannot utilize the money.
Moving to broader block grants in areas where States had a lot
more flexibility would increase efficiency.
So, you know, I think you are right, but I think Medicaid
is the biggest problem.
Mr. Edwards. Can I make a comment on that? You know,
another example of this is like in transit systems where the
Federal Government has traditionally funded the capital costs,
the new light rail systems and now new fancy high-speed rail
systems. And the problem is that States get induced to build
these really expensive systems, but the Federal Government does
not fund the operating costs. So these cities and States are
going to be left down the road with these very fancy new
systems when bus systems would have been cheaper with, you
know, lower operating costs, and now they are stuck with all
this expensive infrastructure. So there are others areas where
this is a problem.
Senator Sessions. I would agree, and I might as well be
frank about it. I am going to oppose the high-speed rail idea.
We do not have the money. I do not believe it is going to be
effective. And you cannot pour money into projects that are not
going to prove to be effective. We do not have the money. We do
not have the money to do things we have to do much less new
programs even though they may appear to be popular.
I do want to say, Dr. Scheppach, that many of the Governors
are doing great work. If we were running the Federal Government
like many of the Governors are running their States, we would
be a lot better off. I know Governor Riley in Alabama faced up
to his problems. I saw where Haley Barbour in Mississippi
reduced spending 9 percent. I see California now, a bit late,
but they are stepping up some real reductions, and others are.
Governor Christie I mentioned in New Jersey. And that kind of
leadership is what we need in Washington, and I do not think we
have been getting it.
Dr. Zandi--my time is up--thank you for your work, and I
just would say I saw the Case-Shiller housing index predicts
another bad year for housing. Are you in agreement with that?
Mr. Zandi. Yes, I think there will be more house price
declines, on the Case-Shiller probably another 5 percent
nationally. That would make the peak-to-trough decline in
housing values about 35 percent. So it will be another tough
year for housing, yes.
Chairman Conrad. I am going to in my questioning time want
to come back to that question, because as I look across the
horizon here and we look at potential threats to this economic
recovery, housing, the State and local, the European debt
situation, and the Middle East, I would put those four at the
top of the list. This Committee, we cannot do much about the
Middle East. State and local, really I think Ray and Mr.
Edwards have described very well the States are really taking
on their own challenges. The European debt situation we cannot
do a thing about on this Committee. The one thing where we
might be able to make a difference is in the housing, and so I
want to come back to that.
With that, we will go to Senator Whitehouse. Then it will
be Senator Begich, Senator Merkley, Senator Thune on this side.
So we will go to Senator Whitehouse, and then come back to
Senator Thune.
Senator Whitehouse. Thank you, Mr. Chairman. I would urge
the distinguished Ranking Member to at least keep a bit of an
open mind as to the potential for high-speed rail. I think if
the same approach that he indicated toward high- speed rail had
been applied to high-speed road back when we were trying to
build the highway system and we were trying to move goods and
people around this country on local road, through stoplights,
you know, over bumpy surfaces, and through local intersections,
you would find that it actually was worth spending that money
because it carried follow-on economic effects that were far
more than----
Senator Sessions. I recognize the Northeast could justify
it more than a lot of the places I see it is being projected to
go.
Senator Whitehouse. That is all I needed to hear. I
appreciate it very, very much.
[Laughter.]
Senator Whitehouse. Mr. Zandi, you have talked a little bit
about the housing market, and when I look at the failure of the
HAMP program by its own standards, let alone any outside
standard, when you look at the foreclosure crisis, when you
look at the horrible nature of the short- sale market--I had
Rhode Island's realtors in yesterday, and it is completely
defective across the country. They come in over and over again
with stories about having a short sale ready at a price, the
bank cannot get its act together, the short sale disappears;
the bank then says, ``OK, we are ready.'' Sorry, buyer gone. So
then they come back to the same bank with the same property
later. Now it is $100,000 less. They try again. The bank cannot
get its act together. Again, they do not get through the
process. And finally, you know, here you are with $200,000 in
value out of a house, the bank still in the state of confusion.
Wherever you go in this process, whether it is through the
HAMP or through foreclosure or through short sale, you see the
same thing, which is that no matter who you are, almost no
matter who you are, you cannot get a person representing the
owner of the mortgage who can make a decision.
I had a witness in the other day in a Judiciary hearing who
had been 20 months fighting through the HAMP program and
through his bank's modification program to try to get a change,
and for 20 months he never once got in touch with somebody who
would even give him his last name or you could even call back
to.
I mean, if there is something that is sort of basic and
American, it is that when you are dealing with somebody else,
you ought to be able to get a person on the phone who can make
a decision in your case instead of being stuffed into this
nightmarish bureaucracy. And for me that is confirmed by what I
see at home in Rhode Island, which is that the local banks that
held the loans, that have bank officers in the community, are
not the problem. We do not have short-sale problems with them.
We do not have foreclosure problems with them. All of the
problems are in the big banks that sold off these mortgages,
and now there is this incredibly complex infrastructure, and
there is no way to cut through it. And whether it is you are a
person in danger of foreclosure trying to keep your home, your
realtor being driven nuts by having to spend 3 or 4 hours on
the phone trying to get an answer on a deal that they are
beginning to lose faith would ever happen anyway, the HAMP
applicant trying to work through the process--they are run,
whack, into this same bureaucratic nightmare. And I think it is
a little bit like--you know the story about the men who each
find an elephant, and one finds a leg and they think that the
elephant must be a column, and one finds a trunk and they think
the elephant, you know, must be a snake hanging in a tree; the
other one finds a tail and thinks it must be a broom. It is all
the same elephant.
And I wonder what your thoughts are--you have observed
this--on this being a same elephant of a vast and completely
unapproachable bureaucratic meltdown, basically, a nightmare
that prevents intelligent decisions from being made, that
prevents properties from being cleared, that discourages
participants, and that is in many ways a vicious cycle, because
you are driving property values down when that first buyer
cannot get an answer from the bank on the short sale in time.
The second buyer is going to be more fed up, and the seller is
going to be more discouraged.
So I think we are creating some of our own negative energy
by not clearing the fundamental problem of the system, which is
that at some point somebody should be able to have a human
being with a first and a last name who can make a decision, who
they can get in touch with. It seems to me it is as simple as
that, and I would love your thoughts.
Mr. Zandi. Well, I think your characterization of the
problem is excellent, very good, and the frustration that you
have expressed I have heard many times as well from----
Senator Whitehouse. Every one of us has heard it from our
constituents.
Chairman Conrad. This is how we started the conversation,
actually.
Mr. Zandi. So I completely sympathize with what you were
saying, and I agree----
Senator Whitehouse. So how do we fix it?
Mr. Zandi. I think there are few things that can be done to
improve the modification/foreclosure process. I think Senator
Merkley has actually done a fair amount of work in this area,
and I will mention a few things.
To your point about a point of contact, I think it would be
prudent if mortgage servicers who are on the front line with
the homeowner are required to have one individual as point of
contact for each homeowner so when you call you get that same
person. Right now you call, as you say, you can get numerous
people, each one in a different part of the elephant, and they
do not even understand the elephant. So it makes for a----
Senator Whitehouse. And each telling you to submit the same
paperwork you have already submitted four times again.
Mr. Zandi. And telling you you sent it to the wrong person
the last time you did it.
Senator Whitehouse. Right.
Mr. Zandi. So I think this is a regulatory fix, I think.
You can go to the--I do not know if it is legislative, but it
is certainly regulatory. Put pressure on the servicers to adopt
one point of contact.
Another thing that can be done, I think, to improve the
process is end the dual tracking that is going on. Right now a
person comes in with a problem; you are put through
modification and foreclosure at the same time. So you are
talking to someone about trying to get a mod, and then you get
a letter in the mail saying you are in default, we are going to
take you to a sheriff's sale.
Senator Whitehouse. I met with maybe 14 of our realtors in
Rhode Island a couple of months ago. Every single one of them
had the experience of a short-sale agreement with the bank
pending, and in the middle of it, another part of the bank
whacked them with a foreclosure notice, blew up the short sale,
and it ended up going into foreclosure inventory for way less
than the short sale that the bank had itself agreed to. I mean,
it is nutty out there.
Mr. Zandi. Another fix, you do not dual track; you go
through modification. If you fail the modification, then you go
through foreclosure. They both do not occur at the same time.
A third thing that could be done is a third-party review. A
number of States have adopted this approach. You know, this is
a very complex process. Homeowners are ill equipped to navigate
through this process. They need help. You know, I think there
are TARP funds that are sitting out there that were, at least
in theory, allocated for HAMP and HARP that will never be used.
They could be redirected to provide some help in this area, and
I think it saves everybody a lot of money if, in fact, they----
Senator Whitehouse. Dr. Zandi, I am going to cut you off
there out of respect for my colleagues because we have gone
over my time. But I am happy to follow the discussion
afterwards and appreciate the thought you have given to this.
Mr. Chairman, thank you.
Chairman Conrad. Thank you, Senator.
Senator Thune.
Senator Thune. Thank you, Mr. Chairman. I appreciate the
testimony of our expert witnesses today, and like many of my
colleagues am very concerned about steps we can take to get the
economy back on track and to deal with these problems of
spending and debt which continue to explode on us; and if we do
not start making some of the hard decisions now, I think the
decisions will get that much harder.
Mr. Zandi, I would like to ask you a question about how
much you believe that the debt and the deficit is currently a
drag on our economy. And if you do not believe it is today,
when does that effect begin?
Mr. Zandi. I think the Nation's fiscal challenges are our
No. 1 long-term economic challenge, that if we--you--do not
address it quickly in a clear and credible way, it will have
significant negative implications for financial markets and our
economy quickly. I do not think it is this year, but I
certainly think by 2012 and certainly 2013, we are going to be
seeing the ill effects of inaction.
I would counsel, however, that while it would be very
prudent to lay out a clear, credible path to fiscal
sustainability--and we can talk about what that means if you
would like now--I would not begin that process in 2011; that
the recovery is still very fragile. And, in fact, imposing
fiscal austerity in 2011, calendar year 2011, would be working
at cross purposes with your own actions. The tax cut deal that
you came to at the end of last year, in my view, was a very
important piece of legislation, very positive, and for me
sealed the deal for 2011 and 2012 that the economy is going to
do measurably better because of that piece of legislation.
It would also be working at clear cross purposes with the
Federal Reserve. The Federal Reserve is maintaining a zero
interest rate policy and quantitative easing through the mid-
part of this year, at least. So I do not think it would be
prudent to begin this process in 2011 but by 2012 and 2013,
certainly. And, moreover, to lay out a path for the future to
achieve fiscal sustainability in 2011 would be incredibly
therapeutic.
Senator Thune. And you say we can talk about what that
means. What does that mean, in your view, path to fiscal
sustainability?
Mr. Zandi. Yes, I believe that your bogey, your target
should be to reduce the deficit-to-GDP by 2.5 to 3 percentage
points out 5 to 7 years. I will explain how I get there.
The deficit this year, in fiscal year 2011, will wind up
being, in my view, somewhere around 9 percent of GDP. When the
economy is functioning properly--and I think we are headed in
that direction--and functioning reasonably well, the deficit
will settle in close to 5 percent of GDP.
The deficit-to-GDP that we can manage--and I am not saying
this is what I would espouse, but we can manage--is about 2.5
percent. At 2.5 percent of GDP, our interest payments will not
swamp us. We can manage that.
So we have to go from 5 percent in a well-functioning
economy to 2.5 percent. You have to close that 2.5-percent gap.
You have to close that in the next 5 to 7 years. If you can lay
out a clear and credible path to doing that, then you will
forestall the consequences that will occur in financial markets
and into the broader economy.
We do not solve our problems forever. There is Medicaid and
Medicare and health care costs that need to be readdressed, but
I think the immediate target should be reducing the deficit by
2.5 percent of GDP.
Senator Thune. You talked about the potential for sovereign
debt crisis in the euro zone. What do you think the potential
is for a debt crisis here in the U.S.?
Mr. Zandi. I think if there are no significant policy
changes over the next couple years, certainly over the next
couple, 3 years, then those risks would be very, very high and
rising quite quickly. So I think we have a window. We have
latitude. Our economy is moving in the right direction, but we
have 2 to 3 years to get our act together.
Senator Thune. You mentioned the Fed's policies on
quantitative easing. What effect do you believe those are
having on both inflation and growth?
Mr. Zandi. I think the quantitative easing was the
appropriate thing to do. I think it is a net positive. There
are negatives. You know, obviously it has contributed to higher
commodity prices. It complicates the conduct of monetary policy
overseas, particularly in emerging economies. But the
positives, including lower long-term interest rates, the 10-
year Treasury yield is 3.5 percent, fixed mortgage rates are
below 5 percent, and the stock market is up significantly, and
I think in part because of the QE, the positives trump the
negatives in a measurable, meaningful way, and it was the
appropriate thing to do.
I do not think we will need--based on what is happening to
the economy today and my expectations, I think we do not need
any further QE. And I think it would be appropriate for the
Federal Reserve to start tightening monetary policy, probably
sometime in 2012. But what they have done so far, in my view,
has been entirely appropriate.
Senator Thune. Mr. Edwards, in order for the markets to
think that Congress is credible on cutting spending, what do
you think those reductions have to be? And when do they have to
take effect?
Mr. Edwards. Well, I mean, the basic mathematics is we have
to get the deficit down to about 3 percent of GDP in order to
stabilize debt.
I disagree with Mark really on the timing of this. You
know, the view that we have to wait until we start growing
again to start cutting spending does not make any sense to me,
because, you know, we all assume that--you know, we look at the
CBO projections and we all assume that everything is going to
be hunky-dory again in a few years because we are going to be
growing again. But we might have another recession in 2014,
2015, and, again, folks like Mr. Zandi are going to be coming
and saying, oh, no, we need to, you know, spend more money and
we cannot cut spending now.
So there is always going to be an excuse for not cutting
spending. The longer we wait, the higher Federal debt becomes.
It is going to be harder to solve the problem. And I think
cutting Federal spending moves resources from the less
efficient Government sector to the more efficient private
sector. So I think it helps growth.
I talked a few minutes ago about Canada. Canada's
experience was that they dramatically cut government as a share
of GDP by about 10 percentage points. The economy did not go
into recession. It boomed for 15 straight years.
Senator Thune. What does $4 gasoline or, worse yet, $5
gasoline do the economic recovery?
Mr. Zandi. I think that would be--if that were to occur
now, in the next 6 to 12 months, I think that would be--I do
not think $4-a-gallon gasoline would be enough to put us back
into a recession, but it would be awfully painful. It is a tax
increase, right? If you put more into your gas tank, you have
less to spend on everything else. And just for context, every
penny increase in a gallon of gasoline costs the American
consumer $1.5 billion over a year. So, you know, you add it up,
you go from $3 a gallon to $4, that is a $150 billion tax
increase in 2011. That would be very difficult, particularly
for lower-income households who obviously do not have a lot of
latitude. In parts of the country like the South, the hardest-
hit group will be low-income households in the South because
that is where they drive the most, and a high share of their
budget goes to gasoline.
Senator Thune. Thank you, Mr. Chairman.
Chairman Conrad. Thank you, Senator.
Senator Merkley.
Senator Merkley. Thank you very much, Mr. Chair, and thank
you to all of you for sharing views. It is very helpful.
Dr. Zandi, there was a quote in your testimony which was,
``Nothing works well in the economy when house prices are
falling.'' And you placed a lot of emphasis on addressing the
housing market, and I appreciate that you are bring that to the
forefront. We are still in this period where we have had
300,000 foreclosure filings a month for the last 20 months, and
certainly in my home State, every community is affected by
this. And it is not just a disaster for the family, but that
empty house is helping to further drive down the value of
adjacent homes, certainly discouraging consumer confidence, and
it is certainly having a broader impact since the construction
industry is not going to recover as long as there is a lot of
empty homes.
I do appreciate your drawing attention to the several
different ways of helping to take on the foreclosure crisis,
the single point of contact, and ending the dual track. I want
to note that, after talking with a lot of homeowners back in
Oregon, it is not simply that the bank cannot complete the last
stage, which is the actual foreclosure on the dual track; it is
that they suspend all the steps on the dual track during a time
period in which they review and conclude up or down whether a
modification is going to work. And I assume that that is the--
but I wanted to ask if you are talking about suspending the
entire track or just the final step.
Mr. Zandi. Precisely what you say. I think the entire
foreclosure process, from default through to sale, should be
suspended until it is determined that the borrower cannot
qualify for any form of modification, HAMP or private mod.
Senator Merkley. And then there were three ideas that I had
put out in the paper that you referred to about further
intervention, and one was the fire break before foreclosure,
mediation, mandatory mediation that you addressed--in other
words, an expansion of short refi programs, which you
addressed. A third was to revisit the power of bankruptcy
judges, at least in a very constrained format with appropriate
sideboards on it, maybe take it in a little narrower direction
than we did last time Congress took a look at it, primarily not
because those judges will exercise that power, because they do
not exercise that power much in the other areas that they can
modify contracts, but because it gives an incentive to close
the deal.
And so since that was one point that I brought forward that
you did not address, I just wanted to get your thoughts on
that.
Mr. Zandi. I think that it is a good idea. As you know,
right bankruptcy judges can reduce the debt owed for everything
but a first mortgage, and that, in my view, should be changed.
Now, there had been some effort in times past during this
crisis to make that change on a historical basis, so loans that
were already originated, allow bankruptcy judges to change the
terms on those loans. At this point, I do not think that is
appropriate. But changing the bankruptcy reform law for the
future, you know, for future loans, I think that would be
entirely appropriate. In fact, I think that would be
therapeutic and would make for a better system.
Senator Merkley. So let me press that a little bit because
the problem seems to be--and we have folks calling our offices
every day in Oregon describing how difficult it is to deal with
the servicers--is to create a little bit of countervailing
incentive for the servicers to close the deal. And, in fact, at
this point I want to mention that there seemed to be a number
of perverse incentives for the servicers.
I just did a tour of Oregon in four different cities where
I did a presentation with homeowners who have been affected,
and I heard the same stories we have been hearing in our
office, which is, ``I called the bank to tell them we had a
decrease is income. They said, `Hey, you are preapproved. Stop
making your payments for 3 months.' '' And, really, they were
calling the servicer, if you will, and not always a bank.
But it turned out that the servicer charged a huge amount
of fees once they reduced their payment or stopped making their
payments, fees that the servicer would not otherwise have had
access to.
Then there was a recent article also noting that servicers
make a tremendous amount of money when they put on substitute
property insurance, sometimes charging up to 10 times what a
homeowner would normally pay, and the servicer gets a huge fee
back, hidden to the homeowner in that regard. And so servicers
kind of have an incentive to get families into trouble, almost,
and I am not sure that has been thoroughly explored. It is
certainly a new element to me. I had not come to think that
this was part of the challenge with servicers. But any comment
on that would be helpful, but, also, that is why I felt
lifeline bankruptcy power, even on existing loans, would be
helpful because it creates a countervailing incentive to close
the deal and help address these problems.
Mr. Zandi. Well, this is what I would suggest. FDIC
Chairwoman Sheila Bair has recently proposed the establishment
of a fund financed by the mortgage servicers and mortgage
companies designed in the same way as the BP fund. So if you
are a homeowner who has been wronged by this process, you can
go before this commission and air your grievances, and if it is
determine that you have been wronged, then the fund would pay
you a fee.
I think this would be an appropriate way of getting the
attention of the servicers and the mortgage companies, and it
would provide, as you said at the beginning of your comment,
the catalyst for getting them to work on this process in a more
effective and prudent way.
So that would be my approach as opposed to there are
potentially significant unintended consequences from going back
and rewriting bankruptcy law on existing mortgages that are--
you really have to think that one through. You know, in deep
crisis, I was sympathetic to that argument, particularly when
the private label securities market was at the heart of the
problem. But, increasingly, that is no longer the problem. It
is the loans on the books of the banks, at Fannie Mae, Freddie
Mac, and the FHA. So I am less sympathetic to that, and I do
not think that would be the way I would go.
Senator Merkley. I would ask everybody else to weigh in
except my time has expired, so thank you very much.
Chairman Conrad. Thank you very much.
Senator Begich.
Senator Begich. Thank you, Mr. Chairman.
I want to followup on----
Chairman Conrad. Can I just say, for Senator Cardin's
benefit, Senator Begich was here earlier.
Senator Begich. I apologize. I had to rush out and make a
quick call, so thank you, Mr. Chairman.
Let me, if I can, followup on a couple of things. One, Mr.
Edwards, I agree with you in regards to States and bankruptcy
that we should not go down that path. That would be very--I
mean, even the talk of it right now, from what I understand,
talking to multiple people who deal in the business of
municipal bonds, State bonds, tax-free bonds, it is having an
effect on the market, and I know States are probably feeling
that, even though they will not say that the rates have been
adjusted upwards, but there is some risk now being calculated
into what we might do or not do. So even the notion of talking
about it, I think, is not very healthy for what we need to get
through. So I want to say I agree with you in that regard, that
we should not be going down that path.
I would be interested in each one of your quick comments on
that. Obviously, Mr. Edwards, you have already made a comment.
If each one of you could just quickly comment on the idea of
States walking down that path of declaring bankruptcy, which
again, I think it would be a huge mistake.
Mr. Scheppach. Senator, I can tell you that we have
discussed it and we have--basically, Governors are pretty
united in opposition to that legislation. Nobody is asking for
it. Nobody wants it. And we agree with you that the mere
conversation around it is foreseeing a small risk premium to be
built into the bonds. So we are very strongly opposed to it
across the board.
Senator Begich. I know they call it on the market sometimes
headline risk. Go ahead.
Mr. von Wachter. So I second the views of Mr. Edwards and
Dr. Scheppach. I agree that we should not talk about bailouts.
However, there are some areas where there is a close connection
between Federal and State funding. When I give an example, it
is the unemployment insurance system----
Senator Begich. Sure.
Mr. von Wachter [continuing]. Where the Federal Government
stands in by design of the system after the States run out. And
one thing that this administration has already done, has given
an impulse to the reform of State-level unemployment insurance
systems to funding from the ARRA. And one additional step that
could be taken to help the long-term sustainability of these
programs and sort of then relieve both State budgets and the
Federal budget is to mandate a higher wage base. The wage
base----
Senator Begich. I do not want to get into the program. I
specifically narrowed in on the fact that States could declare
bankruptcy. In other words, I understand the program. You are
right. There are partnerships and relationships that the
Federal Government has.
Mr. von Wachter. The UI system is particular because
inherent in the system is the States can essentially lend--
would borrow from the government----
Senator Begich. Sure.
Mr. von Wachter [continuing]. Once the trust funds went
out, right.
Senator Begich. Right.
Mr. von Wachter. So there is a typical system where you see
them in a small way. So States have not an incentive to buildup
sufficient trust funds because they know they can come get more
from the government. So this is a system where it is more
concrete, but concrete steps could be taken to avoid the
behavior that the incentive--the availability to borrow later
on creates setting too low a tax base and collecting taxes. So
the same thing happens, then, at a broader level, the State
budgets. But the possibility to possibly be bailed out. But it
probably leads to a pay-as-you-go in situations where you
really should be building up funds----
Senator Begich. Building up a fund.
Mr. von Wachter [continuing]. In good times for bad times,
and in many States, you see the opposite. Taxes are low in good
times and then they have to rise in bad times. And so talking
about bailouts would encourage that and we want to go in the
other direction, and UI is a particular example.
Senator Begich. Dr. Zandi?
Mr. Zandi. Yes. I do not think that is a good idea. I think
the bankruptcy----
Senator Begich. Bankruptcy.
Mr. Zandi. Yes. I think that the States have all the tools
they need and that this would be an error.
Senator Begich. And I appreciate that. I just, again, want
to kind of put that out there because I think we create a
problem by going down the path of discussion when we know
Governors are not asking for it. No one is asking for it,
really, and it is just a very bad thing.
Let me go into two other areas, but first, I want to give a
thought. I, like Senator Sessions, in a different way, I was
elected a mayor of a city that walked into a $215 million
budget with a $33 million hole in it and we had to resolve it.
We had a three-prong attack. One was spending issues. One was
revenue. One was also investment in basic core infrastructure--
water, sewer, roads, so forth. I have turned down--when I was
mayor, I turned down the Federal resources when offered for the
simple reason we do not have the money, and so you cannot do
it, and also sustainability of those resources.
I guess I want to--Senator Sessions brought up a good
point, and you are right, there is kind of this addiction, and
the reality is, it is really up to the Governors and, I would
say, mayors, which have actually a larger amount of the debt
out there than States do in the sense of what is out there, but
they have just got to say no. It is about leadership. For them
just to say, well, maybe I will get 10 percent from the Feds,
there are many times I just said no. And what we did, we
actually changed our policy. We never used one-time resources
for ongoing expenses. That was--I had to tell the local city
council, which was hard for them to get off of that gravy
train. Once we did that, we created stability, and that is--I
mean, Governors, mayors--mayors, and I am biased, I am a former
mayor, I am not a Governor, never have been--we have to do it
because otherwise we will get yelled at at the grocery store.
So we do not get really a choice. There is no more hiding us.
So I guess part of it is this gap of sometimes leadership
just to say no, even when your constituents may think it is a
wise thing, but getting off these one-time moneys are, to me,
the right way to deal with budget, even from the Federal end.
You know, we use one-time moneys to kind of solve a problem and
then hope it all works out next year. That is very dangerous.
But one thing I want to mention and make sure I heard you
right, because I think I heard the same statistic, the pension
issue--and our State had to deal with it. We dealt with it.
Cities dealt with it. We are more sound than ever before. But
really, when you figure it all out, it is about 4 percent or
whatever the percent is. It is a small percentage of the
overall budget and I want to echo and make sure I heard what
you said.
States are managing their way kind of through it painfully.
But should there be a more consistent rules of the game on how
they do this, because each State does it differently. And you
are right. It is very convoluted, and especially to the bond
markets, to understand how stable is that State, how stable--
can you give some thoughts on that? I am not suggesting more
regulation, but I am just trying to figure out, how do you get
some more uniformity here so the financial markets can respond
the right way when crediting and scoring States for their bonds
as well as cities.
Mr. Scheppach. The problem is that the pension things are
pretty much considered to be legal contracts----
Senator Begich. Correct.
Mr. Scheppach [continuing]. And each State----
Senator Begich. Ours is actually vested in our
Constitution.
Mr. Scheppach. OK. Yes, you are right.
Senator Begich. That is how legal it is.
Mr. Scheppach. But sometimes it includes issues. A lot of
times, for example, the COLA is not in the contract, so you
have a lot of flexibility there. Or it may be that the age is
not in it and other components of it.
So I think they are working through it. As I say, we had 30
States in the last 5 years and we have ten now, and they have
moved from sort of these small incremental to bigger. The basic
problem, though, is that they still have defined benefit as
opposed to defined contribution----
Senator Begich. Right.
Mr. Scheppach [continuing]. Although some, like Utah, are
beginning to move at least hybrid types of systems.
Senator Begich. That is what we have done.
Mr. Scheppach. So, I mean, I think the rating agencies are
able to look at the liabilities there and the liabilities on
bonds and make informed decisions. So I do not know that
uniformity is really necessary. I am pretty confident in this
area that there is serious focus on this right now.
Senator Begich. And I will end on this, because my time has
expired, but I know there are always these headlines about the
crisis in the States. But really, what you are stating, and I
want to make sure I am hearing you right, the majority of the
States have really started to deal with this because they
recognize the ongoing cost is not millions, but billions. Is
that a fair statement?
Mr. Scheppach. Yes, I think it is, and it is--I think
States should be given some credit. They have cut spending by
$75 billion over the last two years. That is not from what I
would argue is CBO's sort of inflated baseline. That is against
actuals.
Senator Begich. That is real dollars.
Mr. Scheppach. That is pretty tough stuff. And I think they
understand that they have a lot more to do, but I think they
are prepared to do it.
Senator Begich. Very good. Thank you.
Thank you, Mr. Chairman. I know my time is up.
Chairman Conrad. I thank the Senator.
Senator Cardin.
Senator Cardin. Thank you, Mr. Chairman. Let me thank you
for the series of hearings that we have held on the national
deficit, and I want to thank this panel.
Dr. Scheppach, I want to followup on Senator Begich's point
because we have talked about the States, but I do not think we
have talked enough about the risk factors of municipal and
county governments. And if you are a Governor, you have
proprietary interest to avoid a problem with a county or a
municipality within your State. Today, our State governments
have limited capacity as to how they can respond. They have to
take care of their own budgets. So they are not as well
prepared as perhaps they would need to be to avoid a
consequence in their State that could have impact not just on
that town or on that county, but could have impact on the
entire State, in fact, could have impact well beyond the
borders of one State.
So I just want to get your assessment as to how much
attention the Governors are paying to the problems of municipal
and county governments, as they are obviously in a more
difficult position.
Mr. Scheppach. I hate to say this. In a sense, they are
into survival for themselves, to some extent, focusing on their
own problems. There are some States, like Pennsylvania, who
actually had laws that did not necessarily require but allowed
them to help municipalities and so on, but a lot of States do
not have that. So I think that they are not focusing on that
issue a lot, although personally, I think, because I looked at
it to some extent relative to the States, it is a bigger
problem. But again, I think if there are some that go into
default, my sense is that they are going to be fairly small,
that, again, you look historically and there has not been a lot
of defaults in this particular area. So particularly if we
begin to get some positive revenue growth, I think they will be
able to work through this, as well.
Senator Cardin. I think that is a pretty direct, honest
answer, and I appreciate that. We are all in a mode right now
of survival, and that is true at the national level, also. But
I would just like to remind my colleagues of the concept of
federalism, that the Federal Government has responsibility as
it relates to the States, working with the States. But I also
believe that our municipalities and counties, which are
creatures of our State, the State has a responsibility to work
with our municipal governments. They have no other place to go.
A lot of Governors are now--at the national level, we are
clearly going to be providing less resources to our States.
There is no question. At the State level, you are going to be
providing less resources to the counties. The counties are
going to be providing less help to municipalities. The
municipalities do not have anywhere else to go.
So I think we all need to understand, as we look for this
credible plan to deal with our national debt, that it is the
same people who live in municipalities, counties, States, and
the Federal Government and that it does not do a person in
Baltimore City any good if the plan is credible at the national
level but dumps its problems to the taxpayers of Baltimore City
and the people who live in Baltimore City and they have no
chance of survival under the policies taken by the Federal
Government and the State government.
So I like the language that our Chairman has used, and I
think this is worth repeating. The Chairman said that we need a
credible plan. It does not have to be a radical change
overnight. We need a credible plan that gets us to the numbers
that, Mr. Edwards, you were referring to. We want to get to
those numbers. So I think we need to be mindful that we do not
want to see the people of our nation harmed because we have
taken care of our own problem at the national level, but we
have dumped everything off on the States, or the States have
dumped it off on local governments.
Dr. Zandi, I want to get back to the mortgage issue because
it is still a huge problem in our community and all
communities, and your exchange with Senator Merkley. Do we have
a structure in place that could implement the policy that you
are suggesting? That is, do we have a credible way of being
able to determine whether a potential person who is subject to
foreclosure quickly could determine whether they are entitled
to some form of help?
Mr. Zandi. No. I do not think we have a mechanism in place
that is appropriate and is helpful enough. Some States have
been more aggressive than others. I think the State of
Connecticut, New York, I think probably New Jersey put in
processes with third parties involved to try to facilitate this
for homeowners, but it is not something that is being done
nationwide or in parts of the country where the foreclosure
problem is particularly acute. It is a problem coast to coast,
but in some places, it is obviously very acute. So, no, I do
not think that we have addressed that adequately enough.
Senator Cardin. So if we were just to put in a moratorium
without having a process in place, is that really going to help
the situation or not?
Mr. Zandi. No. I am not advocating that we have a
moratorium. I am advocating that we, through the regulatory
process, require some changes in the way the mortgage services
conduct their business. So one point of contact, no dual
tracking, a third-party review, a fund established to
compensate homeowners that are shown to be wronged in the
process. I think if you do those things, and I do not think--it
is going to be very difficult to do this legislatively, but
through the regulatory process, I think that that would be
helpful and make a difference in facilitating the foreclosure
modification process.
I think we are at a point now where we have some tools. We
have just got to make them better. We need to work through this
process as fast as we can. We need to get on the other side of
this so that the housing market can begin to function properly
and house prices start to rise. And we need to work through the
foreclosure modifications.
Senator Cardin. Well, I agree. We are still in a very, very
difficult position on these issues, and there is uncertainty in
the marketplace, also, which is not helpful. So the further we
could clarify this, and I agree with you, I think we have
enough tools out there. We just need to make sure that they are
used and that the regulators do their jobs.
Thank you, Mr. Chairman.
Chairman Conrad. Let me--I had deferred my questioning
time, because we were late because of the prayer breakfast this
morning, to members being here, so I kind of asked questions as
we went along, but I want to come back to some of the
fundamental questions I wanted to ask.
As I see it, in terms of the work of this committee, one of
the most important things we can do is contribute to getting on
a more sustainable course. How serious a threat do you believe
it is to our long-term economic strength to having deficits of
10 percent of GDP this year and being on a course to a debt
that would be 233 percent of GDP, according to CBO, if we stay
on the current trend line? Dr. Zandi, how big a threat do you
see that to our long-term economic security?
Mr. Zandi. It is lethal. I mean, I think if you do not make
changes to change those forecasts in a substantive way, our
nation's economy will be--and our living standards will be
diminished for generations to come. So I think it absolutely,
positively has to change.
Chairman Conrad. Well, that is about as clear as it can be.
Lethal is pretty strong. And, frankly, I agree with it. I
believe that.
So then the question becomes a matter of timing. I
personally believe, and the commissions, all of the bipartisan
commissions have come to roughly the same conclusion, that is,
do not make big changes right now, but put in place a plan that
makes big changes over this decade. In the case of the Fiscal
Commission, we reached a determination we needed to reduce the
deficit $4 trillion over that period of time--four trillion.
That is real money. What do you say with respect to timing and
size of the changes that are required?
Mr. Zandi. I think the Fiscal Commission laid out a very
good road map for you. There are two commissions, and both
roughly came to the same place and laid out roughly the same
path, and I think we should move in the direction that they
have laid out for us.
So the deficit-to-GDP, let us call it nine, 10 percent this
fiscal year. If we can get that down to two to 3 percent of GDP
by the end of the decade and do that in a way that everyone
believes we are going to do that--and we do not have to do it
in 1 year. We can do it over that period.
And we do not have to begin now, and we should not. We
should start that process when the economy is moving forward in
a clear and definitive way, and my benchmark for that would be
a falling unemployment rate. As soon as the unemployment rate
is definitively moving south, I think at that point we can
conclude that we are off and running and we need to then
refocus and start imposing real fiscal discipline and
austerity. Before that point in time, I think it would be--we
will probably make our way through, but it would be, I think, a
risk that we should not take.
And so, therefore, in 2011, I think you have done what you
need to do. I think we are in good shape. I would not change
fiscal policy, the thrust of fiscal policy for calendar year
2011. But beginning in 2012 and through the end of the decade,
I think at that point, we need to very, very disciplined with
respect to reducing those deficits, get it down to 2 percent of
GDP.
Chairman Conrad. So in dollar terms, what size of package
would be required?
Mr. Zandi. So if you meet my, sort of the numbers I gave
you earlier, and your bogey is two-and-a-half percent of GDP,
that is $375 billion a year in today's dollars, right. So to
get that down to zero, that $375 billion to zero in five to 7
years, that is $50 billion a year in today's dollars.
Obviously, it is more dollars in the future, but that is
roughly what you need to do. It has to be very clearly done.
Chairman Conrad. It has to be credible that it is going to
be done.
Mr. Zandi. Credible, and I think there are many elements of
credibility. I mean, one is, and again, I am hearkening back to
the commission----
Chairman Conrad. So we are talking--just in dollar terms of
the total package, you are very close to the kind of $4
trillion number that the commission came up with.
Mr. Zandi. Yes. Exactly.
Chairman Conrad. Dr. Scheppach?
Mr. Scheppach. The only point I would make is that, let us
face it, 95 percent of our problem is health care costs. We
kind of know what to do in Social Security when we get the
political will. So I think the structure of the package is also
very, very important. Again, you can cut domestic discretionary
and get the generated savings there, but I suspect you are not
going to get the impact on financial markets if it is a package
of domestic discretionary. It seems to me it has to be health
care, and that is a problem because I do not think we know how
to do that and we have some more experimentation. But I think
90 percent of that problem is health care.
Chairman Conrad. You know, let me just say this. All roads
lead to health care, but what the commission concluded, and I
think correctly so, everything has to be on the table. You have
to do revenue. You have to do domestic discretionary spending
on both the defense and non-defense side. I will tell you,
testimony before the commission on some of the things that are
happening at the Department of Defense was startling in terms
of cost. You have to do the entitlements. And obviously, the
biggest entitlement, the place where we have the biggest
unfunded liability is in the health care accounts.
Now, I know I do not want to reopen the health care debate,
but I would say this to my colleagues. I was deeply involved in
that effort, however imperfect it is. We took every idea,
virtually every idea for reducing health care expenditure that
analysts gave us from whatever perspective.
So the best analysts--in fact, Senator Gregg and I wrote a
letter to CBO and asked them, what are the things that we could
do that would give us the biggest bang for the buck at reducing
health care expenditure? CBO came back and told us, No. 1, you
have to change the tax treatment of health care, and economists
from almost every philosophical perspective said that is the
case because you are encouraging over-utilization.
No. 2, they told us, you have to change the payment
methodology. You have to quit paying for procedures and you
have to move to paying for health care outcomes.
Third, they told us, you have to put in place some ongoing
mechanism to get the ideas that work in terms of bringing down
costs, getting them implemented. And so we put in place this
whole new institution to try new things, and if they work, to
implement them nationally.
I am sorry. Did you want to add a point to that?
Mr. Scheppach. Well, the only point I would mention, and
this is not a position of the organization, but having spent a
fair amount of time on this, I almost think one thing that you
ought to look at is to--because we now have all-payer data
systems in a bunch of States which means we have a much better
sense of what is driving the cost of health care, and it has to
be done for everybody. One of the things I am concerned about,
if you cut Medicare or Medicaid, it just gets shifted to the
ERISA firms and so on.
I almost think it has to be done State by State now, and
one thing that may be worth looking at is you provide some
incentives to States if, in fact, they begin to reduce the rate
of increase in health care costs for everybody in the State,
because I think it has to be addressed across the board. Some
States may want to regulate. Others may want to do
transparency. But I think it is an approach that may be worth
looking at.
Chairman Conrad. All right. Senator Portman has joined us.
Welcome. Why do you not take your time. And let me just
indicate that Dr. Zandi needs to leave here at right about
noon, so why do you not proceed, Senator Portman.
Senator Portman. Thank you, Mr. Chairman, I appreciate it,
and thank you for allowing me to come and speak. I have not
figured out how to be at three hearings at once yet, so I
apologize I did not get to hear all of your testimony, but I
really wanted to come by and have the opportunity to speak
briefly and hear from you.
I love the fact we are talking about health care, and I
think, Ray, you just mentioned the 95 percent figure. I am not
sure that is accurate, but you should know that at this very
table last week, Dr. Elmendorf said that health care is the No.
1 fiscal concern he has, and that is not a surprise because it
is and it does drive the cost of Medicare and Medicaid, of
course.
I have a more sort of fundamental question for you about
the impact of current deficits on our economic growth. There is
all sorts of data out there about the future impact of the
enormous debts that we are building up, and the CBO projections
are sobering, to say the least. But what is the impact today?
What we do not talk about enough, I think, and maybe you can
correct me on this, but I believe that we are crowding out
private investment. I believe that with a $1.5 trillion debt
this year projected, or deficit this year projected and a debt
that is on track to double in the next 10 years, that we are
impacting our ability to get out from under the difficult
economic conditions we have been in over the last couple of
years.
I just wonder if you could comment on that. I have heard
people say that with a $1.5 trillion deficit, building on the
$1.3 trillion and $1.4 trillion the last couple years, that
there is maybe a point or point-and-a-half off of GDP. Do you
agree with that? And if you could take it to the next level for
me in terms of its impact on the economy, which would be the
impact on jobs. What does that mean in terms of job growth in
this country as we are struggling to deal with this
exorbitantly high unemployment number even as the economy is
beginning to grow?
So I would start with Dr. Zandi, if it is OK, and then if
we could work down the panel.
Mr. Zandi. I do not think the current budget deficit is
crowding out private investment. I do not see evidence of that.
The 10-year Treasury yield is 3.5 percent. B-double-A corporate
borrowing yields are incredibly low. Even junk corporate bond
yields are very low by historical standards. I do not think the
cost of financing is an issue for companies.
In fact, I think the large budget deficit is helpful in
that it is supporting demand. For example, the tax cut deal
that you came to at the end of last year, I think, has a very
important provision that will cost money but will be very
important to supporting investment in 2011, and that is
expensing of any investment, and I think that is a very under-
appreciated aspect of that deal that will provide a lot of
investment and actually will add a lot of jobs. Businesses will
go out and buy an airplane and they have to fill it, or they
buy a piece of machinery and they have to install it and they
have to man it. So I think that was very appropriate and very
good policy.
Now, having said all of that, I think I would entirely
agree that we need to reduce these budget deficits moving
forward when the economy is clearly off and running, and I
think we are very close. If everything sticks to my script, by
next year, we should be in a measurably better place and the
fiscal austerity that I think is important should begin at that
point and we should engage in the kind of discipline necessary
to ensure that we do not crowd out private investment because
we will if the Federal Government does not pull back quickly
once the economy is moving forward.
Senator Portman. Dr. von Wachter?
Mr. von Wachter. So I agree with what Dr. Zandi said
earlier, that we should be ready, or put mechanisms in place
today to gain fiscal stability conditional on the unemployment
rate falling. We should not start tightening our belts at a
moment when we may need to do important investments, for
example, support unemployed workers and help them when the time
is coming, when their businesses are starting to hire to help
them get out in the labor market.
For example, we were talking earlier about the housing
market. The difficulty, the regulatory difficulties in the
housing market may take longer to fix. So if job growth is
picking up beforehand, we want to be ready to, for example,
give people unemployment insurance mobility bonuses to take up
jobs in other regions. So we have to be able to spend and
invest in areas that allow us to grow, to get out of the
current situation, to then achieve fiscal sustainability when
the unemployment rate is down.
Senator Portman. Dr. Scheppach?
Mr. Scheppach. Yes. I would probably agree with Mark, but I
do think the faster you can enact the changes, the better, even
if they are not going to go into effect really for a year or a
year and a half. So to the extent that you can put together a
package now and do it, I think that is very, very positive.
Senator Portman. Mr. Edwards?
Mr. Edwards. I think the way--you know, I agree with Mark
that the usual way economists think about crowding out is
through interest rates. The government borrows more. Real
interest rates go up. Less investment flowing to the private
sector. But you can also think about it--and I agree that you
do not really see that now.
But Federal spending crowds out real resources in the
private sector. You can think about it this way. If the
Department of Defense is--the procurement budget is going way
up or the size of our force structure is rising, you are taking
very high-skilled and talented people out of producing stuff
for the private sector for private markets and they are
producing in the government sector. So the spending crowds out
real resources, even as a separate sort of a mechanism from
interest rates.
I would say, in going back to the previous question on when
we need to make these cuts, we should not think about this in
terms of one big change, one big giant reform. We obviously
have to do incremental stuff over time. This year, Congress can
cut some defense. Next year, we can raise the Social Security
retirement age, and on and on. I do not envy the job of House
and Senate members over the next few years. It is going to be
very painful to be a Member of Congress because you are going
to have to cut every year. There is no more getting elected and
just promising all kinds of goodies. That is all going away, I
think, for----
Senator Sessions. Well, as for paying and not cutting, as
the past election showed, some people got shellacked in the
past election----
Mr. Edwards. Right.
Senator Sessions [continuing]. And a lot of that was
because we spent too much. So the myth that somehow it is
harder to cut than it is to spend----
Mr. Edwards. Right.
Senator Sessions. I should not have interrupted. Excuse me,
Mr. Chairman.
Mr. Edwards. So one----
Chairman Conrad. No, I think that is a very important
point, because, frankly, we have--one thing Senator Sessions
and I absolutely agree on is the need to put in place a
credible plan as soon as possible. A place where we may have a
difference is the timing and the make-up of the plan. We do not
have a difference on the absolute essential need to put in
place a plan that is serious and credible.
Now, the place where I might differ from what I just heard
you say is I think you need to have a plan that takes a series
of votes now that makes these changes over time. That is, I do
not want to see us in a situation where we do a little bit here
and then we hope somehow that there is going to be a little
more done, because my experience around here is you had better
act while you have the window of opportunity and you had better
put in place a multiple-year plan that has real discipline
associated with it. This operating year by year around here is,
I think, one of the things that gets us into trouble.
Mr. Edwards. Yes. I mean, I sort of partly agree with that,
and I think you can think about mechanisms you can put in place
to kind of force changes. I think David Malpass might have
testified here the other day that he is proposing an idea that
he puts sort of a cap on public debt as a share of GDP which
would force sort of constant annual changes to get under that
limit.
I proposed the idea in my testimony of putting a cap on the
growth in total annual outlays. You pick a number, three or 4
percent, put it into a statute. Congress has to make sure
outlays do not rise more than that every year, which would sort
of be like the 1990 BEA, except it would be the overall budget.
And again, that would force change, force Congress to focus on
discipline every year.
Chairman Conrad. We need to shut down because we had
promised witnesses that they would be out by about noon, and I
apologize we are a little beyond that. But I want to thank this
panel, just outstanding and we very much appreciate your taking
the time and energy to present to us here this morning. Thank
you.
The committee is adjourned.
[Whereupon, at 12:06 p.m., the committee was adjourned.]
THE PRESIDENT'S FISCAL YEAR 2012 BUDGET PROPOSAL
----------
TUESDAY, FEBRUARY 15, 2011
U.S. Senate,
Committee on the Budget,
The committee met, pursuant to notice, at 2 p.m., in room
608, Dirksen Senate Office Building, Hon. Kent Conrad, chairman
of the committee, presiding.
Present: Senators Conrad, Murray, Wyden, Stabenow, Cardin,
Whitehouse, Merkley, Begich, Coons, Sessions, Enzi, Crapo,
Ensign, Cornyn, Graham, Thune, Portman, Toomey, and Johnson.
OPENING STATEMENT OF CHAIRMAN CONRAD
Chairman Conrad. The hearing will come to order.
I want to say for my colleagues, there will be a full
turnout of the committee for this hearing, but we have a series
of things going on simultaneously. The Tuesday caucuses of both
parties are still underway. There is an event at the White
House that has members. The Finance Committee is meeting with
the Secretary of Health on the President's budget
simultaneously. And we have a vote scheduled at 2:35.
Senator Sessions. But you are minding the store.
Chairman Conrad. We are minding the store, Senator
Sessions.
I want to indicate that because of the kind of turnout we
are anticipating and because of the interruption for the vote,
my intention will be to do 5-minute rounds, and then if we get
a chance, we will go deeper, have a second round. But with all
these hurdles, I think that is the only way we can get through
this afternoon.
I want to welcome everybody. Today's hearing focuses on the
President's budget proposal for 2012. Our witness today is the
OMB Director, Jack Lew. Welcome back to the committee, Jack.
You are no stranger here. Thank you again for agreeing to take
on this very challenging task at this difficult time. I am sure
when you finished your first term, you never imagined you would
be serving again and that it would be at a time when the Nation
faces a 1-year deficit of over $1.5 trillion. When you last
left, you left a balanced budget. In fact, you left surpluses,
and I think you can be forever proud of your legacy.
This is a challenging time for the country and the budget
certainly reminds us of that fact. I have said consistently
over the last 2 years that during the financial crisis and
economic downturn, I think the administration acted quickly and
decisively to make decisions that rescued us from a financial
collapse. And I would credit the ending days of the previous
administration for starting to put in place those policies to
prevent what I believe would have been a financial collapse.
At the same time, I have been critical about the need for
similarly decisive action now to pivot to dealing with our
long-term debt threat. Make no mistake, we are at a critical
juncture. We are borrowing 40 cents of every dollar we spend.
Spending is at the highest level of a share of our economy in
more than 60 years and revenue is at its lowest level as a
share of the economy in over 60 years. Not surprisingly, we are
seeing deficits, then, at record levels. Deficits are now
projected to be over 10 percent of GDP this year.
This next chart depicts the gross Federal debt as a percent
of the economy under the President's 2012 budget. It shows the
debt reaching 100 percent of GDP this year and rising slightly
throughout the remaining budget window. It is important to
remember that many economists regard anything above 90 percent
as the danger zone. And let me repeat what I have said at every
meeting. The findings of economists Carmen Reinhart and Ken
Rogoff in their book about 200 years of financial crisEs, and I
quote, ``We examine the experience of 44 countries spanning up
to two centuries of data on central government debt, inflation,
and growth. Our main finding is that across both advanced
countries and emerging markets, high debt-to-GDP levels, 90
percent and above, are associated with notably lower growth
outcomes.''
So, look, these deficits and debt are not just numbers on a
page. They are the fundamentals that have a lot to say about
our future economic prospects. What is the economic opportunity
going to be for our people? What are the job creation
opportunities going to be? What is the economic position of our
nation going to be?
And unfortunately, as disturbing as the current situation
is, the long-term outlook is even more dire. It is this
deteriorating long-term outlook that is the biggest threat to
this nation's future economic strength and security.
Now, let me give credit where credit is due. The
President's budget does include modest steps for addressing the
fiscal situation. Here are a few key savings that I have
identified in the President's budget.
No. 1, a 5-year non-security discretionary freeze with
estimated savings of $400 billion. That is not insignificant
and I praise the administration for it.
They also have paid for the doc fix for 2 years with
specific offsets. That, too, is an advance.
Third, they have advocated significant changes to the Pell
Grant program, eliminating the second Pell Grant payment and
ending in-school interest deferment for graduate students.
Fourth, they have improved the ability of States to repay
the unemployment insurance fund.
And five, they have authorized the Pension Benefit Guaranty
Corporation to raise premiums to better ensure the program's
long-term solvency.
Critically important steps. I applaud the President for
those proposals. I wish there had been even more. I supported
the deficit and debt reduction plan assembled by the
President's Fiscal Commission, and while not perfect, continue
to believe that it provides a better way forward beyond the
next 2 years. I give the President good marks for the next 18
months to 2 years. What I am concerned about is the longer
term, and over the next decade, I believe we need a package of
debt reduction approaching what the Fiscal Commission laid out
of some $4 trillion.
What we need, I believe, is an entire package with
everything on the table that deals with fundamental reform of
our tax system, and we have to address the entitlements,
because with a doubling of people eligible over the next coming
years, we are on an unsustainable course. I believe what is
needed is bipartisan recognition that we have to face up to the
budget realities. Both sides have to be willing to move off
their fixed position and find common ground, and that means we
must look beyond the mere 12 percent of the budget that is
being focused on when we look at just non-security
discretionary spending. That is only 12 percent of the budget.
That cannot carry the full load of facing up to the debt
threat. You cannot solve this problem by looking at just 12
percent of the budget. This problem is too large and too
important.
Let me conclude by citing recent testimony from Federal
Reserve Chairman Bernanke in which he cites the benefits of
acting now. Specifically, he stated, ``Acting now to develop a
credible program to reduce future deficits would not only
enhance economic growth and stability in the long run, but
could also yield substantial near-term benefits in terms of
lower long-term interest rates and increased consumer and
business confidence.''
I hope people are listening. I hope my colleagues are
listening. We cannot afford to wait until markets collapse, and
I say to my colleagues, that is the course that we are on. I
believe it without question, that we are on a course that will
lead to a financial disaster, and it is our responsibility to
bring the country back from the brink. It is our obligation and
it has to start here.
With that, we will turn to Senator Sessions for his opening
statement, and I want to at this point thank Senator Sessions
and his team for the courtesy that they have given us in
working out the scheduling of hearings going forward. It has
been a very positive and constructive working relationship. I
want to thank Senator Sessions and your entire team for the
cooperation.
OPENING STATEMENT OF SENATOR SESSIONS
Senator Sessions. Thank you. Thank you. We have a lot to do
and you have had a lot of hearings and a lot of work. We have
no choice but to support you in that and we will continue to do
so.
Mr. Lew, thank you for joining us at this hearing, and it
is an important one at a critical point in history.
Yesterday, the President submitted his formal budget to the
Congress, as law requires. It is the President's third budget
and the last budget that will cover a full year of his current
term in office. It was one of his last chances to put forward a
serious proposal to address our growing financial crisis.
Our crushing debt undermines confidence in our economy,
weakens our standing in the world, and results in devastating
job losses to Americans. A recent study showed that our debt
may already be costing us a million jobs a year. Nearly every
expert that has testified before this committee has sounded the
warning call. So, too, has the International Monetary Fund,
Moody's, our own Federal Reserve. All have cautioned us to turn
back from the abyss of runaway spending and debt.
And yet the President has submitted a budget yesterday that
fails to change course. It was a very un-serious response to a
very serious problem. The President's budget would increase
spending every single year, doubling the nation's debt by the
end of his first term and tripling it by the end of his budget.
It would also impose $1.6 trillion in new taxes on families and
businesses, a further barrier to jobs and growth.
Erskine Bowles, the Democratic Co-Chair of the President's
own Fiscal Commission did not mince words Sunday. Speaking to
the Washington Post, Mr. Bowles said that the budget goes,
quote, ``nowhere near where they will have to go to resolve our
fiscal nightmare.''
Across the nation, editorials rebuked the President for not
rising to the occasion. The Washington Post said the President
punted. The Los Angeles Times said the budget landed with a
thud. USA Today said the budget was a shame and economically
risky. The Wall Street Journal said it was transparently
cynical. The New York Times said the budget is most definitely
not a blueprint for dealing with the real long-term problems
that feed the budget deficit. Investors Business Daily said the
President's plan, quote, ``will lead inevitably to a weaker
economy and perhaps even default.''
My goal here is not to excoriate the President, but for me,
it is a point of sadness, not satisfaction, that we have seen
such a weak response. A historic opportunity has been lost.
Maybe it can be recovered, but at this moment, it has been
lost. Like when President Nixon went to China or President
Clinton signed welfare reform, this could have been the
President's moment to rally diverse political factions behind a
common cause. I believe the country is ready.
Our nation is confronted with a defining challenge. Our
financial future hangs in the balance, but the President has
suggested he is waiting for Congress to put forward a serious
proposal first. That is not leadership. It is going to be hard
for Congress to fulfill that role without Presidential
leadership.
Did Winston Churchill say he was waiting for Parliament to
come up with a plan to win the war? When a nation is faced with
any threat, great or small, financial or military, it is the
job of the nation's chief executive to step forward with a
plan. But not only has the President failed to lead, but his
administration, sad to say, has consistently attacked
Republicans when they do step up and put forward bold ideas to
reduce spending or address our spiraling debt.
In recent days, it seems the White House has been more
interested in spend than in honest conversation about the
serious challenges we face. What the President does not seem to
realize is that the fight over our budget is about much more
than politics. It is about economic survival.
But while I am deeply disappointed, my confidence in the
future is not diminished. If Washington does not change
direction, the American people will change the direction of
Washington. We see Governors like Governor Christie and
Governor Cuomo in New York gaining popularity and strength from
making tough choices. Significant spending reductions may not
be easy; they are, indeed, not. But they will make us stronger
and more prosperous. It is a tough road, but it is the right
road. It is the road which leads to a better future. It is the
road we have to be on, Mr. Chairman.
Chairman Conrad. Thank you, Senator Sessions.
Now we will turn to Director Lew for his opening statement.
Then we are going to go to questions.
I would say to my colleagues, again, because we face a vote
at 2:35 and because of the notice by our colleagues that all of
them intend to be here, we are going to do five-minute rounds
and we will try to get to a second round.
Director Lew, please proceed. And again, welcome back to
the committee.
STATEMENT OF HONORABLE JACOB J. LEW, DIRECTOR, U.S. OFFICE OF
MANAGEMENT AND BUDGET
Mr. Lew. Thank you, Mr. Chairman, Senator Sessions. Thank
you both for the kind words personally about me. It is good to
be back here. I remember very fondly my last testimony as
Director on the last day I was in office and I had a chart that
projected a surplus of $5.6 trillion over the next 10 years.
How far away that seems, and that is what we are going to be
talking about today, how we can turn the tide.
After emerging from the worst recession in generations, we
face another historic challenge. We need to demonstrate to the
American people that we can live within our means and invest in
the future. We need to work our way out of the deficits that
are driving up our debt and at the same time make tough choices
to out-educate, out-build, and out-innovate so that we can
compete with our rivals around the world. This is what it is
going to take to return to robust economic growth and job
creation in the future.
This is the seventh budget that I have worked on at the
Office of Management and Budget and it is the most difficult.
It includes more than $1 trillion of savings from policy, two-
thirds from lower spending, and it puts the Nation on a path
toward what we are going to call for the moment fiscal
sustainability. That means that by the middle of the decade,
the government will no longer be adding to our debt as a share
of the economy. Clearly, it is not far enough. We all agree
there is more work to do. But in order to start bringing down
the debt, we have to stop adding to it, and this budget would
get us there.
By the middle of the decade, we will be able to pay for our
current bills and remain in what is called primary balance for
many years after that. The President has called this budget a
downpayment because there is still going to be work to do to
deal with our debt and to address the long-term challenges. But
we cannot start to pay down the debt until we stop adding to
it.
The budget lays out a strategy for significant deficit
reduction. It is the most significant deficit reduction in a
comparable period since the end of World War II. It will bring
our deficit into the range of 3 percent of the economy by the
middle of the decade and stay there for the rest of our budget
window.
Changing this trajectory of our fiscal path is a
significant accomplishment, but to do it, it will take tough
choices and I would like to just highlight a few of them.
The budget, as you have noted, includes a 5-year freeze on
non-security discretionary spending. This will save $400
billion over the next decade and it will bring spending for
this part of the budget down to the level it was at when
President Eisenhower was in the Oval Office. To achieve savings
of this magnitude, it is going to require more than just
cutting waste and fraud and abuse and duplicative programs. We
clearly need to start there, but we will not get the job done
if that is all we do.
We are going to need to make cuts in places where, if we
were not facing the kinds of difficult fiscal challenges that
we face, we would not be making cuts, places like the Low
Income Home Energy Assistance Program and Community Development
Grants for cities and counties.
In national security, where we are not freezing the budget,
we are also making real cuts. Defense spending over the past
decade has been growing faster than inflation and we can no
longer afford to sustain that. This budget will cut $78 billion
from the Pentagon spending plan over 5 years, which will bring
defense spending down to zero real growth. This is a level that
the Secretary and the military leadership believe we can do
without harming our national security, but it will require
reductions, and reductions in weapons programs that we do not
need and we cannot afford.
We also have additional savings that come from bringing our
troops home. The troops coming home from Iraq will mean that
the spending on overseas contingency operations will go down,
and when you look overall at our defense spending, that means
they will be 5 percent--more than 5 percent below the request
level last year.
As has been noted before and I think we hopefully all agree
is the case, just cutting discretionary spending will not solve
our fiscal problems, and this budget deals with many other
issues and it deals with mandatory spending and revenue to help
deal with our fiscal challenges.
I would like to use two examples of what we are doing in
this budget to confront these fiscal challenges. For the past
number of years, there are two areas where Congress has year
after year taken legislative action for reasons that have
bipartisan support. I think there is, for good reason,
bipartisan support that we should not see Medicare
reimbursement rates for doctors go down by 30 percent and we
should not see middle-class families be pushed into the
Alternative Minimum Tax. The problem is that the legislation to
deal with that has not been paid for, and until last December
when, frankly, there was a very good and right decision to pay
for the doc fix, it had not been paid for.
This budget says we have to stop that. We have to start
paying for this. And we have specific savings proposals, as the
Chairman noted, that would pay for the doc fix for the next 2
years. That means $62 billion of savings in mandatory programs,
dozens of specific program changes so that we can have a $62
billion offset to pay for 2 years of the doc fix, so between
action taken last year and that, we will be able to have time
to work toward a new sustainable set of reimbursement policies.
In the case of the Alternative Minimum Tax, it has not been
paid for in the past. This budget proposes to pay for it and it
proposes to do so by putting into the tax code a provision that
would limit the value of itemized deductions for the top
taxpayers, that is families of $250,000 and above, so that they
would get the same benefit for their itemized deductions that
the bracket just below them gets. This would return the value
of deductions to where it was in the Reagan administration. It
would be a step toward doing something that the Commission
proposed, which is that we start to control spending in the tax
code. These are both downpayments on long-term reform to reduce
the deficit further and the administration looks forward to
working with the Congress.
The President has in the State of Union and the budget made
clear that we are going to need to work together to solve a
number of additional problems. In the State of the Union and
the budget, the President called for deficit-neutral corporate
tax reform so that we can simplify the system, eliminate
special interest loopholes, level the playing field, and
importantly, lower the corporate tax rate for the first time in
25 years so that American businesses will be more competitive.
And while it does not contribute to our deficits in the
short- or medium-term, the President has laid out his
principles to strengthen Social Security and he has called on
Congress to work in a bipartisan fashion to address this
compact for future generations.
As we take these steps to live within our means, we also
invest in areas critical to the future economic growth and jobs
creation. We invest in education, innovation, clean energy, and
infrastructure. But even in those areas, we have had to make
tough tradeoffs in order to fund our high-priority programs.
As the Chairman noted in his opening remarks, we worked
hard to maintain the Pell Grant levels that we worked together
to put in place so that nine million students can get a Pell
Grant of $5,550 a year. We pay for it in this budget with $100
billion in savings, primarily from ending the summer school
Pell Grant and by changing the way we treat interest when
graduate students have loans while they are in school.
In the area of innovation, we support $48 billion in
research and development, which includes $32 billion for the
National Institutes of Health and it meets visionary goals to
bring a new clean energy economy into place. To help pay for
these investments, lower-priority programs are cut, and we do
eliminate 12 tax breaks for the oil, gas, and coal companies
that will raise $46 billion over 10 years.
And to build the infrastructure that we need to compete,
the budget includes a proposal for a $556 billion Surface
Transportation Reauthorization bill, and the plan consolidates
over 60 duplicative programs which have often been earmarked
into five, which demand more competition for funds, and we
insist that it be paid for, because we cannot afford to do this
if we do not pay for it.
Mr. Chairman, I have no illusions, and we have very
difficult challenges ahead. We need to make tough choices if we
are going to put our country back on a sustainable fiscal path.
As we make these choices, it is important that we not cut the
areas that are critical to helping our economy grow and make a
difference in families and businesses.
Finally, cutting spending and cutting our deficits is going
to require that we put our political differences aside and that
we work together. I look forward to working with you as we
craft a set of policies so that we can live within our means
and invest in the future.
I thank you and look forward to answering your questions.
[The prepared statement of Mr. Lew follows:]
Chairman Conrad. Thank you, Director Lew.
Let me start with what I see as the best news in the
proposal of the President, and that is that he brings down the
deficit as a share of the Gross Domestic Product quite sharply,
from almost 11 percent of GDP down to just over 3 percent of
GDP during the 10-years. That is critically important because
that does stabilize the debt.
But let me go to the question of the level of our gross
debt, because as I see the President's proposal, we get to a
gross debt of over 100 percent of our GDP and just stay stuck
there. So it is true the debt is stabilized, but it is
stabilized at a level that is too high. Why do I say 100
percent of GDP is too high? Because the best information we
have available to us, the Reinhart-Rogoff study of 200 years of
fiscal history and 44 countries say when your gross debt is
over 90 percent of GDP, the chances increase that your future
economic growth will be substantially reduced.
And this is what we see in terms of the gross debt as a
share of GDP the 10-years of the President's budget. It is over
100 percent the entire time. That, to me, is just not wise. It
is not acceptable. It is not a fiscal strategy that the country
should embrace.
I understand that the President's budget is an opening bid.
We all know there is a negotiation that will have to ensue. It
will have to involve both houses of Congress, both parties and
the President.
The question that I would have for you is how does that
serious conversation get started? We have a budget, but a
budget resolution, as you know, is purely a Congressional
document. It never goes to the President for his signature or
veto. So the question I have for you and the question I think
many of us are struggling with is how do we get to the serious
discussion of getting not only the debt stabilized--I will
grant you, you do that. To me, that is not enough, because the
second step is we have to work this debt down, and just
stabilizing it for 10 years at a level that is too high, that
cannot be the answer. At least, to me it cannot be the answer.
So how do we get, in your judgment, this more serious
negotiation started?
Mr. Lew. Senator, I think that, first, stabilizing the debt
is not something that we can take for granted. There are a lot
of hard decisions that we are going to need to make in order to
bring the deficit down to 3 percent of GDP. If we do not take
the tough actions that are laid out in this budget, we will be
closer to 5 percent of GDP, not 3 percent of GDP.
So I think as a first matter, it is not just a question of
building confidence. It is kind of like you have to walk before
you run. We have to do this in order to get to the next step.
So I think that when we describe this--when the President has
described this budget as a down payment, I think it is
important to note that getting that down payment is in and of
itself going to be a hard accomplishment and it is something we
are going to need to work together on, because I know there are
a lot of things in our budget that will not be immediately
accepted and we are going to have to work toward a set of
policies that get us there.
In terms of the long term, you know, I think the process
always begins with the President putting a budget on the table.
The President has a comprehensive responsible budget. That is
the first, not the last, step in the process. The President has
worked very hard to try in the State of the Union, in his
budget, in his remarks today, to establish an atmosphere where
we could start to build trust that builds on the success we had
at the end of last year where I think there was a process of
beginning to learn how to work together across party lines.
I have worked on bipartisan agreements from both ends of
Washington, from the Congress when I was in the Speaker's
Office in the Democratic Congress and a Republican White House,
and from a Democratic President's White House working with a
Republican Congress. Developing that relationship of trust is
the key to there being success. And I think that we have tried
very hard in everything we have done in this budget to put
things on the table to expand the range of things that can be
discussed, but it is not always the case that putting a
specific proposal out there advances things most quickly. I
personally believe that if you look at the last 20, 30 years,
sometimes putting out a proposal slowed things down because it
polarized the sides and they dug in. We need to figure out a
way to have a conversation that gets the parties talking
together.
So I cannot give you a date or a time. I think that we have
put a budget forward. We have a lot of immediate issues facing
us in terms of the funding of the government after March 4, the
extension of the debt ceiling in the spring, the budget
resolution that Congress has to pass. I would say that one of
the things I believe is that we have to separate these issues.
We should do the things that we have to do to keep our business
going. And we have to figure out how to engage on this as
different plans are put down and we see what the differences
are and look toward working together toward the middle where we
can agree.
Chairman Conrad. Let me just say this to you, because I am
going to try to follow 5-minute rounds. You know, I have
enormous respect for you. I know what you did. I know the role
you played in getting us back on track previously. In that
answer, I do not hear a plan for how we get to a serious
discussion. I hear the reasons for doing the budget proposal
that is out there. I understand that. I might even accept it.
But I cannot accept that if I do not hear a way forward that
gets us to the discussion we have to have because it cannot be
the answer that we are going to have a debt over 100 percent of
GDP throughout the next decade. That cannot be the answer for
this country's fiscal future.
Senator Sessions?
Senator Sessions. Thank you, Mr. Chairman. I agree with you
100 percent. This idea that you are balancing the budget
somehow when you are not is the Washington theory that got us
into this fix, and stabilizing the debt is so dangerous because
we are at the upper limit already and we could have an economic
shock at any time. Another recession is not projected in your
budget that I know of. It is not in there. So it is a high-risk
thing, and as leaders, I agree with the Chairman, we have to
take the steps that we know need to be taken today to protect
our people from danger in the future.
Have you, Mr. Lew, explained the budget to the President an
do you think he fully understands the choices of the decisions
and direction it undertakes?
Mr. Lew. Senator, this is the President's budget. I have
the honor of presenting his budget. So he understands and has
made the decisions to drive this budget.
Senator Sessions. Well, in his radio address to the Nation
Saturday, he said, so after a decade of rising deficits, this
budget asks Washington to live within its means, and that is
what our country has to do. That is what families do. Does this
budget say that we are going to live within our means at any
single year in the 10-year plan you have set forth?
Mr. Lew. Senator, this budget would get us to the point
where in the middle of the decade, we will be paying for our
current expenses and we will be in what is called primary
balance. That means that the only thing that is putting us into
deficit is payments of interest on the national debt. And if I
could put it in terms that--a family's terms, it is like saying
we are going to cut the credit card, not add to the balance,
and then we will work on paying down the old bill.
Senator Sessions. But we are adding to the balance and we
are not cutting up the credit card. That is just the fact. Do
you believe that the American people who heard the President on
his radio address Saturday say that this budget calls on
Washington to live within its means, do you think that it is
misleading in the sense not in the lowest deficit year of the
ten, by your own budget, the deficit will be over $600 billion
that year?
Mr. Lew. Senator, having sat in this chair and presented
three budgets with surpluses, I know the difference between a
surplus and a deficit. We are not going to get to a surplus
until we can pay down the debt because of the interest
payments.
Senator Sessions. Oh, you mean reducing the debt is paying
down the debt? Is that Washington-speak?
Mr. Lew. What I said was we are going to stop adding to the
debt. Our spending will not add to the debt.
Senator Sessions. Well, what year can you say that under
your budget it gets below $600 billion a year in added debt?
Mr. Lew. Senator, I understand the arithmetic of paying
interest on our national debt. We have accumulated a lot of
debt. This has been a very deep recession. We have had an
enormous number of decisions made that have caused the deficit
to grow. We are going to have to work together to reverse that,
but we cannot----
Senator Sessions. Are you just saying that----
Mr. Lew [continuing]. We cannot make the debt go away and
we have to pay the interest on it until we start reducing it.
Senator Sessions. Well, I know there is some idea that
somehow you can say you are in balance when you do not pay your
interest, you do not count the interest payment, which is
obviously not a legitimate way to analyze it. There is no
dispute that I can see that your budget costs for not a single
year in which we add less than $600 billion to the debt, and
you said in your interview Sunday with Candy Crowley, our
budget will get us over the next several years to the point
where we can look the American people in the eye and say we are
not adding to the debt any more. We are spending money that we
have each year and then we can work on bringing down the
national debt. Was that an accurate or misleading statement to
the American people Sunday?
Mr. Lew. Senator, I think it is an accurate statement that
our current spending will not be increasing the debt. We do
have interest payments. It is going to take us a while to work
down those interest payments and----
Senator Sessions. Well, you did not say that. You said that
we will be bringing down the debt during the period of this
budget and that we can look them in the eye and say we are not
adding to the debt any more.
Mr. Lew. And that----
Senator Sessions. That is not accurate, is it?
Mr. Lew. No, I believe it is accurate. Our current
programs, the things we are doing that we are making decisions
on, we have stopped spending money that we do not have. We
cannot just wish the national debt away.
Senator Sessions. Well, I think the American people----
Mr. Lew. They are going to have to make hard decisions----
Senator Sessions [continuing]. Heard it and----
Mr. Lew. It is going to take hard decisions to bring that
down.
Senator Sessions. My time is up, and Mr. Chairman, I would
just add one comment, that the budget says it will save a
trillion dollars over 10 years. The way the budget is scored by
your own analysis, that means we will reduce the total debt
added to the American people over that 10 years from $14
trillion to $13 trillion, which is an insignificant amount in
the scheme of that number and does not get off the trajectory
we are on, which is toward a financial abyss.
Chairman Conrad. I thank the Senator.
Senator Wyden.
Senator Wyden. Thank you, Mr. Chairman.
Director Lew, to drive the deficit down dramatically, we
need more economic growth, and you have talked about corporate
tax reform. I am certainly in favor of taking tax breaks away
for companies that are doing business offshore and using that
money to dramatically lower rates for companies that do
business here. But what troubles me is that your comments mean
that there will not be real tax relief for 80 percent of
American businesses that are organized as sole proprietorships
or partnerships, or the typically hardware store, the
electronics firm. And, in fact, my concern is the approach that
you are going without trying to get these small businesses that
pay taxes as individuals is going to create more complexity and
more uncertainty for those small businesses that are a vital
part of the economic engine we need for growth.
What is the plan to make sure that we have broader tax
reform and particularly pick up the 80 percent of business
entities that pay taxes as individuals?
Mr. Lew. Senator Wyden, I think when the President put the
proposal for corporate tax reform out there, he did not mean
for that to be the end of the conversation. We have to start
somewhere. We have a corporate tax system where it has been a
long time since we have gone through and taken away the special
provisions, where in order to lower the rates without
increasing the deficit, we are going to need to broaden the
base. And that is going to be a hard process.
He has also said that he wants to work together on a
broader basis to deal with the tax system, but we do have to
start somewhere, and the corporate tax reform proposal is the
first place.
Senator Wyden. We should not start in a place that is going
to further distort the code and make it more complicated. Dr.
Bernanke said you have to recognize the interactions between
the individual portions of the code and the corporate portions
of the code. I just hope--you talk about the conversation.
Right now small business is getting short shrift in the
conversation. That is not right, and we cannot generate the
economic growth that the President wants to see and you want to
see.
Let me ask you about a Pacific Northwest matter, and that
is timber payments. We are glad that it is in the budget, but
it falls dramatically short of the historic obligation. In
fact, let me tell you what the President said during the
campaign in 2008. He said, with respect to county payments, ``I
completely agree it is an obligation we have to meet. I think
we are not meeting it well right now because we are doing it
piecemeal year after year by year.''
That is exactly what you are proposing again. You are
talking about giving us one more year, then having a study, and
in effect putting in place the uncertainty that the President
correctly said in the campaign that we ought to move away from
to get these rural communities--and there are hundreds of them
around the country--off the fiscal rollercoaster.
So what can we tell our folks in the Pacific Northwest is
the plan to really provide a way to meet the historic
obligation and get these rural communities off the
rollercoaster?
Mr. Lew. Senator Wyden, we have had many discussions about
this provision, and I hope you can see the impact of those
discussions on this proposal. What we have done is we have
tried to put in a funding level that would meet the immediate
need. We proposed different things that we have discussed in
the past which create economic alternatives so that there would
be real economic vitality in the areas and ultimately not as
much of a need for the payments. And we have indicated an
openness to being flexible in terms of working through doing it
either as a discretionary or mandatory program.
So we think we have put together something that is a very
solid starting point. It is a proposal. And it is obviously
going to be something we have to work with Congress on over the
coming year, and I look forward to working with you on it.
Senator Wyden. We are glad it is in the budget, Director
Lew. I just want you to know that if you are talking about the
historic obligation--and we recognize that times have changed.
We are trying to get into new areas, biomass opportunities for
the private sector. I am concerned that with the proposal that
you are offering now in the rural West we are going to see
rural counties go bankrupt. And we have to do better than that.
We will work with you. It will be a bipartisan effort. I am
glad it is in the budget. We have a long way to go.
Thank you, Mr. Chairman.
Chairman Conrad. Thank you, and thanks for respecting the
time. Thanks to all colleagues for respecting the time with the
number of colleagues here.
Senator Crapo.
Senator Crapo. Thank you, Mr. Chairman.
Director Lew, I have to join in what a number have said. As
I reviewed the President's budget when it came out, I was
discouraged. I felt the President took a pass. And, frankly, as
one of those who served on the Fiscal Commission and voted for
the recommendations that the President's Fiscal Commission
made, I saw very little of the recommendations in the budget,
and, frankly, when comparing the numbers that we see in the
budget to what I think are going to be the reality, it appears
to me that the budget that is proposed does not even go as far
as it has claimed to. And I want to get into a couple of
aspects of that with you.
First, you use the term ``primary balance,'' and I think we
all understand that here in Washington in the Budget Committees
and so forth. But when the American people hear that, I am not
sure they quite understand what it is we are saying.
Is it not accurate to say that when you use the words ``the
budget comes into primary balance,'' is means that if you do
not pay any interest on the national debt, you can say that you
are covering the ongoing expenditures?
Mr. Lew. Yes. It means that the only deficit is coming from
paying the debt.
Senator Crapo. And is that the entire budget, including
mandatory spending?
Mr. Lew. That is the entire budget.
Senator Crapo. And can you tell us what the amount of
interest adding to the debt is throughout the totality of the
10 years?
Mr. Lew. I would have to look up the number. I can get back
to you with the number.
Senator Crapo. Well, I have what I think are some of your
charts here. Would it be fair to say that the gross debt of the
United States over the 10 years of this budget will grow from
about $13.5 trillion to $26.3 trillion?
Mr. Lew. That would be the total debt, not the debt held by
the public.
Senator Crapo. Understood.
Mr. Lew. The debt held by the public is a lower----
Senator Crapo. That is the gross debt. And the debt held by
the public would grow from about $9 trillion to about $19
trillion. Is that not correct?
Mr. Lew. Correct.
Senator Crapo. So I think it is just important that, as we
talk about this, you understand the reason for the frustration
that many of us have is that this does not change the course
that we have been on. Our debt, whether you count the public
debt or the gross debt, is going to double in the next 10 years
under this budget, and that is not sufficient. As I think the
Chairman said, this may be a good opening bid, but we should
not be in a bidding process here. We should be engaged with
solid leadership from the White House, and we should, as
Congress, be engaged heavily in that process as well.
A couple of other aspects of the report that I would like
to highlight, if I can. As I look at the budget report as we
have analyzed it so far, you are projecting about a $1.7
trillion increase in revenue relative to the same baseline that
the Congressional Budget Office projected in January, as I
analyzed the two differences there. Can you tell me why the
difference?
Mr. Lew. Over what period are you----
Senator Crapo. I understand that to be over the period of
the budget.
Mr. Lew. There are differences in our budget because, first
of all, we have policy proposals, but there are also some
differences because of economic assumptions. And I can tell you
what the impact of the policy proposals are in our budget, and
I can also tell you what the impact of the economic is. But----
Senator Crapo. Would it be fair to say the policy proposals
you are talking about assume over $1 trillion in new taxes? Is
that correct?
Mr. Lew. Well, I apologize for being a little bit
complicated, but we consider the baseline to leave the tax
rates from the top bracket where they will be when the 2-year
extension expires. So we are not counting the savings that come
from leaving that provision in place as savings. That would be,
you know, roughly speaking, $700 billion of savings. We are not
counting it as savings because it is in the baseline.
Senator Crapo. Understood.
Mr. Lew. We have $368 billion of net additional revenues in
our budget.
Senator Crapo. But aren't you signaling that you want to
see those taxes----
Mr. Lew. Oh, yes. No, our policy position is they should be
allowed to expire.
Senator Crapo. All right.
Mr. Lew. But we do not count them in our $1.1 trillion of
deficit reduction because they are in the baseline.
Senator Crapo. All right. And because of time, I want to go
on here. I know there are other policy matters we could--in
fact, I would like to get into. I would love to, but also with
regard to your economic projections, it appears to me that you
are projecting a significantly increased economic performance
over what either the private sector in, say, the blue chip
reviews show or CBO's projections that came out in January. Is
that not----
Mr. Lew. I am not sure I would agree that they are
substantially, but they are somewhat more optimistic. The
assumptions that we have are in the middle range of what the
Federal Reserve looks at when it looks at economics, and it is
consistent with the recovery from past financially led
recessions. In fact, it is a little bit slower in getting to
recovery. The basic difference between the two is that we
assume that over a longer period of time we will get back to
the economic growth we had before the recession.
The other assumptions assume that we are permanently going
to be lower. We think that our assumption there is right. The
trajectory may or may not be right. We may be year-to-year--you
know, it is hard to hit these things on a bull's eye. But
conceptually I think we have the right assumption.
Senator Crapo. Thank you. Again, I would love to go deeper,
but I am out of time. Thank you.
Chairman Conrad. I thank the Senator for respecting the
time.
Senator Coons.
Senator Coons. Thank you, Mr. Chairman.
Director Lew, thank you for your presentation so far today.
I am hopeful that this budget--that this conversation at this
Committee and elsewhere will serve as a catalytic event, that
the members of this Committee who are expressing disappointment
at the failure to sort of grasp the larger challenges in front
of us in this budget will be able to work in a bipartisan way
to find a path forward.
I do find there are some things in this budget about which
I am encouraged. R&D tax, credit permanence is something I have
championed, and the domestic spending freeze, and the
willingness to make differing cuts, deep cuts in some areas,
but still sustain innovation, education, and infrastructure
investments I think is wise, and being willing to pay for the
doc fix and the AMT fix I think are good moves, and there are a
number of things I would love to get into--the pay-for-success
bonds, the race-to-the-top methodology, and Federal property
disposition--if we have time later.
But your written testimony and the comments of two Senators
before me really focus on the Commission. The written testimony
you submitted says that while the administration does not agree
with every recommendation in the Commission's report, there are
many areas of this budget that reflect the work of the
Commission. I would be interested--I think the Bowles-Simpson
Commission laid out the kind of strong, broad vision that we
need to take on to tackle not just the deficit but, as was
mentioned before, the debt for the long term.
Where does the administration differ with the Commission's
proposals? And where do you see them incorporated in this
budget? Because I think in large part, the strongest, toughest
work of the Commission is absent from this budget.
Mr. Lew. Well, let me give you a few examples of ideas from
the Commission that are in the budget: the move toward
reforming medical malpractice policies so that we can deal with
the impact that that has on health care costs; the approach to
the corporate tax reform issue; our pay freeze for the Federal
work force; the approach to tax expenditures. The way we are
paying for the alternative minimum tax is essentially scaling
back on spending on the tax side in a way that is consistent
with the report.
You know, I think if you look at the----
Chairman Conrad. Could I stop you for a minute? Just to
alert colleagues, a vote has started, and we are going to
continue the operations of the Committee. Senator Murray has
gone to vote. So I would recommend, looking at the line-up
here, Senators Toomey and Johnson might want to go vote now so
that you could come back and be in line. It might work best. I
think others, you know, can stay because Senator Graham is next
on this side, and on our side Senator Whitehouse is next. But I
do think it would be wise for the two gentlemen to go vote now
so they do not lose out on time.
Senator Sessions. We need the official to add some time to
the game clock here.
Mr. Lew. Now I have to remember where I was in answering
your question.
Senator Coons. You had gotten to tax reform as being an
approach for paying for----
Mr. Lew. So, you know, I think if you look at what the
charge to the Commission was, the charge to the Commission was
to come up with a plan that would reduce the deficit to 3
percent of GDP, not because we believe that that is an
endpoint, but because we believe in order to get beyond that to
do deficit--debt reduction, you have to first get to the place
where you get to what we are calling primary balance.
I think that, you know, there has been a lot of debate
about Social Security, a lot of debate about Medicare. Let me
say a word about Social Security.
The President has indicated very clearly that he would like
to work on a bipartisan basis to deal with Social Security, but
not because it is contributing to the deficit in the short
term. It is not contributing to the deficit in the next 5, 10
years. The Social Security Trust Fund is in surplus until 2037.
A lot of the expenses in the budget are driven by Social
Security. As more of the baby boomers retire, they are going on
to the Social Security program, as they have a right to and
should, and that is driving spending up. And we have to be sure
that we are funding Social Security so that it can keep that
promise for this generation and the next generation. But it
would not affect the window of this 5 to 10 years, and we need
to keep them separate. The President would like very much to
work together on a bipartisan basis to be able to deal with
that.
Senator Coons. So, Director, my question to you was which
of the recommendations of the Commission has the administration
rejected or differed with and unwilling to accept as we get
going with the broader conversation about how to tackle not
just sustainable deficits but what is a sustainable national
debt.
Mr. Lew. And I have to respond that you have heard a
reticence to say what is unacceptable because it is important
to leave ideas on the table. It is important that if we are
going to have the serious bipartisan conversation, we not take
hard lines on either side of an issue and that we allow the
conversation to continue. I actually think that that is part of
leadership in terms of how do you prepare the environment for
the kinds of discussions that I hear so many people in this
room--and we ourselves agree--believe need to happen.
The easiest thing to do in Washington is to take an idea
that is controversial and to kill it. The hardest thing to do
is to create an environment where it is safe to have
conversations and look for middle ground where reasonable
people can agree.
Chairman Conrad. I thank the Senator.
Senator Graham is next.
Senator Graham. Thank you, Mr. Chairman. And before I
start, I would like to congratulate you and Senator Crapo and
all the others who participated in the bipartisan Commission to
kind of get us out of this mess. I really appreciate what you
did.
Mr. Lew, I want to pick up on your comments about Social
Security. You sort of made an invitation on behalf of the
President to see if we can find some common ground in saving
Social Security from--I do not know if ``bankruptcy'' is the
right word, but certainly a collapse down the road. Am I
hearing you right, you would like us to work together?
Mr. Lew. I can only point to the President's word in the
State of the Union.
Senator Graham. OK. Well, I am going to take you up on it
right here in front of the whole country, anybody who is
watching C-SPAN, cannot sleep. I really do believe that this is
the year for Social Security reform and that the age adjustment
from 65 to 67 was accomplished by Tip O'Neill and Ronald Reagan
working together.
Do you believe that adjusting the age for Social Security
is something the President would be interested in if it was in
a bipartisan fashion?
Mr. Lew. Senator, I had the honor of working for Speaker
O'Neill in 1983, advising him on Social Security, and I think
the reason they were able to reach an agreement in 1983 was
that for a prolonged period of time there were conversations
going on where ideas were thought through and developed where,
after a very, very bruising political battle in 1981, some
trust was built up and there was the exploration of middle
ground. I think that is what we need to do now. I do not think
this is the time for----
Senator Graham. Are we there yet for the middle ground,
like means testing? You know, when I speak about this back
home, I talk about my personal situation. When I was in
college, my Mom died and then 15 months later my Dad died, and
my sister was 13, my family owned a restaurant and a liquor
store, and if it were not for survivor benefits coming into our
family from Social Security, it would have been very difficult
for us to make it. That check mattered. Well, I am 55, no kids,
not married. When my time comes to retire, I could accept less
benefits than those promised. I think a lot of people would
probably do what I just said. Do you think the administration
is open to talking about a means test in some realistic way?
Mr. Lew. Well, I am going to be reluctant to address
positions because I do not think it would be helpful to the
process.
Senator Graham. OK.
Mr. Lew. But I would say this about 1983: The reason there
could be an agreement in 1983 was that there was a provision
that had not been law before which subjected Social Security
benefits to income taxation. That was essentially saying that
if you had other income and it put you in a place where you did
not need the benefit as much, it was subject to taxation. One
side considered it a tax increase. The other side considered it
a benefit cut.
Senator Graham. I understand the idea.
Mr. Lew. It took a lot of work to get to that point.
Senator Graham. Sure. What do we need to do to get to that
point?
Mr. Lew. I think having the kinds of conversations that we
are having, continuing it. There will be----
Senator Graham. Well, we are having a good conversation,
but, you know, every time I put something on the table, you say
we have to talk about--we need to talk about it behind closed
doors. That makes sense. But you had a Commission--get back to
me because I have only got a minute left and tell me where I
need to go and who I need to meet with about finding a way to
save Social Security from what I think is an unacceptable
demise.
Very quickly, to the President, this is the year--there are
a lot of Republicans who understand entitlements have to be put
on the table. We are reluctant to go by ourselves because, you
know, this issue is easily demagogued. So I am just suggesting
to you that there is a moment in time in 2011, before we get
into the 2012 cycle too deeply, to find a way to do something
meaningful on Social Security that would help our long-term
indebtedness. Do not let that opportunity pass.
Now we are going to go to a different issue right quick.
Are you familiar that in 2014 the Panama Canal is going to be
widened and deepened to allow sort of super cargo tankers to
come through the canal?
Mr. Lew. I will confess that I am not familiar with the
current policy on the Panama Canal.
Senator Graham. Well, I understand that, but there is a new
way of shipping goods coming, and harbors on the east coast
have to be deepened to accept these ships. The Charleston
harbor needs $400,000 for the Corps of Engineers to study how
deep the harbor will be. There is no money in the President's
budget for that harbor. Only one million out of a hundred and
something million dollars was spent on east coast harbors in
the President's budget to get these harbors ready for the super
tanker. Could you please study this and get back with me?
Because if we do not deepen the Charleston port, that is the
economic engine for the State of South Carolina and for the
Southeast. These ships are coming. I want to make sure America
is a place for them to dock. So could you get back with me
about a plan to make sure we can service these ships coming
through the Panama Canal?
Mr. Lew. I am happy to look at it, and I do know that in
terms of our general policy, we were very constrained because
of the savings that we were looking for in the discretionary
budget, and there are things that would be good policy and
things we would like to do that we just did not have the
resources to do. So not knowing that particular project, I
suspect we did not put enough money into the category and,
therefore, a good project could not get funded. But I will get
back to you.
Senator Graham. I look forward to working with you.
Mr. Lew. Likewise.
Senator Murray [presiding]. Senator Whitehouse.
Senator Whitehouse. To followup quickly on Senator Graham,
would you mind including me in his report as well? Because we
have the port at Quoset Point and the port of Providence that
are also in a similar situation.
Mr. Lew. Sure.
Senator Whitehouse. On the question of Social Security,
when you were working for Speaker O'Neill back in 1983 on that
compromise, the perils facing Social Security were imminent,
were they not?
Mr. Lew. They were imminent. There was----
Senator Whitehouse. And now Social Security is sound at
least until what year?
Mr. Lew. 2037.
Senator Whitehouse. 2037, OK. I want to shift to the
question of the revenue and tax side, and I want you to imagine
a hospital orderly who is pushing a trolley late at night down
the halls of Rhode Island Hospital and is earning $29,100 a
year, which is the average pay for a hospital orderly in the
Providence area. That person will pay about 16.7 percent of
their income in total Federal taxes. At the same time, the IRS
just reported, based on the most recent information available,
that the 400 top income earners in the United States of America
who earned on average $344 million each that year, more than a
third of a billion dollars each that year, actually paid taxes
to the Federal Government at the rate of 16.6 percent; i.e.,
the hospital orderly pushing the trolley down the halls of the
hospital at 2 in the morning is paying a higher tax rate right
now in this country than the 400 top income earners who are
bringing home a third of a billion dollars a year.
Now, I have nothing against people making a third of a
billion dollars a year. That is America and this is wonderful.
But does it make sense for the hospital orderly to be paying a
higher Federal income tax rate all in than they do?
Mr. Lew. Is that a question you want me to answer?
Senator Whitehouse. Yes.
Mr. Lew. I think you have put your finger on something that
is a real issue, that we have a tax system that is very
lopsided, and the proposals that are in this budget to let the
rate cut for the highest earners, the top bracket, not remain
at the lower level but to revert. The proposal we have to limit
the value of itemized deductions in the top bracket would do
something to kind of rebalance the system.
I do not know what it would do to that specific comparison.
I would have to go and look. But it certainly would affect it.
Senator Whitehouse. And if you look at corporate taxes and
take a sort of long view through history, if you go back to
1935, for every dollar that an American chipped in to fund the
Federal Government, an American corporation chipped in a dollar
to fund the Federal Government. By 1948, for every dollar that
an American chipped in, an American corporation was only
chipping in 50 cents. It was two bucks in individual revenue
for every one dollar in corporate revenue. In 1971, it got to
$3 in individual revenue for every dollar in corporate revenue.
In 1981, it got to $4 in individually paid--regular Americans
paying taxes, revenue, for every $1 that corporations paid. And
in 2009, we hit 6:1. So for every dollar that an American pays
in, a corporation only pays one-sixth of a dollar. Or otherwise
said, for every dollar that an American corporation pays in
revenue to support the Government, American human beings have
to pay $6.
There is a pretty clear trajectory on this. Where do you
think that trajectory should end? And if you could put that in
the context of the $123 billion in corporate tax loopholes that
the Joint Committee on Taxation calculated in the 2010 fiscal
year 2009, I would appreciate it.
Mr. Lew. Senator, this budget does a number of things.
First, it has a number of proposals that would limit certain
corporate deductions, things like in the fossil fuel area that
I mentioned in my opening remarks, some of the provisions with
regard to companies that move jobs overseas. So it would have
an effect on the margin of shifting that balance. I do not know
that it would shift it materially because there are, as I say,
individual proposals.
At the core of what this budget says on corporate taxes is
that we need to do corporate tax reform so that we can be more
competitive and can create jobs in the future. And to us, what
that means is that we have to in a revenue-neutral way--we
cannot increase the imbalance. We have to broaden the base by
reducing the deductions, the special interest provisions, and
lower the rates.
That is something that we think is critical to our economic
future and to our competitiveness, and that is why the
President spoke to it both in the State of the Union and the
budget.
Senator Whitehouse. Thanks, Mr. Lew. My time has expired.
Thank you, Chairman.
Senator Murray. Senator Ensign.
Senator Ensign. Thank you and, Director Lew, thanks for
being here. I, too, want to compliment you for your service in
the past, and we all have a great deal of respect for you and
understand you are working within the constraints of an
administration.
We have talked about this, and many of us have said that
these votes that we are going to take politically are going to
be very, very difficult votes. It is much easier to get re-
elected when you are giving money away, basically. When you are
creating new programs, new initiatives, you go back home and
you tout those. Those are much easier to get re-elected. And I
realize the President is very concerned about his re-election,
as all Presidents going toward a second term are. But this is
not a time in our country where we can afford to worry about
our elections nearly as much as we can the country. And I
actually--this was not a time for, in my opinion, political
cowardice. I believe that this budget misses the mark
dramatically because the ideas, the cuts, there are no
entitlement reforms in this bill, and we are still adding
massive amounts of debt.
You said we are living within our means. Now, let me just
try to ask you, if you were a family--you used the family
credit card as the example. OK? And you said that, well, we
first--and I agree with you. We first have to tear up the
credit cards. But tearing up the credit cards means you are not
increasing spending. OK? You are not increasing spending. Does
this--not as a percentage of the economy, does this bill
increase spending?
Mr. Lew. If I could just use the example again, if you stop
adding to the balance on your credit card, you still add
interest while you are paying it down.
Senator Ensign. That is right. So----
Mr. Lew. The analogy is the same.
Senator Ensign. It is correct, and so we are getting
further in debt because of our interest rates.
Mr. Lew. Yes.
Senator Ensign. Every family knows that. So this bill,
because the spending cuts are not enough, allows the interest
rates to take us further into debt is the point. Is that
correct?
Mr. Lew. I do not disagree with that.
Senator Ensign. OK. I just wanted to make sure because some
of the other stuff to me is double talk because we are still
going further into debt massively.
Mr. Lew. The terminology that we use in Washington of
primary balance is a little confusing, but----
Senator Ensign. Well, it is because I believe it is
dishonest. It is the way politicians, Republicans, Democrats,
for years have talked about things in order to not have to make
the tough votes. It is critical, I believe, because the debt
that we are facing and the interest payments on the debt--the
CBO Director sat there and said it is unsustainable. He has
said Government spending is actually crowding out private
sector investment to create jobs.
The report that the Chairman talked about in his opening
statement, or maybe it was in his questions, he said that when
gross debt equals 90 percent of a country's economy, which is
where we are today, that is a decrease, a net decrease of 1
percent of GDP, which translates into about a million jobs in
America. So we are hurting future prosperity of Americans
because of this overspending that we have, and that is why I
said we are willing to join the President on entitlement
reform. Republicans are standing ready for the President's
leadership. I hope you take that message back to him. We will
make the tough votes. We will take--but we cannot do it alone.
Republicans are in the minority in the U.S. Senate. We need to
join with Democrats to do this. I think the Chairman has shown
leadership on this. But we need desperately White House
leadership, and this budget, this State of the Union address,
did not do it. We have two more chances this year--we have the
CR and we have the debt ceiling--to show Presidential
leadership where we are going to be serious about spending. And
I hope that you will take that message back to the President
that we are willing to join him so that neither side is taking
as much political heat as would normally be taken in a
situation like this, so we can both show the political courage
to do what is right for the country.
Mr. Lew. Senator, if I may, you know, I think that in order
for there to be bipartisan agreement at any point, you need
bicameral and bipartisan participation. I think there are
different kinds of conversations happening in different places,
and that is not unusual that you do not just get to the point
where you have an agreement. You have to work your way to it.
I have to take issue with your characterize of the budget.
I do not agree that it is a budget that has the flaws you
describe.
Senator Ensign. Then answer me this: What percentage of
total spending over the 10 years did you decrease? What
percentage of total spending did you decrease in this budget?
Mr. Lew. I mean, obviously there is a lot of different
categories of spending and----
Senator Ensign. Total spending. Just total spending.
Mr. Lew. The reason I am resisting just accepting the
framing of your question----
Senator Ensign. How about it is less than one penny out of
every dollar?
Mr. Lew. But it is important to unpack what is driving
spending.
Senator Ensign. I asked the CBO Director that question, and
that is what he said. It is less than one penny.
Mr. Lew. But if I may just take 1 minute to answer?
Chairman Conrad [presiding]. Let me just say that the
Senator's time has expired, but you can answer this question,
and then we have to go.
Mr. Lew. Thank you, Mr. Chairman.
The spending that we control on an annual basis is coming
down quite dramatically. The $400 billion that we save in the
non-security discretionary part of the budget would bring
spending in that category down to its lowest level as a
percentage of the economy since the 1950s. There is continuing
growth of spending in programs like Social Security and
Medicare because the baby boom is retiring, people are taking
the benefits that they have paid for, and there is nothing
wrong with that. So spending will go up during this period even
while we are taking action to cut spending that we control. And
I think we just have to be careful to separate those issues.
I do not think that the solution to spending as a
percentage of the economy going down is simply to put an
arbitrary number in there because what that would have the
effect of doing, it would mean that you would say that people
turn 65 or 67 and they cannot get their benefits. And that is
not what anyone means.
Chairman Conrad. Senator Murray.
Senator Murray. Thank you very much, Mr. Chairman, and
thank you, Director Lew, for your experience and credibility on
bringing this budget to us.
I wanted to just mention on the Veterans Affairs funding, I
see that the President has requested an increase of $2.7
billion over the current year, and that appears on my first
review to be sufficient. I did want to say, as Chair of the
Veterans Committee I believe construction money does have to
follow a vision on health care spending. And I am going to be
talking with Secretary Shinseki over the coming few weeks about
the mental health and women veterans' issues and making sure
that some of the cost-saving proposals do not affect the
quality of VA care.
I did want to ask you specifically while you are here a
real immediate concern that I do have on the veterans
caregivers benefits. As you might know, VA's implementation
plan for that bill that we passed here in Congress without one
negative vote was overdue, and once the VA did submit it, it
veered dramatically from the bill that we cleared here in the
House and Senate. Rather than following Congress' intent, the
administration set some overly stringent hurdles that are
really going to deny help to caregivers that we intended that
bill to be for. We are talking about a very small population of
wounded warriors, and I cannot think of any reason why the
administration would err on the side of diminishing that
benefit. And I wanted to ask you while you were here if you
would commit to taking another look at the VA's plan, compare
it to the law that we passed, and remove some of those
unnecessary benefits.
Mr. Lew. Senator, I am familiar in general with the
provision. I have to apologize. In the 8 weeks I have been at
OMB, I have followed this issue some. I know there are
conversations going on now that I frankly have not been able to
participate in because of my work on putting the budget out.
But I will get back into that conversation.
Senator Murray. OK, and I think I said ``benefits.'' I
meant eliminate the barriers. If you could look back at that
and come back to me within 30 days, I would really appreciate
it. There are families out there waiting for this benefit that
passed, and we want to make sure it is implemented accurately.
I did want to ask you about the work force section of your
budget. There are about 14 million people today in this country
that are unemployed. More than 40 percent of them have been
without a job for 6 months. So I am very concerned that the
administration is choosing to cut funding for job training
programs. I was at home recently and talked to a small business
owner who serves on a local work force investment board, and he
was telling me about a recent hire that he did make through a
one-stop career center, and the success of that, particularly
because it was a veteran that he hired through that. And it
just seems to me at this time when we are trying to match
skills and get people with the skills that they need with an
unemployment this high that job training is really a critical
part of our investments. So I wanted to ask you if you can give
us the administration's rationale for cuts when jobs and
economic recovery should be our central focus.
Mr. Lew. Senator, we have had obviously many difficult
decisions to make in this budget to live within the spending
restraints, and one of the things we have done is consolidated
programs in areas where there was duplication. We have looked
to try and fund programs that were high- performing programs,
and this is a case where, you know, we have training and
employment services funded at roughly the level they were at in
2010. It is a little bit higher.
In general, we looked at 2010 as kind of the base because
we do not know what 2011 is with the appropriations still
undecided for the year. So we looked to put together a program
that was overall balanced and investing in the programs that
work and consolidating, and I would be happy to get back to you
with more detail.
Senator Murray. OK. I would appreciate that. I just think
it is really important that we do not leave that out when that
is what is getting people jobs today.
And real quickly in just my last minute, I really wanted to
tell you thank you for the EM budget. I know it is something
you and I have talked about for a long time, and I think the
administration recognizes it has legal obligations when it
comes to that funding. And I really appreciate the effort you
put into that.
I think we still have work to do moving forward. I see that
the administration is committed to modernizing our nuclear
weapons facilities in the coming years. I notice that OMB has
said it will ensure that future allocations to that effort are
going to occur in the required amounts, and that is something
that is unusual for OMB to commit to. So like I have been
saying for a long time, it is exactly where we need to go with
the EM budgets for fundamental legal reasons and because there
is also massive amounts of human and monetary capital wasted
when EM does not have a stable budget. We have to make sure
that those budgets are effectively done right for the long
term. So that is something I am going to keep working with you
on, but I wanted to thank you for your commitment in this
budget.
Mr. Lew. Thank you, Senator.
Chairman Conrad. Senator Toomey.
Senator Toomey. Thank you, Mr. Chairman.
Director Lew, thank you very much for being with us today.
I have to share the concern and disappointment that several of
my colleagues have already expressed about what I see as a real
lack of leadership here, a lack of taking this critical moment
to seize the opportunity. I really think the American people
want us to make the big, tough decisions that assure us that it
will restore a fiscally sustainable path. And I do not think
this budget does that.
By your numbers, the total debt held by the public levels
off somewhere in the mid to high 70s as a percentage of GDP, I
guess around 76 percent or thereabouts. It starts to move up
toward the end of your 10-year outlook. My suspicion is it is
on a trajectory that continues to rise higher after that.
But what really concerns me is I think there is a
significant likelihood that the numbers are actually
considerably worse than what we are looking at here, and three
things come to mind. I want to make sure that I have these
things factually correct, though.
The first is the way you are dealing with the AMT. My
understanding is that for a limited period of time, I think 3
years, the assumption is that the AMT will not capture the new
group of people that it would otherwise capture. There are
offsets to that. But, thereafter, the assumption implicit in
these numbers is that the AMT will not be patched anymore and
that there will be this revenue coming in to the Government as
it goes unfixed in subsequent years. Do I have that right?
Mr. Lew. Not exactly, Senator. What we have done is we have
paid for 3 years of the so-called patch so that the AMT will
not cover middle-class families. We have said we think it
should be paid for permanently. We have not taken the credit
for that, so our deficit projections assume that it is fixed
and not paid for. Were we to pay for it, which is what we would
like to do on a bipartisan basis, it would reduce the deficit
by an additional 1 percent of GDP.
Senator Toomey. OK.
Mr. Lew. So there is a substantial upside if we can do the
right thing on the AMT.
Senator Toomey. If we did. So your numbers assume that no
middle-class family is ever captured by the AMT.
Mr. Lew. It assumes the patch continues, but it is only
paid for for 3 years.
Senator Toomey. OK.
Mr. Lew. We thought it was a bit of a heroic assumption to
assume we paid for it over the whole period.
Senator Toomey. Right. I would agree.
Mr. Lew. We put in the offsets for the first three.
Senator Toomey. Right. With respect to the doc fix, my
understanding is that there is a period of time--I think it is
2 years--for which the assumption is that the doctors would not
experience a draconian cut in reimbursement rates. After that
2-year period, is it implicit in these numbers to assume that
the doctors will, in fact, have that cut?
Mr. Lew. So the doc fix is a little bit different. In the
case of the doc fix, first, Congress last year paid for it. So
we have, unlike the AMT, a first case of Congress saying even
though the budget rules did not require it to be paid for, the
right thing to do was to pay for it, and I applaud the Congress
for doing that. We worked with the committees to make that
happen.
We have now put in $62 billion of specific offsets to pay
for two more years of the doc fix, and what we have said beyond
that is that we need to work together to come up with a
reimbursement system that does not have to be patched from year
to year. And we think that the pattern and practice of paying
for the doc fix last year, delineating specific offsets for the
next 2 years, and working together to reform the reimbursement
system and pay for it, we do not--we assume that it is fixed
going forward.
Senator Toomey. I am not sure I understood your answer,
because the question--my question fundamentally is do these
numbers assume that the doctors take the cut in reimbursements
that is currently projected in law but the Congress has always
postponed.
Mr. Lew. What it assumes is that we fix the system so we do
not have to cut the rates.
Senator Toomey. So does it assume the savings to the
government----
Mr. Lew. Well, it assumes net zero because it assumes we
would work together to fix it and pay for it.
Senator Toomey. Although we have not figured out how we are
going to do that.
Mr. Lew. We now have 3 years to do it if we get this.
Senator Toomey. I think that is quite an assumption to make
given the circumstances.
The other concern that I have is the assumptions that go
into calculating our interest expenses, our projections on
interest expenses. My understanding is, right now, the average
cost of servicing our debt is something less than 3 percent, is
the average weighted cost of our Treasury securities.
Mr. Lew. Right. Our current rates are lower than that----
Senator Toomey. Closer to two, in fact, right?
Mr. Lew. Yes.
Senator Toomey. The average rate that you assume in these
numbers is a little bit higher than that, right?
Mr. Lew. Umm----
Senator Toomey. I think it is on the order of a little over
4 percent.
Mr. Lew. I think so, yes.
Senator Toomey. I think, historically, over the last 20
years, it has averaged closer to 6 percent. My point is----
Mr. Lew. I have to confess, the economic assumptions were
locked while I was awaiting confirmation, so I am not quite as
familiar with them as I otherwise would be.
Senator Toomey. Here is my concern. We are at a time where
we are accumulating an unprecedented amount of debt. We have a
Federal Reserve that is pursuing a policy of unprecedented easy
money. They are creating a staggering amount of money. We have
a huge growth in the money supply. We have a spike in commodity
prices. And it is, I think, extremely optimistic to think that
we are not going to have at least a reversion to the historical
average of interest rates and a distinct risk that it would be
much higher.
I understand you have to pick a number and you have to make
an assumption, but my point is that I think there is a very,
very dangerously high risk that our interest expense ends up
being much, much higher than these numbers.
Mr. Lew. You know, obviously, the economic assumptions are
based on a number of factors. We think they are in the middle
range in terms of being reasonable assumptions. There is one
aspect of our assumptions on the growth side where there is a
conceptual difference, but on the interest rate assumptions, I
think they are in the mainstream, and we can get back to you
with details.
Senator Toomey. Thank you. Thank you, Mr. Chairman.
Chairman Conrad. Senator Stabenow.
Senator Stabenow. Thank you very much, Mr. Chairman.
First, I would followup on my colleagues, Director Lew. I
would just answer, as the person who had the legislation to
completely fix the doc fix, or what has been called the
sustainable growth rate problem, which does not work at all. I
would say I am going to assume, and you can assume, that
doctors are never going to get that cut because I cannot
imagine that happening. So we have to get that fixed, and I
appreciate that you at least put in a 2-year fix going forward.
There are a number of things that I would like to ask. I
will focus on a couple, but first start by saying that I
appreciate the work that has been done. I know that cutting
discretionary spending back to the percentage of GDP under
President Eisenhower is no small thing, and so I appreciate
very much what you are focusing on. It is tough. There are
things that we know we need to do. Every family has to cut
their budget, has to tighten their belt, and we do at the
Federal level, as well, and so we have to start from that
premise but also be smart about it. And so I think those are
the challenges for us, as to what we need to strategically
invest in.
The first point goes to something specific to the Great
Lakes. The President cares about the Great Lakes. I care about
the Great Lakes. We have had a significant investment in Great
Lakes restoration in this budget that is cut. My question is
whether or not you believe that there are the resources
available to protect the Great Lakes from Asian carp coming
into the Great Lakes. This is, as you know, a serious issue
that would undermine our tourism and boating industries and
cost us jobs and would have a tremendous impact, the fact that
these fish are coming up through the Mississippi River and are
dangerously close to the Great Lakes. And so whether it is
Great Lakes restoration or the Army Corps of Engineers, I need
to know that there are sufficient resources available to make
sure that stopping the Asian carp is a top priority for the
administration.
Mr. Lew. Senator, the funding level for the Great Lakes
Initiative obviously is reduced, but it is not eliminated. We
continue with the initiative. I would have to go back and check
on exactly what the status of preventing the carp from swimming
upstream, as it were, is. I am happy to check and get back to
you.
Senator Stabenow. Thank you. Let me turn now to the other
important piece of this and that is the fact that we have a
serious deficit. I was proud in 1997 to cast a vote with many
of my colleagues to balance the budget for the first time in 30
years under President Clinton and very dismayed that we are
right back in a worse position now and we will dig our way out
of it again. We have to.
But we also know that we are never going to get out of
deficit with more than 15 million people out of work.
Mr. Lew. Absolutely.
Senator Stabenow. And so that is why we have to focus on
jobs, as well. Andrew Liveris, who is the CEO of Dow Chemical
Company, based in Michigan, is the author of a new book called
Make It In America, which I would recommend you taking a look
at. In his book, he says, at a time when U.S. companies run by
patriotic people are moving offshore at the fastest rate in
history, we should, at a minimum, recognize that the model we
are relying on is not working. It is time to recognize that if
we do not act soon, if we continue to let markets rule in every
instance, we will become the global economy's biggest bystander
and potentially its biggest drain. Our U.S. companies are
competing with countries that are subsidizing entire
industries. As Mr. Liveris says in his book, we need to get
into the game and play to win.
I believe that the budget makes some important steps in
that direction, focusing on smart investments like clean energy
technology and advanced manufacturing, education, work force
development. So I am wondering, Director Lew, if you could
please explain how the administration analyzed the various
programs in the budget and how you determined which programs to
invest in to strengthen our competitiveness and to create jobs
making things in America.
Mr. Lew. Thank you, Senator. I think if you look at the
investments in this budget, in education, in innovation, in
building our infrastructure, they are all tied to answering
that question. When you talk to CEOs, as I have over the last
months, one of the things they say is they need to get high
school and college graduates who have the skills in science,
math, engineering, technology to do the work. It is becoming
more of a challenge. So that is something that our education
system, we can do that.
Innovation, we know that in innovation, America has been
the leader in the world and it is drive by a great partnership
between Federal funding, government funding of basic science
and innovation in the private sector, adapting it and taking it
to commercial application.
And in terms of infrastructure, we have to have both the
ports and roads that make it possible to be connected to the
world, but also the electronic connections so that we can
communicate and create virtual hubs in any part of our country,
and the budget invests in all those things.
Senator Stabenow. Thank you.
Chairman Conrad. Senator Johnson.
Senator Johnson. Thank you, Mr. Chairman.
Director Lew, nice to meet you.
Mr. Lew. Nice to meet you, Senator.
Senator Johnson. I am hoping you are hearing, at least from
our side of the aisle, that there is a real readiness here to
seriously address these problems, and I guess I agree with my
colleagues that we are not seeing real leadership being
presented by the President here and it is disappointing. So if
the President is willing to show real leadership, I think you
have an awful lot of people on this side that are really
willing to work with him and take the hard votes.
As the new kid on the block here, I might have some nuts
and bolts questions that I would like to ask. First of all----
Mr. Lew. That usually precedes the hardest questions.
Senator Johnson. Oh, I do not think so. These should be
easy.
I am looking at your proposed budget spreadsheet form here
and I am seeing numbers that go from a deficit of $1.645
trillion out to $774 trillion. That adds up to $8.9 trillion
cumulative deficit over that 11-year period. But the gross debt
is growing by $12.9 trillion, or $12.8 trillion. Can you
explain that $3.9 trillion difference to me?
Mr. Lew. Well, the gross debt includes both debt held by
the public and the trust fund debt, so--and from now until
2025, the Social Security Trust Fund will be building up
balances, and then it will only be actually in deficit after
2025. So from now until 2025, we have additional Social
Security balances being built up. I do not know if it explains
the whole amount, because there are other trust funds, but that
is probably the phenomenon.
Senator Johnson. How realistic is that, though, because
have we not for the first time slipped into deficit imbalance
in terms of Social Security payments versus payouts?
Mr. Lew. Social Security is drawing on the trust fund, but
it is not in deficit, no.
Senator Johnson. OK. So again, that 3.9, you are saying, is
probably--most of that would probably be Social Security Trust
Fund.
Mr. Lew. Yes.
Senator Johnson. What is the rationale for even----
Mr. Lew. I can get back to you and check.
Senator Johnson. OK. What is the rationale of even talking
about a primary balance?
Mr. Lew. So primary balance is a term I did not invent, and
I can say after today it is probably not the most artful turn
of phrase. The concept is a sound one. The concept is that we
need to have spending and revenue policies such that our
current obligations, not counting interest, are all paid for.
And then you have your built-up debt and you have to start
paying down your debt. Until you pay down your debt, it still
accrues interest. So primary balance means you are at the point
where the only reason you have a deficit is that your built-up
debt is still earning interest, paying interest.
Senator Johnson. Yes, but you have to pay the interest----
Mr. Lew. You have to pay the interest, yes. Yes.
Senator Johnson. So it seems kind of silly to me to even
talk about it because----
Mr. Lew. Well, it is----
Senator Johnson [continuing]. We are obligated to pay those
interest payments, correct?
Mr. Lew. Yes, but it is a very meaningful--if you think of
a road that we have to be on where our goal is ultimately to
pay down the debt, where ultimately to get to balance and then
surplus, we have to cross through the point of stopping
spending more on real expenses now and being in the place where
we can freeze the principal, and if the interest is
compounding, start to pay it down so it can be reduced.
Senator Johnson. Well, again, we are a long ways from that
because we are----
Mr. Lew. A long ways.
Senator Johnson [continuing]. We are not getting serious
about it.
Let me--in business, when you are putting together a
budget, generally, you kind of look at worst-case scenario. I
mean, you do not put in the most rosy scenario. From my
standpoint, this is maybe not totally rosy, but certainly not
the worst case scenario. I look at three areas of pretty
primary risk here: Interest payment on the debt, the health
care law--I believe you are probably still assuming that that
will actually decrease the deficit, and then just your growth
assumptions. What do you, of those three, which one do you
think is the greatest risk in terms of not actually coming to
fruition?
Mr. Lew. You know, I think with any long-term economic
assumptions, there are risks on both sides. In our budget
documents and in our analytical perspectives volume, we show
the risks, positive or negative. I cannot actually tell you--
none of us know whether we are going to be above or below in a
lot of these areas. We have tried to come in in each of the
cases with middle-of-the-line assumptions.
In the one case that I described before, we have a
conceptual difference and I think ours is right. We believe
that the economy will return to where it was before the
recession. It is just a question of how long it takes to get
there. If you assume the economy will forever be reduced
because of the recession, that will be the first time that we
did not have a full recovery from a recession.
On the others, I would be reluctant to hazard a kind of
higher or lower than risk. We have tried to use middle-of-the-
range assumptions so that they can balance each other out.
Senator Johnson. One quick question. Do you really believe
the health care bill will reduce the deficit? Do you really
believe that?
Mr. Lew. Yes, I do.
Senator Johnson. OK.
Mr. Lew. So does the Congressional Budget Office.
Chairman Conrad. Senator Nelson.
Senator Nelson. Good afternoon.
Chairman Conrad. Oh, I am sorry. Senator Cardin is back.
Senator Cardin is--I apologize, Senator Nelson. Senator Cardin
is back.
Senator Cardin. Thank you, Mr. Chairman. Senator Nelson and
I both serve on the other committee that we were balancing back
and forth, but I promise I will not take very long.
First, Director Lew, I want to ask the question following
up on the confirmation hearings dealing with the Title 17 Loan
Guaranty Program Senator Crapo and I both asked about during
your confirmation hearings and that is the scoring the OMB does
for these loan guarantees. And I will ask that you get back to
me and ask whether you can handle this administratively or
whether legislation is going to be needed in order for us to be
able to move forward with these loan guaranty programs so that
we can advance on the nuclear power front. So would you get
back to me on that?
Mr. Lew. I will get back to you, Senator. I mean, we have
worked--in the brief time I have been back at OMB, we have
worked on all these loan guaranty programs trying to get to a
place where it is more transparent what is going on, and the
responsiveness is clear, and if you have questions, I would be
happy to respond.
Senator Cardin. Well, we believe--it is really causing a
problem, the way that the scoring has been done, and
discriminates against certain States over others based upon
their regulatory structure. That was never our intent. So I
would ask that you would take a look at this again----
Mr. Lew. I will take a look at it.
Senator Cardin [continuing]. So that we can move forward.
Thank you.
I want to sort of get to the overall thoughts.
Unfortunately, your budget is being released at the same time
we are dealing with the Continuing Resolution in the House, and
we will have to deal with that also in the Senate, and there is
a lot of focus right now on discretionary spending because of
the Continuing Resolution that needs to be passed. Now, I think
you have come in with a rather aggressive approach for
discretionary spending. The $400 billion savings, to me, is a
significant part of the overall strategy to bring the deficit
under control. A freeze is a freeze. It is going to cause us to
make some very painful judgments. And we saw in your budget
that you made some painful suggestions. I disagree with some of
those and I am hoping that we can adjust the priorities. But I
think the overall goal that you have set is attainable and can
be done without disruption to our economy and to our programs.
But at the same time, you need to look at the other major
factors, whether it is entitlement spending or the revenue side
and tax reform. It is interesting that your budget extends a
lot of the tax policies, whether it is AMT or the rates for
under $250,000. Do you have a dollar amount associated with how
much the extension of those tax provisions will cost over the
next 10 years so we can try to put this in proper perspective
as to what we are doing with the budget deficit?
Mr. Lew. Senator, do you mean the AMT pay for or----
Senator Cardin. The AMT pay for. You also extend some of
the other tax provisions, particularly for those under $250,000
income----
Mr. Lew. The AMT is $321 billion over 10 years, and the
others, I would have to--I can look them up.
Senator Cardin. But they are substantial.
Mr. Lew. Oh, yes, yes, yes----
Senator Cardin. I mean, they are going to be----
Mr. Lew. They are substantial.
Senator Cardin. We are getting into the trillion dollar
range, if not higher than that.
Mr. Lew. The extension of the middle-class tax cut that is
in the baseline is very substantial----
Senator Cardin. Substantial--trillions.
Mr. Lew [continuing]. And were we to extend the upper-
income tax cut, which we do not, it is very substantial, as
well.
Senator Cardin. I think that was about $700 billion----
Mr. Lew. Seven-hundred-and-nine billion.
Senator Cardin. Yes, if I remember correctly.
Mr. Lew. And the additional cost of the estate tax
provision that was enacted in December for 2 years compared to
the 2009 policy is another $98 billion. We assume that it goes
back to the 2009 policy.
Senator Cardin. And the reason I mention that is that we
are getting into this debate on the discretionary spending
side, and I think the proposal that you brought forward is one
that is going to cause some really difficult choices to be
made, but it is the right policy for us to achieve. But if we
do not achieve that by also reforming our tax code, we are
never going to get to the type of results that are going to be
fair for the American people in balancing the budget but also
balancing our priorities.
And I think that we need to know how much money we are
spending, for example, on tax expenditures. We do not exercise
anywhere near the same discipline on tax expenditures as we do
on discretionary spending. So if we are going to be able to
have a credible plan for the deficit, we cannot just talk about
the discretionary spending side. We really need to get beyond
that.
Mr. Lew. I totally agree, Senator, and the reason that we
have put forward as a way to pay for the Alternative Minimum
Tax, limiting the deductions in the top bracket, is because it
begins to get at that question of tax expenditures and
curtailing how much we are spending on the tax side. It is
obviously not the last word on the subject, but it is an
important step.
Senator Cardin. We need tax reform, and we desperately need
it. We are going to need leadership from the White House and we
are going to need bipartisan leadership here in Congress in
order to be able to achieve that.
Thank you, Mr. Chairman.
Chairman Conrad. Thank you.
Senator Portman.
Senator Portman. Thank you, Mr. Chairman, and Director Lew,
having been in your shoes 4 years ago, I remember this being a
very hectic week. You seem more relaxed than I was at the time,
probably because you have been through it before.
You probably heard some of the commentary from my
colleagues today and from me about this budget. I am very
disappointed because I do not think it rises to the challenge
that you yourself have set out or the President had set out,
and I wish I could say otherwise. By the way, I think there are
some opportunities, and Senator Cardin just talked about one,
and the Chairman has talked about this, as well, which is tax
reform that is not in the budget that would help in terms of
creating the economic growth that enabled us 4 years ago to be
able to propose a balanced budget over 5 years because we had
substantial revenues coming in and a deficit that was roughly
one-ninth of today's deficit.
So at the risk of doing sort of the specific critiques that
used to drive me crazy, let me give you some critiques that I
see in this budget and get your response, because I may be
misreading it. As I look at it, getting into some of the
details, I see about $960 billion in what I would call either
imaginary or unspecified savings, in one case wishful savings,
and we have talked about some of them today, but not all of
them.
The doc fix we have talked about, and Senator Stabenow said
she was pleased to see that you covered the doc fix through
2013, I look at that very differently. I see about $62 billion
in savings, but those are 10-year savings, and actually on an
annual basis over those years it covers only about 8 percent of
the costs for those two fiscal years and I wonder how that is
considered a doc fix. If you look at the $315 billion in
unspecified savings that you have for the doc fix, I am not
sure where that comes from.
You look at the trust fund for transportation, it is called
the Bipartisan Financing for Transportation Trust Fund--I guess
that means Democrats and Republicans are both going to pay
higher taxes--but I am not sure what that means. I have been
told it is a gas tax hike, but that is not what it says in the
budget, and I have been told by others it is not a gas tax
hike, so it seems to me that is unspecified.
And last, of course, the AMT relief. We have talked about
that. I guess you have clarified today for me that it is a
reduction in tax expenditures related to limiting deductions on
high-income individuals. That has always been considered a
dead-on-arrival proposal, as it was last year in the budget, so
I think that may not be imaginary or unspecified but may be
wishful.
If you add all these up, you get to a deficit that would be
higher by about $964 billion, almost $1 trillion. Of course,
that virtually eliminates the, I think, $1.1 trillion savings
that you all are claiming in the budget. So I am just--I am
concerned about the overall budget and the big picture we have
talked about today because it does not address the fundamental
issues. It does increase the debt substantially, doubles it
over the 10-years. But also, even the savings here, I wonder if
you could tell me why you think these are real savings.
Mr. Lew. Senator, I am happy to. You know, I think if you
take these items individually, the offsets that we use to pay
for the 2-years of the so-called doc fix are very real savings.
There is in the program integrity area 16 specific line item
proposal. We have policy behind each of them.
I think the notion of pay-as-you-go rules are that you can
take savings over 10 years and apply them to spending within
the 10-years and that is how we pay for it. So it is consistent
with pay-as-you-go scoring and I think that is a very solid set
of proposals.
Senator Portman. These are Medicare savings over 10 years--
--
Mr. Lew. It is a combination of Medicare, Medicaid, Federal
Employee Health Benefit Program. It is a variety of very
specific policies.
Senator Portman. You pay for the 2-years----
Mr. Lew. I would say that on the surface transportation
bill, we are very clear in the budget that if we can work
together on the policy for the investments, we need to also
work together on the policies of paying for it because we do
not get one without the other. So I do not think that--it does
not increase the deficit. It just increases the risk of whether
or not we can fund the surface transportation priorities. There
are a lot of different ways that one could fund them, and in
the past there has been--it has been an area where there has
been the ability to work together on a bipartisan basis. We may
have disagreements on the priorities. It may not be that the
program is one where we all agree.
Senator Portman. No, I think--let us assume we agree on
that, but there is----
Mr. Lew. The pay-fors will have to follow or we do not get
the investment.
Senator Portman. This is a budget that claims the pay for
and you are just out there that the pay for, we will figure
out.
Mr. Lew. On the AMT, we do not count savings beyond the
provision I have described. And on the doctor fix in the out
years, you know, it is--there is going to need to be a debate
on what to do to resolve this so that we do not have to deal
with it on an annual basis, so we have a reasonable policy on
reimbursement and we do not keep going back to something that
everyone agrees cannot happen. And that is what we are
proposing that we work together to do in this 3-year window
that we pay for.
Senator Portman. Mr. Chairman, I do not know how much time
you are allotting us. It went down to zero and back up to 3
seconds----
Chairman Conrad. No, that means you are 32 seconds over.
[Laughter.]
Senator Portman. OK. All right. Well, I have a number of
other questions. Again, thanks for being with us today,
Director Lew, and I hope we will have a chance for a second
round.
Chairman Conrad. Senator Nelson.
Senator Nelson. Thank you for your public service. Putting
this together has been tough for you. It is a good first step,
but we have a long way to go.
And one of the President's stated goals is to expand the
economy by expanding exports through our trade, and it was
raised earlier and I want to underscore it. With the Panama
Canal being expanded so that it can accommodate the very
largest of the cargo ships coming from Asia so they do not have
to dock in California and then incur the cost of taking the
cargo off and putting it on rail or trucks and sending it to
the East Coast, these large ships are going to be able to come
right through the Panama Canal and come to East Coast ports and
that is going to increase a good bit of activity both coming in
and going out, a lot of economic activity.
But most of the ports on the East Coast cannot receive the
new large cargo ships because you have to get the channels
dredged deeper. There are just about three ports on the East
Coast that can accommodate the deep ships and there are others
that want this, and yet there was no, despite pleas and begging
on my knees for a de minimis new start, which we can match
local and State funds for deepening channels, there are none in
here. So this has already been addressed. I want to add my
comment and you are to get back to us and I would appreciate it
if you would get back to me, as well as to the other Senators
who raised the issue. Thank you.
OK. Now, you go through and you make up a budget. These are
the President's priorities. In the case where there is an
authorization for appropriations, what is the guidance that the
President gives you in following an authorization?
Mr. Lew. Senator, the--in general, the policy is to look at
each program and each department and to look to what the right
policy for the next year is. An authorization in some cases is
going to be the upper limit. In some cases, you propose than
more it. In other cases, you propose lower than it. Senator,
the President's budget often proposes policy. If there is a
specific program that you are asking about, as I suspect there
is, I would be happy to address it.
Senator Nelson. Well, for example, the President signed the
NASA authorization bill last September and yet the budget does
not necessarily follow the authorization bill. I am not talking
about the overall level of funding. I am talking about the
allocation of the dollars within the agency. Do you want to
comment on----
Mr. Lew. Well, I think that, in general, we did try and
fund programs in a manner consistent with the authorization.
There is a general tightness in this budget where we did not
have as much money to allocate as----
Senator Nelson. That is not what I am talking about.
Mr. Lew. I understand, and we have tried to reflect the
policy in the authorization and the budget. If there are
specific areas where we have not, I am happy to discuss them
with you.
Senator Nelson. Yes. For example, in the authorized budget
for the new heavy-lift rocket, you all in fiscal year 2012 have
cut it over a billion dollars. You cannot build a rocket
cutting it a billion dollars. And I am talking about the
capsule, as well. But, on the other hand, when we put this
delicate balance together between the heavy-lift and also the
commercial rockets, which we support, and Senator Cornyn's
colleague from Texas is the one that helped me put this thing
together, the fact is that you all decided, well, the
commercial rockets ought to have more money than was
authorized, and I am just wondering why you are not following
the law.
Mr. Lew. Well, I think the President's budget is an
opportunity to propose funding levels that are consistent with
the policy requirements. We looked at the authorization and
tried to track it. We had lower total funding levels. We saw
there as being real need for the commercial satellite. We tried
to hit the right balance. I understand that that may be
something that we have some different views on and I look
forward to working with you on it.
Senator Nelson. OK. And the law is the law, and the good
news is, Mr. Chairman, the President proposes and the Congress
disposes.
I know my time is up. I am going to submit a question for
the record about the difference in the budget that you assume
the cost of acquiring the takeover of Fannie and Freddie, and
that is much different from the Congressional Budget Office
estimate, and so I will submit that for the record. Thank you,
Mr. Chairman.
Chairman Conrad. Thank you. Thanks for your respecting the
time.
Senator Thune is actually next.
Senator Thune. I see everybody is really happy about that.
[Laughter.]
Chairman Conrad. Let me just say this for colleagues. I am
not going to be able to do a second round. I have to stop at 4.
So we have three left and we are going to have to press ahead.
Senator Sessions. Mr. Chairman, I know you do have a very
serious schedule problem, but I had hoped that we would have a
second round. I do not think we have begun to sufficiently
inquire into this budget at this critical point in time.
Perhaps if you cannot extend it, could you extend the time by
which we could file written questions?
Chairman Conrad. Yes, I would be glad to do that, and I
apologize. Normally, it is my practice here to go as long as
people want to go. Today, I cannot do it, so we have to close
at 4. Obviously, we are not going to quite meet that.
Senator Thune.
Senator Thune. Thank you, Mr. Chairman, and Director Lew,
thank you for being here today. I know that--I do not want to
rehash a lot of the old ground because everybody has been very
critical of the budget proposal, and forgive me if I ask
questions that have been asked already. I have not been in the
room when some of the others have asked.
But it does seem like everybody knows this entitlement
thing is just a time bomb waiting to blow up and that there
would be some proposal, particularly given the fact that there
was a debt commission that made a number of recommendations, at
least on Social Security reform. I understand that the
Medicare-Medicaid aspect of that which is health care
attributable is a more difficult nut to crack. No less, we need
to get after that, as well. But why is there not any attempt to
deal with these long-term problems? I mean, you have a budget
which literally goes from $13 trillion in gross debt, or $14
trillion in gross debt, which is where we are today, to $26.3
trillion in gross debt.
Mr. Lew. Senator--and I apologize if I repeat for others
what I said in response to an earlier question--the Social
Security issue is a very complicated one, but I think it is
important to understand that it is not contributing in the
short run to the deficit problem. And I just want to correct
something I said before, because I may have used a number
incorrectly.
The Social Security Trust Funds will not be exhausted until
2037. You know, they do not--they continue to grow because of
both the balances that have been built up and the interest that
is paid on those balances until 2025. And it is something that
we ought to deal with because it is the right thing to do. We
ought to be able to tell our children and our grandchildren
that they can rely on Social Security just like our parents
could. We need to separate it from the short-term deficit
discussion. I actually think that will be the only way that we
can have the kind of serious bipartisan conversation, because
it is not contributing to the problem in this window.
The President said in the State of the Union that he wants
to work on a bipartisan basis to do it. He laid out some
principles there. Those principles are repeated in the budget.
It is a challenge to have a conversation about Social
Security in a bipartisan way. I have worked on the issue for 30
years. It has always been a challenge. The easiest thing in the
world to do is to polarize the debate over Social Security. The
President has worked very hard to extend a hand to have a
conversation, and I think that is leadership. I think it is
leadership to say we need to have that kind of adult
conversation.
Now, we have to figure out how to do it. I understand that,
you know, there is an impatience to get on with it. But we
ought to look at when the problem really hits. If you have a
problem where the trust fund will be exhausted in 2037 and we
are saying in 2011 that we want to have a conversation about it
now, we think we are taking a pretty long look, and I hope we
can work together on it.
Senator Thune. Well, we are putting IOUs, like we do all
the time, into these trust funds. I mean, it is operating at a
balance with less coming in and more going out. But I guess
that was my point.
Mr. Lew. I would just take issue with the IOU description
because they are Treasury bonds and the Federal Government has
always honored bonds.
Senator Thune. But it is debt. But my point, though, is
this: I understand, OK, so Social Security, let us say that
that is not as big of a factor as perhaps the other two are.
Why would you wait? I mean, the adult conversation occurred
during the Debt Commission. The Debt Commission made
recommendations. The President appointed this debt Commission.
You have all the experts who got together and said this is what
we need to do, and to me, saying we need to have a conversation
somewhere down the road about this, that is not leadership. And
why would you--if Social Security--if your perception is that
it is not a problem until some point in the future, what about
Medicare and Medicaid? I mean, we all know that this is 60
percent, and growing, of the budget all the time.
Mr. Lew. The administration has done quite a lot in the
area of health care in the first 2 years. There may be
different views about the merits of what we have done, but the
Congressional Budget Office agrees with us that we save
hundreds of billions of dollars in the first 10 years and $1
trillion in the second 10 years. In addition to that, in this
budget we have $62 billion of additional savings in health
programs. So we have put quite a lot forward in health
programs.
We are open to new ideas. The President made it clear; he
does not think that we have a monopoly on good ideas. He wants
to work together to move forward in this conversation. But I do
not think it is fair to say that the President has not taken
leadership on health care. He has taken a lot of leadership.
Senator Thune. Well, I think we disagree about that
question, but quickly----
Mr. Lew. We may disagree on the policy. I do not think we
can disagree that he has taken leadership.
Senator Thune. On a technical point, the economic
assumptions about growth that you come up with are at least a
point higher annually than are those that come up--that the CBO
came out with. How do you come that far apart? That is a
significant amount.
Mr. Lew. Our assumptions are in the middle range of the
Federal Reserve Board's analysis. The basic difference between
the Congressional Budget Office assumptions and ours is that we
believe that, consistent with past history, we will recover
from this recession, and as in all financially led recessions,
we will ultimately get back to the level of economic growth
that existed before the recession.
CBO assumes that we will permanently have a loss of
economic capacity. We disagree with that assumption. One can
disagree about the trajectory, and, you know, we may be right
or wrong on how many years it gets there. But we believe
strongly that we will get back to that rate of growth.
Senator Thune. Thank you, Mr. Chairman.
Chairman Conrad. I thank the Senator.
Senator Sanders.
Senator Sanders. Thank you, Mr. Chairman. I apologize for
being late. I was chairing a hearing.
Mr. Lew, the President has proposed in his budget to let
the Bush tax cuts for the wealthiest 2 percent of Americans
expire at the end of 2012.
Mr. Lew. Correct.
Senator Sanders. Now, a few months ago, when the Democrats
controlled the House, when Democrats had a larger majority in
the Senate, the President conceded that point to the
Republicans and extended the tax breaks for 2 years. Why do you
have any belief whatsoever--and maybe my Republican colleagues
would like to chime in on this--that, in fact, these tax breaks
will be terminated when Republicans, who are adamantly for
these tax breaks, are in power in the Senate?
Mr. Lew. Senator, when we worked on the tax bill in
December, the President made it very clear that his position
had not changed, that he believes that these tax rates should
not be extended permanently. In the context of trying to work
together to do something that was very immediate so that we
would have economic growth this year and not have a tax
increase this year, we had a 2-year extension. This is
consistent with the position he took then, and we are going
to----
Senator Sanders. But I asked you a question. Given the
dynamics of politics, when Democrats controlled both bodies, I
do not think any of my Republican friends would disagree, it
ain't going to happen.
Mr. Lew. But I think there were very few who predicted that
the tax agreement would happen, so I think in the area of
predictions, lots of times----
Senator Sanders. Well, many people did not predict that
that tax agreement, which gave hundreds of billions of dollars
in tax breaks to the top 2 percent, would have happened. Many
of us wish it did not happen.
Let us talk about Social Security. When the President ran
for office, he was very clear in saying that Social Security
has been an absolute success for the last 75 years, it is vital
to the well-being of the working people of this country, and
campaigned and saying that he wanted to extend the life of
Social Security and its financial solvency by lifting the cap
on taxable income coming from people who made more than
$250,000 a year. He saw that as the solution. He saw that as
fair. I happen to agree with him. Is that still his position?
Mr. Lew. You know, Senator, I think that what the President
said is that he thinks we ought to work together on a
bipartisan basis----
Senator Sanders. No, I asked you a question. Is that still
his position?
Mr. Lew. I think his position, as he stated it then, that
there is room to raise the cap and that will help extend
solvency remains true.
Senator Sanders. That will extend it. That will solve the
problem.
Mr. Lew. The challenge we are going to have to work
together for a bipartisan solution is going to be to find
something we can all agree on. And I think he has tried to
indicate that it is not necessary to cut benefits for current
retirees or to----
Senator Sanders. For current retirees.
Mr. Lew [continuing]. Benefits in the future. And that is a
framework for a conversation.
Senator Sanders. A framework for a conversation. Let us
stay on that point a little bit. Is the framework for a
conversation cutting benefits for younger workers?
Mr. Lew. I do not want to address hypothetical provisions.
I think that the issue of Social Security is one that ought to
cross party lines. I think we----
Senator Sanders. What position are the Republicans stating
that you feel that we can work with them on?
Mr. Lew. I think that there is going to be a need for us to
look at options where----
Senator Sanders. What options?
Mr. Lew. Senator, it is premature for me to address the
specific----
Senator Sanders. Are we going to cut benefits for workers?
Mr. Lew. The President said clearly that we are not going
to cut benefits for current retirees, and we are not going to
slash benefits for future retirees.
Senator Sanders. ``Slash'' is a big word. What does
``slash'' mean?
Mr. Lew. I am going to stick with the words the President
used.
Senator Sanders. Slash? Or we can cut. You can cut but not
slash. Well, let me ask you this question----
Mr. Lew. Senator, I really----
Senator Sanders [continuing]. About Social Security.
Mr. Lew. I really think I should leave the President's
words to say it.
Senator Sanders. All right. Let me ask this question. Has
Social Security, which is funded by the payroll tax,
contributed one nickel to the deficit of this country?
Mr. Lew. Social Security is fully funded through 2037.
Senator Sanders. Has it contributed one nickel to the
deficit?
Mr. Lew. No, it has actually been helping with----
Senator Sanders. That is right.
Mr. Lew. Yes.
Senator Sanders. If Social Security has not contributed one
nickel to the deficit, why are we looking at it within the
context of deficit reduction?
Mr. Lew. I agree. Senator, I have said four times at this
hearing it should not be looked at in that context.
Senator Sanders. OK. How many years will Social Security
pay out every benefit to every eligible American?
Mr. Lew. If we take no action, the trust fund is exhausted
in 2037.
Senator Sanders. So that is another twenty--and there are
varying opinions, 23, 24 years. Some say longer.
Mr. Lew. These numbers----
Senator Sanders. Some say----
Mr. Lew. When the trustees do new estimates, the numbers
could change.
Senator Sanders. Right. Exactly. At which point it would
pay out about 75 or 80 percent of all benefits. How does----
Mr. Lew. Because current revenue will fund benefits,
correct.
Senator Sanders. Right. How does that issue of paying out
every nickel owed to every eligible American for the next 23,
25 years, whatever it may be, compare to the fact that in real
terms unemployment today in terms of official plus people who
have given up looking for work, people who are working part
time who want to work full time, is at 16 percent? I mean, is
that more of a crisis than worrying----
Mr. Lew. Mr. Chairman, should I----
Chairman Conrad. For you to answer the question----
Mr. Lew. Mr. Chairman, I am looking for direction as to
whether I should go on.
Chairman Conrad. Answer the Senator.
Mr. Lew. Senator, the President has made clear that he
views getting the economy moving and creating jobs is an
immediate priority. This whole budget is built around the
premise that we need to build an economy for today and for the
future to create jobs. We have to be able to handle multiple
challenges, and we are not comparing the immediacy. The fact
that Social Security is important and we should look at it as a
long-term issue, we should not wait until it is on the eve of
crisis, shows a real concern that we have a compact across
generations that we need to keep. It is not a deficit reduction
question, and we have not tried to suggest that it has that
kind of urgency. It does have that importance, though.
Chairman Conrad. Senator Cornyn.
Senator Cornyn. Mr. Lew, assuming the Federal Government
spends $3.7 trillion but only receives $2.2 trillion in
revenue, that leaves an annual deficit of $1.5 trillion,
correct?
Mr. Lew. That would be the arithmetic.
Senator Cornyn. Well, that is about as sophisticated as I
get when it comes to arithmetic, so bear with me. But the
cumulative effect of that annual deficit represents the debt,
which is currently roughly $14 trillion. Isn't that right?
Mr. Lew. Right.
Senator Cornyn. So here is my question, and it is not a
trick question, I assure you. We are talking about cutting
spending--and I agree with my colleagues that I am disappointed
that the President's proposed budget does not do a better job,
and I trust that the House and the Senate will do a better job.
In fact, from 2008 levels this budget represents a 33-percent
increase in discretionary spending, leaving out emergency and
the Department of Defense spending. But, really, I do not want
to talk to you so much about the cuts, in other words, what
that top line should be. I want to talk to you about what do we
do to grow that bottom line, because that is the gap we need to
close, right, both within sensible cuts or limits in Federal
spending but also how do we get the economy growing again to
bring that bottom line up? Would you agree with me?
Mr. Lew. If you look at our projections over the next 10
years, the most important single thing is getting the economy
moving. If we do not get the economy moving, there is no way
for us to make enough policy to close the gap. So----
Senator Cornyn. Thank you. You and I agree----
Mr. Lew. Which is why this budget is built around keeping
the economy moving.
Senator Cornyn. Well, you and I may disagree about that.
Mr. Lew. I thought we might.
Senator Cornyn. You project the unemployment rate or assume
the unemployment rate next year will be 8.6 percent, right? In
other words, it is still going to be stubbornly high. Would you
agree?
Mr. Lew. Yes, the unemployment rate is higher than we want
it to be now, and it remains too high for too long.
Senator Cornyn. And that is because the private sector is
not creating jobs adequate to hire enough people to bring that
number down. Wouldn't you agree?
Mr. Lew. It is because we are recovering from the deepest
recession in a generation, and historically the recovery period
and the job creation after financially led recessions is
longer. So we are on a path, but we are doing everything we can
to push that path harder.
Senator Cornyn. But with all due respect, you are not
answering my question. My question is: The reason why
unemployment rates are high is because the economy is not
growing faster in a way that would create those jobs and bring
unemployment rates down, correct?
Mr. Lew. To be clear, the economy is now in recovery. We
are growing at rates that are, you know, 3 to 4 percent. That
is not good enough. But we see a return to growth rates in this
immediate forecast period that starts to get back on our feet.
Senator Cornyn. Well, I would say that most Americans would
believe that 8.6 percent unemployment next year is unacceptably
high, and we need----
Mr. Lew. And we agree with that.
Senator Cornyn. And we need to find ways to grow the
economy, primarily by encouraging the private sector to invest
and to expand businesses and create jobs.
I want to ask you, how in the world is the private sector
supposed to do that when this budget assumes tax increases of
$1.6 trillion?
Mr. Lew. You know, I think if you look at the tax policies
in this budget, they are consistent with the tax policies that
were in place when we had the longest period of uninterrupted
growth in our Nation's history.
Senator Cornyn. And that is not my question. How is
economic growth consistent with the tax increase of $1.6
trillion? Are you going to say the economy is going to grow in
spite of that anti-stimulus effect of increased taxes or
because of it?
Mr. Lew. The challenge we have is coming out of a deep
recession, dealing with a structural deficit that was caused by
a series of a policy decisions that were made to have tax cuts
and spending increases and not pay for them. We are now paying
that price, and we have to work together to close that gap, and
we have to do it by having everything on the table. We cannot
do it by just cutting, as people said, the 12 percent of the
budget that goes to annual appropriations.
Senator Cornyn. But you are not saying, are you, that a
$1.6 trillion tax increase will stimulate that economic
recovery? Are you saying that?
Mr. Lew. I am saying that we have tax policies in this
budget that are consistent with economic growth. We have tax
incentives to encourage economic growth. We have spending
policies to encourage economic growth. We may disagree on some
of the composition. We do not disagree on the goal, and I hope
we can work together on working through the differences--
Senator Cornyn. I agree we disagree that this budget does
encourage economic growth, and indeed I think it discourages
it. But let me ask you my last question since we have just a
short time together.
You project in this budget that interest on the debt will
over a 10-year period of time total $5.7 trillion. I wonder if
you would comment on a Bloomberg article that reports a
Treasury Department meeting with a 13-member committee of bond
dealers and investors where they say that interest expense on
the debt will rise to 3.1 percent of gross domestic product by
2016 from 1.3 percent in 2010 with the Government forecast to
run cumulative deficits, so forth and so on. My question is: We
are right no seeing relatively low interest rates because the
Fed is trying to help with the recovery. But if interest rates
double or triple, the assumptions that you make on the debt
service, the interest that is paid on that debt could well--
will double and triple along with that, correct?
Mr. Lew. And our economic assumptions do assume an increase
in interest rates over the period consistent with the economic
growth that we forecast.
Chairman Conrad. I thank the Senator.
Senator Enzi.
Senator Enzi. Thank you, Mr. Chairman, and thank you,
Director Lew. I was a strong--I was a cosponsor of the Deficit
Commission, the Conrad-Gregg Deficit Commission, and I voted
for it. And I was pleased that the President picked up the
reins on that and appointed a committee. And I was pleased with
almost everything that they proposed and think that probably
all of them could be passed if they were done in steps rather
than as one lump sum. I think the opposition--but I noticed in
the budget that there are provisions for repealing a bunch of
the oil and gas tax expenditures, and that was a proposal of
the Deficit Commission, but it was in exchange for lowering the
corporate rate so that we could be more competitive
internationally. Instead, we are taking that money and
utilizing it as a pay-for, and we are going to drive up the
cost of energy. Can you explain to me why we are stealing it
from there instead of doing what the Deficit Commission
suggested?
Mr. Lew. Senator, we do have policies in this budget to
undertake corporate tax reforms that will be deficit neutral,
broaden the base, and lower the rates. We also have policies in
the budget that we think make sense on their own, and these
oil, gas, and tax provisions are a part of them. I think that
as we engage in the conversation, we are going to have to work
through these issues together and see if they should be treated
together or apart. But I----
Senator Enzi. If the expenditure has already been made,
then it cannot be used to do the other piece there. I noticed
there was a piece in there about LIFO, too, and I do not think
they realize the impact that that will have on small business
having to put cash up front to pay for the things there, just
as the small oil and gas companies would have to put cash up
front to do what has been proposed in this.
When I talked to the Commission, primarily the two co-
chairs, I suggested that any of these provisions were done had
to be done over a period of time for the businesses to be able
to adjust. The cash up front is not available for anybody right
now. So it looks like it would put a lot of people out of
business and raise prices. So we will be getting a little more
information on that, too.
I have a whole series of questions. I will not ask them
all. I do want to mention that in 2006 we reauthorized the
Abandoned Mine Land Trust Fund. That was done over a point of
order because it was mandatory spending. That is a trust fund
like the Social Security Trust Fund. If we default on that
debt, I think we are saying something about how valuable our
trust funds are.
One of the things that we passed just recently was a Form
1099 reporting under health care, and that covered both the
$600 in a calendar year for corporations and for property. And
I noticed in the budget that you only did the part that applied
to corporations. Why is the administration rejecting the Senate
amendment and offering a proposal--and it is an amendment that
has come up before and had very substantial support--offering a
proposal that only gets half the job done?
Mr. Lew. Senator, we support addressing the 1099 provision
and look forward to working together on that. This budget was
put together before the Senate provision that recently was
passed, and I would have to go back and study the two to
understand the difference.
Senator Enzi. Well, the President in his State of the Union
speech even promised that the 1099 would be gone, but only half
of it is going to be gone. I appreciate the question that
Senator Wyden asked about the effect the budget is going to
have on the 750,000 small businesses. And I know we are in a
hurry, so I will submit the rest of my in written form.
Chairman Conrad. I thank the Senator for his courtesy.
Senator Merkley.
Senator Merkley. Thank you, Mr. Chair, and thank you for
your testimony. And I wanted to start with the county payments,
and I know from the conversations that we have had and other
Senators have had with you that you understand the basic
framework in which BLM lands were set aside to produce timber
and to produce revenues for the counties. The Federal
Government has come along and said, well, we are going to put
some restrictions on this, but we will compensate for those
restrictions. And now the Federal Government has come along and
said, well, maybe we will not compensate you for those
restrictions.
I do want to applaud the fact that you have this in your
budget for 2012. We are still trying to understand exactly what
that number is. There is a little bit of a cryptic nature to
it. But it also appears that it has been moved from the
mandatory funding into the discretionary funding, which is an
item of tremendous concern. It has always been a mandatory
funding because it was a contract between the Federal
Government and the timber counties. And so I just wanted to ask
that question of you and try to get some sense of whether we
are reading this correctly, that it has been moved to
discretionary, and if so, why.
Mr. Lew. Senator, we did fund it on the discretionary side,
but we also indicated an openness to working with Congress to
resolve the matter in the course of the legislative process and
did not take a firm position that it had to be discretionary
versus mandatory. We thought that fitting it within the tight
caps, given the pressures, saving $400 billion over 10 years,
was a way to make a real commitment to the funding request. And
we look forward to working with you and Senator Wyden and
others as we go forward.
Senator Merkley. Thank you. Then for now I will just
register that that is of significant concern because it
suggests that it is not being viewed as a contract as it has
been in the past. And, of course, we are calling upon the
Federal Government to honor its contract with the counties.
I wanted to turn to the President's support for renewable
energy and energy efficiency and clean energy technology in the
budget request, and there are several pieces in there I am
delighted to see. One of them is related to the funding of low-
cost loans for energy renovations. Another is related to
electric vehicles. And I am coming at this from the point of
view of trying to think of our economy the way you would think
about positioning a company. And if we are in a world where we
are importing $1 billion a day of oil and sending that money
overseas, there are national security issues associated with
that. There is certainly the fact that those dollars do not
stay in our grocery stores and our retail outlets and create
additional jobs for Americans. And then there is the fact that
as we substitute for oil, we can also produce less carbon
dioxide and read some of our goals for addressing global
warming.
So I would like to see all of that, and I just want to know
if you know of any potential barriers, either in budgeting or
in procurement procedures, that would be problematic as we
attempt to undertake one piece of that, which is electrifying
the Government fleets.
Mr. Lew. Senator, we have put in a broad range of proposals
from research and development to incentives for
commercialization to try and get the United States into the
leadership position we should be in, both in terms of
developing and producing these technologies and in using them.
I am happy to take a look at the provisions regarding the
Government fleet. That is not a provision I off the top of my
head remember the details of, but I am happy to get back to
you.
Senator Merkley. Well, I have really come to this point of
view of applauding the administration of taking this seriously.
We have had administrations in the past that have talked about
attacking our dependence on foreign oil and our addiction to
oil in general. And we have not been able to follow through
with coherent American policies to end this. I think we can
simply look at the turmoil of these last few weeks in the
Middle East and recognize that not only are we sending a ton of
money to governments abroad, but many of those governments are
governments that do not always share our national interests and
end up funneling some of that money into groups that we are
actually in opposition to around the world.
So for a whole host of reasons----
Mr. Lew. We win in three ways if we succeed in this policy.
Senator Merkley. Absolutely.
Mr. Lew. We reduce our dependence on foreign oil, we create
American jobs, and we have environmental benefits. That is why
we think it is so important to do it.
Senator Merkley. And thank you so much for your effort in
the budget to take on that area.
In the 6 seconds I have left, community development block
grants, I just want to express a lot of concern about the cuts
that are there. Many of these benefit low-income people through
affordable housing projects and many other projects within
communities. We are still facing a situation with 300,000
foreclosure filings a month across America, and I look forward
to working with you all to make sure that we do not balance
this budget on the backs of those who are struggling in their
community and are hardest hit by this recession, which was
caused by the deregulatory policies of the Bush administration,
with predatory lending and runaway Wall Street gambling, and we
should not solve this problem by further kicking those who have
been hurt by this economy.
Chairman Conrad. That will have to be the last word. Let me
just thank Director Lew. I thank all colleagues. Because of the
inability to get to a second round given the number of
colleagues who participated today, instead of closing out
questions at the end of today, we will extend that until noon
tomorrow, give colleagues a chance----
Senator Sessions. How about all day tomorrow, Mr. Chairman?
Chairman Conrad. Would you prefer that we do it until the
end of tomorrow?
Senator Sessions. Yes, if you would, at least.
Chairman Conrad. All right. We will do that. So, Director
Lew, I would ask you to take up those questions expeditiously.
Mr. Lew. I would be happy to.
Chairman Conrad. Senator Sessions.
Senator Sessions. Briefly, Mr. Lew, I want to stress again
my displeasure with your statement that our budget will get us
over the next several years to the point where we can look the
American people in the eye and say we are not adding to the
debt anymore, we are spending money we have each year, and then
we can work on bringing down the national debt. I believe that
is inaccurate. I believe any American that heard that would
believe that this budget balances. It does not come close to do
so. And this chart up here, I know it is on this primary
balance theory that does not count the interest, but under your
plan, the President's plan, at the end of your 10-year budget
the interest will be $844 billion in 1 year, dwarfing all of
these other agencies and departments and expenditures--
something which we have never seen before in our country, and
it threatens our debt structure and our economy.
Mr. Lew. Senator, I do not disagree that we have to take on
the debt and we have to pay down the debt and reduce the
interest payments. The only thing I take issue with----
Senator Sessions. Does this budget do it?
Mr. Lew. I think we get to the point where we----
Senator Sessions. Does it do it?
Mr. Lew. It gets us to the point where we stop adding to
the problem with our new spending, and that is----
Senator Sessions. The debt goes up every year, and the
deficit is--the debt has increased--doubled over this period.
Mr. Lew. I just think that if we are going to have the kind
of conversation we need to have to resolve this, we have to
have it in a way where we respect each other, and I respect
your position, Senator.
Senator Sessions. Well, I cannot respect a position that
suggests this budget reduces the debt. If you take that
position, we are talking beyond each other. The Wall Street
Journal said about this budget----
Mr. Lew. I said we stop adding to the----
Senator Sessions [continuing]. That it is as detached from
reality as----
Mr. Lew. No, we stop adding to the debt----
Senator Sessions. --Mr. Mubarak.
Mr. Lew [continuing]. With our new spending. We do have
interest payments. We have to control those interest payments
in the future. This is a downpayment. We have to finish the
job.
Senator Sessions. Forgive me, Mr. Chairman, but this is a--
I do not think it is a matter of opinion. I believe, Mr. Lew,
it is flatly in error, and it cannot continue. And I hope the
President and he never repeats that this budget balances at any
point in the 10 years.
Chairman Conrad. Director Lew, do you want to respond?
Mr. Lew. No, I mean, I really do not mean to be
argumentative about this. I think there is a very complicated
idea here that we are trying to work through together. You
know, in order for us to get to the point of reducing the debt,
there are several things that have to happen. We have to have
taxes and revenues that cover our current spending, and then we
lock in an amount of the debt that will continue to have
interest. That interest compounds until we pay down the debt.
We have to then reduce the principal of the debt so the
interest stops compounding. I think we agree on that in
principle, and if the language of Federal budgeting is
confusing, I apologize for that. I did not invent the language.
And I would like- -I really would like to work together,
because I do not disagree with you in the core principle that
we have not solved the problem until we have really brought
down the debt. And I think what we have put on the table is a
huge step to put us in a place where we have the kind of
stability to then go forward and take the next step.
Chairman Conrad. Let me just conclude on my own. Senator
Sessions has expressed himself clearly. Let me express myself
clearly. I believe in the near term this budget has it about
right. I believe as passionately as Senator Sessions does that
for the long term we are going to have to do a whole lot more.
I do not believe it will happen next year in an election year.
I personally believe we have to have a long-term plan agreed to
this year. I believe it has to be on the range of what the
Commission proposed, which is $4 trillion of debt reduction
over the 10 years. The administration's description of its plan
is $1 trillion. We will see what CBO says when they do a re-
estimate.
But, honestly, we have a responsibility to this country
that is sober and somber and serious, and I believe history
will condemn us all. I believe history will condemn us all if
we do not do substantially more for the decade than is in this
budget. I believe it fundamentally puts at risk the economic
security of the country. And I believe that. I believe the
evidence is quite strong that the risks that are being run are
unacceptable risks.
So I give you good grades for a beginning. Somehow--
somehow--we have to find a way--and the administration has a
big responsibility here--to help us understand their vision of
how this process comes together. And, you know, we do not have
a whole lot more time. Sometime very soon there is going to
have to be a negotiation that involves the leadership of the
House and the Senate, Republicans and Democrats, and the White
House. And, honestly, I think the seriousness of this to the
country cannot be overstated.
With that, we will adjourn the hearing.
[Whereupon, at 4:22 p.m., the Committee was adjourned.]
THE PRESIDENT'S FISCAL YEAR 2012 BUDGET AND REVENUE PROPOSALS
----------
THURSDAY, FEBRUARY 17, 2011
U.S. Senate,
Committee on the Budget,
Washington, DC.
The Committee met, pursuant to notice, at 10:02 a.m., in
room SD-608, Dirksen Senate Office Building, Hon. Kent Conrad,
Chairman of the Committee, presiding.
Present: Senators Conrad, Cardin, Sanders, Whitehouse,
Begich, Coons, Sessions, Ensign, Cornyn, Thune, Portman,
Toomey, and Johnson.
Staff present: Mary Ann Naylor, Majority Staff Director;
and Marcus Peacock, Minority Staff Director.
OPENING STATEMENT OF CHAIRMAN CONRAD
Chairman Conrad. The hearing will come to order.
I want to welcome everyone to the Senate Budget Committee
today. Today we will focus on the President's budget and
revenue proposals. Our witness today is Treasury Secretary Tim
Geithner.
Mr. Secretary, welcome back to the Committee. We look
forward to your testimony. We also value your wise counsel as
we have come through some of the most difficult times in our
economic history. I believe history will record the steps that
were taken at the end of the Bush administration and the
initial days of the Obama administration were absolutely
critical to averting a financial collapse. I believe that
history will make that clear. And I believe you played a hugely
constructive role, as did Secretary Paulson at the end of the
Bush administration.
I believe the President's budget gets it about right. In
the first year or 18 months, even as it moves to cut spending,
it continues critical investments in the areas of education,
energy, and infrastructure. These near-term investments will
help strengthen economic recovery and lay the foundation for
long-term economic growth.
I was raised by my grandparents, and my grandmother was a
school teacher. We called her ``Little Chief.'' She was 5 feet
tall, but she commanded respect. And in our family, she told us
over and over, ``There are three priorities in this household:
No. 1 is education, No. 2 is education, No. 3 is education.''
And she meant it and we got the message. So I know that she
would feel very strongly that education has to be the
cornerstone for future economic growth.
But I do take issue with the President's budget in the
medium and long term where I believe we simply have to do more
to address our deficits and debt. According to the
administration's estimates, the budget brings the deficit down
from 10.9 percent of GDP to 3.1 percent by the end of the 10-
year budget window. So that is the good news of this budget, as
I see it.
The President's budget does make substantial progress in
bringing down the deficit as a share of the gross domestic
product, which most economists say is the most valid measure.
So a very substantial improvement in our deficit path by that
measure.
Let us go to the next, if we can.
If we are looking at dollar terms, the changes to the gross
Federal debt under the President's budget goes from $15.5
trillion to more than $26 trillion at the end of the 10 years.
So over 10 years, we are averaging an increase in the gross
debt of $1 trillion a year. That to me cannot be the path.
If we look at gross debt as a share of the economy under
the budget, we can see it reaches 100 percent and continues
rising slightly throughout the remaining budget window. Why is
this important, that the debt is now--the gross debt, I want to
emphasize, the gross debt, not the publicly held debt that you
often see in the newspaper. The gross debt, taking all of the
debt of the United States, is over 100 percent of GDP. Why does
that matter?
Well, it matters because the best analysis that has been
done of financial history, work done by the economists Carmen
Reinhart and Kenneth Rogoff, found this: We examine the
experience of 44 countries spanning up to two centuries of data
on central government debt, inflation, and growth. Our main
finding is that across both advanced countries and emerging
markets, high debt-to-GDP levels--gross debt above 90 percent--
are associated with notably lower growth outcomes for the
future. That is why this matters. A debt that is too high acts
like an anchor on the economy, reduces future economic growth,
reduces opportunity for the American people, reduces job
prospects for those seeking employment.
So these debt figures are more than numbers on a page. This
matters to real people and their lives. It matters to the thing
I think everyone around this table cares the most about, which
is future economic opportunity for the people of our Nation.
Make no mistake. We are at a critical juncture. We are
borrowing 40 cents of every dollar that we spend. Let me repeat
that. We are--you know, this is reality. We are borrowing 40
cents of every dollar that we spend. Spending is at its highest
level in 60 years as a share of the economy. Revenue is at its
lowest level as a share of the economy in 60 years. Revenue the
lowest it has been in 60 years, spending the highest it has
been in 60 years. No wonder we have record deficits.
This has to be addressed, I believe, on both side of the
equation. Yes, we have to cut spending. Yes, we have to reform
entitlements. But, yes, we also need tax reform to help reduce
the deficit and make America more competitive. We need to be
realistic about what is necessary to meet the needs of the
Nation and return the budget to a sustainable long-term fiscal
trajectory.
Looking at revenues in isolation has led some to argue that
revenue should be held to the historical level of 18 percent of
GDP. That has been the level over the last 40 years. Let me
point out revenue at that level would not have produced a
single balanced budget in a single year in all of those 40
years. In fact, on the five occasions when the budget has been
balanced or in surplus since 1969, revenues have ranged between
19. 5 percent of GDP and 20.6 percent of GDP. So I would just
say to those who say, you know, revenue, no more than 18
percent of GDP, we would not have balanced the budget ever in
the last 40 years--not one time.
The five times we have balanced, revenue has been from 19.5
percent to 20.6 percent of GDP. I would argue it is going to
have to be at the high end of that range given the retirement
of the baby-boom generation.
Fundamental tax reform must be a part of the approach to
addressing our fiscal problems. The current state of the Tax
Code is simply indefensible. As a former State tax commissioner
and chairman of the multi-state tax commission, I am acutely
aware of what has happened to the Tax Code, and it is a Chinese
riddle. You know, you have to be a contortionist to deal with
this Tax Code. It is out date, this Tax Code. It is hurting
U.S. competitiveness. It is hemorrhaging revenue. The tax gap,
offshore tax havens, abusive shelters undermine the
effectiveness of the Tax Code and cost confidence in the
fairness of it.
This Tax Code is riddled with expiring provisions. This
creates enormous uncertainty for citizens and businesses,
making it difficult for them to plan ahead. If we took steps to
simplify and reform the Tax Code, we could reduce tax rates
below where they are today and produce more revenue. Tax
expenditures are running at over $1.1 trillion a year. That is
as much as all of domestic discretionary spending.
Although the President's budget called on Congress to work
with the administration to begin the process of tax reform, it
did not include any significant tax reform recommendations. I
believe the only way we are going to solve the Nation's long-
term fiscal imbalance is by enacting a comprehensive debt
reduction plan. We need a plan in size and scope of what was
proposed by the President's Fiscal Commission.
Here are the key elements of tax reform that were included
in the Commission's plan. It eliminated or scaled back tax
expenditures and lowered tax rates to promote economic growth
and dramatically improve America's global competitiveness,
which needs to be a goal. We are in a different world. When
this Tax Code was written, we did not have to worry about the
competitive position of the United States. We were dominant.
Now we are in a tough, competitive global environment, and we
have to be competitive.
The Commission proposal makes the Tax Code more
progressive. I was proud that we made the Tax Code more
progressive. The Commission's report included an illustrative
tax reform plan that demonstrates how eliminating or scaling
back tax expenditures can lower rates. Instead of six brackets
for individuals, the plan includes just three: 12 percent, 22
percent, and 28 percent. The corporate rate would be reduced
from 35 to 28. Capital gains and dividends would be taxed as
ordinary income. The mortgage interest and charitable
deductions would be reformed, better targeting those benefits
to people that actually need them. The child tax credit and
earned income tax credit would be preserved to help working
families, and the alternative minimum tax would be repealed.
The Commission's plan also increased revenue to 21 percent of
GDP by 2022. That is the kind of tax reform I believe that we
need to adopt.
Let me just conclude on that point. I have gone longer than
I would normally, but I do think that it was important to lay
out some of the elements of what the Commission said and what I
strongly believe. I will be quick to say there are many things
that I disliked intensely about the Commission's report. I
remember one of my colleagues called me the night before we
were to vote and said to me, ``What are you going to do?'' I
said, ``I tell you, the only thing worse than being for this is
being against it.'' And, you know, at the end of the day here,
we are going to have to put together a package nobody is going
to like. It is going to be controversial. Nobody is going to be
happy. But it has to be done. It has to be done.
Senator Sessions.
OPENING STATEMENT OF SENATOR SESSIONS
Senator Sessions. Mr. Chairman, thank you once again for
your wise comments, your warnings to us. I think they
absolutely should be heard, and the most important thing I
think cannot be overemphasized is that we are not here fighting
over spending and other issues and sacrifices that would have
to be made for academic or political reasons, but because of
the reasons you stated, our economy is in danger as a result of
the path we are on.
Thank you, Secretary Geithner, for appearing before us in
the Committee today and discussing the budget. I know you did
face a serious challenge after our financial crisis, but it
would have been better if Mr. Paulson and Mr. Bernanke and the
Chairman of the New York Fed had seen it coming before the
financial crisis hit, and maybe we could have avoided it. And
so now we have some suggestions that we could be heading to
another one, and we need to take steps now to avoid it.
It is clear that the plan submitted by the President does
not seriously address the Nation's growing fiscal crisis. Here,
Mr. Geithner, is how you described our fiscal situation earlier
this week, correctly: ``Our deficits are too high. They are
unsustainable and, left unaddressed, these deficits will hurt
economic growth and make us weaker as a Nation.'' Admiral
Mullen said it is the greatest threat to our national security.
But the President's budget does not confront this danger.
In fact, the President's budget continues the unsustainable
course. The plan creates 10 straight years of deficits that
never once fall below $600 billion and adds $13 trillion, at
least from 2010, overall to our gross debt. Under the
President's plan, interest alone on the debt will rise to $844
billion in 1 year, more than we pay for Medicare or Medicaid.
It is almost unthinkable that the President would put this
budget before Congress and the American people as a long-term
plan for our Nation. But to hear his supporters and certain
administration officials describe the budget, you would think
they had achieved balance and brought the debt crisis, the
deficit crisis to an end.
Here is what the President's Director of Budget Jack Lew
said over the weekend: ``Our budget will get us over the next
several years to the point where we can look the American
people in the eye and say we are not adding to the debt
anymore. We are spending money that we have each year, and that
we can work on bringing down the national debt.''
And here is what President Obama said just 2 days ago:
``What my budget does is to put forward some tough choices,
some significant spending cuts, so that by the middle of this
decade our annual spending will match our annual revenues. We
will not be adding more to the national debt.''
Clearly, these statements, as heard by the American people,
are incorrect, false. Yet, remarkably, the President's new
press secretary, Jay Carney, was asked about the President's
claim yesterday whether it would withstand scrutiny, and he
said, ``Absolutely.''
In what fantasy world do we double our gross debt to $26
trillion and then say we are not adding to the debt? This is a
serious matter, and to tackle our fiscal challenges, we need to
work together and the President needs to lead the Nation in an
honest conversation.
But we have not seen from our President the willingness to
look the American people in the eye and have a candid
conversation about the challenges and what we will have to do
to solve them. The message seems to be there is no problem; we
have it taken care of; we are going to be living within our
means under this budget.
So I do think the President is taking a risk here with his
credibility. During the same press conference, he complained
about the--he expressed a desire to work with Republicans
toward meaningful reforms. I do hope that can be accomplished.
But I have to note it was kind of a mixed message when a couple
of hours later he threatened to veto if Republicans took steps
to reduce current spending by $59 billion, which is $100
billion less than his proposal for spending in that year.
So let us remember, those arguing that we cannot reduce
spending are the same ones who argued 2 years ago that the
massive stimulus plan would speed our economic recovery. I
believe they were wrong. Our recovery has lagged behind past
recessions. Unemployment has remained painfully high. The
failed effort to revive the economy through a surge in
Government spending has instead imperiled our economy with a
crushing debt that stifles job growth today, as economists have
shown, and threatens our prosperity tomorrow.
So, Mr. Geithner, you will forgive me if I am unconvinced
that arguments that are being made that we must preserve every
cent of this year's $1.65 trillion deficit is critical and we
cannot change the course we are on. So we need to stop growing
the Government and start growing the economy. That means
reducing spending now. The situation is too urgent and the need
for a new direction too great for us to delay action any
longer. Significant reductions in spending may not be easy, but
the reason they are not easy is because we have been heading in
the wrong direction for so long. So, yes, we will have to make
some tough choices, but they will put us on the right road, the
road that leads to a better future.
And, Mr. Chairman, we absolutely need to reform taxes.
Thank you for raising that point. But I do want to emphasize
that historically periods of frugality have helped us achieve a
balanced budget also.
Chairman Conrad. I thank the Senator.
Now we will turn to our witness. Secretary Geithner, thank
you for your patience in listening to us. Thank you for your
service. I have had a chance to work with you, and I have high
confidence in you. And I know we are at really a defining
moment in many ways for the fiscal future of the country. So
please proceed with your testimony.
STATEMENT OF THE HONORABLE TIMOTHY F. GEITHNER, SECRETARY, U.S.
DEPARTMENT OF THE TREASURY
Secretary Geithner. Thank you, Mr. Chairman, Ranking Member
Sessions, and members of the Committee. Thanks for giving me a
chance to come talk to you about these important questions, and
I want to compliment both of you for running a very high
quality debate, conversation, discussion of options on this
critical issue.
The President's budget presents a comprehensive strategy to
strengthen economic growth and to expand exports, with
investments in education and innovation and infrastructure. And
alongside these investments, the budget presents a
comprehensive, detailed multi-year plan to cut spending and
reduce deficits.
As you quoted me saying, Senator Sessions, our deficits are
too high. They are unsustainable; left unaddressed, they will
hurt economic growth and weaken us as a Nation. We share a
critical obligation to restore fiscal sustainability, fiscal
responsibility, and go back to living within our means as a
country.
Now, the President's budget cuts the deficit he inherited
in half as a share of GDP by the end of his first term. These
cuts are phased in over time in order to protect the recovery,
the expansion. And in order to make it possible for us to
invest in future growth and to reduce future deficits, the
President proposes to reduce non-security discretionary
spending to its lowest level as a share of the economy since
Dwight Eisenhower was President.
To achieve this, as you know, the budget proposes a 5-year
freeze of non-security discretionary spending at its 2010
nominal level, which will reduce the deficit by more than $400
billion over the next 10 years. But the President also proposes
to cut defense spending, to freeze civil service salaries, and
to improve efficiency in Government by eliminating and reducing
a very substantial number of Government programs.
These savings create the necessary room for us to make
targeted investments in support of reforms that will help
strengthen future growth. The most important things we can do
for future growth are to improve the quality of our education
system, to invest in innovation, and to rebuild America's
infrastructure. Without these investments, America will be
weaker and less competitive.
Now, as part of this strategy for growth, the President
proposes reforms to our tax system that are designed to
encourage investment. We proposed to put in place a permanent
and expanded tax credit for research and development; to
eliminate capital gains taxes on small businesses; to encourage
advanced manufacturing in clean energy technologies; to keep
taxes on investment income, dividends, and capital gains low;
to reform and extend the Build America Bonds program; to make
college more affordable for middle-class Americans.
Now, these tax incentives are accompanied by reforms that
would reduce incentives to shift income and investment outside
of the United States and to close loopholes and tax preferences
that we cannot afford.
Now, in addition, we propose to pursue comprehensive
corporate tax reform that would lower the corporate tax rate.
Our present system, as you all know, combined a very high
statutory rate with a very broad range of expensive tax
preferences for specific industries and activities. We need a
more competitive tax system for businesses that allows the
market, not tax lobbyists and tax planners, to allocate
investment, a system which businesses across industries pay a
roughly similar share of earnings in taxes, a system that
provides more stability and certainty and is more simple to
comply with. And we need to do this without adding to our
future deficits.
Now, we have begun the process of trying to build support
for a comprehensive corporate tax reform plan, and I hope we
have the chance, the opportunity to move forward on that soon.
The President's budget also outlines some responsible
reforms on the individual side. We propose, as we have in the
past, to allow the 2001 and 2003 tax cuts for the wealthiest 2
percent of Americans to expire on schedule; to limit certain
deductions for those same high-income Americans; to restore the
estate tax levels and exemptions to 2009 levels; and to close
the carried interest loophole. These proposals--and I want to
emphasize this. These proposals are designed to help ensure
that the savings we achieve together in reducing spending are
devoted to deficit reduction, not to sustaining lower tax rates
for the most fortunate 2 percent of Americans.
Now, this budget would achieve the dramatic reductions in
our deficits over the next decade that are necessary, that are
essential to stop the national debt from growing as a share of
the economy and to stabilize the debt burden as a share of the
economy at a level that will not threaten future economic
growth.
Could I just pause there for a minute to make the following
point clear? When CBO scores these proposals in the next few
weeks, they will show higher deficits than we project. And,
therefore, they will show deficits that are unsustainable over
time. They will show debt rising as a share of the economy even
in these next 10 years.
Now, we recognize, as you do, that these reforms, even if
enacted, would represent only a first step, only a downpayment
on the longer-term reforms that are necessary to address our
long-term deficits. To address the deficits we face beyond the
next decade, over the next century, we have to build on the
progress we achieve in the Affordable Care Act to substantially
reduce the rate of growth in the costs of entitlement programs,
health care costs. And although Social Security is not a
contributor to our short- or medium-run deficits, we have to
work together across the aisle to try to strengthen Social
Security for future generations.
Now, it is very important to understand that we cannot grow
our way out of these deficits. They will not go away on their
own. They will not be solved by cutting deeply into programs
that are critical to future growth and competitiveness. And we
have to find consensus on a multi- year plan that cuts where we
can so that we invest where we need to and that reduces
deficits over time. Making a multi-year commitment will allow
us to make sure that these changes are phased in as the
expansion continues, as the economy recovers from the crisis,
and making a multi-year commitment will give businesses and
individuals the chance to plan to adjust, to prepare for the
impact of those changes on the economy over time.
Now, these proposals, as I said, represent a starting point
for the discussion. We recognize that there are different
ideas, different proposals from both sides of the aisle for how
to achieve the necessary reduction in our deficits. And we
know, as you know, that we need both parties and both Houses of
Congress to come together to enact solutions.
Now, in December of last year, we were able to find
bipartisan consensus on a very strong--not perfect in
everybody's views, but very strong package of tax incentives to
help sustain the recovery and restore confidence. We have to
bring that same spirit of compromise, of bipartisanship to the
challenge of fiscal responsibility.
Thank you.
[The prepared statement of Secretary Geithner follows:]
Chairman Conrad. Thank you very much for your testimony.
Let me go to the--not that one, but that. This to me is
kind of the nub of the issue. It is true that the President's
budget is stabilizing the debt, that is, that you are bringing
down the deficits in a way that the debt as a share of the
gross domestic product does not continue to increase.
The problem that I see is that it is stabilized at a level
that is too high, that it is stabilized at a level of gross
debt of over 100 percent of GDP.
I go back to the Reinhart-Rogoff study. Two hundred years
of financial history, 44 countries, their conclusion: When you
have a gross debt of over 90 percent of GDP, future economic
growth is diminished, and pretty significantly.
Have you assessed the Reinhart-Rogoff study? Do you agree
with it? Do you think that they are correct in terms of high
levels of debt affecting economic growth adversely?
Secretary Geithner. Absolutely. It is an excellent study,
and you could say in some ways from what you summarize
understates the risks, because it is not just that governments
or countries that live with very high debt-to-GDP ratios are
consigned to weaker growth; they are consigned to the damage
that comes from periodic financial crises as well.
Now, could you put that chart back up there for a second?
Chairman Conrad. Yes.
Secretary Geithner. Let me just say two things about this.
In some ways, that overstates the near-term problem because, as
you know, we hold substantial financial assets, and you really
want to look at debt net of financial assets, and you want to
look at debt held by the public. But in many ways, that still
understates the problem because that does not capture the
future liabilities that are embedded in Medicare, Medicaid, and
Social Security, which, of course, grow at a very rapid pace in
the decades beyond that.
So if you are going to look at a true measure today of our
full obligations to our citizens, the commitments we have made,
of course, as you know better than anybody, it would be much
higher than that.
Chairman Conrad. You know, having served on the Commission,
having served here on the Budget Committee for 24 years, if
there is one thing I am absolutely persuaded of, the risk to
this country is untenable. Absolutely untenable. So that takes
me to the next one.
If we have agreed that this is too high a level of debt,
that this does compromise future economic growth, then the
question is: How do we go beyond what the President has
proposed? I give him credit for stabilizing the debt, but it is
stabilized at a level that is too high. And I am not one that
expected the President to lay out a detailed plan in his budget
because I know how this town works. Had he done that, the other
side then spends all their time lacerating the plan.
The question is: How do we get to the table to have a
serious negotiation between the House of Representatives, the
U.S. Senate, the White House? What is your vision of how in the
coming days and weeks we find a way to get to the table for a
serious negotiation?
Secretary Geithner. Excellent question. I know you have
thought a lot about that and offered a lot of ideas on that. I
guess I would say that what we are going to see in the next few
weeks is the following: In the House, the Republican leadership
will have to propose and pass a budget resolution that lays
out, like the President's budget does, a comprehensive plan,
revenues and outlays to bring deficits down over the next 10
years. And they in that context will have to make the kind of
choices we make in this budget, which is to answer the
question: How far do you have to reduce the deficits? How far
do you have to go? How deep do you have to go? How quickly or
how gradually should you get there? What should be the
composition of tax changes and reductions in spending to
achieve that objective? What are you doing about things that
matter to how we grow as a country in the future? So they will
lay out those basic fundamental choices.
Now, there is a process in the Senate that is engaged in
looking at a way to adapt the kind of comprehensive framework
you saw on the Commission and see if you can translate that
into consensus here. That, when it comes, will provide another
contrasting vision about strategy. And then you will have a
chance at that point for people to confront the tough choices
you have to make in choosing among those basic paths.
Again, I think it is important to recognize that the
President's budget does not solve all the problems facing the
country. It is not a budget for the next century. What it does
do is tell you how to get to a level over the next 10 years
that leaves us with a level of debt as a share of the economy
that is probably stable and would not weaken future growth.
But, of course, it does not solve the questions beyond that.
If the Congress finds the will to go deeper, lower deficits
over that 10-year period of time, which, as you said, would be
desirable because it would start to bring the debt-to-GDP on a
downward path, then--like the Commission did, the Commission
achieved that--then people will say--will be able to look at it
and they will say, Are we prepared to make the choices
necessary to go beyond that?
And I think, again, the fundamental reality that I think we
all have to confront--and it is both the Executive and the
Congress--is that the current process we use for making these
choices does not work. It has not worked. It is completely
dysfunctional, in part because it leaves us with year-by-year
incremental uncertainty creating changes to taxes with no
clarity on spending. And the reason Rogoff-Reinhart produced
the study that shows this effect on growth, opportunity incomes
from high deficits, is because you leave the American people
and American businesses to deal with a deeply uncertain future
about what is going to happen to things that deeply affect
their income and their business prospects.
So the costs of leaving that uncertainty out there are
very, very high, and to resolve that you need something beyond
a year-by-year political fight on incremental change. You need
something that locks in comprehensive, multi-year reductions.
That way people can look at it, and they can plan. They say,
OK, I know what is going to happen now, I now know Congress is
going to solve the problem, and I can plan and adjust and
prepare for those changes.
Chairman Conrad. Well, let me take you right--my time has
almost expired. Let me just take you right to the Commission,
because we did get 11 of 18 to agree--five Democrats, five
Republicans, one Independent. And we reduced the debt $4
trillion over the next 10 years--$4 trillion. The President
said about $1 trillion. Not only did we stabilize the debt, we
started bringing it down as a share of GDP and over time
brought it down markedly to a place where you would not only
be--you would be guarding against--you would be hedging against
future economic risk.
Is the size of what the Commission recommended a package
that you believe would make sense, that is, $4 trillion of debt
reduction, if we could get it on a bipartisan basis?
Secretary Geithner. I think you have slightly overachieved
in terms of what is necessary, but, again, our risk, of course,
as a country is that we do too little, not too much at the
moment. So I admire you for laying out that path. But what----
Chairman Conrad. So if $4 trillion is overshooting, what do
you think? Three trillion?
Secretary Geithner. Again, I think the minimum test is to
get the deficits comfortably below 3 percent of GDP for a
sustained period of time.
Now, again, as you know, the basic----
Chairman Conrad. But that does not reduce the debt. I mean,
that will just----
Secretary Geithner. Right. But if you----
Chairman Conrad. That will keep it from growing.
Secretary Geithner. You have to get them there soon enough
that you stop the debt from growing as a share of the economy
at an acceptable level. Again, I admire you for going further,
and if we can do that, that would be excellent. But what is
driving, you know, the 10-year deficits is not Medicare,
Medicaid, and Social Security. What is driving the 10-year
deficits is just a gap between resources and commitments
outside those basic programs. It is beyond the 10-year window
where you start to see those commitments, you know, eat an
excessively large share of GDP. And so what really matters, if
you want to go deeper than 3 percent of GDP, is what do you
lock in for those entitlement programs outside that 10-year
budget window.
Could I say one more thing, Mr. Chairman? There is a chart
that I would like you to put back up which shows outlays and
revenues to GDP, because I think that is the right way to think
about it. If they are gone, then I will not do it. But what the
President's budget does is to propose some changes in revenues
that would leave revenues as a share of GDP slightly above the
historic average. I think in the President's budget they rise
to a little bit below 20 percent of GDP--a little bit less than
what the Commission proposed. And outlays in the President's
budget minus interest fall to around 20. Interest is about 3
percent of GDP at the end of that period if you do that.
So the reason I say that is because when you think about
the choices we face, they are about like, What do you want
Government to do? How large a share of income do you want the
Government to take and spend? And what the President's budget
does is get you to the point where revenues are not high at a
level that would threaten future growth and outlays minus
interest, which is just the cost of the cumulative mistakes of
the past, are at a level that is really quite low in the
historical period. You know, I said 20 percent of GDP minus
interest, and, of course, the discretionary non-defense share
is much, much lower as a share of GDP at the end of that 10-
year window.
Chairman Conrad. You know, I would like to continue the
discussion. My time has expired, so we will go to Senator
Sessions. But I would like, if we have a chance to get to a
second round, to come back to this point.
Senator Sessions.
Senator Sessions. Well, that is a big national discussion.
I do not think the American people want to see the percentage
of the take of the Government increase substantially. That
charts shows that it is now 25 percent, well above where we
have ever been in this kind of environment. And it is very
dangerous, and people are not happy about it. They think this
is a limited Government of limited responsibility.
Senator Conrad, your chart, the one you have emphasized the
most, having wrestled with these numbers, I think that is
pretty close to the core chart. I have to give you credit. You
have wrestled with it really hard, and when we are over 100
percent of GDP, we are in a danger area.
Mr. Geithner, you indicated not only could it reduce our
growth, but you have indicated it makes us more susceptible to
crises, debt crises, perhaps like the one we had in 2007, like
Greece and other countries have had. Is that correct?
Secretary Geithner. I am very confident you are going to
help us prevent that, but I am saying the reason why debt-to-
GDP matters is not just because growth is weaker, but because--
and if you look at all those countries in the past, they
suffer--they are much more prone to crises in that context.
But, of course, we are going to avoid that as a country.
Senator Sessions. Well, we need to take some steps to do
so. In my opinion, we are too close, and as responsible
Government officials we have a duty to help our country avoid
risk that is unnecessary.
Let me just briefly run through this plan, because we are,
I think, talking past us on the numbers. You do not contend
that the 10-year budget calls for a single year, do you, in
which we will not be adding more to the national debt?
Secretary Geithner. No. You are exactly right. The debt in
aggregate terms does keep growing over this period of time,
even if you achieve this deficit reduction, but the measure
that economists use, just like families use, they look at the
amount of debt they have relative to income.
Senator Sessions. Well, one of the reasons we got into
trouble is that kind of logic. I admit it started with
President Bush. But when you start politically allowing and
accepting substantial deficits, it is hard for those of us who
try to contain spending to have any moral basis on which to
make that assertion. It is always that you are hurting somebody
when you try to contain spending. I think it is a dangerous
theory. It is part of the reason we are here, this GDP
argument. The debt goes up.
Now, the administration does insist that the plan will
reduce the total debt by $1 trillion over 10 years, but isn't
it a fact that the debt is increasing substantially during that
period and it is just $1 trillion less than it would otherwise
have been? And I guess it otherwise would have been $14
trillion, and you are suggesting that it increases about $13
trillion.
Secretary Geithner. Well, I do not think those numbers are
quite the way to think about it, and I want to----
Senator Sessions. Well, I am just asking you. The $1.1
trillion simply reduces the total debt by $1 trillion projected
to accrue over the 10 years and that that is a $13 trillion
range.
Secretary Geithner. What I am saying is that that slightly
understates the amount of deficit reduction. Let me just make
one clarifying point. That does not count the revenue gains of
allowing what we call the Bush tax cuts for the top 2 percent
to expire. If you allow those to expire and you preserve the
rates and exemptions for the estate tax at 2009 levels, then
you achieve another roughly $1 trillion in deficit reduction.
So, Mr. Chairman, if you look at the deficit reduction in
our proposal relative to the Commission's, we are closer to $2
trillion relative to the Commission's $4 trillion. It is not
really like $1 trillion versus $4 trillion.
The reason why, Senator Sessions, that is so important, of
course, is that if you are not going to let those tax cuts for
the high end expire, if you are going to extend them, and you
want to achieve the same deficit reduction, you are going to
have to find another $1 trillion in spending cuts to achieve
that.
Senator Sessions. Well, my time is running, but I would
just say to you that I am using your numbers, as I believe, and
it is about $13 trillion, and it is not a very large reduction
of the surge in debt, and we are still on the road to doubling
it. And the plan, let me ask you, does not call for any change
in Medicare, Medicaid, and Social Security as you mentioned?
Secretary Geithner. You are right that this budget does not
propose changes to Social Security, and it does not propose
detailed changes beyond the cost savings in the Affordable Care
Act. But I would just restate, of course, that CBO does
estimate very, very substantial savings from the Affordable
Care Act over the next two decades, about $200 billion the next
decade and $1 trillion in the second decade. And those
represent the largest cost-saving entitlement reforms than we
have considered or adopted as a country----
Senator Sessions. Mr. Geithner, we will continue to debate
that issue. I believe that CBO's final letter right before the
vote that it double counts the money is correct, and it is a
miscalculation. And I do believe that it is driving up the cost
of health care as CBO has said, not reduced it.
Let me ask you this: It has been repeatedly suggested that
discretionary spending has been cut and tough choices have been
made. But isn't it a fact that total discretionary spending
increases every single year except maybe with the reduction in
the military effort next year? But 2012 through 2021
discretionary spending increases every year is not reduced.
Secretary Geithner. I do not think that is quite right. I
am sure what I am about to say is correct, which is that if you
freeze non-security discretionary spending at the 2010 nominal
levels and you do that for 5 years, and then after that you let
it grow with inflation, then you do reduce the deficits by $400
billion over that 10-year period of time.
Senator Sessions. Well, let me just note that Table S. 10
shows that 2013 through 2021 there is an increase in
discretionary spending every year. I think that is
indisputable.
Secretary Geithner. I do not think that is quite fair, but,
Senator Sessions, one of the great things about our system here
is that CBO will resolve these debates for us, and we will have
a chance to----
Senator Sessions. They will, and they are not dispute the
numbers I read, I do not think.
Now, the budget plan calls for average annual deficits over
this 10 years of $720 billion, that the lowest deficit in the
10-year period is $607 billion, and that in the last 4 years of
your 10-year budget, the deficit is increased from 619 to 681
to 735 to 774, substantially increasing deficits. Would you
disagree with that?
Secretary Geithner. Those numbers are exactly right. But,
again, I think you have to look at them as a share of the
economy as a whole, as a family would do. They look at debt to
income.
Senator Sessions. We are not inclined to use a share of the
economy anymore. That is why we are broke.
Now, let us talk briefly, as my time is winding down, about
our interest situation. Under your budget the interest
increases each year. It was $187 billion in 2009. Under your
proposal it increases to $844 billion. I do not know if we have
a chart here. Would you not agree that that is a stunning
figure, perhaps the fastest-growing item in it, and all of that
is a direct result of the debt we are running up and only a
modest expectation of interest rate increases?
Secretary Geithner. Senator, absolutely. It is an
excessively interest burden. It is unsustainable.
Senator Sessions. Well, it is your plan for the 10 years. I
mean, that is the one the President has submitted. That is what
he has asked us to vote on. It will result--and those are your
numbers off your budget.
Secretary Geithner. Senator, you are absolutely right that
with the President plan, even if Congress were to enact it and
even if Congress were to hold to it and reduce those deficits
to 3 percent of GDP over the next 5 years, we would still be
left with a very large interest burden and unsustainable
obligations over time. That is why we are having the debate. I
completely agree with you. But the question, though, is, just
to be direct about it: What is the alternative plan? And,
again, the way our system works- -this is a good thing--you
will be able to see from the House, we will be able to see from
this body, whether people can find the political will here to
go deeper. And if you can find----
Senator Sessions. But what your plan is, that plan is the
one you are required by law to submit, and that is what you
call for, and it is not acceptable. I am sorry. It is a plan
not for winning the future but losing the future.
Secretary Geithner. No, I----
Senator Sessions. I am disappointed, really.
Secretary Geithner. No, Senator, I would just disagree
again. But, again, the test of this is let us see the
alternative. You know, we have laid out something that goes
very deep, much deeper than we have gone as a country ever
before.
Now, in terms of the scale of deficit reduction in a short
period of time, if Congress can find a way to do that without
gutting basic programs, killing investments, hurting growth,
then we would welcome the chance to join you in embracing those
reforms. But, again, the way our system works, we are
proposing, and you will have the chance to see if you can do
better.
Senator Sessions. Well, obviously you----
Chairman Conrad. Senator----
Senator Sessions. That is your plan.
Chairman Conrad. Senator, we have gone way over now.
Senator Cardin.
Senator Cardin. Thank you, Mr. Chairman.
Secretary Geithner, once again it is good to be with you. I
think we all agree the deficit--we need to have a credible game
plan to bring the deficit under control. That requires the
administration and Congress to work together. It requires
Democrats and Republicans to figure out a way to come together
on a budget plan that will be in the best interest of our
country. I think we all agree on that.
Now, there may be one area where we have some agreement,
but from different sides, in that we all disagree with the
Congressional Budget Office. My friends are telling me that
they just want to ignore it in the House even though it is our
impartial referee as to the scoring of costs.
I am disappointed that the Congressional Budget Office has
not scored a lot of the savings that will come from the health
reform that you pointed out. I think it is intuitive to the
people of this Nation that if we can really get access to care,
if we can have people out of the emergency rooms and into
primary care, if we can deal with readmissions to hospitals and
better management of people with serious illnesses, that
America does not have to stand out alone with the highest cost
burden to any economy on health care, that we can bring it more
into line and we can reduce our health care spending to help
bring not only our budget into balance but our economy into
better performance.
So, yes, we do need action on spending, and I agree with
Senator Conrad. I think the President's proposal for a freeze
on domestic discretionary spending and the way he is handling
the military is a way that is a very credible plan on the
spending side and that we need to lead on the spending side.
But even if we get those savings and even if we get the savings
from the health care bill that I expect that we will get, you
cannot do it on that alone. If we extend all of the tax
policies that are currently in place in this outdated income
tax structure we have, we will not only negate all the
savings--all the savings we are talking about--but we will also
be further in debt.
So you have to have a comprehensive plan that deals with
all these, and quite frankly, I do not think the action in the
House of Representatives this week is particularly helpful. I
do not think it is helpful because I think it will negate the
potential savings in the health care bill the way that they are
restricting us to put in place good common-sense ways to try to
keep people healthy in America. But also I think it is
unrealistic, it is budget cuts, and will not produce the type
of deficit reduction that is needed for this Nation.
So I just really want you to know, I think that the
President in his budget has put forward a good-faith approach
to dealing with the discretionary spending areas. And, yes, we
need to work together and supplement that, as the Debt
Commission did, in looking beyond just the discretionary
spending in this country. We need to look at the entitlements.
We need to look at the revenue side. And we need to come
together for this country and not just make partisan speeches.
Now, I want to touch on one particular area that we had
some questions on yesterday before the Finance Committee, but I
want to move forward on it as it relates to small business. In
your budget, you are moving forward with the initiatives on
small business, particularly as it relates to the availability
of credit. That is an area that, when we first attacked the
problem on our economy, in my view the small business community
was not given the type of attention it needed in order to have
credit. We all know that job growth is going to come primarily
from the small business sector. Innovation is higher in the
small business sector.
Can you just give us the status of both the program at the
national level that will extend credit to small businesses as
well as the moneys that are made available to leverage State
programs to help credit for small businesses?
Secretary Geithner. Again, I am happy to do that, but let
me just start with the tax changes. At the end of the year in
the tax package, there is a very powerful, sweeping set of
incentives for small businesses that provide a lot of help and
assistance at a time when they want to be able to have a chance
to take advantage of growing demand for their products. They
are very powerful, and they are very good economic sense, very
practical, very creative. But the two programs you referred to
we think will help, again, make sure that small businesses are
going to be able to get access to credit and, therefore, bring
more people back to work, bring more production online as
demand improves. And those two programs are, first, a program
to give small banks the chance to come and get capital from the
Government for a very economically attractive price. We have
about 250 applications in. We are going to be approving those
for eligible banks as quickly as we can, and they will help
leverage a substantial amount of borrowing capacity available
to small businesses.
We also have approved three States now for some additional
financial support to help reinforce their own small business
credit programs. A lot of creativity around the country at the
State level in those programs, and what Congress authorized
last year was to provide a little additional financial
resources for those programs, too. We think those will help, of
course.
But, you know, a lot of small banks across the country
still have themselves way overexposed to commercial real estate
and have a lot of digging out to do still, and that is going to
be a problem for those small businesses that were, frankly,
unlucky in their choice of bank. But what these programs will
do is help provide alternative sources of credit, make sure
there is enough capital in the system to, again, help reinforce
this recovery that is happening.
You are seeing loan demand start to increase again for the
first time, and you want to make sure that banks are able to
meet that demand.
Senator Cardin. There is clearly a need out there, and
there are clearly banks that are still sitting on the sidelines
as it relates to making loans available to small businesses. If
there is an existing relationship, it is a little bit easier
for a bank and a small company. If you do not have that
existing relationship, particularly if you are new company, it
becomes very, very difficult.
We had that debate last year as to whether we should be
using leveraging the private sector lending or whether we
should try to do direct, and we went with leveraging the
private sector. I would really appreciate you keeping us
informed as to how well that is working so that we clearly need
to pay attention to this issue, and we want to make sure that
the money really is being leveraged to more activity.
I could speak for the program in Maryland. Governor
O'Malley is one of those Governors that has a program and is
requesting Federal participation. They leverage the public
dollars at a very high ratio level. So for a relatively small
investment of Federal funds, we leverage a lot of loans to
small companies. That is critically important to companies that
are having a hard time getting loans today.
Secretary Geithner. And I think the loss rates on those
programs are really very low.
Senator Cardin. Extremely low.
Secretary Geithner. I think on net they make money for the
State, not lose money. So if you design them well, then you can
make a big difference.
Senator Cardin. Thank you.
Thank you, Mr. Chairman.
Chairman Conrad. Senator Ensign.
Senator Ensign. Thank you, Mr. Chairman.
I want to go back to what you were talking about, the
exchange that you had with the Chairman about the gross debt,
the 90 percent gross debt, because you said something that I
thought was fairly interesting when you talked about the
unfunded liabilities that are not on our balance sheets,
because you said the situation was actually much more dire than
what your budget or anybody else is really talking about. And
even when we go back to the study, the Reinhart study, the 200
years that they talked about the 90 percent of gross debt,
almost none of those countries had those unfunded liabilities.
So if you actually put those on the books, that 90 percent
is much higher, and where you get to 110 percent is much higher
with this country when you put the unfunded liabilities. And
the reason I make the point is because this situation is much
more dire. The criticality of us working together with
President Obama on entitlement reform is so critical, and that
is why I think that some of us on this side of the aisle are so
disappointed with this budget, that the President did not show
bold leadership.
It is politically risky. I will acknowledge that. And, Mr.
Chairman, the one point that I disagree with you on is you said
we would attack the President if he would have put that in his
budget. I disagree, because you are showing--Paul Ryan, the
Chairman of the Budget Committee in the House of
Representatives, put out a proposal last year on entitlement
reform, and he is putting it in his budget this year.
I am encouraging you, I am encouraging Senator Sessions, to
put entitlement reform in this year's budget, so even though
the President has not shown the leadership, the Congress needs
now to show the leadership, and then to ask the President to
join us, because we all know that these are politically, you
know, third rails of American politics, but it is critical,
because the numbers--and you agree, everybody agrees, everybody
knows this is unsustainable. And if we do not show political
courage right now, we are doomed as a country. We really are.
Secretary Geithner. Well, Senator, I agree with you, but I
would just try to make sure I emphasize one key thing, which is
that you are absolutely right about entitlements, and if you
look beyond the next decade, they again gradually,
progressively, but at an alarming rate start to eat too large a
share of national income. But do not forget the next 10 years,
because if we do not get these deficits down over the next 3 to
5 years to a level that is sustainable, then we will face the
risk of a significantly weaker expansion.
I know everybody is showing a lot of ambition on
entitlements now, which is good because it helps underscore the
importance of making sure the Affordable Care Act reforms are
allowed to get some traction, because they do reduce cost
growth. But remember, the next 10 years are really important,
too.
Senator Ensign. Absolutely, and let me just interrupt you
for a second. I actually disagreed with one of your statements,
too, where you said Medicare and Medicaid are not contributing
to the deficit. They have been growing at such a rapid rate,
they are absolutely contributing to the deficit right now. And
so we need to get control of these entitlements, not just for
the next decades to come. We need to get control of these
entitlements for today. We need to design better systems.
I believe that, for instance, Medicaid, what we did on
welfare reform in a bipartisan fashion during the 1990s, we
block-granted it to the States because they were these
institutions that had shown the ability to reform them and do
it in a way with flexibility. And if we get the Federal
Government out, we can cap the amount that we are sending. We
know how much that could potentially save into the future. It
could be huge amounts of money. And designing a better Medicare
system that focused more on, you know, healthier behaviors for
seniors and getting things under control, you know, chronic
types of conditions. But we need to do that for this decade as
well.
I do not have a heck of a lot of time, so I do want to go
to one other thing, because we know we need to do this. I am
just encouraging you to get the President to join us and
actually show some Presidential leadership.
The comment, small business is the engine that drives the
economy, do you think that that is a fairly true statement?
Secretary Geithner. Well, sometimes we get a little carried
away, because big businesses matter, too.
Senator Ensign. It does, but----
Secretary Geithner. But in general, you are right, that
there is a lot of innovation and job creation that comes from
small business.
Senator Ensign. OK. The reason I bring this up is because
in your budget, most small businesses--I was a small business
owner. Most small businesses owners pay ordinary income because
they are Subchapter S corporations, sole proprietors, LLCs, in
various forms like that. And while I applaud you, I totally
agree that we need to reform our corporate Tax Code. We need to
bring it down. We need more of a territorial system. And I
appreciated your comments yesterday about repatriating money
back to the United States in a much easier way. All of that is
good stuff.
But if you allow the tax rates to go up, now corporations
can be paying a 24-percent tax rate where, you know, most small
businesses in the country could be paying almost a 40-percent
tax rate. And if it is really the engine that grows the
economy, I think that you are going to stifle a lot of growth
in small businesses with these high tax rates. And so, you
know, I would like to hear your comments on that.
Secretary Geithner. I believe that if you are going to do a
serious job of looking at corporate tax reform, comprehensive
tax reforms, you have to look at business income more broadly
defined, and you are going to have to look at how we treat
income of businesses that are not corporations under the Tax
Code. So I agree with that point.
But could I make one qualifying point?
Senator Ensign. By the way, I hope we can work together. I
am actually working on something that treats them the same. It
is a little expensive, and we are going to have to work on it,
but I appreciate that comment.
Secretary Geithner. I would welcome a chance to do that. I
do want to make sure, though, we put in context what the
implications are for small businesses of letting the top 2
percent tax cuts expire, and this is very important because
that would only affect less than 3 percent of small businesses.
The average earnings of the less than 3 percent of small
businesses affected are about a million. The median is about
$700,000. And most of the small businesses that fall into that
category--again, it is less than 3 percent--are really what we
would typically look at as law firms or partnerships or
investment companies in that context. So we are not talking
really about a significant number of the hardware stores on
Main Street or the small manufacturing companies. We are
talking about partnerships, law firms. But----
Senator Ensign. You need to get out there in the real world
and talk to folks. The reason I am saying this, because I have
been out there in the real world. It is the veterinary clinics,
it is the dental offices, it is the--and they want to expand
their businesses. They want to create jobs. And if taxes are
part of the thing that they are looking in the future, if their
taxes are going up, business owners--and, by the way, those 3
percent produce about a quarter of the jobs, the new jobs. And
so that is a significant thing, and if they want to grow their
business and we all want more jobs in America, we have to
understand that small businesses do create jobs, and we are
going to hurt job creation, which hurts the growth curve of
revenues coming into the United States.
My time has expired. I apologize.
Secretary Geithner. Mr. Chairman, could I just say--of
course, I understand this concern, but, again, just two other
context notes about--you know, we are proposing to restore the
rates that prevailed in the 1990s. That was the best record of
small business job growth, small business creation that we had
seen in a long time and have seen since. It is something that
is manageable, that we can afford as a country. We do not have
unlimited choices, and we are proposing in the budget alongside
those changes some very well designed, very powerful incentives
directly related to small businesses, like, for example, zero
capital gains on investments in small businesses. And we are
proposing to keep taxes on overall investment quite low as a
whole.
But, anyway, happy to work with you on reform. You are
right to say you have to look beyond corporates, although it is
kind of difficult to do politically.
Chairman Conrad. I thank the Senator.
Let me just say we are on 7-minute rounds to Senators. You
know, typically with this number of Senators we do 5 minutes,
but we went to 7 minutes today given having the opportunity to
have the Secretary. So I am going to try to drop the gavel
right at 7 minutes in fairness to the other colleagues who are
here and waiting.
Senator Sanders.
Senator Sanders. Thank you very much, Mr. Chairman. And
welcome, Secretary Geithner.
I find this to be an extraordinarily strange conversation.
We hear a lot of discussion about great concerns about the
deficit and the national debt. But the people who talk most
loudly and vigorously about this issue are those people who
helped create this national debt. So let us be clear about how
we got here in the first place. We might want to talk about
that.
This Senator voted against the war in Iraq, for a number of
reasons, not the least of which it was unpaid for. Three
trillion bucks. That is a lot of money. I did not hear too much
discussion a few years ago about that war.
This Senator voted against huge tax breaks for the
wealthiest people in the country. And you know what? Budgets
are two things. I know this is a radical concept. It is not
just spending, but it is also money coming in. And if you give
hundreds and hundreds of billions of dollars in tax breaks to
the very wealthiest people, lo and behold, deficits go up. I
voted against that. Most of my friends on the other side of the
aisle voted for it.
I voted against the Medicare Part D prescription drug
program written by the drug companies and the insurance
companies, not because we do not need a good program for
seniors; that was a very wasteful, ineffective way to go. Most
of my Republican colleagues who are now jumping up and down
about the deficit, they voted for it.
I voted against the Wall Street bailout, and I do
understand much of that money has been paid back. But,
nonetheless, I did not hear at that point when we bailed out
the largest financial institutions of the world whose illegal
behavior, whose reckless behavior drove us to a recession, I
did not my Republican friends say, ``Oh, we cannot give them
$800 billion. That will drive the deficit up.'' Maybe I missed
that discussion. But I did not hear it too much.
So that is one of the reasons we got to where we are right
now. Under Bush, as we all know, the national debt almost
doubled.
The second part of the discussion I am not hearing about is
we talk about America like we are all in this together. Well,
let me give you some startling news. We ain't all in this
together. The people on top, the top 1 percent, the top 2
percent, are doing phenomenally well at the same time as the
middle class in this country is collapsing.
Mr. Geithner, when you respond, you tell me what I am
missing here. All right?
The United States today has the most unequal distribution
of income and wealth of any major country on Earth. The top 2
percent earns more income than the bottom 50 percent. And I
hear the words about political courage. Oh, we need to be
really tough. We can throw old ladies in the State of Vermont
off the heating assistance program when it gets 20 below zero.
Man, that is real political courage. Well, how about some
political courage about taking on the big money interests who
fund our campaigns, who provide millions of dollars and want
tax breaks for the very wealthiest. Let us see some political
courage there rather than throwing senior citizens off the
LIHEAP program or low-income people off of life and death
programs for them.
Now, Mr. Secretary, in 2007 the top 1 percent earned 23.5
percent of all income in this country. The top one-tenth of 1
percent took in 11 percent of all income. The percentage of
income going to the top 1 percent has nearly tripled since the
1970s. Is that right, Mr. Secretary?
Secretary Geithner. I think that is largely right.
Senator Sanders. From 8 percent to 23 percent. Between 1980
and 2005, 80 percent of all new income created in this country
went to the top 1 percent.
Now, when we talk about how we move toward a balanced
budget, I would appreciate my friends listening to this. In
2007, the wealthiest 400 Americans made an average of $345
million a year. Under the Bush administration, these 400 top
earners saw their incomes double while their effective Federal
tax rate was cut almost in half over the past 15 years.
So here is the dynamic that you have which must be thrown
into this discussion. The middle class in many ways is
collapsing. Real unemployment in America today--I have not
heard a word about unemployment yet, by the way--is 16 percent
if you talk about people who have given up looking for work and
people who are working 20 hours when they want to work 40
hours. Meanwhile, we have cut substantially taxes for the very,
very wealthiest people in this country, and in this agreement,
this very poor agreement that the Obama administration agreed
to with the Republicans, those are extended again for another
couple of years.
So I would suggest that when we talk about sacrifice, maybe
some of the campaign contributors and the wealthiest people in
this country might want to make some of that sacrifice rather
than just the middle class.
Let me ask Secretary Geithner a couple of questions. I was
glad to hear you--and just let us go through this again. You
would agree with me that Social Security has not contributed
one nickel to the deficit and that Social Security has a $2.6
trillion surplus right now?
Secretary Geithner. I think that is largely right, yes.
Senator Sanders. OK. And would you agree with me that,
according to all the studies done, Social Security can pay out
every benefit owed to every eligible American for roughly the
next 25 to 30 years?
Secretary Geithner. I would have to check that, but I
assume if you are quoting it, it is right.
Senator Sanders. Yes, it is. And after that, it can pay out
about 75 to 80 percent of all benefits.
Secretary Geithner. That is true, but I would not be so
comfortable about that because, as you know, the minimum
benefit is not a very rich benefit for many Americans.
Senator Sanders. I know it. During the campaign, when
President Obama was elected, he suggested that the solution to
the long-term solvency of Social Security was to lift the cap
on upper-income folks above $250,000, which I thought was
exactly the right thing to do. Is that still the
administration's or the President's position?
Secretary Geithner. Well, I want to be careful in how I say
this because, again, we want to preserve some capacity for
people to come together on something that is going to work, but
I will be direct about it. You cannot do this in a way that is
fair and responsible by simply cutting benefits, even if you do
it in a progressive way. You have to go beyond benefits if you
are going to do it in a way that is fair and has any realistic
prospect of people coming together around the plan.
Senator Sanders. I agree with you, and let me just say
this. This is a quote from Candidate Obama during the campaign.
He said, ``John McCain's campaign has suggested that the best
answer for the growing pressures on Social Security might be to
cut cost-of-living adjustments or raise the retirement age. Let
me be clear. I will not do either.''
Do you think that that is still the President's position?
Secretary Geithner. Well, I think the President's position,
again, is he just wanted to be very careful, as you heard him
say in the State of the Union, to not be solving Social
Security in a way that cuts deeply into benefits for people who
need it or puts an undue burden----
Senator Sanders. You make me nervous when you say
``deeply.'' That is not what the President campaigned on.
Secretary Geithner. Well, I did not mean to change his
words, but the President has spoken on this several times in
the last few days, few weeks. His words govern. I cannot quote
them for you directly. But, of course, those are his choices
and his words.
Senator Sanders. OK. Thank you very much.
Chairman Conrad. Thank you, Senator. Thank you for
respecting the time.
Senator Thune. Thank you, Mr. Chairman. Mr. Secretary,
welcome again. We had Secretary Geithner in front of the
Finance Committee yesterday, and I appreciate your willingness
to endure our questions.
I asked you yesterday about the individual mandate and
whether you thought it was a penalty or a tax. You said that
was up to the lawyers to decide. And I assume you have an
opinion about that, but I will not go into that. I do have a
question, though. Do you know how much that raises in your
budget in terms of revenues?
Secretary Geithner. I have to respond to you in writing. I
do not know the number. I do not have it at my fingertips now.
Senator Thune. OK.
Senator Thune. Well, my own view on where we are today, I
mean, obviously we have a big problem which has been
contributed to over the years by a lot of different factors. I
think in a fantasy world where we were not fighting a war on
terror, we might not have had to spend money fighting a war on
terror, which would be great. But the fact of the matter is we
have had to do that. We have had the debt grow just in the last
2 years alone by $3 trillion.
Now, my own view is that that is understated significantly
because I believe that the health care bill, notwithstanding
your assertions that it is actually going to reduce the debt
and the deficit over time, is actually going to add
significantly to it for a couple of reasons. One is I do not
believe that this Congress is really going to cut $1 trillion
out of Medicare. Now, maybe I am wrong, but when I first got
here in 2005, we had a vote to try and achieve savings of
somewhere on the order of $40 billion, and I think Vice
President Cheney had to come back from Pakistan in order to try
and break a tie on that. And at the end of the day, I do not
think it ever happened. So I am very skeptical about whether or
not we are actually going to reduce Medicare spending.
Second, there are a number of things, as was alluded to
earlier by the Senator from Alabama, about the way that was
scored, which I think--and we have heard testimony from the CBO
about that, that it double counts revenue. Medicare, Social
Security Trust Fund revenue being credited to the trust funds
as well as being used to pay for the new entitlement program on
the order of hundreds of billions of dollars.
The CLASS Act, which was scored in the near term as a
revenue raiser, is, I think, going to be a huge deficit
increaser in the out-years. That, too, is something that in my
view is going to dramatically understate the fiscal picture,
particularly when you look at the long run. And the SGR, which
was not included in that, there are 2 years of offsets, I
think, in this budget for the SGR, but the SGR is going to have
to be dealt with as well.
So you have all this spending associated with the
Affordable Care Act, and everybody says, well, it is going to
be budget neutral or, better than that, it is actually going to
generate surpluses over the years. I just do not subscribe to
that. So I think this situation is much worse than actually
most of us believe.
The other thing I would argue is that the growth rates that
are assumed in the budget, which are significantly higher than
the CBO's growth rates--4.4 percent I think in 2012 is what OMB
assumes, and CBO says 3.1 percent. That makes a huge difference
in the deficits that we are going to be looking at and the debt
that we are going to be looking at.
So having said all that, I think this picture is much more
grim than many of us realize, and it does come back, in my
view, to a spending issue. You can look at--and the Chairman
put up the chart. Over the period of time that he looked at,
the five times the budget was balanced, the revenue was
actually exceeding the historical average. But the other thing
you have to look at, there was only one of those years that I
saw where spending was not below the historical average. If we
balance the budget, the assumption was that spending had to
have been below the 20.6 percent average that we have seen over
the past 40 years, too.
And what are we spending today as a percentage of our GDP?
25.3 percent. That is this year's number. The historical
average over the last 40 years is 20.6 percent. This is a
spending issue fundamentally. And we have to deal with it. And
as painful and hard as some of those choices are--and I think
the only way you do that is with the long-term structural
changes in these entitlement programs that are going to explode
in the out-years. And this budget just does not address that.
Again, I mean, I cannot tell you how disappointed we all
are in that, and I know that they are saying, well, you guys
come up with your plan. Well, there will be, I think, some
suggestions made when the House Budget Committee does their
budget resolution. But you still have 535 Members of Congress
and only one President. The President is the CEO. The President
has to lead. The President has to say, ``This is what I would
do to fix this problem.'' And kicking the can down the road for
another 2 years until we get past the next election just does
not cut it. So I think many of us up here are prepared to work
with him to address the long-term problem we face.
Just a couple of quick questions for you. And, again, as we
look at what we are going to be facing in the years ahead, the
Treasury Department, of course, is tasked with running the
auctions of U.S. securities, and I am wondering if you have any
concern that any of the auctions are going to fail anytime
within the 10-year budget window if we follow this budget.
Secretary Geithner. No, there is no risk of that. In fact,
if Congress were to enact these proposals, meaning bring about
this level of deficit reduction as a share of the economy in
this period of time, you would see a dramatic improvement in
investor confidence about the political will in Washington to
deal with these problems, recognizing that it does not go far
enough. But if Congress would enact it, go this far, it would
be historic deficit reduction on a scale we have never as a
country even been able to consider. And I say that
acknowledging that it does not solve all our problems.
Senator Thune. Maybe I am going to take issue with that,
but it just strikes me that when you are--that the gross debt
is going to grow to $26.3 trillion at the end of the decade. It
is $14.3 trillion today. It is hard to see how you can get to
where you are 100 percent debt-to-GDP, and in the second decade
it goes above that, that the bond markets are going to
recognize that and say this is something that we believe is
actually going to get the fiscal situation of the Federal
Government back in line. I have a hard time understanding how
that would be interpreted by the bond markets to be a positive
thing.
Secretary Geithner. Well, again, you know, Senator, this is
all--you know, these things about confidence are all a judgment
about the strength of political will in a country. And people
do look at this country over history, and they say ultimately
in the end Washington figured out how to fix it and get ahead
of it. Right now, if we do not actually do that, we will suffer
the risk of gradual erosion in confidence, and that will hurt
us as an economy.
But I want to state, I know that people would like us to go
further, and, again, if Congress can find a way to go deeper
and further in a way that does not gut basic programs critical
to our capacity to grow without creating growth, then we will
join you in that cause. But what troubled me about where you
began is the following: You said that you are concerned
Congress will not have the will to enact the cost savings in
Medicare and Medicaid that are in the Affordable Care Act. So I
guess I would ask in response to that, if you are troubled
about those cost savings, then what does that mean about what
plan you are going to provide us for how we get this deficits
down? Because then if you are going to say we cannot actually
do that, then you are going to have to look at other things,
and that is going to put us in the position where, I think--I
do not know where else you are going to go, because you have to
go to defense, or you are going to have to go dramatically
deeper than the House on discretionary, non-defense
discretionary, or you are going to have to go to revenues, like
the Commission did on a substantial scale. But, you know, it is
just a question about where you make those choices.
Senator Thune. And if I could, Mr. Chairman, just in
response to that, look, I do not disagree. I do not think
Congress has the appetite to deal with some of these issues.
But it was a fundamental mistake, in my view, to go after
Medicare to fund yet a new entitlement program rather than
using those savings to reform Medicare. I think you would have
plenty of support up here for doing that.
Secretary Geithner. But, Senator, again, I think I agree.
That is an interesting strategic question. But you could also
take the other view, which is that apart from the basic
rationale of extending coverage to all Americans, and apart
from the other changes that are designed to improve how we use
health care, you could ask yourself, Would Congress have
legislated those reforms without that? It seems to me highly
unlikely.
Again, if you jeopardize that law, then you will take off
the table what is more than $1 trillion of cost savings for the
taxpayer over the next two decades. And if you take that off
the table, you have to say where are we going to find that
revenue, where are we going to find those savings. And you will
have to go places I think you are going to find it much, much
harder to go.
Chairman Conrad. Senator Whitehouse.
Senator Whitehouse. Thank you, Chairman. Welcome,
Secretary.
Secretary Geithner. Mr. Chairman, could I ask one question?
Well, I do not want to take your time up. Go ahead. Sorry,
Senator. Go ahead.
Senator Whitehouse. I am happy to defer my 7 minutes for a
moment if the witness has a question he wants to ask the
Chairman. We can restart the clock--
Secretary Geithner. It is up to the Chairman. I can do it
at the end, if you want.
Chairman Conrad. Yes, I think we should keep going because
we have a lot of members left here.
Senator Whitehouse. Mr. Secretary, you have described in
the past the importance of the housing market to the economic
recovery, that you opposed the foreclosure moratorium basically
on those grounds, and so I would like to ask a few questions
about the housing market and specifically the mortgage
situation, the foreclosure situation that is out there. And it
strikes me that a lot of different arrows are pointing to a
catastrophic bureaucratic failure on the part of the banks and
the servicers in dealings with distressed homeowners.
The HAMP program is operating at one-fifth of its self-
defined level of success, which was about less than half of the
actual foreclosure liability that we face as a country. So that
cannot be seen as anything resembling a success.
When I talk to my realtors in Rhode Island, to a person,
literally at meetings with a dozen or more realtors, they have
had short sales on the books with a bank, and that same bank
has foreclosed on the property during the short sale, with the
result that a property that was going to be sold for 90 percent
of value is now trashed and is in the foreclosure pool at 40 to
50 percent of value.
When you deal with, as we all do, our constituents who are
trying to work their way through mortgage modifications, it is
a nightmare. I have had people who have been dealing for 19
months. They never found a person who would give them their
last name. They never had anybody involved who could make a
decision. And recently in Rhode Island, to sort of put a fourth
arrow on this, the local bankruptcy court has made findings
that in virtually every case there is literally no response on
the part of the banks when these problems come in, and so they
have had to develop a special program to try to do something
incredibly simple: get a human from the bank who will make a
decision in the room with the homeowner before you throw him
out of his house. That is so offensive to Deutsche Bank that
they have actually challenged the regulation in court, and we
are trying to resolve that legislatively.
But when all those arrows point in the same direction--the
HAMP failure, the foreclosure nightmare that people experience,
the court decisions, the realtors' short sale experience--they
all point to a huge bank bureaucracy that is incompetent, that
is tormenting people, that is doing great damage to the
investors--I mean, who got hurt when the short sale got wiped
out because the bank foreclosed on its own short sale? The
investors did.
We have been corresponding about this, and you have been
sending me all these cheerful letters about how, you know----
Secretary Geithner. Not cheerful.
Senator Whitehouse [continuing]. Do not worry, good news is
around the corner.
Secretary Geithner. Not cheerful. Never cheerful.
Senator Whitehouse. And I do not see good news around the
corner. We have been doing this for more than a year. Have you
analyzed the extent to which the HAMP incentives are
overwhelmed by the existing financial incentives that the
servicers have for dealing with foreclosure, dealing with
programs? My take is that they are insignificant and,
therefore, have not--that is one of the reasons the HAMP
program has failed.
And the second thing is you have kept issuing these sort of
memoranda and suggestions as to the timeframe within which
banks should be acting. They are not. They just are not. I do
not care what timeframe you have said. They are not doing it.
Where are you in terms of enforcement? Have you punished
anybody for not doing it? And have you looked specifically at
whether they are phonying up the file by continuing to demand--
one of the things we hear all the time is that people have the
same records asked of them six, seven, eight times. It strikes
me that there is at least a reasonable case to be made that
because your suggestions for the timing on this start with the
close of the file, they have figured out that if you keep
asking people for the same information over and over again and
chucking it in the file or whatever they are doing, they can
wait and never have the file closed and never start your clock.
So either your suggestions to them for timing are just
failing, or they are not being enforced, or they are being
gamed. Please tell me where that is, because I do think that is
important to the underlying economic recovery.
Secretary Geithner. Senator, you are absolutely right that
this is a tragic, terrible mess across the country still, and
we are not coming to the end of that amount of pain and risk
and trauma to homeowners caught up in this crisis. And many of
them are completely innocent victims of the failures of the
system before this.
Now, you are also right that servicers and banks on the
whole I would say are still doing a terribly inadequate job of
meeting the needs of their customers, helping customers
navigate through this basic process. And we are going to have
to do a better job of trying to reach as many people as we can
reasonably reach with these programs.
Now, one thing about what we have accomplished, because it
is important to recognize this, it is--about 4 million people
have benefited from mortgage modifications since these programs
were launched. Now, a relatively small number of those are
permanent modifications in HAMP, but do not understate, please,
the impact that it has had on millions of homeowners in
reducing their monthly payments.
There are people we are not going to reach with these
programs because a lot of the people facing foreclosure are
individuals for whom it is their second home, it is----
Senator Whitehouse. I get it. Let me interrupt, because I
understand your point. All foreclosures cannot be prevented.
That is not the point. And that was not the point when I urged
you to do a foreclosure moratorium. The point of the
foreclosure moratorium was not to stop all foreclosures. The
point of the foreclosure moratorium was to smack the banking
industry and the servicers up the side of the head and let them
know there are not going to be foreclosures until they sort out
this mess that has been for 2 years a bureaucratic nightmare
that is ensnaring millions of Americans. And it is that
bureaucratic nightmare that is the focus of my question, not
the fact that for some people foreclosures are inevitable.
Secretary Geithner. I was going to agree with you, not
disagree with you, in your characterization of the problem. You
asked why isn't it stronger, why isn't it better, and you are
right that this is always a mix of compulsion and incentive,
and the incentives----
Senator Whitehouse. Who have you whacked for failing?
Secretary Geithner. Under the law, we do not have the power
under the law to compel. We have the capacity financially to
provide incentives. Now, I think those incentives have not been
powerful enough in all cases to overwhelm the rest of the muck
these servicers have created. I agree with you about that. But
we do not have the power to compel, Congress did not give us
that power, and that limits our leverage over the outcome.
However, we are doing as much as we can given the tools
Congress has given us to try to reach more people, and we are
going to be able to reach substantially more people, although
we will not come close to those initial estimates we laid out
at the beginning of the program.
Senator Whitehouse. My time has expired. Thank you,
Chairman.
Chairman Conrad. I thank the Senator for respecting the
time.
Let me just indicate to members, they have told us now- -we
expect a vote at 11:50. We have five members left. We are doing
7-minute rounds. The math does not quite work. So I am just
going to ask everybody please come right in at the 7 because I
will stay here until we have 5 minutes left on the vote so
everybody gets a chance.
Senator Johnson.
Senator Johnson. Thank you, Mr. Chairman. I can talk fast.
Mr. Secretary, nice to meet you. There were a couple of
interesting statements you made. The first one is basically it
would be excellent if we could go further in deficit reduction.
If you believe that, I guess my question is: Does the President
believe that? And if he does, why doesn't he lead?
Secretary Geithner. Again, the question is how you do it.
The challenge is not principally or only about how fast or how
far you bring down the deficits, though that is really
important. The question is how you do it. And the how matters
because, again, you have to care a lot about the basic
strength, competitiveness growth of the country, what you do to
invest in incentives, education, things like that, but also you
have to ask yourself what can you legislate. Because, again, if
we sit here and we just talk about it forever and we do not
legislate----
Senator Johnson. It would be far easier to legislate if
there was leadership from the President.
Another comment you made was--this is maybe an unfair
paraphrase, but you said, ``What is your plan?'' I mean, is
this just political--are we playing a game of chicken here?
Secretary Geithner. No. Again, the way our system works--
and, again, our system has a lot of strengths, but a lot of
weaknesses, and I would say, as I said at the beginning, our
current budget process does not work, has not delivered
sustainable outcomes in this context. The way our system works
is the President has to propose. We have to take the burden, as
we have done, to lay out a plan for how we choose, how we
propose to address these challenges.
Now, that is just the start of the process, and the way the
process works is everybody else has the obligation and the
opportunity to say we think here is a better way to do it. And
then the process begins. So it is just the first stage of the
process, and, again, we are not asking you to like the plan.
You do not have to embrace it. But what we do want to see is if
you want to go deeper or get there on a different path, tell us
how you think we can do it.
Senator Johnson. We only have one President, and I am just
going to tell you, I think the American people is hungering for
leadership. The reason I ran for the Senate is because I
believe we are bankrupting this Nation. You mentioned the
unfunded liability. The figure I look at is the U.S. debt
clock, that website. They list the top three entitlement
programs. The total unfunded liability of those programs are
$112 trillion. Total U.S. assets--household, small business,
corporate assets--is $73 trillion. That is a $39 trillion
shortfall. That is a huge problem.
And, again, what numbers do you use in terms of the
unfunded liability?
Secretary Geithner. Well, Senator, again, I assure you, you
cannot make me more concerned than I am as Secretary of the
Treasury about the unsustainability of these commitments. And,
again, I welcome, as everyone should, the fact that after years
where people said deficits do not matter, these things pay for
themselves, we do not have to care about the cost of this kind
of stuff, people are coming around today and saying we are for
trying to deal with this basic challenge. So that is a good
thing to happen. We are seeing it at the State level. That is a
very good thing to happen. So we have a chance now to try to
translate that hunger for change on this kind of stuff into
stuff that will actually matter over time.
But, again, we are not trying to put the burden on you. The
Constitution puts the burden on you. What we did is lay out
this is our path. Happy to work with you. And, again, we
recognize there are different ways to do this, but you have to
make choices about what you are going to do to programs and
about growth and about fairness.
Senator Johnson. OK. Let me ask a couple nuts-and-bolts
questions. I asked Director Lew the same question. I look at
your--on your Table S. 1, your total cumulative deficit over
that 10- or 11-year period was $8.9 trillion. Gross Federal
debt increases $12.8 trillion. That is a $4 trillion
difference.
Now, I know about $1 trillion, as I am looking at the
figures, looks like it is an increase in financial assets.
Where is that other $2.8 trillion increase in debt? Do you
follow my question?
Secretary Geithner. I do not. I am sorry.
Senator Johnson. Total cumulative deficit increases $8.9
trillion, but our debt over that same period is growing by $4
trillion--I mean, by $12.8 trillion, an additional $4 trillion
in debt over the deficit. I do not have a good explanation.
Director Lew said that it was an increase in Social Security
surplus. That makes no sense.
Secretary Geithner. Can I think about that and then respond
accurately in writing? I just need to think about it a little
more carefully. I do not know how to explain it----
Senator Johnson. We will submit that in writing.
Senator Johnson. I am concerned about three areas of risk
in your budget. First of all, economic growth. Would you agree
with the basic statement the more you tax something, the less
you get of it?
Secretary Geithner. No, I would not agree with that. I
think that--well, let me put it differently. If you want to
think about revenues and the effect on growth, you have to
think about it in the context and the size of our deficits. You
need to look at not just the overall level of revenues relative
to GDP. You have to look at what is the resulting deficits you
are still left with. And so, again, what we propose is
something that brings revenues back to a level slightly above
their historic average. Only slightly above. Only slightly
above, and we think that is sustainable over time.
Senator Johnson. The historic average is about 18.8
percent, correct? Regardless of marginal tax rates, isn't that
kind of Hauser's Law? And what you are looking at is the last
half of the 1990s when we had an incredibly strong economy and
we did increase tax rates, and people could not basically
shield their income. But then it did end up resulting in a
recession.
Aren't you relying on unhistoric rates of percent of GDP in
terms of revenue?
Secretary Geithner. No, again, the numbers are what they
are. Again, you can disagree about what the impact is, but we
are talking about rates overall that prevailed at a time when
the economy was doing incredibly well relative to what we saw
in the succeeding decade. So, again, I think our economy would
do fine under those rates----
Senator Johnson. Now we have an extremely weak economy. How
would increasing taxes produce that type of revenue? I think
that is a really bad assumption?
Secretary Geithner. No, I am not--again, I do not--I am not
going to try to change your view about the economics. I am
saying what we are proposing is a reasonably balanced set of
revenue changes and spending proposals to achieve very
substantial deficit reduction. And if you want to go deeper,
then you have to figure out whether you do more revenues or you
do more spending cuts, and those have consequences for growth.
Again, you know, this is not--no one will say any plan is a
perfect plan.
Senator Johnson. I understand.
Secretary Geithner. But it is a proposal.
Senator Johnson. Let us talk about the risk in your health
care projections. Basically the CBO, the way you gave them the
figures, they are scoring it as a $1.5 trillion deficit
reduction over two decades.
Secretary Geithner. Well, again----
Senator Johnson. Are you familiar with the ex-CBO's Douglas
Holtz-Eakin's study where he is talking, instead of 3 million
people moving into those exchanges----
Secretary Geithner. Senator, again, a great strength of our
system is you and I do not get to decide these numbers. We have
an independent, nonpartisan office that makes these judgments
for us. So you do not need to take my word before anybody
else's. Only one word governs, which is a good thing for the
country, and it will be CBO's judgments. All I was doing is
repeating them. They are not mine. They are theirs.
Senator Johnson. Do you agree only 3 million versus--OK.
Chairman Conrad. Senator Coons.
Senator Coons. Thank you, Mr. Chairman, and thank you, Mr.
Secretary, for being with us today for this engaging
conversation.
This morning, families in Delaware woke up to more tough
news. About 100 folks are getting notice from Perdue they are
getting laid off in our poultry industry. About 80 people due
to A&P's ongoing bankruptcy are going to lose their jobs in my
home county in the grocery store. As I think Senator Sanders
strongly pointed out earlier in this hearing, this continues to
be a very tough time for working folks in this country.
What in this budget gives them and should give me some
optimism about the investments you are making to try and
strengthen this recovery?
Secretary Geithner. Well, I think you would have to look at
the proposals for a very, very substantial improvement in
public infrastructure, which is very good for you to think
about these challenges, because a lot of the unemployment
caused by the crisis was concentrated in construction. So that
is one plan.
A second piece of this I would look at is the tax
incentives that are there for investment. It is very important
we do everything we can to make sure the Tax Code is making it
more likely that the great American companies, small and
large--and foreign companies, too--are building their next
facilities here so that we are creating and building more jobs
in the United States.
We are proposing a substantial set of changes to help
improve export growth. There has been very good export growth
in the early part of the recovery, and it is very broad-based.
Manufacturing, industrial production, agriculture, high
technology--there is a lot of job growth with that.
There is a whole range of other proposals in there to help
encourage innovation, education. That is what I would focus on.
Senator Coons. Some have criticized your growth estimates
as being overly ambitious. I am optimistic, given some of the
proposals in here, that they are potentially achievable. Things
like the zero capital gains and small business investment I
think are particularly a good idea. Making permanent the R&D
tax credit I think is an excellent idea. You testified
yesterday in the Senate Finance Committee and touched on
repatriation of foreign-earned profits and the possibility of
tax reform, which I think has to be a piece of the solution
here moving forward.
Help me understand how you think it might be possible to
change our current corporate rate, encourage repatriation in a
way that would reinvest in hiring and in capital and in R&D
rather than simply in bonuses or dividends, and how you might
structure that. You also--I was interested--suggested that we
could make fundamental change in the corporate rates and the
corporate structure without doing it on the individual side. As
Senator Ensign mentioned before, there are some complexities to
doing that. I would be interested in hearing your views.
Secretary Geithner. Well, I guess I would just stay with
these simple, basic principles, elements about design. Again,
you want to bring the statutory rate, which is now the highest
in the world, down very substantially. You want to bring it
closer to the range that prevails across our major competitors.
To do that, you have to substantially reduce, scale back a set
of very broad-based tax preferences that go to businesses. You
need to do that in a way that makes clear that we are reducing,
not improving, opportunities to shift income and investment
outside the United States. You want to change those incentives
in the other direction to the extent you can. And you cannot do
that responsibly if you are going to be adding to future
deficits. You have to do it in a way that is revenue neutral.
Senator Coons. Right.
Secretary Geithner. You cannot, I think, offer the hope of
raising more revenue from business as a whole over time because
we live in a much more competitive world. But you cannot take
the other risk, which is that we lose revenue.
Senator Coons. And for those very folks I mentioned who
today are getting bad news, how do I reassure them that by
making that dramatic reduction in at least the statutory
corporate rate I am not simply--were I to be supporting that, I
am not simply encouraging more offshoring, more loss of
American manufacturing jobs? You do have some specific
incentives targeted at manufacturing, I think are a strong part
of this plan. But I am very concerned about how we make sure
that we do not further lose manufacturing in this country.
Secretary Geithner. Well, again, the critical test we apply
to any reform program that we are presented with or that we
propose would be we improve, not reduce, the incentives to
invest here; we reduce, not increase, the opportunities to
shift income outside of the United States. That is a critical
test. And it is very important, as you are implying, that when
you look at these proposals for changing how we tax worldwide
income, territorial options, you do not--not just risk losing
revenue, but you do not want to create the incentives to have
more of that stuff happen outside the United States.
Senator Coons. There are a number of things about how
budget scoring works here at the Federal level that are new to
me. I got familiar with how to balance budgets at the county
level. The Federal budget is fundamentally different. There are
a number of things folks have brought to me that I am trying to
get my head around. One of them is the idea that the student
loans, when they have been moved to direct lending, are scored
as being without risk, essentially presumed to be fully repaid,
and that that creates the impression, the false impression of
savings, when, in fact, any realistic assessment would include
some risk. Can you comment on that?
Secretary Geithner. You know, I need to think about that a
little more carefully, but I would be happy to respond to you
in writing about that.
Again, I think the general principles we try to abide by
and we should abide by are that you need to show on the budget
the full costs, the potential risks of loss associated with any
type of loan or guarantee program, whatever its basic form. And
obviously it is important we try to achieve--hold to that. But
I would be happy to think about that more carefully and get
back to you.
Senator Coons. Please.
Senator Coons. Then, last, there are some, I think, strong
moves in this budget in terms of the sustainable growth rate,
the doc-fix, so-called, and the changes to the Pension Benefit
Guaranty Corporation. Could you just give me a little more
detail on the PBGC changes and how that will ensure stability
or solvency farther into the future and, thus, reduce some of
the future liabilities that I think all of us on both sides
here are quite concerned about?
Secretary Geithner. Well, the way the current PBGC, the
benefit scheme works is, just to be direct about it, we do not
give the PBGC the capacity, the authority to charge a guarantee
fee that covers their liability. And what that means is all
sorts of other people pay the costs of those unfunded pension
funds when companies fall into bankruptcy. So, again, a basic
test of responsibility is you want to make sure, if you are
providing guarantees, you need to charge for them. They need to
be risk based, and they need to be fair in design. We do not
allow them to do that now. We think that is important for
Congress to do.
Again, if you think about the consequence of getting that
wrong, think about Fannie and Freddie.
Senator Coons. I think the point and that model also should
be applied to the student lending work that the Federal
Government is now more directly involved in.
I will close, if I might, Mr. Chairman, by saying, you
know, while Senator Sanders I think laid out a very compelling
case about how we got here, I was encouraged by Senator
Ensign's tone, which really focused on how do we solve the
problems that all of us have. And I do think that we need to
look to leadership across both sides of the aisle, by this
Committee and by the other chamber of Congress, and invite the
President to join us.
Thank you very much, Mr. Chairman.
Chairman Conrad. Thank you, Senator.
Senator Toomey.
Senator Toomey. Thank you very much, Mr. Chairman, and
thank you, Mr. Secretary, for joining us today.
I would like to address the debt limit debate that is upon
us, but I want to start with a little bit of context, and we
have touched on some of these things. But it is very important,
I think, to inform our judgment as we debate the debt limit.
And I want to emphasize a point that Senator Thune made
earlier. While we rightly focus on the level of our deficits
and our debt, it is spending that hasten us here. Since 2000,
just since 2000, total Federal spending has doubled. And so we
have debts now--deficits now far greater than deficits we were
running recently. In 2007, for instance, as you know, Mr.
Secretary, our deficit was only 1.2 percent of GDP. This year
it is over 10 percent. It is over $1.5 trillion.
This is a recent phenomenon. The public debt that we had in
1988 was about 41 percent of GDP. In 2008, public debt was
about 40 percent of GDP. Today it is 64 percent, and by October
it is going to be 72 percent of GDP. The debt has doubled in 4
years. It is scheduled to triple in 11 years. And as we
discussed briefly earlier, but I really want to stress, this is
a fraction of the problem that we have. The unfunded
liabilities that we have, the contingent liabilities through
the guarantees of Fannie and Freddie, the big entitlement
programs, you know, we could argue about how to do the math and
how to discount this unfunded liability, but anyway you do it,
within reason, it is a number that is at least well into the
tens of trillions, and it might be, as Mr. Johnson says, over
$100 trillion. So any way you look at it, those obligations
dwarf the numbers that we have seen on the board, the actual
publicly traded debt.
So I think we have an enormous problem, and it is already
upon us. And what concerns me is what this administration has
done in this environment. What have we seen? The administration
created a new trillion dollar entitlement program, launched an
$800 billion stimulus spending, pushed huge increases in
discretionary spending in recent years. The President is now
calling for another--basically a stimulus bill, $50 billion to
build high-speed rail, which I think would be a shocking waste
of money. The President is threatening to veto a CR because the
Republicans want to cut back the spending that was added in the
last couple of years. And the President proposes a budget that
increases our debt every year, and I think you acknowledge that
CBO will observe that it increases it even as a percentage of
GDP. And the President, as we have observed repeatedly this
morning, does absolutely nothing about the entitlements that
are ultimately driving this whole train wreck.
In fact, I think part of the problem is the administration
is populated with people who think at some level that the more
Government spends, the richer we all become. And I just have to
say this just is not working, and I think this is dangerous.
And I think the administration thinks it is working, but I do
not.
So when the President says that now that the country has,
metaphorically speaking, reached the limit on its credit cards
and we should just give it a new one and not make any changes
to the process, talk about that later, I just do not think that
is a good decision.
Now, let me emphasize--and I have said this before, and I
have said this to you, Mr. Secretary--I am willing to vote to
raise the debt limit. But I am only willing to do that if we
are going to make the cuts in spending and the changes in
process that got us here. You have acknowledged that the
process is broken. I just do not think we can kick this can
down the road anymore.
Now, we apparently disagree about whether we should make
increasing the debt limit contingent on getting the kind of
process reforms that fix this problem. But there is one thing
that I know we do agree on--and this is something I have also
written about--and that is, under no circumstances should the
United States ever even get close to defaulting on the debt
that we have issued. And I know you agree with that. It would
be a complete disaster. It is unnecessary. We have a moral
obligation to repay people who have lent us money.
And so, as you know, I have introduced a bill that would
simply guarantee that as we try to resolve our differences over
what to do about the debt limit, if we have not got it resolved
at the time at which we reach it, we would at least not default
on our debts. And my bill would do that by simply requiring
that the Treasury make as a priority payments on interest and
principal, with the ample resources the Treasury would continue
to have.
Now, you have argued that my bill does not work, and while
at least implicitly you have acknowledged that, yes, you could
continue servicing the debt, even delays in payments to vendors
would be perceived by the markets as much of a default as a
missed payment on a Treasury bond. So basically you are telling
us that if we have to delay a payment to the guys who mow the
lawn around The Mall, that would have the same kind of impact
and cause the same kind of financial crisis that would result
if we failed to make an interest payment on a Treasury
security.
I have to tell you, Mr. Secretary, that is just not true. I
spent years as a professional in the bond market. I was trading
fixed-income securities, including U.S. Treasuries. But whether
you are a bond trader or whether you are a pension fund manager
in Pittsburgh or a senior citizen in Allentown investing your
IRA savings, the market knows the difference between delaying a
payment to a vendor and defaulting on our Treasuries.
Chairman Bernanke was asked last week at the Budget
Committee in the House if he thought it would be a good idea
for the Federal Government to adopt this kind of bill. His
answer was, and I will quote: ``Well, it would reduce the risk
of the debt limit, that's for sure.''
So I have to say I think it has been inappropriate for the
administration to raise the specter of a default on our debt in
the context of this debt limit, because you and I both know
there is no circumstances in which we are going to default on
our debt. We should not even really have to have this
discussion because we know this. But since the administration
has raised this specter, I felt it was necessary to try to
clear this.
I believe that we are already in the early stages of a
fiscal train wreck. I think the problem is very, very serious.
It is a spending problem that both parties are responsible for
to varying degrees. The debt level, if you ask me, is already
at dangerous levels. I just do not think we can kick this can
down the road any further, and I think what the administration
is implicitly asking us to do is to just go ahead and give them
another credit card without making the fundamental process
reforms that we need to get onto a sustainable path.
Secretary Geithner. May I respond, Mr. Chairman?
Chairman Conrad. Certainly.
Secretary Geithner. Senator, you and I probably disagree on
less than you think, and I appreciate very much your review of
history about what produced this big acceleration or debt
burdens, because that is a very helpful context for everybody,
and I very much appreciate your commitment to making sure that
people understand we will meet our obligations to the country.
You are right to emphasize the cost of not doing so, and we
should not let the markets start to build any risk that
Congress will not ultimately pass that increase we need.
But I just want to make sure that I clarify one thing that
is very important which is that we agree that we have to work
together on a plan that Congress can enact that will start to
deal with these very daunting, very formidable deficit
challenges. A hundred percent agree with you. That is
critically important. We cannot put that off. And again, we
look forward to working with the processes that are set up to
try and make sure we achieve that.
But I would caution everybody against taking any risk that
Congress does not act to increase the limit within the
timeframe we need, because for the reasons you said, we cannot
afford to let the market lose any confidence that ultimately
Congress will act well in advance of any time we are going to
hit the limit, because that would be catastrophic, would cause
grave damage to the recession, to the expansion underway, to
our capacity to dig out of this recession, and we cannot afford
to take that risk.
Chairman Conrad. Senator Portman.
Senator Portman. Thank you, Mr. Chairman. And, Mr.
Secretary, thank you for your testimony today. I want to
associate myself with the comments of Senator Sanders,
actually, which might seem unusual to you. But he said he
thought this was an extraordinarily strange conversation, and I
agree with him for different reasons, as you might imagine.
I just think we are at the point in our country's history
where we can't afford to play politics, and I think this budget
presentation, which has been talked about a lot, and Senator
Toomey just talked about some of the numbers, it is a political
statement and it does not rise to the challenge. In fact, it
does not rise to the very challenge the President has laid out,
including the challenge you have laid out and Director Lew has
laid out and others.
So that is what I find strange about this conversation. You
said to us today that by doubling the gross debt between last
year and 10 years from now, which is in the budget, by ending
up with interest payments on the debt alone that are in excess
of all of the discretionary spending, by the fact that we have
this fiscal time bomb on our doorstep and we are not dealing
with this in this budget, you called it unsustainable today.
You have acknowledged that there will be weaker growth in
our economy because of the debt that is building up under this
budget.
Secretary Geithner. If we do not act.
Senator Portman. Well, under your budget, you are saying,
you have acted----
Secretary Geithner. No, no, absolutely not.
Senator Portman. You have put forward your----
Secretary Geithner. No, no, no.
Senator Portman. You said that there will be weaker growth
because of the debt which will be--the gross debt will be over
100 percent of our GDP----
Secretary Geithner. No, if Congress does not----
Senator Portman [continuing]. Under this budget.
Secretary Geithner. If Congress does not act, then we face
that risk, but----
Senator Portman. No. I am talking about the numbers in your
budget. This is unsustainable. I assume you still agree with
that. If you do not, this is an extraordinarily strange
conversation, if the Secretary of Treasury does not believe
that 100 percent of GDP is going to limit growth in our
economy.
And then you ask us, well, we are waiting to see what you
provide us. Look, this has to be an effort, again, that gets
away from the politics. We cannot afford it and we have to
start solving the problem. I would say that, unfortunately, as
you have noted yourself today, and I appreciate your candor on
this, your budget is worse than it looks. CBO will end up
saying that these deficits are higher than you have projected.
In fact, I suspect they are going to end up saying that it
grows our deficit not just in nominal terms, but as a percent
of GDP.
Let me give you one concern that I have here. Your growth
assumptions are too high, and we have talked about this. But if
you use the CBO growth assumptions and the Blue Chip, the
private forecasters' growth assumptions, compared to yours, and
I am extrapolating here from CBO's rule of thumb which is a
lower growth rate of .1 percent, it would result in a 10-year
deficit of about $310 billion. If you assume .5 percent lower
growth, which is what the difference is between the Blue Chip,
CBO, and yours, we are talking about a higher deficit of over
$1.5 trillion over the next 10 years.
Now, that wipes out all of the claimed savings in your
budget, that alone. So this situation is even worse than,
again, being stated in your budget and I think we will see this
through the CBO analysis.
My other concern, obviously, is that the growth side of the
equation is not addressed. You and I have talked about this.
And I commend you yesterday for talking about the necessary
expansion of exports we need to get this economy growing again,
and, in fact, you had specifically talked about your support
for the three trade open agreements that have already been
negotiated and giving the President the ability to negotiate
further trade openings.
I would ask you today to talk a little about the pro-
growth side of things. We are looking at 9.6 percent
unemployment in Ohio today. We have lost over 170,000 jobs in
Ohio since the stimulus was signed into law 2 years ago today.
Today is the anniversary.
We still do not have the kind of growth we need, coupled
with the spending restraint, to get this deficit and debt under
control. I would just ask you about what you would support. I
know you claim there are some things in the proposal on growth
and on taxes that will help the economy. I see just the
opposite. I see the tax increases. I see the lack of any tax
reform, a huge opportunity missed.
In fact, I look at your budget and you actually continue
this assault on deferral, which is where you have a U.S.
company that does business overseas being taxed more under your
budget. There is a recent report out on this by Robert Shapiro,
who was a Clinton administration official, and AEI that says
the elimination of deferral would cost U.S. companies 159,000
jobs.
In Ohio, by the way, there is a separate study that has
been done by an economist at Kenyon College that says it is
17,000 jobs lost in Ohio. And yet, your budget continues a
number of changes to an international tax system that limits
this practice.
So if you could address, what do you think we ought to be
doing in terms of taxes? Can we lower the rate and broaden the
base and make our tax system more efficient and therefore add
more to economic growth, which in turn will add more revenues?
And why is that not in the budget? And what else would you
propose to get this economy moving?
Secretary Geithner. Senator, let me just start by again
acknowledging that you have a long distinguished career in the
Executive branch. It is nice to see you back here helping solve
these problems.
When I left the Treasury at the end of 2000, the CBO was
projecting us to have surpluses in the range of, I would say,
north of $5 trillion over the next 10 years, and when I came
back in on January 1, 2009, CBO was projecting, I think, a $13
trillion swing in the projected deficits facing the country as
a whole. And I think it is very good to hear, across the
political spectrum now, a recognition that we have a deep
imperative to recognize deficits matter and we have to fix them
over time. Again, we are looking forward to working with you on
how best to achieve that.
I want to say a couple things in response to your points
you made in your questions. A few things on the growth
assumptions. CBO's are lower in part because they have to
assume that the Bush taxes, all of them, expire in 2013. That
is a big hit to GDP. We are not proposing that. It forces CBO
to show lower growth estimates because of that.
Now, when they score our proposed policies, they will show
a higher GDP growth than they did initially because of that
basic change. Again, you have had the privilege of doing these
assumptions before. Nothing perfect in them.
Senator Portman. How about Blue Chip?
Secretary Geithner. And you are right. Our growth scenario
is just a little above Blue Chip, but I actually look back and
compare them to yours when you were OMB Director, and my
suspicion is, you will find when you look at them----
Senator Portman. When the deficit was one-tenth of what it
is today.
Secretary Geithner. No, but--well, again, not dramatically
higher than when I left the Treasury.
Now, if you look at our growth assumptions over the next 10
years, we are assuming, as we should, that growth on average is
significantly lower than it is in past recoveries, as we should
expect given the nature of this basic crisis.
But again, the good thing about our system is, CBO will
govern. It is their assumptions that govern. You and I do not
need to debate the future. They will decide for the Congress.
Now, on deferral, just one quick thing on deferral. I know
this is unpopular proposals for a lot of people in the business
community, but let me explain what they are designed to do.
They are designed to, again, reduce the incentive to shift
investment outside the United States.
So as you know better than anybody, if there are two
companies in your state today and one builds their next plant
outside the United States, one builds their next plant in your
state, that first company gets a lower effective tax rate. That
means they have incentives to make that next marginal
investment outside the country.
We do not think that makes sense at a time when we want to
encourage more job creation investment here, so we want to
redress that, at least get it back to neutral. But again, I
think our view is the best way to get there, is through a
comprehensive reform that lowers the statutory rate very
substantially, but does it in a way that is deficit neutral.
Senator Portman. That would have been great to have seen in
the budget and we can talk about this, but what it does is it
hurts jobs in this country because we are not able to sell as
many products overseas. That is the point of growth.
Chairman Conrad. Senator Cornyn.
Senator Cornyn. Thank you, Mr. Secretary, good to see you.
Is it correct to say that this proposed budget relies, in part,
on a $1.6 trillion tax increase over the next 10 years?
Secretary Geithner. Well, the way I encourage you to look
at this, you should look comprehensively at the tax proposal in
the budget, and I will just do the numbers for you.
Senator Cornyn. With all due respect, would you answer my
question?
Secretary Geithner. Three trillion in net tax reductions
for individuals.
Senator Cornyn. I am not talking about--I am asking, does
it increase taxes for some taxpayers on $1.6 trillion?
Secretary Geithner. Oh, absolutely. As I said, we are
proposing to allow the tax cuts for the top 2 percent to
expire. We are proposing to reduce tax expenditures for the top
2 percent. And there is a series of other changes, more modest
changes, that do raise revenues, but you have to look at the
overall----
Senator Cornyn. Let me ask you specifically, Mr. Secretary,
because time is limited. $90 billion of tax increases in the
President's budget are going to be imposed on the domestic
energy industry under this budget. This is a sector that is one
of the largest employers in the country supporting more than
9.2 million jobs, contributing 7.5 to GDP, and which is already
contributing $100 million a day to the Federal treasury.
How does that tax increase on the domestic energy industry
reduce our reliance on imported oil?
Secretary Geithner. Well, Senator, you know the arguments
in this context. What we are proposing to do is to scale back
what are very expensive tax expenditures that go to a limited
number of industries and distort overall investment and require
all other businesses to pay more tax as a result. And that is
one proposal in that direction.
Senator Cornyn. Well, if you increase taxes on domestic
energy supply, that will translate into increased costs of
gasoline for consumers and diesel, will it not?
Secretary Geithner. No, it will not have that effect
because the price of oil and gas as a result is set in the
world markets and modest changes in the subsidies we give the
domestic oil company will not affect the price.
Senator Cornyn. So you can increase taxes on an industry
and it will have no impact on price to consumers, is what you
are saying?
Secretary Geithner. In a market like this, I believe almost
any economist would tell you that there will be no impact on
the broad price of oil to the U.S. consumer.
Senator Cornyn. Will you agree with me, if you increase
taxes on domestic production of energy, it will necessarily
increase our dependence on imported energy because they will
not bear that same tax burden and it will be cheaper?
Secretary Geithner. No, probably not materially at all. But
you are right, we are proposing to reduce the subsidy we give
through the Tax Code to that industry. Now, they still will
benefit a whole range of other subsidies, but we are proposing
to reduce those again because we do not have unlimited
resources. And again, if we do not do that, we are going to
have to raise taxes on somebody else.
Senator Cornyn. Let me go on to another question, which I
continue to be amazed that there is any really disagreement,
that increasing taxes on an industry will not have an impact on
consumers. But I hear your answer.
Senator Sanders asked a number of questions about tax, who
pays taxes, and isn't it true that about 97 percent of the
income taxes that are paid in America today are paid by the top
50 percent of income earners?
Secretary Geithner. Well, again, you know these numbers. I
think what the Senator was pointing out, which is true, which
is if you think about----
Senator Cornyn. Well, I am asking what I am--my question,
not his.
Secretary Geithner. Again, what I would look at is, what is
the effective tax rates for people who make, for example, in
the top 1 percent of income. What is their effective tax rate
versus the effective tax rate of middle class America. And that
is the question he was speaking to and I think he is right in
that.
Senator Cornyn. Well, but my question is, isn't it true
that 97 percent of income taxes are paid by the top 50 percent
of income earners in America?
Secretary Geithner. Well, I am not sure exactly what those
numbers are, but I would be happy to provide them in writing.
Senator Cornyn. Well, if you are not sure about the exact
number, isn't that approximately correct?
Secretary Geithner. I am not sure. Again, you are right to
say that a large fraction--because income inequality is so high
in the United States, a large fraction of tax revenues come
from the relatively well-off, but their effective tax rate is,
in many ways, sort of strangely much lower than the average,
you know, a less fortunate American.
Senator Cornyn. Mr. Secretary, I do not expect you to know
the exact numbers, but I am, frankly, astonished that the
Secretary of the Treasury would not know generally where the
tax burden lies.
But let me just ask another way. Would you agree with me
that the top 20 percent of income earners in the country pay
approximately two-thirds of Federal taxes?
Secretary Geithner. Again, that sounds broadly right, but I
think what you are debating a little bit is what is the
distribution of the effective tax burden, and one way to
measure that is what is the rate they pay relative to income.
Senator Cornyn. Well, I am not debating it right now. I am
just asking for information from you to answer those questions.
One of the hardest things I have found in Washington, D.C.
is to get the facts because it seems like everybody spins. Once
you get the facts, then it is a whole lot easier to figure out
how to solve the problem.
Secretary Geithner. I would never dispute the facts. Facts
are easy to agree on.
Senator Cornyn. So may I make just a respectful suggestion?
Under the Budget Act, it is the President's statutory
obligation to produce a proposed budget.
Secretary Geithner. Yes.
Senator Cornyn. And we have talked about that and, frankly,
I am among those who are disappointed that the President did
not go further and deal with more than 12 percent of all
Federal spending that included a $1.6 trillion in new taxes,
and it appears to not engage is own fiscal commission's
recommendations, which I found to be dramatic and sobering and
bold.
And so, I hope that we will engage on these issues. The
only way we are going to get a resolution of the crisis facing
our country is if the President is engaged. And if the
President is disengaged, it will not happen. It will not
happen. We will sort of fall back into the traditional
demagoguery--
[sic] that occurs whenever we talk about dealing with
important and large fiscal matters.
So if I could just make a respectful suggestion, we saw in
the expiring tax provisions in the end of December that the
President and the Vice President got very directly engaged with
the Republican leader and with the assistant Republican leader,
Senator McConnell and Senator Kyle. My suggestion to you is,
that if the President would invite those two individuals, along
with House leadership, over to the White House and say, How can
we work together to fix this problem, it would be a
dramatically constructive move and help move this in the right
direction, rather than to resort into the same old he said/she
said and blame game.
Thank you, Mr. Chairman.
Chairman Conrad. Let me just say that this is something I
have repeatedly asked for. I do not see any way around, and the
question is timing. I understand that. We, in Congress, have an
obligation to lay out our plans and we will do that. But some
time very soon I believe it is critical that there be a summit,
a negotiation, whatever one calls it, that involves the
leadership of the House and the Senate, Republican and
Democrat, and the President.
That was really at the heart of the proposal Senator Gregg
and I made for a commission that involved the Secretary of the
Treasury and the head of OMB. That was our proposal. We got 53
votes for that proposition. We did not get 60.
Senator Cornyn. I was one of them, Mr. Chairman, and I
admire your leadership, along with Senator Gregg's leadership,
on this issue. But the fact of the matter is, unless the
President is willing to engage on this--and I am not suggesting
they do it in public. I am suggesting they have a meeting and
get to the solution, because as you have noted many times, we
cannot kick the can down the road. Unfortunately, I see this
history repeating itself.
Chairman Conrad. Let me just say that I do not think
anybody who has listened to me does not know that I deeply
believe this can can be kicked down the road. I appreciated the
Senator's support.
I want to go to one point before we leave. I have heard
over and over that what we have is a spending problem. Deficits
are the result of spending and revenue, the difference between
the two. We do not just have a spending problem, although we do
have a spending problem, we also have a revenue problem.
I am so, frankly, tired of hearing that there is just one
side to the calculation of the deficit. There is not just one
side. There are two sides. There is revenue and there is
spending, and the reality is, the truth is, we have a problem
on both sides of the equation. The spending is the highest it
has been in 60 years, as a share of the GDP. The revenue is the
lowest it has been in 60 years, as a share of the GDP.
So let's get real. Let's get real. Yes, we have to do
spending and yes, we have to do revenue. If people are not
going to be serious about what has to be done here, we are not
going to solve the problem. With that, I thank the Secretary.
Senator Sessions. Mr. Chairman, I would agree with that.
Both are factors, but we see as the economy comes back, revenue
will come back to its historic levels. But if we get entrenched
in spending at 25 percent of GDP, we are going to have a very
difficult time getting back there.
Chairman Conrad. Look, nothing could be more clear. Anybody
who has listened to me for 5 minutes knows I am serious about
cutting spending and I voted to do it on the Commission. I wish
others had. Five of the six Senators did. Five of the six
representatives of the President did. Five of the six
Representatives of the House took a walk.
Senator Sessions. Thank you, Mr. Chairman.
[Whereupon, at 12:11 p.m., the Committee was adjourned.]
THE PRESIDENT'S FISCAL YEAR 2012 EDUCATION BUDGET
----------
TUESDAY, MARCH 1, 2011
U.S. Senate,
Committee on the Budget,
Washington, DC.
The Committee met, pursuant to notice, at 10:01 a.m., in
room SD-608, Dirksen Senate Office Building, Hon. Kent Conrad,
Chairman of the Committee, presiding.
Present: Senators Conrad, Sanders, Whitehouse, Merkley,
Begich, Coons, Sessions, Cornyn, Thune, and Johnson.
Staff present: Mary Ann Naylor, Majority Staff Director;
and Marcus Peacock, Minority Staff Director.
OPENING STATEMENT OF CHAIRMAN CONRAD
Chairman Conrad. The hearing will come to order.
I want to welcome everyone to the Senate Budget Committee
today. Today we will continue our series of hearings on the
President's budget. Before the recess we heard from OMB
Director Jack Lew and Treasury Secretary Tim Geithner. Today
our witness is Secretary of Education Arne Duncan. Tomorrow we
will hear from Energy Secretary Chu, and on Thursday our
witness will be Transportation Secretary Ray LaHood.
Next week we will also be holding a hearing on Defense and
State Department budgets. I want to alert members that both of
those Departments have asked to testify together.
I am very pleased to welcome Secretary Duncan to the Budget
Committee today. This is the Secretary's first appearance
before the Committee, and we look forward to his testimony.
I personally believe that education is the key to our
country's economic future. The importance of education is
something that was ingrained in me at a very young age. I was
raised by my grandparents. My grandmother was a school teacher,
Mr. Secretary. She was 5 feet tall, and we called her ``Little
Chief'' because she commanded respect. And in our household, I
will never forget, she said, ``In this housing there are three
priorities: No. 1 is education, No. 2 is education, No. 3 is
education.'' And we got the message, and she was right.
So even as we look to cut spending to bring down the
deficit, which we must do, we also need to ensure that we get
our priorities right, and education needs to be a priority as
we proceed with reducing Government expenditure.
We need to be careful not to cut education in a way that
would come back to hurt the Nation's long-term economic growth
and security. We simply must maintain a strong education system
if we want to keep pace with our global competitors.
Let me just go through quickly a couple of charts that I
think raise concern.
First of all, we are now falling behind competitors in key
areas. American students no longer are at the top of their
class. We rank 25th out of 34 Organization for Economic
Cooperation and Development countries in math, well below the
OECD average. We rank 17th out of 34 OECD countries in science.
Our global competitors are making education a priority.
The contrast with China is striking. In the mid-1980s, we
produced nearly as many engineers in graduate schools as China,
but now China is producing far more engineers than we do, as
this chart depicts.
The education achievement gap that has opened between the
United States and its global competition is already hurting our
economic strength. Here are the findings of the study done by
the consulting firm McKinsey & Company in which they quantified
the economic impact of the education gap. They wrote, in part,
``The persistence of educational achievement gaps imposes on
the United States the economic equivalent of a permanent
national recession. The recurring annual economic cost of the
international achievement gap is substantially larger than the
deep recession the United States is currently experiencing.''
Let me go to the next chart.
The reality is that we have not been focusing our Nation's
resources as productively as possible. This chart, which was
made with data from the President's budget, shows that our
combined investment in infrastructure, research and
development, and education has fallen as a share of GDP from
6.1 percent in 1962 to 3.6 percent in 2012. That is, even while
deficits and the share of debt to GDP has grown, our commitment
to these areas--infrastructure, education, research and
development--has shrunk.
How can that be? Well, it can be because what is happening
is the entitlements, the mandatory side of the budget has grown
and displaced much of what has been traditionally domestic
discretionary spending. So as a share of the economy, we are
spending a smaller amount of education than these other
critical areas than we did in the 1960s.
One of the key challenges we face in education funding is
the Pell Program. It is important to remember that even the
maximum Pell award of $5,550 offsets only a small portion of
the cost of college, less than one-third of the annual cost of
a public 4-year college. That portion hasten smaller as the
rising cost of college has outpaced the increases in the Pell
award.
At the same time, due to the recession and increased demand
for Pell grants as well as changes that we made as to who
qualifies, the cost of the program has increased. So we are
paying a smaller share of the cost, but the overall cost of the
Pell Program has increased.
In 2008, the Pell Program cost $14.2 billion. CBO now
projects that, without changes to the program, Pell costs in
2012 will be $37.8 billion.
Here is what the Obama administration has proposed in its
budget for the Pell Program. It proposes to maintain the
maximum Pell award at $5,550. It proposes savings within Pell
by eliminating the second Pell payment, which was established
to help students pay for summer school. It also proposes other
savings in education accounts to help pay for Pell, including
ending in-school interest deferment for graduate students,
incentivizing conversion to direct lending, and modernizing the
Perkins Loan Program. I look forward to hearing more from
Secretary Duncan on these proposals.
I want to end by emphasizing again the importance of
education to our Nation's economic strength. Here is a
statement from Harvard economist Claudia Goldin and Lawrence
Katz from a paper they wrote entitled, ``The Future of
Inequality: The Other Reason Education Matters So Much.'' They
wrote: ``An educated population is a key source of economic
growth, both directly through improved labor productivity and
indirectly by spurring innovation and speeding the diffusion of
advanced technologies. Broad access to education was, by and
large, a major factor in the United States' economic dominance
in the 20th century and in the creation of a broad middle
class. Indeed, the American dream of upward mobility both
within and across generations has been tied to access to
education.''
I think they have it right. Education is a key to our past
success and our future strength.
With that, we will turn to Secretary Duncan. Before we do
that, I will turn to my colleague Senator Sessions for his
opening comments, and then we will go to Secretary Duncan for
his initial testimony. Then we will go to questions. We are
going to have a large turnout today, so we are going to go to
5-minutes rounds.
Senator Sessions, welcome.
OPENING STATEMENT OF SENATOR SESSIONS
Senator Sessions. Well, 5 minutes will be short, but maybe
that will be satisfactory, Mr. Chairman. We have so much to do.
Thank you, Secretary Duncan. Thank you for your service and
for raising some tough questions about maybe some of the sacred
cows in the education establishment. I appreciated your recent
comments to the Governors' conference, for example, noting that
somewhat large classrooms with better teachers outperform
smaller classrooms, and that is good, honest talk and can
result in saving and improving education at the same time.
And I was also pleased you met with Dr. Katherine Mitchell
of Alabama. She designed the Alabama Reading Initiative. That
program, with very little cost except training and startup, has
transformed teaching and learning and reading proficiency in
Alabama. In just a few years, Alabama's K-4 schools led the
Nation in reading improvement. Massachusetts and Florida used
the same type program. They were No. 2 and three in reading
increase in 1 year. That kind of technique that costs less
money is what we need--does not cost more money is what we need
more of. It was technique and not funds, I think, that made
that difference.
So I strongly believe our education focus should be on
advancing learning, increasing those magic moments in the
classroom when a child gets it and learning occurs. For too
long, we have judged our education system on whether the
building is new, what kind of equipment they have, classroom
size, and how much we spend. But just throwing money at the
problem is clearly not the answer. The test for education can
only be whether learning is occurring adequately.
I think you believe this, and I see you nod at that. We are
spending more, Mr. Chairman, than those countries that are
beating us in education achievement, spending a good deal more
than most of them. So I think it is time now for honest, fact-
based budgeting. Everyone knows we are in a financial crisis.
Admiral Mullen, Chairman of the Joint Chiefs, said our debt
is the greatest threat to our national security. This year's
deficit alone is projected to be $1.65 trillion. That amounts
to $7,500 for each American adult over the age of 25.
While the President tells the American people that the
budget asks Washington to live within its means, the facts show
the opposite. The President's budget adds $13 trillion to our
gross national debt, doubling it by the end of the decade. Over
the next 10 years, the smallest annual deficit the budget calls
for is over $600 billion, and the number rises to $800 billion
in the tenth year. We borrow that money, of course.
Interest on our debt was $196 billion last year, three
times as large as the education budget this year.
Interest was three times the education budget this year.
But in 10 years, under the President's plan, because of the
increased debt, the annual interest payment will be $844
billion, 10 times the size that the budget calls for education
spending in that year.
Interest, the fastest-growing item in the budget, will
crowd out our future hopes for education and for all other
programs. It is an unsustainable path. That is why I am
flabbergasted by the education budget. I think it only could
have been written in Washington in a bubble detached from the
reality I have just described.
Over the last 3 years, we spent 68 percent more on
education than the 3 years before that from the Federal
Government.
The budget now calls for an 11-percent increase in Federal
spending on education. Sir, we do not have the money. Everyone
knows that. American families are tightening their belts every
day, doing more with less, as are cities, counties and States.
It is time for the Federal Government to do the same. We have
to.
All of us favor education, but we cannot continue these
large increases in spending, every dollar of which is borrowed.
This request for an 11-percent increase, more than 30
percent more than we were spending in 2008, is an affront to
common sense, an affront to the will of the voters. These
charts show that education has been the beneficiary of
unprecedented increases in recent years without, let me add,
any significant increase in student performance. And with the
stimulus money, education has risen by stunning unprecedented
amounts. Your prepared statement acknowledges a 4-percent
increase in education spending, discretionary spending, but you
note that that does not include increases in discretionary Pell
grants. Well, that is not fact budgeting. That is beltway
budgeting. When you consider Pell grants--and we should--it is
an 11-percent increase.
What we need is leadership that focuses on why our
education system is not meeting our expectations. This funding
crisis I think is an opportunity to challenge our educational
establishment, to thoroughly and honestly review the plain
facts, what works, what does not work. We owe that to our
children today for their education. And we owe our children a
country that is not burdened by crippling debt. The President
says his budget is a plan for winning the future, but you
cannot win the future for our children with borrowed money.
As Secretary Geithner acknowledged last week, our surging
debt threatens our economic growth, jobs for young graduates,
and even economic turmoil. It would be wrong to leave our
country weaker and diminished because we lack the courage to
confront the fiscal crisis we are in.
So we need a dramatic course correction. We need to get the
message. We need to get in sync with reality of what is
happening in the world today. We need to trim bloated
Government. We need to start now, and it goes without saying
that the Education Department is not exempt. We will vote this
week on a continuing resolution to fund the Government for some
period of time. No continuing resolution to fund the Government
that fails to reduce spending will pass. It will not pass the
House or the Senate. We are going to fight for spending cuts
this week, next week, next month, next year. We are going to
fight for spending cuts in this Budget Committee and the
Appropriations Committee and on the Senate floor. We are going
to keep fighting for a leaner, more productive Government until
we have restored confidence in our economy and put our country
back on the right path--the path to prosperity.
So this battle over the budget is just beginning. I respect
your leadership. I think you have some great ideas. But we
cannot approve, and I do not think will approve, an 11-percent
increase in education funding.
Thank you, Mr. Chairman.
Chairman Conrad. Thank you. It sounds to me like you have a
bit of a cold there.
Senator Sessions. I do.
Chairman Conrad. So we hope you will recover.
Senator Sessions. Thank you.
Chairman Conrad. We want to welcome the Secretary. Please
proceed with your testimony, and then we will go to the rounds.
Let me just say that I initially said 5-minutes rounds. If the
turnout is the same as the turnout that we see here, we will go
to 7-minute rounds. We have indicated from Senators ten more
Senators would be here. If that were the case, we would need 5-
minute rounds, but we will just wait and see.
Secretary Duncan, welcome.
STATEMENT OF THE HONORABLE ARNE DUNCAN, SECRETARY, U.S.
DEPARTMENT OF EDUCATION; ACCOMPANIED BY THOMAS SKELLY, ACTING
CHIEF FINANCIAL OFFICER, U.S. DEPARTMENT OF EDUCATION
Secretary Duncan. Thank you, Chairman Conrad, Ranking
Member Sessions, and members of the Committee. Thank you so
much for this opportunity to come before the Committee and to
talk to you about President Obama's fiscal year 2012 education
budget.
This proposed budget reflects our administration's dual
commitments to reduce spending and to be more efficient while
investing to secure our future, and at the very top of that
list of investments we must make is education. Education is the
foundation for a free and a democratic society. It is the
blanket of security for the middle class and the only path out
of poverty for millions of Americans who have been left behind
by a changing economy.
Education gives immigrants and their children the chance to
be productive citizens and contribute to our collective wealth.
Education enables us as a country to compete in a global
economy with other countries that are heavily investing to
prepare the next generation of innovators and leaders in
business.
Education is not just an economic security issue. It is a
national security issue, which is why retired General Colin
Powell devotes so much of his energy today to education. Last
year, military leaders stood with me and called for more
education funding because only one in four, only 25 percent of
young high school graduates today, is educationally or
physically equipped to serve in the military.
Today all across America people are meeting the challenge
of improving education in many different ways, from creating
high-quality early learning programs to raising standards,
strengthening the field of teaching, and aggressively attacking
and closing achievement gaps.
While the Federal Government contributes less than 10
percent of K-12 funding nationally, our dollars play a critical
role in promoting equity, protecting children at risk, and more
recently supporting reform activities at the State and at the
local level.
In terms of reform, the last administration focused on
charter schools and performance pay, two programs that
benefited our students when I was a CEO of the Chicago public
schools. Our administration has used competitive dollars to get
State and local educators to think and to act differently. Our
administration's Race to the Top program has prompted Governors
and educators to jointly embrace bold and courageous reform
programs. With our support, 41 States adopted higher college
and career-ready standards, and several States passed new laws
and policies around teacher evaluation. Several States altered
charter laws and policies to foster creation of new learning
models.
Race to the Top also prompted us to rethink the Federal
role. As I said, the Department was established to promote
equity in education and to protect students most at risk. To
that end, we have steadily boosted our commitment to formula
programs like Title I and IDEA.
The Federal Government also has a long history of
supporting higher education from the land grant colleges in the
19th century to the GI bill and the Pell Grant Program in the
20th. This budget further increases our investments in higher
education through both student lending programs and grants.
But today our most critical role is in supporting reform at
the State and local level by providing increased flexibility
and incentives, while holding States and district accountable
in a fair, honest, and transparent way. In fulfilling this
role, we must strike the right balance, providing as much
freedom and flexibility as possible to schools and districts,
while ensuring that children are learning what they need.
I have spent 2 years traveling the country, visiting many
of your States and districts and talking with your teachers and
your parents. I have visited schools in rural, urban, and
suburban communities, and there is a lot of dissatisfaction I
hear across the country with the current Federal law around
public education.
Many people feel the Federal Government went too far with
sanctions, mislabeling schools as failures, and issuing one-
size-fits-all mandates. That's why we're asking Congress to
rewrite and to fix No Child Left Behind, and I look forward to
working with you on that in the next couple months as we move
forward.
But there is also a deep appreciation for the Federal
commitment to children and to learning. They are grateful for
our support of the STEM subjects. Americans know that even in
challenging times, particularly in challenge fiscal times like
these, we must prepare our young people to compete in
tomorrow's economy. They know that even as States face greater
financial pressure than at any time in recent history, we
cannot put our children and our country's future at risk. So
our budget proposal reflects these aspirations and commitments.
Overall, we are seeking a $2 billion increase in non- Pell
spending. That includes a modest increase in formula programs
like Title I and IDEA, while maintaining programs for English
language learners and other at-risk populations, such as rural,
migrant, and homeless students.
We are calling for a new round of Race to the Top funds,
though we would change the program in two significant ways:
targeting school districts rather than States, and including a
carveout for rural communities.
We will continue to invest in innovation and research. We
want to support a well-rounded education that includes the arts
and foreign languages, literacy, STEM, and physical education.
We want to strengthen the teaching profession in a number of
ways and work harder to attract the top students to pursue
teaching degrees.
We proposed a new competition to strengthen early learning
program, and we are challenging every single State to boost
college completion rates. Today more than half of our young
people who go to college fail to earn a degree. As a Nation, we
cannot sustain that any longer.
There is a lot more in our budget outlined in the written
testimony, but before I take questions, I just want to
highlight how we have been and continue to be more efficient.
In the 2010 budget enacted by Congress, we eliminated four
programs, saving $360 million. In our proposed 2012 budget, we
propose eliminating 13 additional programs, saving another $147
million. Together these savings total more than $500 million
annually, which is helping fund our other priorities. Mindful
of the significant paperwork burdens we placed on local school
districts, we are proposing to consolidate 38 separate
elementary and secondary education programs into 11 simpler
funding streams. These common-sense reforms will make it easier
for school districts to focus on educating their community's
children rather than dealing with bureaucrats here in st.
We are also proposing to reduce our investment in career
and technical education, not because we do not believe in CTE
but because we feel the current program is not getting the
results we need. Even with the reduction, we are still seeking
$1 billion for CTE, and we are committed to working with States
to reform these programs for the new economy.
This year, we have also identified efficiencies in the
student aid program that, coupled with a change in Pell grant
policy, will help close a $20 billion shortfall in the Pell
grant program and save $100 billion over the next decade. Those
savings mean we can protect the $5,550 maximum Pell grant award
and help millions of young people meet rising tuition costs.
Those savings also mean that we can meet the skyrocketing
demand for Pell grants, which has risen from less than 4
million grants in 2000 to a projected 9.6 million grants next
year. In the last 2 years alone, an additional 3 million
students received Pell grants. In my view, this is a good
problem--this is actually a great problem for our country to
have. We desperately need more young people going to college,
and in this economy they desperately need our help. But we must
do more to make sure they finish college and earn their
degrees.
Let me close by saying that we share with you the
responsibility for being efficient and smart in how we invest.
But we also share an even greater responsibility, which is to
prepare the next generation to lead. We share the
responsibility for the 20 million disadvantaged students served
by Title I, the nearly 7 million students served by IDEA, the 5
million English language learners, and the 16 million college
students who benefit from student aid programs.
In his recent speech to Congress, the President talked
about winning the future. To emphasize the point, he announced
his budget at a STEM-focused elementary school in Baltimore. He
believes, as I do, that winning the future starts in the
classroom. He also believes the Government spends too much, and
he has outlined more than $1 trillion in deficit reduction over
the next decade.
This is an important national conversation that will take a
great deal of time, energy, thought, and courage. It will take
real courage on the part of Congress and the administration. We
have to be truthful with each other and truthful with the
American people about what is and is not working. We have to
take the heat together for the cuts that we are making. To win
the future while cutting spending, we must be absolutely
vigilant about how we invest and how we support reform at the
State and local level. We must be responsible in what we say
and do, and we must show results.
Responsibility, reform, and results are the hallmarks of
our budget and our administration and our guiding principles as
we move forward. And this applies at the State level as well. I
spoke with Governors this weekend, and we are now sharing ideas
with them for more flexibility and productivity in spending.
I just want to close by thanking Congress for supporting
education over the last 2 years. Because of you, we helped
protect millions of children in classrooms all across America,
from the greatest economic crisis since the Depression.
Because of your leadership, we helped States and districts
all across America advance their reform agendas, raise
standards, and challenge the status quo in significant ways.
Because of you, almost 1,000 underperforming schools have
launched radical restructuring plans to improve the lives of
children and many more in the process.
Because of you, there is a greater determination than ever
before to ensuring that our children can compete and win in our
globally competitive economy.
And because of you, we face a brighter future and a greater
prospect that the world we leave behind will be better than the
one we inherited.
Soon behalf of 80 million students of all ages, their
parents, our hard-working teachers, principals, and
administrators, and all the people of America who value
education and recognize its importance, I thank you for your
leadership.
I will stop now, and I am happy to take any questions you
might have.
[The prepared statement of Secretary Duncan follows:]
Chairman Conrad. Thank you, Mr. Secretary.
You know, this really is a difficult time. Looking back, I
believe that history will record that we averted a fiscal
collapse. I think we can very, very close to a global financial
collapse. I will never forget being called to a meeting in the
Majority Leader's office with the then Secretary of the
Treasury, Hank Paulson, and the Chairman of the Federal
Reserve, who told us they were taking over AIG the next
morning, and they told us that if they did not do it, they
believed there would be a financial collapse within days. Those
were the exact words they used, and they gave us plenty of
evidence to support that conclusion.
So I believe that the steps that were taken, as unpopular
as they have proven to be--TARP, stimulus--taken together
averted a financial collapse. I believe the work of Mr. Zandi
and Alan Blinder that concludes that if we had not done those
things, unemployment today would be at 15 percent, there would
be 8 million fewer jobs.
But with all that said, we are now left with the residue,
and the residue is not just the recovery effort. It is also
what came before in the previous administration, a doubling of
the debt, a tripling of foreign holding of U.S. debt. And now
we face a circumstance in which we are borrowing 40 cents of
every dollar that we spend.
Let me repeat that. We are borrowing 40 cents of every
dollar that we spend. Spending as a share of our national
income is the highest it has been in 60 years. Revenue as a
share of our national income is the lowest it has been in 60
years. Those are facts, and that means we have to take action.
There have been three bipartisan commissions who have come
back with recommendations on what we do going forward. All
three of them said make modest changes now, this year, as
things are still weak, but make big changes over the next 10
years--big changes in spending, big changes on our revenue side
of the equation, big changes to entitlement programs, reform
them.
I supported the President's Fiscal Commission
recommendations, the Commission on which I served, and I
believe--though there are a lot of things I do not like about
that set of recommendations, I think in terms of size they got
it about right. They have talked about $4 trillion of debt
reduction debt reduction over the next decade.
So I say this as an opening frame, Mr. Secretary. When we
are borrowing 40 cents of every dollar we spend, all of us--all
of us--have to be in on the solution, and that includes
education. Even though I personally would put education at the
top of the list for prioritization, our problem is so big,
every part of the budget has to be in on the solution.
Here is the thing that is so striking to me. As I have gone
to my State dozens of times and asked students, How many of you
do 2 hours of homework a night?, almost no hands go up. When I
go to Asia, Russia, Europe, I ask that question. Almost all the
hands go up.
When I asked back home, I asked the principal and the
teachers, Why are almost no hands going up when I ask who is
doing 2 hours of homework a night?, they say, well, it is not
assigned. Why isn't it assigned? It is not assigned because if
they assign homework, the parents complain. What's the nature
of their complaint? They say, well, the kids do not have time
to do homework. I said, Why not? Because they got a job. And,
of course, why do they have a job? Because they have to pay for
the car.
I mean, frankly, we have something that goes beyond money
here going on, and it is a very, very serious problem, I
believe, to America's future competitive position. As I say, I
have been in Asia number of times. I have asked the question
there in every school I went to, How many of you do 2 hours of
homework? The hands shoot up, virtually every hand. In Europe,
the hands shoot up. In Russia, the hands shoot up.
So, you know, if our kids are not doing homework--guess
what?--and these other kids are, it is no wonder than when we
stack it up, our kids are falling behind in math, they are
falling behind in science in terms of global competition. What
do we do about it?
Secretary Duncan. Let me give you a couple other facts that
add to your compelling sense of urgency, almost crisis. Our
dropout rate in this country is 25 percent. That is about a
million young people leaving our schools for the streets each
year, and in many of our minority communities--African
American, Latino--it is often closer to 40 to 50 percent. As
everyone in this room knows, there are no good jobs out there
today--none--for high school dropouts. There are basically no
good jobs with a high school diploma. Some form of higher
education--4-year universities, 2-year community colleges,
trade, technical, vocational training--has to be the goal for
every single child.
You talked about the PISA results internationally. The fact
of the matter is our 15-year-olds on average are a year behind
our counterparts in Canada. Other folks are out-working us,
they are out-educating, they are out-investing. One generation
ago, we led the world in college graduates. It is interesting.
It is not that we have dropped. We have stagnated. We have
flatlined. And nine other countries have passed us by. We are
now tied with four other countries for ninth. And then we
wonder why we have a tough economy.
The final thing I will say is at a time of desperately high
unemployment, we have about 4 million good jobs in this country
that are unfilled because we are not producing the talent to
fill those jobs. When the President and I met with a number of
CEOs from around the country last week, it was staggering how
many said: We would love to hire tomorrow; we have jobs we
simply cannot fill because the talent is not there.
So we have to address those brutal facts openly and
honestly. The President has talked about this being our Sputnik
moment. We are simply being out-educated, and we are going to
be out-competed if we do not change pretty significantly.
On the cultural side of this equation, the President often
tells the story of when he visited the President of South
Korea. He always asks about education. He says: What is your
biggest educational challenge? And immediately the South Korean
President said: My biggest challenge is my parents are too
demanding. Even my poorest parents demand a world-class
education. He said: I am spending millions and millions of
dollars to import teachers to teach English to our students
because our parents refuse to wait until second grade for their
children to learn English. They have to start learning in first
grade.
So this is about investing very differently, but it is also
a cultural component that we have to address very openly and
honestly that other folks revere education. In South Korea,
teachers are known as nation builders. I think our teachers are
and should be known as nation builders.
Our teacher work force has been beaten down. We have to
work harder. Your success in what you do, so many of you are
successful at what you do because you work hard. And if someone
else is working two or 3 hours harder than you every single
day, week after week, month after month, year after year, guess
what? They are going to be in a very different place than we
are. And so we have to invest differently. We have to invest
wisely. We have to address the lack of competitiveness of where
we are relative to our international peers. Jobs are not
confined to a district or to a State or to the country. Jobs
are going to follow where the good workers are, where the
knowledge workers are. And we have to think very differently
about how we invest, and w have to challenge parents and
challenge the community to put a much larger priority on
education.
The final thing I would say is I wish we had more parents
beating down our doors demanding better education. I would love
that problem. What I often get is we are moving too fast, we
are being too radical. And when we have a 25-percent dropout
rate that is unsustainable, I think we have to be radical. We
have gone from first in the world to ninth in college
graduates. We have to be radical. But we need to encourage
parents and the community to challenge us to do more and to
improve faster than we ever have in the history of this
country.
Chairman Conrad. Let me just say that my time has expired,
but, you know, it does not cost money to do homework. That is a
matter of the homework being assigned and the kids doing the
homework and that the parents insist that the schools are
demanding something from their kids.
Secretary Duncan. Let me add----
Chairman Conrad. I cannot go further on this because it is
unfair to my colleagues. We will go to 7-minute rounds. Senator
Sessions.
Senator Sessions. Thank you, Mr. Chairman. That was a very
important question. We blame teachers, I think, too much for
problems in education, and like you said, Mr. Secretary, in the
cultural situations in which students refuse to do homework or
parents will not insist that they do and efforts by teachers to
insist on excellence are not affirmed, it is a deep thing.
I would note that your praise for Canada is good, but
Canada spent $8,500 per student last year on education, and we
spent $11,500 on students. So we are spending much more and
need to get more for what we spend as we are. The President
says--you said he believes that the Government spends too much,
and you are taking heat for cuts. But we are not cutting. You
are increasing spending across the entire board, and that is
the problem.
I know Admiral Mullen of the Joint Chiefs said our debt is
the greatest threat to national security. Secretary of State
Hillary Clinton said the same thing. Do you agree with that?
Secretary Geithner said that the debt we are leaving could
leave us with a very large interest burden and unsustainable
obligations. Do you share those concerns?
Secretary Duncan. I think those are valid, absolutely valid
concerns. As I said in my statement, the President is committed
to $1 trillion in deficit reduction over the next decade. As
the Chairman said, as we move forward, I think there are lots
of sacred cows that collectively the administration and
Congress have to look at very seriously.
Senator Sessions. Well, over the next decade, the deficit
will double from $13 trillion to $26 trillion, and you can say
that cuts and saves $1 trillion, but it does not seem like it
to me. That is plain fact, and that is the budget fact.
For example, under the programs here of interest, Pell
grants, under the President's budget total Pell grant aid
available for 2012 would be $36 billion, double the amount
available in just 2008. Is that correct?
Secretary Duncan. We can go through the numbers. We are
going to save--we have a way of closing the Pell shortfall $20
billion. But let me be very, very clear. What our country
desperately needs is many more young people going to college
and graduating. Again, we have 4 million unfilled jobs today in
a tough economy. They are unfilled because we are not producing
the skilled workers that our country needs at a time when going
to college has never been more important, has never been more
expensive, and our Nation's families have not been under this
kind of financial duress in a long, long time. So the fact that
we have a 50-percent increase over the past couple years of
students accessing Pell grants I think is hugely important.
Senator Sessions. Well, I think we can all agree that
funding and money does not necessarily improve education. We
have seen that dramatically. We are going to be--in 2008, we
provided Pell grants for 6 million. Now we are providing Pell
grants under your proposal for 9.6 million, increasing that,
doubling the entire budget, and we do not have the money.
Now, with regard to student loans, we have now taken over
the student loans; 100 percent of it is Federal. But according
to our calculations, the total student loan, total in billions
of dollars will go from $98 billion in 2008 to $167 billion in
2012, a 68-percent increase. Is that correct?
Secretary Duncan. I do not know that exact number. What I
will say is when we took over the direct lending, we did that
for one very simple reason----
Senator Sessions. Well, I know we took it over. We had a
fight over that.
Secretary Duncan. Well, let me just----
Senator Sessions. But I am talking about the total direct--
comparing guaranteed and direct loans have increased from $98
billion in 2008 to $167 billion.
Secretary Duncan. We have many more people accessing higher
education, which as a country we desperately need. The only way
we strengthen our economy long term is to produce the
innovators, the entrepreneurs, the knowledge workers, the----
Senator Sessions. Well, why don't we just spend three times
as much?
Secretary Duncan. On Pell grant?
Senator Sessions. On Pell grant. Won't that just help us
fix it all?
Secretary Duncan. Well, actually we made some very tough
cuts in Pell grants, and so we asked for a $5 billion increase
but we are reducing costs by $15 million.
Senator Sessions. Well, this is Washington math. You have
not cut Pell grants. Pell grants are increasing dramatically,
Mr. Secretary. The numbers are plain.
Secretary Duncan. That is correct, and they would have
increased even more substantially, more significantly, had we
not made the tough and painful decision to eliminate----
Senator Sessions. You are proposing to increase that much.
They are not going to be increased that much because we do not
have the money.
Secretary Duncan. So what we have proposed is to eliminate
two Pell grants each year. That is a tough cut. That is a
painful cut. That is not one that I wanted to do, but we think
it is a responsible way to close the Pell shortfall.
Senator Sessions. You talked about program consolidation,
consolidate 38 K-12 programs into 11 programs as part of the
ESEA reauthorization. I think consolidation and program
efficiency is a worthy goal. I believe you are a strong
administrator. I think you have the ability to do that. You
note that some of this program structure is fragmented and
ineffective and there is little evidence of success. But the
total budget that you submit for the consolidated activities is
$900 million more. Instead of saving money, you are spending
more money. That is not what we have to have today. Since we
are so short of funds, we need to see some real efficiencies
that actually enhance education without driving up costs. Don't
you agree?
Secretary Duncan. Well, I hear your concerns, and we have
tried to do a couple things. Our goal in consolidation--these
are tough cuts and tough consolidations, and not everyone
supports them, but we think it is the right thing to do. We
think, again, particularly in small communities, rural
communities, when it is very difficult to deal with the Federal
bureaucracy, the easier we can make that relationship, that
makes a lot of sense. It will enable folks to spend their time
working with students rather than dealing with us. So we
consolidated a number of programs. We eliminate a number of
programs that we do not think are as effective as they can be.
But at the end of the day, I believe we have to invest in
education, that when as a country we have gone from first to
ninth in college graduates with a 25-percent dropout rate, our
students and our country deserve better than what they are
getting today.
Senator Sessions. Well, we need to figure out what is
happening out there. A recent report indicated that colleges
are demanding less and students are learning less. We are
sending more students, we are spending more money, and we are
getting less for it. And I really am worried, as the Chairman
expressed, that our global competitiveness is at stake.
Education is important. Thank you for promoting some of the
reforms you have been working on.
Secretary Duncan. One final comment, if I could say that I
think what is so important to both your questions is one of the
big things we have tried to do is encourage States to raise
standards. Part of the reason there is not homework, part of
the reason students are less prepared for college is because
standards have been dummied down in far too many places. We
have 41 States that have raised standards, colleges have raised
standards, and my goal is to get universities out of the
remediation business. Those who do graduate from high school,
often 30, 40, 50 percent have to take remedial classes in
college. They are not ready. With States raising standards, I
think that is a game changer. That is a huge step in the right
direction.
Chairman Conrad. Senator Coons.
Senator Coons. Thank you, Mr. Chairman.
Thank you, Secretary Duncan, for your presentation today. I
am extremely pleased to see that this budget continues on the
President's public commitment to invest in world-class
education for all our students, and I look forward to working
with you on the Elementary and Secondary Education Act
reauthorization.
I think there are some very tough choices in this budget,
and I was pleased to see some reductions, some trimming, some
realignment. In your opening statement, you reasserted that
your goal, given that Federal spending is just 10 percent of
all education spending, is to promote reform, reward success,
and support innovation at the State and local levels.
In my view, Race to the Top has succeeded significantly in
doing that. There are 11 States and the District of Columbia
that are directly benefiting from Race to the Top, but as you
mentioned, dozens of other States that may not have been
selected made significant changes.
If Race to the Top has, in my view catalyzed education
reforms in both those States that won and lost the competition,
what do you think would be the impact if funds were not
appropriated to continue Race to the Top in this year's budget?
Secretary Duncan. Well, what you have seen around the
country over the past 2 years I think is reform at a level of
unprecedented speed. As you said, you have 41 States that
adopted college and career standards, raised the bar for
children, and for the first time in this country, a child in
Massachusetts and a child in Mississippi will be held to the
same standard.
You have 44 States today working together on the next
generation of assessments to be much more thoughtful in how we
do that. We had almost three dozen States eliminate barriers to
innovative schools and create more room for flexibility. You
have seen every single State that had laws on the books that
prohibited the linking of student performance, student
achievement, and teacher evaluation, all those laws have been
eliminated. And you now have almost 1,000 schools around the
country, dropout factories were historically 50, 60, 70 percent
of students were dropping out, finally were challenging the
status quo.
So there has been a huge amount of movement at the State
level. That has to continue. That has to be sustained. In our
budget request for a third round of Race to the Top, $900
million, we want to see that same pace of change at the
district level, and we also want to have particular focus with
a set-side in rural communities.
And so we have to play at the State level, at the district
level, at the community level, Promise Neighborhoods, and,
again, we have to get better faster than we ever have in this
country. Race to the Top has been a huge catalyst for raising
the bar.
Senator Coons. How do you see the competition being
different this year with a district-level focus? And how
through the Effective Teachers and Leaders State Grants
Program, as you begin to implement local teacher and principal
evaluations systems, how do you see us working together to
ensure that teacher collaboration is sustained in the
development of these valuable systems?
Secretary Duncan. I think it is so important in this work
that all of us move outside our comfort zones. We had a
wonderful conference 2 weeks ago in Denver where we had 150
districts, and 100 districts who wanted to come but could not
get in, where the superintendent, the board chair, and the
union leader came together to figure out how we work
differently and how we use collective bargaining to drive
student achievement. We had a number of districts presenting
how they have done this in extraordinarily creative ways. So
our themes at the district level would echo those at the State
level, but with a real focus for closing the achievement gaps,
raising the bar, and all of us moving outside our comfort
zones. And what we want to do is simply reward courage. There
are so many folks around the country who are doing this hard
work, who, you know, want to be creative, that have never been
rewarded for success.
One of my biggest problems with the current law, No Child
Left Behind, is that there are about 50 ways to fail, and your
only reward for success is you are not labeled a failure. And
so we want to shine a huge spotlight through reauthorization,
through Race to the Top, through the Investment Innovation
Fund, through Promise Neighborhoods, on folks that are willing
to challenge the status quo, raise the bar for all students,
and close those insidious achievement gaps.
Senator Coons. I do think you are making significant
progress through all those different vectors in strengthening
the focus, strengthening the reform.
One area of the budget that did concern me was the change
to a direct loan program, so the incentive to convert so-called
split loans to direct lending. Are you concerned about the
additional debt that the Department will be taking on? And are
you confident that the budget scoring of these savings is real?
Or do you think it may possibly reflect a lack of an accurate
assessment of the risk associated with direct lending?
Secretary Duncan. Well, the folk that do the budget scoring
are a lot smarter than I am, so I can only assume and think
they are doing good work. The goal here is to simply make
things simpler for the borrowers and to have, you know, one
servicer rather than multiple servicers. This is an optional
program. It is not mandatory. But we think it is the right
thing for the students who are dealing with multiple
relationships, and that is difficult and complicated. At the
end of the day, we think this could save us $2.1 billion.
Senator Coons. I have some concerns about that and will
followup with outcome on that in more detail. But if I could as
a last question, as you know, we have both worked over many
years on improving postsecondary outcomes, particularly for
minority or low-income students who are the first in their
family to attend college. And I am very interested in the First
in the World Initiative, which strikes me as sort of a venture
capital fund approach to trying to really deal with these
critical problems and the college completion incentive grants.
Please, if you would, as my last question, just talk for a
minute about what is different about these. How are these going
to make it different going forward? And how is this going to
make it possible for us to close those critical gaps the
Chairman spoke about at the outset in terms of college
completion in the United States?
Secretary Duncan. So first let me just quickly say how
lucky we are to have you in the Senate and to have you on this
Committee, and almost no one brings your deep passion and
knowledge of what it takes to help children who have not had
these opportunities and families and communities that have not
had these opportunities for decades, to give them the chance to
break through. And so your leadership and insight and expertise
I think is going to be extraordinarily valuable to this
Committee and to me personally, and I look forward to our
continued work together.
At the end of the day, it is interesting, universities are
not too dissimilar to high schools, and you see some that have,
you know, first-generation college goes and many EL students
who do a wonderful job of building cultures around completion.
You see others where completion rates are very, very low. And
just at the high school level, you see some high schools that
are 95 percent minority and 95 percent poverty, with 98 percent
graduation rates and 95 percent going on to college. You see
others with similar demographics with 60-percent dropout rates,
wildly different outcomes.
What we want to do is almost a mini Race to the Top at the
higher education level to put significant resources behind
those States and those universities that want to build a
culture not just around access--and access is huge--but it has
to be around attainment, around completion. And some places do
an amazing job with that. Some do not. When I was the CEO of
the Chicago Public Schools, we tracked this data very
carefully, and, quite frankly, I started to steer my students
toward certain universities and away from others because
students with identical GPAs, identical ACT scores were getting
radically different outcomes at different universities. And the
more we can build cultures around completion, that is what our
children need, that is what their communities and families
need, but ultimately that is what our economy needs. That 50-
percent dropout rate from college has to go down.
Senator Coons. Thank you.
Chairman Conrad. Senator Cornyn.
Senator Cornyn. Thank you, Mr. Secretary. It is good to
have you here today, and I want to tell you at the outset that
some of the things I have heard you say during your tenure as
Secretary of Education give me some hope that we can work
together on a bipartisan basis to improve public education in
America, recognizing the Federal Government does have a
relatively small role, 10 percent of spending, in K-12
education. So I look forward to working with you on the
reauthorization of No Child Left Behind. And I hope that we can
do some good there.
But part of the problem that States that do fund 90 percent
of public education in the country are experiencing is that the
Federal Government has basically commandeered State budgets in
a number of ways. There is a recent report that just came out,
today as a matter of fact, demonstrating the Medicaid expansion
that was part of the health care bill has essentially crowded
out the ability of States to spend money on K-12 and higher
education. In my State alone, it is $27 billion of an unfunded
mandate over the next 10 years, and we have to get that under
control.
I appreciate what the Ranking Member Senator Sessions, his
questions relating to money equaling quality education. We know
that is not true, and there are a lot of good examples of
charter schools, for example, the KIPP program, featured
prominently among other charter school programs in the
documentary ``Waiting for `Superman,' '' where we know that
there are a number of innovative and more cost-effective means
of delivering education taking place across the country. And
just pouring more money into the same broken system is not
going to improve outcomes in my view.
But I want to ask you specifically about a Texas issue that
you are well acquainted with. Congress, of course, appropriated
$10 billion for the Education Jobs Fund, and my understanding
is that roughly $975 million remain unobligated. Is that your
understanding?
Secretary Duncan. Yes, sir.
Senator Cornyn. Of course, my State had submitted an
application, and my understanding is that its share of funds
would be roughly $830 million if indeed that application had
been accepted and granted. But because of a provision that was
put into the bill by Congressman Doggett in the House basically
requiring the Governor to do something that he is barred from
doing under the Texas Constitution--that is, guaranteeing
certain levels of education expenditures in future legislative
sessions--Texas was in a Catch-22 and could not qualify for
that funding.
As you know, there are provisions in the law for
alternative methods of allocating that money, and I would like
to know what you intend to do to work with us to try to make
sure that Texas is not discriminated against when it comes to
the allocation of these education funds.
Secretary Duncan. Let me try and address the first part of
your statement first, and then I will come to that specific
question.
I share your concern about where the Federal Government has
been inflexible or commandeered local budgets. I spoke before
the NGA this weekend, talked a lot about us trying to provide
much greater flexibility at the State level, trying to help
them become more productive in very tough budgetary times, and,
again, I put some pretty non-traditional ideas out there for
what folks can do in tough times, and actually this week we
will be sending documents to every Governor of our best ideas
about how we can be more flexible, challenging States to take
advantage of that flexibility, which they often do not do, and
really trying to be a much better partner.
I just want to assure you that I have no interest in
pouring more money into the status quo. We have a very
different vision of where we are going. We are trying to push a
very strong reform agenda, and I would agree with you: If we
perpetuate the status quo with more money, that does not get
our country where we need to go.
I do think we need to invest but in a very different vision
of what education can be and should be and to continue to work
in a bipartisan way through ESEA. A big goal there for me,
frankly, is to provide much more flexibility than exists today
under the current law. The current law----
Senator Cornyn. Well, I look forward to working with you on
that, but obviously we only have 7-minutes rounds and----
Secretary Duncan. Sorry.
Senator Cornyn. What I am really interested in is how you
intend to work with me and the Texas congressional delegation
and Congress to make sure that the State of Texas is not
penalized to the tune of $830 million for a requirement in the
law that under the Texas Constitution the Governor does not
have the power to do.
Secretary Duncan. I am intimately familiar with the
details. We obviously have to follow the law and congressional
intent. I was having, I thought, good, productive conversations
both with the Governor and the State superintendent, and then,
frankly, they decided to sue the Department of Education in
this matter.
Senator Cornyn. So all discussions have ended?
Secretary Duncan. Well, it is in litigation now, so----
Senator Cornyn. So all discussions have ended?
Secretary Duncan. I do not know if all discussions have
ended, but it makes it more difficult now that we are being
sued to----
Senator Cornyn. Well, what is a State with 25 million
people supposed to do when the Federal Government discriminates
against it in the distribution of tax dollars to help public
education? Your Department would not accept the application.
What is the State official supposed to do other than to go to
court to try to force you to do it because of the
unconstitutional requirement? Now you are telling me because
they have resorted to litigation that you are not going to
continue negotiations with them to try to resolve this impasse.
Secretary Duncan. No, I did not say either one of those.
And to be clear, we did not reject their application, and so
there is ongoing----
Senator Cornyn. Well, you said it was not in acceptable
form because it----
Secretary Duncan. No, I----
Senator Cornyn [continuing]. Because it did not meet the
requirements of the Doggett amendment, which required an
unconstitutional condition for State officials.
Secretary Duncan. So we are not going to solve it this
morning. What I will say is the children of Texas desperately
need these resources, and our intent from day one was to make
sure children around the country had access to it. Texas
schools in many places are having huge budget cuts. We have
seen skyrocketing class sizes. The dropout rate in Texas is
pretty staggering. And if you have thoughts or creative ways
that this could be resolved, I am all ears. But at this point,
because they chose to sue, it makes it a little bit tougher
to----
Senator Cornyn. Well, Mr. Secretary, I am deadly serious
about this issue, and it is not going to go away, and we are
going to have to work it out. And I would invite you to engage
with me and other Texas representatives to try to find a
solution, because this is unacceptable--unacceptable--for a
State, one of the largest States in the country with 25 million
people, with the kinds of needs that you just described, that
you and I both understand, for the Federal Government to
basically thumb its nose at my State. It is just unacceptable,
and we are going to have continuing problems unless you and I
can work out some solution.
Secretary Duncan. We have until September to do that, and
48 States have received their money and put it to great use and
saved a couple 100,000 educator jobs around the country and
driven reform, and I would love to see the children of Texas
get their fair share.
Chairman Conrad. Senator Whitehouse.
Senator Whitehouse. Thank you, Mr. Chairman. Thank you,
Secretary Duncan.
One of the areas that I have taken an interest in over the
years, I come at this from a point of view of somebody who was
a prosecutor. And when I moved from being the United States
Attorney for Rhode Island to be Attorney General for Rhode
Island, I began to oversee the prosecution of hundreds and
hundreds and hundreds of children. And as I inquired as to what
the best way to prevent this would be, over and over again I
was steered toward middle school. Over and over again I was
steered not only toward middle school but toward attendance and
truancy and performance in middle school, particular emphasis
on truancy.
Over and over again I was shown cases where kids had become
truant, completely fallen off the radar screen, engaged in the
kind of really unhealthy behaviors that historically people
never associated with middle school--gang membership,
pregnancy, drug addiction--and that we really needed to bear
down on our middle schools, and that it was an area, kind of a
fulcrum period between the younger years where, as long as
people are getting, you know, sort of basic needs met and
getting their literacy needs met, both reading and mathematics,
they are in pretty good shape; and then in high school they get
to be much tougher kids, and it gets to be much more
challenging to pull them back into the mainstream if they have
fallen out of it. And it is usually just a 3-year program.
The President supported it energetically, his success in
the middle bill I was a cosponsor of when he was a Senator
here. My senior Senator, Jack Reed, has picked that bill up,
and yet I do not see much in the way of focus here on middle
schools.
Based on that experience, I adopted a middle school and
started to work with the middle school in Providence. And as I
have talked to teachers, this has been a continuing issue, and
nobody has ever pushed back, ever. Teachers, law enforcement,
administrators, no matter where you go, everybody says, oh,
yeah, we get it, middle school is really a fulcrum period and
investment there can make a particularly big difference because
if you turn a kid around to a high-performing student in middle
school, you are in a far better position than having to chase
them through high school trying to pick them up if they are
failing that.
So I would love to hear from you where your focus is on
middle school in this area, what specific programs you propose
to help in that area, and then I would like to ask briefly
about after-school as well.
Secretary Duncan. So a couple thoughts. I think your sense
of the challenge, and you have lived it, is real and painful
and is too often the norm rather than the exception. Both
Senator Coons and I got our start in education, starting with
middle school students and trying to work with them for 6 years
through college, and so I have lived this.
Senator Whitehouse. A special breed.
Secretary Duncan. So this one is very personal. A couple
thoughts there.
One of the biggest things that matters for children who are
struggling is getting an adult in their lives who can be with
them through thick and thin, so through the middle school
years, a teacher, a social worker, a counselor, through high
school, some adult that when things go wrong at home or it is
tough in the community helps them to persevere. So school
districts, some are doing some really innovative things, but I
honestly think school districts cannot do this alone.
Nonprofits, social service agencies, the faith-based community
are stepping up. We know what----
Senator Whitehouse. I get the big picture. My narrow focus
is what is the Department of Education doing in this area.
Secretary Duncan. So a couple different things. One is a
huge focus on the STEM area, STEM fields to try and keep great
math and science teachers in there when often those teachers do
not have the content knowledge they need. It ties to your
question for after-school. We are asking for additional after-
school money. I think when students are engaged in
extracurriculars--art, dance, drama, music, band--that helps
them stay engaged in very different ways. We are supporting
programs like----
Senator Whitehouse. Those are all general programs, so they
do not relate to middle schools specifically. They may apply to
a middle school, but they are----
Secretary Duncan. They are part of an overall spectrum, but
gear up----
Senator Whitehouse. Let me roll, in the time that I have
left, to the after-school question because one of the things
that we hear from the education community enormously,
regularly, is how important it is for a school to have
community support; that the more the school is engaged in the
larger community and the more the larger community is engaged
in the school, the better off everybody is, the better off the
kids perform and so forth.
So in Providence, Rhode Island, in particular, we have a
really exceptional after-school program. That has involved the
community for a long time. It has been in many ways sort of the
incubator for a lot of the education reform activity that has
taken place in Rhode Island. And I worry that your emphasis in
after-school in giving priority to more expensive extended
school day, extended learning time programs over these
community-supported and community-developed after-school
programs risks crowding them out. It risks crowding them out
because of the priority. It risks crowding them out because it
is more expensive to extend the learning day than to work
through the community. And I think it fails to take into
account the added value that comes when the community is that
engaged.
So I hope that as you go forward with your program you will
take into account concerns like mine that in some places--it is
not the solution for everybody, but where it is a proven
solution, you should be protecting and defending and growing
and helping these very, very successful after-school programs
rather than putting them at a competitive disadvantage with
extended learning programs. I am not quite sure how this
prioritization is going to work out in practice, but it really
worries me that one of the best things going on in education in
Rhode Island is going to be on the losing end of this priority
shift of yours.
Secretary Duncan. I would love to continue the
conversation. It is a very fair, you know, concern and
critique. What I ultimately believe is we just have to do more
in this after-school space. It is not an either/or. It is a
both/and. We are asking for about $100 million----
Senator Whitehouse. It is not both/and in the way you have
designed it. There is a priority that--you put a thumb down on
the side of the extended day and against the after-school
program, so it is not quite both/and. It is both/and with a
bias, and it is the bias that concerns me.
Secretary Duncan. And additional resources. But your point
is well taken. I do think school days are too short, school
weeks are too short, school years are too short. But the idea
of schools being open 12, 13, 14 hours a day, wrap-around
services--it is one of the things I was proudest of in Chicago.
I had 150 schools that were open very extended hours. What
happens in Providence I think is fantastic. We do not want to
hurt that. We will actually look at that----
Senator Whitehouse. My time just expired, so I will leave
on that, because that is a great note to leave on, and we will
continue the discussion.
Secretary Duncan. To be continued.
Chairman Conrad. Senator Johnson.
Senator Johnson. Thank you, Mr. Chairman, and, Mr.
Secretary, I want to start off thanking you for your service. I
try to make that same comment to school board members when I
meet them. I realize this is not exactly a thank-filled
position, so I want to thank you at least.
Seeing as this is the Budget Committee, I would like to
kind of zero in a little bit on costs. I did here a recent
interview with Joel Klein, the chancellor of New York City's--
former chancellor of their Department of Education, where he
commented that our spending in real terms has doubled since
1983, and we have not seen the results, but in particular I
would like to hone in on college tuition.
I have seen a number of studies--and what I will quote is
from the Heritage Foundation--that States' college tuition
since 1982 has increased 439 percent. To put that relative to
things like health care and general inflation, health care has
risen 250 percent; just general inflation has gone up about 105
percent. So let us talk dollars.
Just general prices, something that cost $10,000, today
would cost a little over $20,000. College tuition, though, has
gone from about $10,000 to over $50,000.
I would kind of like to hear your comment on what has
caused that.
Secretary Duncan. It is a huge concern of mine, and I do
not have a good answer as to what has caused it. We see college
costs, college tuition escalating far ahead of the rate of
inflation in many places, and so it is a real challenge. As I
have said repeatedly, you know, going to college now is
desperately, desperately important for all of our young people,
and when tuition makes it untenable or too difficult, that is
not good for families or the country.
So I think colleges historically, frankly, have not always
been as efficient as they need to be, have not made some of the
tough cuts that families are having to make every single day,
and tough priorities, and that we are trying to make in our
budget, that you guys are trying to do in your work. So it is a
real challenge.
We have had very tough, candid conversations internally.
You know, is there a legislative play? Is there anything to do
there? I will tell you what my current thinking is, but I am
not satisfied with it. I think our system of higher education
is the best in the world. I think we have a couple thousand
great options around the country. Parents today, they are
smart, they are savvy. Students, they have more choices, more
options than ever before. They want a great education, but they
want value for their money. And so when colleges are
escalating, you know, expenses way ahead of where they need to
be, I think folks are going to start voting with their feet and
going other places.
Senator Johnson. Do you think Federal infusion of dollars
has played anything--into that? Why else would we see such a
dramatic difference in general prices versus the cost of
college tuition?
Secretary Duncan. I mean, I guess that is a possibility.
That is not my first thought because--well, what I was going to
say is you see actually huge variation. You are actually seeing
movement the other direction. You have a university 2 weeks ago
that reduced tuition 10 percent. You have other universities
going to 3-year programs. You have other universities going to
no-frills campuses. And what you are seeing is the marketplace
starting to play, and parents are starting to vote with their
feet, and they are starting to go to places to get a good
education for less money.
So I think, again, by transparency and good information,
the bad actors will not get rewarded and the good actors will
get a greater market share, and that is a good thing for the
country.
Senator Johnson. I will agree. Information is powerful as
the free market enterprise system is pretty powerful as well.
You may have noticed a few news reports within my State,
the State of Wisconsin, that there are a few issues there.
Secretary Duncan. I have.
Senator Johnson. And I guess I would like to just ask you,
What role--or how helpful have public sector unions been to
education? And what would be the evidence of that?
Secretary Duncan. So just in the midst of the Wisconsin
situation--I have a good relationship with the Governor, talked
to him several times, worked well with him, have a good
relationship with the union, talked well--you know, talked with
them.
In the midst of the Wisconsin situation--this was
coincidence, it was not planning--we had a conference in Denver
with 150 districts from around the country and a waiting list
of 100 on this very issue. And we talked about how historically
in too many places collective bargaining had not worked for
anybody, had not worked for the adults, had not worked for the
children, had not driven student achievement, that we needed a
third way, we needed to do things very, very differently. And,
again, this is not just unions, to be clear. This is
management. Often management has not been strong here. School
boards have not been as effective as they need to be. So it is
not about pointing fingers, about all of us doing things
differently. But what we had is we had over a dozen districts
present to the 150--we did not lead the conference. They did--
present how they had used the vehicle of collective bargaining
to drive student achievement and to close achievement gaps.
The goal there was to say if this works, why not make this
the norm? And can we go from 15 creative, innovative districts,
doing some radically different things through collective
bargaining to drive much better student outcomes? Can we go
from 15 to 150 to 1,500 to 15,000?
So in many places, collective bargaining has not led to
better student achievement, has not led to more satisfied
workers, has not helped move the country where we need to go.
But we have a number of places that are starting to break
through, and we need to replicate those successes.
Senator Johnson. Earlier in your testimony, you said that
we need 4 million more college graduates. A lot of my volunteer
work over the last 10 years has been in education in Oshkosh,
primarily the K-12 level. What we were seeing as employers is
just a mismatch, you know, whether it is colleges, whether it
is our schools simply not providing the types of degrees, the
types of educational opportunities to match the employment
opportunities, as opposed to just cranking our more college
graduates. Can you speak to that?
Secretary Duncan. You are seeing reality, and I hear that
complaint from CEOs all around the country. And one of the
things we are doing actually in partnership with the Department
of Labor is trying to put resources out there to community
colleges and communities in the private sector where they come
together to provide real training that leads to real jobs. A
and where you have these mismatches, you know, students come
out with greater debt, they are not employable. The employer
ultimately moves overseas if they can get more workers there.
There is no upside there. So there is an absolute mismatch at
lots of different levels, and we want to put resources behind
places--there are also some fantastic public-private
partnerships that are leading to real jobs every single day. I
visited one yesterday in Philadelphia around the health care
industry where workers--some were just coming to the country to
learn English, and then ultimately, because of great
partnerships, are getting real jobs in the health care field
around there. We have to do a lot more of that. So that is a
real concern.
Senator Johnson. One final question. I am a manufacturer,
so I generally try and look at the root cause of a problem. To
me a lot of what we talked about in terms of the problems of
education really relates back to just the social pathologies,
the fact that our out-of-wedlock birth rates have gone from 7.5
percent to 40 percent from the 1960s. Can you just comment on
that a little bit?
Secretary Duncan. So I think our children are coming to
school today with probably more challenges than ever before,
and whether it is, you know, families that are not intact or
whether it is the video games and all the distractions we talk
about, the lack of time spent on homework. So those are
absolutely real challenges. I think we are asking more of our
teachers and administrators than we ever have.
Having said that, in these very tough times with high
poverty and high crime and, you know, single-parent families,
we have never had more high-performing schools who are beating
the odds every single day. We are trying to turn around these
chronically underperforming schools, and so those challenges
are real. They take long hours. They take after school. They
take mentoring. But we have never, I do not, ever had so many
high-performing, high-poverty schools in some of our
neighborhoods--some of our country's most distressed
communities, and we have to learn from those successes and take
them to scale.
Chairman Conrad. Senator Begich.
Senator Begich. Thank you, Mr. Chairman. And thank you, Mr.
Secretary, for being here, and thank you for your visit to
Alaska, to Hooper Bay. And I know----
Secretary Duncan. I will never forget it.
Senator Begich. I know you will not. We had a great
conversation on the way back on the plane as we sat there and
talked about education. There is a clearly a much different
view in rural Alaska than it is in Chicago. You have to, I
guess, admit that.
Secretary Duncan. Absolutely.
Senator Begich. Let me also, again, just so you know, I
come from a family of educators. My parents were educators. My
two sisters are educators. My sister-in-law is an educator. I
chaired the Student Loan Corporation for 7 years, the
Postsecondary Education Commission for 7 years. But saying all
that, when I campaigned for this office, I actually ran an ad
because I think in Alaska, especially in Alaska, No Child Left
Behind was a disaster. It had no understanding of really rural
America, and when I say rural America, rural Alaska. And it had
basically a system that penalized communities that were trying,
as you saw firsthand out there, and it really worked in the
wrong direction. So I want to followup to some degree on a
couple comments I heard you say.
First, on Race to the Top, can you describe what you meant
when--I heard you say rural set-asides, so it caught my
attention, because every time I have heard rural set---- aside,
usually it means it is a Washington, D.C., description of rural
set-aside, which is nothing--nothing--like Alaska. So define
what you see as rural set-aside, and it would be great if you
started with Hooper Bay as an example.
[Laughter.]
Secretary Duncan. So if I start on Hooper Bay, this is a
conversation obviously to continue with you and with the
Chairman, but let me be very, very clear. We have seen
significant change in Race to the Top, in the Investment
Innovation Fund. We want to make sure we are having an impact
everywhere around the country. We think we can do more and do a
better job in rural communities. I would be happy to work
through the technical definition with you guys and get your
thoughts there.
But let me be very clear. In both a third round of Race to
the Top and a second round of the Investment Innovation Fund--
and you have been so supportive of that effort. I appreciate
it. In both of those we want to make sure that we are playing
in a significant way in the rural community. So we are learning
there, and the technical definition you guys can probably shed
some light on it for me.
Senator Begich. I have a feeling the Chairman and I will be
happy to assist you in that effort, because I think in a lot of
ways--and I mean it in respect to my colleagues here in the
lower 48--that rural here is so much different. You can drive
everywhere. You can drive down the street. Maybe the street is
50 miles away to the grocery store. In Alaska you cannot. If
you are in Adak, it is 1,200 to the hub by air. There is no
road. And so we have a different ability to deliver education,
and our competition is not--I mean, if we are competing against
the L.A.s and the Chicagos and the Seattles, we will not win
that battle for dollars, because you will look at it from a
cost per pupil, and you will see that you can hit Chicago with
so many thousands of students that will hit. And yet in a
village of maybe 50 kids, this is their lifeline to the future.
Secretary Duncan. Yes. So to me it is not--we were trying
to make very significant strides and improvements in, you know,
Race to the Top and Investment Innovation Fund, but you hit it
earlier. I think so much of No Child Left Behind was broken for
the country, but particularly broken in rural and remote
communities, and I think we can fix the law this sessions. We
want to fix it before we go back to school this fall. We could
fix it in a bipartisan way, and a huge part of our goal is,
frankly, to shrink the Federal footprint, to give much more
flexibility, hold folks accountable for results, but to give
them room to move.
One of the biggest complaints I've heard in rural America
is that you have a teacher teaching multiple subjects.
Senator Begich. That is right.
Secretary Duncan. And they are basically labeled not highly
qualified, and they are often extraordinary.
Senator Begich. Which is amazing, because in Alaska these
teachers are doing amazing things in multiple disciplines, and
yet because of the technical language, they are not highly
qualified. And we would consider them the best of the highly
qualified.
Secretary Duncan. It makes no sense, and we are desperately
trying to keep great teachers in underserved communities, be
they rural, remote, or inner city. And so we have to remove
that, moving from a paper-based definition of qualifications to
effectiveness as the way to go. And so there are a number of
common-sense fixes that we can put in place that will remove
the perverse incentives and put in place the right incentives.
Senator Begich. And, again, on Race to the Top as well as--
and I heard you say, and I want to make sure we are clear--on
I3 also, programming to figure out how we do a rural set-aside
that clearly recognizes the value and how we educate within
those communities.
Secretary Duncan. Absolutely.
Senator Begich. OK. The other piece in rural communities--
and especially, again, I will use Alaska, obviously, as an
example--some of the requirements require matches by local
communities. In some of these communities, they have no
property tax base. We are in some cases subsistence hunters,
and their food and their belongings are caught off the land.
Will you be flexible to help us address those kind of
communities that just do not have--it is hard to believe in
this country that there are cashless in some cases or limited
cash communities, and they are basically in Alaska.
Secretary Duncan. We will absolutely be flexible. So the
short answer is yes. But I would also say one of the things we
found as we got into this work--and you guys know this
intimately--is we did not have enough foundations playing in
the rural community. And so, frankly, one thing I am really
proud of is we have encouraged a number of foundations to step
up and be much more generous and targeted in rural areas. So we
are helping to drive that market and increase investment in
rural communities. We are going to continue to drive it. But
will we be flexible and thoughtful on how we do this? Yes.
Senator Begich. OK.
Secretary Duncan. My fallback is just not to do nothing. My
primary focus is to get many more of these foundations to play
and create and reward great work in rural communities.
Senator Begich. Right, we would love it. We do not have a
Microsoft in Hooper Bay, but we would love an opportunity----
Secretary Duncan. We can talk about it. We have a number of
foundations that have increased their commitments, thanks,
frankly, to us working with them.
Senator Begich. Let me go to one other quick one here, and
that is the $350 million to the Early Learning Challenge Fund.
You and I actually had a conversation on the plane--you may
remember this--about Head Start and how that plays a
significant role in rural Alaska. It is truly--an educator in
rural Alaska can point out a kid who has had Head Start in the
third grade and say they had it. They do not even have to have
their paperwork to show it. They can tell.
So how will you ensure that the Head Start program that is
in Health and Human Services and your Early Learning Challenge
Fund will not create a conflict and run very seamlessly,
especially, again, in rural communities that are critical for
Head Start programs to be successful?
Secretary Duncan. So hold us absolutely accountable for
that, but, frankly, I am absolutely confident we can do that.
Kathleen Sebelius has been an amazing partner. We have done a
lot of work together on a lot of issues. We want to do two
things. HHS is, you know, the big player here. We think we need
to be an investor. We think we do not need another study, that
if we can get our babies off to a great start in live, lots of
these problems we talk about disappear. And----
Senator Begich. Very good. My time is up. If I can just ask
a yes or no question. When you say college, do you mean
college/career education, voc. ed. technical schools?
Secretary Duncan. Yes.
Senator Begich. Yes. I just want to make sure.
Secretary Duncan. And community colleges.
Senator Begich. Community colleges. The broad array of
higher education.
Secretary Duncan. I always say 4-year, 2-year, trade,
technical, vocational.
Senator Begich. OK. Thank you.
Chairman Conrad. Senator Thune.
Senator Thune. Thank you, Mr. Chairman.
Mr. Secretary, thank you for being with us today, and I,
too, appreciate your service. It is a tough job, and most of
us, there are lots of things where I do not agree with the
current administration and some of the things that you are
doing, and education is actually one of the areas that I do
support some of the things that are being done.
I do want to raise a concern that I have about some of the
things that are happening with regard to the budget, and one
has to do with this move toward competitive grant programs,
which I know are probably good for urban areas, but formula
funding is something that traditionally has benefited the more
rural areas of the country. And it seems to me at least--and I
am somebody who comes from an education family as well. My dad
was the school teacher, he was the athletic director, he was
the coach, and he was the bus driver. And so most cases I know
that these are not people who have a lot of time to write grant
proposals and grant requests. And that is a concern I hear
repeatedly from school districts in rural places like South
Dakota, that this process of distribution of funds, which
traditionally was done through formulas, is now shifting more
toward competitive grants. And these smallest school districts
just cannot do that. They do not have the resources to write
grant requests and proposals and that sort of thing.
So I am wondering how you suggest that we deal with the
issue of making sure that rural school districts do not get
left out of this.
Secretary Duncan. That is a great question. It is one we
have spent a lot of time wrestling and debating, so let me just
give you the facts: 84 percent of our proposed budget continues
to be formula-based, so there is a perception out there that we
are moving everything to competitive. It is actually 16 percent
tops. So 84 percent, again, we are asking for increased formula
funding, IDEA, Title I. We are maintaining the REAP funding,
which is really important. So a couple other things. So that is
just the facts. There is not some massive shift there. We do
think it is important to reward excellence in the competitions
that we talked about. We are going to do a rural set-aside to
make sure those districts can play.
A couple other areas. We think by consolidating 38 programs
into 11 we make it much easier for rural communities to focus
on their children and not focus on us here in Washington and
trying to make, you know, ourselves a much better partner, much
more flexibility.
The Pell grant increases that we are asking for, about 38
percent of our young people go to community colleges from rural
areas. North Dakota specifically, recipients are up 58 percent,
so we are really trying to create access in communities that
have not had that historically. We think it is very important.
Turning Around Schools, it is interesting, people think
Turning Around Schools is an urban issue. About half are urban,
about 20 percent are suburban, about 30 percent of these
dropout factories are rural. So we are trying to invest in some
very different ways in the rural community. We are trying to
create more access through the competitions. Please be assured
that the vast majority of our money always has been and always
will continue to be formula-based. But where we have
competitions, we are now putting a rural set-aside, a carveout.
And so we think folks can play. And we are not looking for the
fancy PowerPoint presentation. We are looking for folks for a
vision of how we drive student achievement and get better, and
that is what we want to reward.
Senator Thune. The other question I have--and this pertains
not just to rural school districts, but obviously federally
impacted lands, which we have a lot of as well. Since 1950, the
Federal Government has provided financial assistance to school
districts that are impacted by Federal land or federally
connected students within their district. And my State has 38
such districts that rely heavily upon impact aid payments.
In the past few years, there has been an increased number
of impact aid school districts that have contacted me for
assistance in reaching out to the Department of Education to
ask for the Department to finalize payments for the previous
fiscal years. For example, in May of 2010, a school district
still had not received any payments from the Department of
Education going back to June of 2008. So I am wondering what
you can do to help ensure that the Department provides payments
to school districts in a more timely way. There ought to be a
better audit process.
Secretary Duncan. No question. And it is one that our
staff, frankly, has worked very hard on. Just to give you--it
goes back even further. Six months ago, there were 4,000
outstanding final payments for fiscal years 2006, 2007, and
2008--sorry. Six months there were 4,000 outstanding final
payments; all of those have been made, every single one. And so
we are working very hard to fix the backlog from the previous
administration and expedite these things. But that is 4,000 off
the books in the past 6 months.
Senator Thune. All right. As you know, much of Indian
country is faced with unacceptable levels of suicide and,
unfortunately, tribal youth are especially affected, making up
64 percent of those suicides. So I guess my question has to do
with the Native American students attend primarily BIE, and BIE
and tribally run schools, and 93 percent of all Native American
youth nationwide do attend public schools. So I am wondering
what steps, if any, the Department is taking to work with the
IHS and/or the BIE to help coordinate an effective response to
what is really a terrible crisis, and particularly in Indian
country.
Secretary Duncan. It is staggering. In a couple days, you
know, you visit lots of places. The day in Hooper Bay is one I
will never forget, and in Montana, Northern Cheyenne country.
You know, I thought I knew poverty in the south and west sides
of Chicago, and in that community there is a 70-percent
unemployment rate. The high school I went to had had one child
in 6 years go to college. So it was a level of challenges that
I had never seen before in my life. And it was a pretty
profound experience.
So we are working very, very closely with the BIE. There is
a new leader there who we have a lot of confidence in. Our team
has done--we have all been, you know, affected personally,
quite frankly, by this. We have had many of our team members,
including our general counsel, spend a lot of time on tribal
consultations and trying to get out in the community and listen
and hear and figure out how we can be a better partner.
One of our winners in the Promise Neighborhoods Initiative,
which is rallying around entire communities, was a Native
American community, and as you know much better than I, there
are no easy answers here. But please know we are trying to be
the best partner we can. We are trying to invest. We are trying
to travel the country and get out there and do everything we
can to get much better outcomes for children who desperately
need those opportunities.
Senator Thune. One final quick question. My time is running
out here. The Department had a series of proposed changes with
regard to the way that Christian colleges--you probably heard
this, a concern about some regulations that were moving forward
that might affect the accreditation process, and particularly
impacting Christian religious universities. And I am wondering
if that is something that you are continuing to move forward
with or what accommodation you are making for some of those
institutions.
Secretary Duncan. I do not know the details on that one, so
I will have to get back to you on that.
Senator Thune. Good. I would be interested in following up
with you on that, because we had some correspondence with your
Department on that.
Secretary Duncan. Yes, sir.
Senator Thune. Thanks.
[The information referred to follows:]
Chairman Conrad. Senator Sanders.
Senator Sanders. Thank you very much, Mr. Chairman, and
thank you, Mr. Secretary, for being with us.
Let me begin, Mr. Secretary, picking up on a point that
Senator Johnson raised, because I was not quite sure about your
answer. As I understand it, the Governor of Wisconsin now is
trying to end collective bargaining for State employees in that
State, including teachers. Do you believe unequivocally that
teachers have a right to engage in collective bargaining?
Secretary Duncan. Not only do I believe it, I believe that
collective bargaining can be a tool for improving student
achievement and is a tool for improving achievement in a number
of districts.
Senator Sanders. And I agree with you, but I want to just
be very clear, because I was not sure about your answer to the
Senator. You would disagree, then, with what the Governor of
Wisconsin is trying to do?
Secretary Duncan. I have been very clear on that. I have
had great conversations with him, and I have been very public
on it, so yes.
Senator Sanders. Could you be public with it right now? You
disagree with what the Governor of Wisconsin is trying to do.
Secretary Duncan. Yes.
Senator Sanders. Yes?
Secretary Duncan. Yes. Let me just take a moment, if you
want to, on it.
Senator Sanders. Are you going to be very clear by being
unclear?
Secretary Duncan. No, sir. What he asked from the teachers
union was to have them help on the pension costs and the health
care costs.
Senator Sanders. Yes. Collective bargaining is the issue I
want to focus on.
Secretary Duncan. They agreed to that, and I thought he had
his chance to fix the budget hole there. So there is a
different agenda there.
Senator Sanders. So you believe that teachers and public
employees have the right to engage in collective bargaining.
Secretary Duncan. Absolutely.
Senator Sanders. OK. Let me ask you this: We support the
protection in the President's budget to protect the maximum
Pell grant award at $5,500. However, I am deeply concerned that
the proposed budget eliminates the availability of a second
Pell grant in the same award year.
Now, you know and I know, because I get letters to this
effect every week, that there are millions of students today
who are graduating college or graduate school very deeply in
debt, and they are working at low-wage jobs because of the
nature of the economy, trying to pay off their debt, and they
are falling further and further behind.
Why did you propose the elimination of that second Pell
grant when it would do so much harm to so many students?
Secretary Duncan. So I really appreciate your concern, and
these are very tough and hard and painful cuts. We did that. We
had a $20 billion Pell shortfall to fill. We had to make some
hard decisions. Our highest priority was maintaining the $5,550
a year for every single student, and to close that $20 billion
hole, by eliminating the second Pell that saves about $7.5
billion. So that is not something we do easily or lightly or
enjoy doing, but given the magnitude of the Pell shortfall, we
felt we----
Senator Sanders. Well, let me ask you this question. I know
this is a little bit beyond your pay grade, but do you think it
makes more sense to give tax breaks to billionaires or to make
sure that our young people can afford to go to college?
Secretary Duncan. Well, I am not the economist in the room
here, but I will say that the most important investment we can
make in this country is to make sure children have a great pre-
K-12 education so they can graduate from college and be
competitive in a globally based economy. The most important
investment our country can make.
Senator Sanders. Earlier on, I think both Senator Conrad
and Senator Sessions and you yourself raised some interesting
questions making the point that in a sense education goes
beyond education. These are cultural issues. It is more than
what takes place in the classroom.
One of the concerns that I have had for a long time is that
the United States has by far the highest rate of childhood
poverty in the industrialized world. Many countries in Europe
and Scandinavia have 3, 4, 5 percent. We have 20 percent. So
when you appropriately talk about so many young people dropping
out of high school and ending up with nowhere to go, do you
think that that relates to the fact that so many of our
children start off in poverty, A; and, B, comment, if you would
like, about how our early childhood education system, our child
care system, compares with other countries. Do you think that
if a kid starts off in poverty, if there is no decent quality
child care available, how does that impact the likelihood of
that kid to drop out?
Third, our Republican friends are proposing massive
cutbacks in Head Start. How do you think that will impact
dropout rates?
Secretary Duncan. So I do not think we need another study
to tell us how critically important early childhood programs
are for closing achievement gaps, leveling the playing field,
and giving children from poverty, children from disadvantaged
communities, a chance to be successful academically. We do not
need another study. We just had another one, though, from
Vanderbilt University in the past week where the data was
absolutely compelling on the huge impact that high-quality
early childhood programs have.
When children enter kindergarten, some of whom are reading
fluently, some of whom do not know the front of a book from the
back of a book, some of whom do not know their names, they have
been called a nickname all their life. That is an
extraordinarily challenging task for the best of kindergarten
teachers in the world to teach that wide disparity. So----
Senator Sanders. Would you agree--again, and there are a
dozen studies to make the point.
Secretary Duncan. Hundreds.
Senator Sanders. I am asking a question that I am sure that
you agree with, that if kids enter the school system
unprepared, their likelihood of dropping out is going to be
much, much greater?
Secretary Duncan. Unquestionably. When I met with the NGA
this weekend, we are all facing tough budget decisions, and I
challenged every single Governor in tough budget times not to
scale back on early childhood education.
Senator Sanders. But yet as a Nation--I am sorry that
Senator Cornyn is not here. But I read things. My understanding
is that in the State of Texas, for example, which generally has
scores not among the highest in the country, they are looking
at laying off something like 100,000 educators. And that is
just one State. In my State there has been pressure as well.
You have described that our system is in a crisis. I think
that is the word that you used. What do you think will happen
if all over this country, in order to balance budgets while,
again, we are providing huge tax breaks to billionaires, while
we lose $100 billion every single year because corporations and
the wealthy stash their money in tax havens in the Cayman
Islands and in Bermuda, an issue that the Chairman of this
Committee has talked about on many occasions, and yet we find
ourselves in a difficult budget situation so that States
collectively will be laying off hundreds and hundreds of
thousands of teachers.
Now, you just said--and everybody seems to agree--we have
an educational crisis. Do you think the laying off of hundreds
of thousands of educators is going to help us address the
educational crisis?
Secretary Duncan. Of course not.
Senator Sanders. Is it adding to the crisis?
Secretary Duncan. Anytime we do not--again, I am not saying
investment status quo. Anytime we cut back investments in this
new vision of education, that hurts our country. I would just
go right to the chart that the chairman began with. The cost of
the dropout crisis, the cost of the achievement gap, is the
economic cost of a permanent economic recession on this
country. That is the cost that if we had the will and the
courage, we could solve and put our country in a much, much
better spot than we are today.
Senator Sanders. I am running out of time. Let me ask you
my last question. In Burlington, Vermont, where I live, we have
a school which has a whole lot of immigrant kids. It is in the
lowest-income neighborhood in the city. The teacher, because of
rules, as you well know, related to No Child Left Behind, was
fired because the kids did not perform particularly well on
some of the tests. And yet most of the people in that community
see this as an outstanding school where the teachers and
principal did an extraordinary job.
Do you think it makes sense to judge kids who are from
immigrant families, some of whose families do not even speak
English, the same way as you would judge an upper-middle-class
family who were obviously fluent in English? Does that make
sense to you?
Secretary Duncan. No, and whether it is a child who does
not speak English or a child with severe special needs who
cannot comprehend a test, to have them take the same
evaluation, the same, you know, rules as a child who has been
in the country all their life and--no, it does not make sense.
Senator Sanders. But why do we do it?
Secretary Duncan. Well, we want to fix the No Child Left
Behind law and do it together this year.
Senator Sanders. All right. Well, I just want you to know
that in a school in Burlington, Vermont, which many people see
as an outstanding success because of the work of the principal,
that principal was fired.
Senator Sanders. Thank you, Mr. Chairman.
Secretary Duncan. A big problem is the lack of focus on
growth and gain. We need to be looking at improvements for
every single child, every child.
Chairman Conrad. Let me just say, there was a screw-up on
the clock, so I gave you some additional time to make up for
the screw-up on the clock, for other colleagues who are
wondering. We want to be fair when we make a mistake and that
it is not coming out of your time.
Senator Merkley.
Senator Merkley. Thank you, Mr. Chairman, and thank you,
Mr. Secretary, for your testimony.
I wanted to echo Senator Thune's concerns about the
increase in competitive grants. I can tell you, we have 200
school districts in Oregon. Most of them are very small. They
do not have grant writers. There is a systemic disadvantage to
small rural school districts that I do not think the
administration has taken fully into account. I just want to
share with you that, as I do my every county townhalls, it
comes up time and time again that these school districts, they
cannot even track the opportunities available let alone apply
for them. And so we have to consider that in the formulation of
fairness to school children all over this country.
Secretary Duncan. Yes, sir.
Senator Merkley. Second, I wanted to have you talk a little
bit more about Pell grants. I thought college was
extraordinarily expensive when I went off to college in 1974.
Now as a parent with a freshman in high school and an eighth-
grader, and I am looking at the cost of college as it compares
to the average income of working Americans, what has
essentially happened since 1974 is that, inflation adjusted,
the wages of working Americans have stayed flat for 35 years.
Inflation adjusted, the cost of college has not stayed flat for
5 years. This is a huge, huge challenge, and the result of that
challenge is that we are becoming the first generation of
parents whose children are getting less education than we got.
Extraordinary community failure as a Nation, especially as you
noted in a world economy, a world education-based economy,
knowledge economy. Even the Pell grants we have in this budget
I do not think quite level out the playing field when one
compares where we were two decades ago or three decades ago.
Just your thoughts about that growing gap and the ability of
working families to afford college.
Secretary Duncan. So it is real. Again, that is why I am
proud that we have had the greatest increase in Pell grants or,
you know, college funding and grants since the BI bill. But is
there more unmet need out there? Yes. There are studies that
show that of those who drop out of college, 52 percent, the
majority drop out due to financial reasons. Again, if we think
we have to educate our way to a better economy, we have to
continue to invest there. And I think we have to continue to
find those universities that are holding down costs and being
thoughtful about how they provide value for the cost, for the
expense, and shine a spotlight there, and continue to use the
marketplace to drive students and families to those places who
get this and get the stress that families are under today.
Senator Merkley. When I look at the modest amount we are
investing in our domestic infrastructure, physical
infrastructure, and then I look at the failure to keep college
affordable, do we have a major challenge as a Nation in which
we are spending too much money on foreign wars and foreign
bases rather than on domestic infrastructure and domestic
education?
Secretary Duncan. Well, obviously, again, I just think we
have to educate our way to a better economy. We have to
continue to invest in education. And whether it is the Pell
grants, whether it is investments in community colleges--which
have been, I think, an unpolished gem along the education
continuum. We are trying to put a huge amount of resources
there. The only way our country is going to have a strong and
vibrant economy long term is if we have many more folks
successful postsecondary.
And to Senator Begich's point, that does not mean just 4--
it is 4 years, but it is 2 years, it is trade, technical,
vocational training. That has to be the goal for every single
young person in our country.
Senator Merkley. All points that I agree with, but it does
not answer the question. We all keep talking about these same
goals, the importance of education, yet we seem to be slipping
further behind. Are we as a Nation spending too much on foreign
wars and foreign bases rather than on education and
infrastructure?
Secretary Duncan. Well, again, I am not the Secretary of
State, but would I love to see us continue to invest more in
education going forward? I think as a country we have to, and
the President passionately believes it.
Senator Merkley. OK. I will just note that I think until we
are ready to have a serious conversation, we are all just
repeating the same things, which is education matters, but we
are not really getting to the heart of the problem. One example
of that would be the President's proposed investment in
training STEM teachers, 100,000 over the next 10 years. Do you
have any concept of how many math, engineering, technology
science teachers are being let go in the current State
shortfalls across this Nation over the next 2 years?
Secretary Duncan. I do not know the breakdown for math and
science teachers specifically. I do not know that number.
Senator Merkley. I would be very interested in that because
it is very frustrating right now. We have a $3 billion
shortfall in Oregon. It is not unlike many other States. We are
in better shape than some and in worse shape than others. But
while we are talking as a Nation about the importance of
education, the reality on the ground is that there are going to
be massive cuts in our public education system. It so happens
my children are in the same school district that I went to from
third grade through twelfth, and, therefore, it is a 40-year
gap in between, but it gives me a chance to kind of compare
apples to apples over the duration. The classrooms are much
larger. The fees for kids to participate in extracurricular
activities that keep them in the school are much higher. The
range and diversity of activities smaller. In other words, we
are not providing the same education to our children that our
parents provided to us.
And so it is fabulous to note that we need a lot more
teachers in education--a lot more teachers in science and
technology and engineering and mathematics. But if we do not
provide enough resources to actually be funding K-12 schools
across this country, then we are failing, and that is my
concern. And I think right now we are losing the teachers. We
are not gaining teachers. We are increasing classroom size, not
shrinking it. We are losing school days. It is becoming routine
for school districts to think about doing a 4-day week than a
5-day week. Isn't that kind of a sign of something massively
wrong in our national education system?
Secretary Duncan. No question. So obviously these are
horrendously tough budget times, but, you know, reducing
instructional time might be the worst choice you could make in
tough budget times. And so, you know, how Governors and school
boards and superintendents make these tough choices in tough
budget times says a lot about leadership, and where folks are
eliminating time or eliminating days of the week, I cannot
think of a worse decision to make in that tough budget time.
Senator Merkley. My time is up, so I will followup on
Perkins grants. Thank you.
Chairman Conrad. Thank you, Senator.
I want to go back to something Senator Johnson mentioned
because as I evaluate what is happening, one of the things that
really jumps out at you is this matter of college tuition, and
I have not seen the exact number that Senator Johnson used. I
think we are talking about a 400-percent increase in college
tuition. Maybe, Senator Johnson, you would want to repeat what
that number was.
Senator Johnson. This is a Heritage Foundation study, and
since 1982, college tuition has increased 439 percent.
Chairman Conrad. And then you had some comparables for
health care, which was 250 percent or----
Senator Johnson. Right. I will give you the study. It is
250 percent for health care and 105 percent for just general
inflation.
Chairman Conrad. You know, I tell you, my grandson is about
to go to college, so he has been going to schools around the
country, and it is stunning. My daughter went to an outstanding
university. I did. I look at what has happened to college
tuition, and I am not certain how it all works, because the
stated college tuition is very high, and then they have
financial aid packages, and people get dramatic reductions
based on the package that they might qualify for.
Now, obviously, a high-income family is not going to
qualify for anything, and that is fine. I do not argue with
that.
Has the Department done an analysis of college tuition over
this last 20 years? This study is from 1982, as I understand
it, so that--so it is comparing--so it is going back to the
1980s. I am just interested, has the Department done an
analysis of college tuition? And what are the real increases
when financial aid packages are taken into account? What are
the real increases that we are seeing? Has the Department done
that kind of analysis?
Secretary Duncan. I am sure we have. If we have not, it
would not be hard to do. So you are looking for the net number.
I do not know that off the top of my head.
Chairman Conrad. Yes, because one thing I have seen as we
go through this with our grandson is the stated tuition number,
and then you have these financial packages, I would be
interested in piercing the veil here and trying to understand
what has really happened.
Secretary Duncan. I think the Senator's basic premise that
these costs have gone up far faster than inflation, I think he
is absolutely correct.
Chairman Conrad. I agree with that as well. That is what my
observation would be. But I really want to understand the full
effect, not just the stated tuition, but when you take into
account the financial packages, what has happened? And then
why? Why has this--you know, it is not unusual now to see
tuition $40,000, $50,000 a year.
Secretary Duncan. We can do some work on that for you and
get you what we do----
Chairman Conrad. I think it would be very helpful to the
Committee if the Department were able to do that.
Chairman Conrad. Now I want to turn just very quickly-
because I have to be out of here a few minutes before noon, and
I want to give Senator Sessions another chance as well. I want
to go back to this question which I did not raise in my time,
but you and I have had an exchange. I have written you an
extensive letter that I went over in great detail the education
community back home: dissatisfaction with No Child Left Behind,
which in my State is intense; a very strong feeling that No
Child Left Behind_this is not your responsibility. This came in
a previous administration, a previous Congress. But what do we
do going forward to correct it? Because the education community
in my State--and I mean on every level; I am talking teachers,
administrators, school board members--tell me the thing just
does not relate to rural areas like the one I represent.
Secretary Duncan. Rural, urban, suburban--I have heard that
everywhere I go. We want to fix the law. Again, we want to fix
it before the August recess so we go back in the school year
with a better law. We can only fix and only want to work in a
bipartisan way to do that. We want a law that is fair, that is
flexible and much more focused.
Let me just tell you quickly a couple things I think are
wrong with the current law that with a common-sense approach we
can fix.
As I said earlier, the current law is far too punitive.
There are many, many ways to fail. The only reward for success
is you are not labeled a failure.
It is very prescriptive, very top-down from Washington. I
always tell the story that I almost had to sue our Department
of Education when I ran the Chicago Public Schools for the
right to tutor my children after school. I had tens of
thousands of disadvantaged children who wanted to work harder,
wanted to go to school, and we got in a pitch battle. I won.
But why did I have to go to war with the Federal Government to
tutor my children after school?
It led--I think this is unintentional, but it absolutely
led to a dumbing down of standards, which has huge
ramifications, and it led to a narrowing of the curriculum.
So how do we fix all those things? We have to reward
success, reward excellence, great teachers, great principals,
great schools, districts, States, beating the odds. I went to
school in your State, George Hall in Mobile, Alabama,
historically struggling school. Amazing job. It shows what is
possible. Where we see excellence, we have to shine a
spotlight, learn from it, encourage it, incentivize it, let
folks know what is possible out there.
We have to look at growth and gain rather than absolute
test scores. How much are we improving? How much are we getting
better? We need every child, you know, students with
disabilities, English language learners, held to the same high
standards. We want to know how much are they growing each year.
Chairman Conrad. Let me stop you on that point because it
is one of the things that has been the most--to me it is
utterly bizarre. I do not understand why a measure of success
is comparing one third grade to another third grade. I always
say my brother's third grade was not nearly as bright as mine,
so how you can compare the two--that is not quite true. The
reverse is true.
But let me just say this: I can understand if we are
measuring a student's progress, if we are measuring the
progress of an individual class. That makes sense to me. But
comparing one third grade against another third grade to judge
whether or not the school is performing to me is bizarre.
Secretary Duncan. I have not met a teacher or a principal--
and I have been to hundreds and hundreds of schools--who are
afraid of accountability. They just want it to be fair. They
want a level playing field. If we are measuring growth and
gain, how much a student is improving each year, you know,
holding teachers, schools, districts, States accountable, look
at who is raising the bar and who is not, universal support.
Raising standards, 41 States are leading the charge, so this is
a game changer. I cannot tell you how important this is to have
college and career standards for every single child. Huge
movement there. And then, finally--this is so important to me--
a well-rounded education.
So, yes, reading and math are important, are fundamental,
foundational. Science, social studies, dance, drama, art,
music, foreign languages, physical education----
Chairman Conrad. Physical education.
Secretary Duncan. Hugely important. I was one of those
young boys, I had to run around. I could not still all day. And
so we can fix these things in a common-sense approach, fix it
together, and I think help lead the country where we need to
go. But if we do not, shame on us this year.
Chairman Conrad. Thank you. Senator Sessions.
Senator Sessions. Thank you.
I was on the Education Committee when No Child Left Behind
came up. I guess I was one of the last to agree to support it.
I had some doubts about it, but I remember reporting at one of
the Committee hearings that in Mobile, where George Hall is--it
is probably one of those schools that the reporting
requirements made them report that some of their schools were
remarkably behind others. Some of the inner-city schools were
just really not performing well.
They met, they assigned new principals and new teachers,
and those schools showed dramatic improvement. I told that
story; Senator Kennedy just beamed because that was what he
believed and that is what President Bush meant when he said
there is a soft bigotry of low expectations. So I do not know
what the answer is. It is a tough question to deal with.
I talked to a very fine college president recently, and
this is what he expressed to me, and I would ask you to think
about this as you develop Pell grant policy. He said, you know,
I think it is a mistake to eliminate summer school. He said, I
think the problem is we have too many students taking 12 hours
and taking 5 and 6 years to graduate. They are running up debt.
They are running up burdens on their families when they could
graduate in 4 years, and they should be graduating in 4 years.
And if they need to do a summer school to get out sooner, they
are out working, making money, and costing their family and
themselves less debt. He said, So I would limit Pell grants to
students who take 16 to 18 hours minimum and allow them to take
summer school if that works.
Have you thought about that? And would that be something
you would consider?
Secretary Duncan. It is a great question. This goes back to
your basic premise of we just cannot keep spending. I would
have loved to have kept the second Pell grant. That goes,
again, from $5,500 a year to $11,000 for each student. With the
second Pell grant, we honestly did not see a big jump in the
number of students participating in summer school. It was like
a 1-percent increase. So in an ideal world, Senator, I would
loved to have maintained that. We just----
Senator Sessions. Well, let us think about--that is
probably correct. I do not want to focus on the summer school.
I guess what I would focus on is, Should we emphasize getting
students to finish their career in 4 years? Wouldn't it save
the Government a lot of money and save them debt? And wouldn't
it be better for America?
Secretary Duncan. It is a really thoughtful question, and
we need to work on that. So in an ideal world, absolutely we
would have students graduating in 3 and 4 years. The reality,
as you know, Senator, is that we have many folks who are not 18
years old going to college but 28, 29, and they are working a
full-time job and they are supporting a family. As much as I
would desperately love them to finish in 4 years, 6 or 7 years
might be more realistic.
And so we want to speed up completion rates. We want to
encourage that. I think your basic point, how do we encourage
completion, is one we are focused on and we want to do more on.
But the average age for a college student has gone up pretty
significantly, and they are dealing with challenges going to
college that--you know, I just had to go to school. I did not
have children. I was 18. You have, you know, single moms, 28,
working 40, 50 hours a week and taking classes at night. And we
need----
Senator Sessions. Well, that is certainly a mix of
students. Could I ask you one more thing?
Secretary Duncan. Yes, sir.
Senator Sessions. My time is up. Do you agree with the
recent report that indicates that our graduates who are
graduating with 4-year degrees are less educated and proficient
than they were I think 20 years ago, they said; that we are
spending the money, and they are going through and getting
their degrees, but they have not really accomplished as much
learning, and is that a concern?
Secretary Duncan. Yes. I have not seen that report, but
that is an issue or a concern that has absolutely been raised
to me. So I am not informed enough to know that.
If I could add one final thing, Mr. Chairman, this question
about college tuition. One thing we are coming out soon with--
and just stay tuned and we will get it to you--is a watchlist,
and we will be reporting net tuition and ranking schools by
sector. So, again, we are trying to use the bully pulpit to
drive transparency, and we will get that to you shortly.
Chairman Conrad. I would be very interested in that because
there is something going on here. It is very evident to me that
they have these tuitions, but then they have these financial
packages, and so really, I would just like to know what is
real.
Senator Sessions. Could I offer one real explanation for
that? I was on the board of trustees in my little liberal arts
college. We had an outside speaker who said one of the factors
in a college or university being rated by the evaluating is how
much the tuition is. I was stunned at that. But it apparently
is a very real fact.
Chairman Conrad. We thank the Secretary. We thank all the
colleagues who have participated today.
The Committee will stand in adjournment. We have another
hearing tomorrow with another Cabinet Secretary. I thank this
Secretary for your first appearance here.
Secretary Duncan. Thanks for the thoughtful questions.
[Whereupon, at 12 p.m., the Committee was adjourned.]
THE PRESIDENT'S FISCAL YEAR 2012 BUDGET REQUEST FOR THE DEPARTMENT OF
ENERGY
----------
WEDNESDAY, MARCH 2, 2011
U.S. Senate,
Committee on the Budget,
Washington, DC.
The Committee met, pursuant to notice, at 10 a.m., in room
SD-608, Dirksen Senate Office Building, Hon. Kent Conrad,
Chairman of the Committee, presiding.
Present: Senators Conrad, Nelson, Stabenow, Cardin,
Whitehouse, Merkley, Begich, Sessions, Enzi, Cornyn, Thune,
Portman, and Johnson.
Staff present: Mary Ann Naylor, Majority Staff Director;
and Marcus Peacock, Minority Staff Director.
OPENING STATEMENT OF CHAIRMAN CONRAD
Chairman Conrad. The Committee will come to order.
I would like to welcome everyone to the Senate Budget
Committee this morning. Our witness today is Secretary of
Energy Steven Chu, and our focus will be on the energy budget.
Secretary Chu has done, in my judgment, an excellent job
leading the Energy Department. We are very lucky to have
someone of his capability and character leading that agency at
this time, and we are pleased that he could join us and look
forward to his testimony.
I believe the two biggest challenges facing the country
right now are the rising Federal debt and our dependence on
foreign sources of energy. We simply will not be able to remain
globally competitive if we fail to address both of these
challenges. Our competitors in Asia and Europe are moving
quickly to develop and adopt alternative and clean energy
technologies. These technologies will be among the biggest
industries in the world in the years ahead. We cannot afford to
fall behind. The United States should be a leader, not a
follower on energy issues.
So even as we look to cut spending to bring down the
deficit, something that we must do, we also need to ensure that
energy remains a priority. We need to focus resources on energy
programs that promote clean energy and energy efficiency and
that encourage private sector innovation and the adoption of
new technologies. And we need to ensure that every dollar we
spend on energy is spent wisely.
The fact is we are dangerously dependent on foreign oil. In
1985, we imported only 27 percent of our petroleum. We now
import over 60 percent. As a result, we are increasingly
vulnerable to oil supply disruptions and instability in other
parts of the world.
The events of recent weeks have demonstrated just how much
this dependence can impact our economy as turmoil in North
Africa and the Middle East has led to a spike in gas prices and
fluctuations in other markets.
This addiction to foreign oil is also a threat to our
national security. Many of the countries from which we import
petroleum are unstable or in unfriendly regions, and many are
becoming more unstable by the day or risk being affected by
unrest in neighboring countries.
Here is a list of the top ten countries exporting petroleum
to the United States in 2010 and the number of barrels we
import from those countries in a single day. You can see that
we have large quantities of oil from countries like Saudi
Arabia, Nigeria, Venezuela, Algeria, Iraq, Angola, and
Colombia.
At the same time we are losing ground in the race to
develop the clean energy resources of the future. We are being
left behind by countries like China and India. Here is a New
York Times article from earlier this year about how the third
largest manufacturer of solar panels in the United States has
packed up, moved its operations, and hundreds of skilled jobs
to China. According to the article, the company moved because
China provided ``much higher government support.'' That is
troubling. We need to keep those jobs here in America.
This next chart helps put our energy funding in some
perspective. It shows that funding for the Department of Energy
represents a small fraction of Federal spending, only 2.4
percent of the discretionary budget. Let me repeat that: 2.4
percent. And roughly two-thirds of that is dedicated to nuclear
weapons-related activities. So funding to promote and support
new energy technologies represents a tiny fraction of the
Federal budget.
But we also spend between $8 and $10 billion a year on
energy through the Tax Code by providing certain energy tax
incentives and credits. The largest of these include oil and
gas tax incentives, coal tax incentives, a renewable energy
production tax credit, and an energy-efficient home
improvements tax credit. Those are the four big expenditure
items in the Tax Code.
This is what the Obama administration has proposed in its
budget for energy. Overall, the budget requests $29.5 billion
in discretionary funding for the Department of Energy for 2012.
This represents a $2.5 billion increase over the 2011
continuing resolution level. Among other things, the
President's budget would increase support for clean energy
alternatives, such as solar, biomass, wind, and geothermal,
advance development of low-carbon coal technologies, invest in
the Nation's transmission infrastructure to improve energy
efficiency and reliability--something that we clearly need--and
increase support for basic research and science.
The President's budget supports many of the same
initiatives that I would like to see in the next energy bill. I
believe the next energy bill needs to invest in clean sources
of electricity, boost energy efficiency in homes and buildings,
help reduce our dependence on foreign oil by develop advanced
vehicles and promoting alternative fuels, and by increasing
domestic oil and gas production.
I believe we have to have a balanced plan. I was part of
the group of ten--five Democrats, five Republicans--that
proposed a far-reaching, balanced plan to reduce our dependence
on foreign energy, including increasing domestic production of
oil and gas, clean coal technology, advanced battery
technology, a move to use natural gas in our bus and truck
fleets, incentives for nuclear plants. We already have over a
hundred nuclear plants in this country. We are going to have to
have more if we are going to dramatically reduce our dependence
on foreign energy. At least that is my belief.
I look forward to working with my colleagues on both sides
of the aisle on energy legislation this year. I believe it is
absolutely a critical priority. It cannot be allowed to slip
another year.
With that, I will turn to Senator Sessions for his opening
remarks, and then we look forward to hearing from Secretary
Chu.
OPENING STATEMENT OF SENATOR SESSIONS
Senator Sessions. Thank you, Mr. Chairman, for your
leadership and for this series of hearings. I think it has been
very helpful to us.
Secretary Chu, thank you for appearing as we continue to
discuss the President's budget, and that is the fundamental
question here. We all have views on energy policy, and I share
many of your views and have supported a number of energy bills
that Senator Conrad has referred to.
You are a man of great accomplishment, and I have
appreciated getting to know you. But you now hold the job of
Secretary of Energy, and energy at an affordable price is
essential to our economic future. It is not a theoretical or
academic matter.
Right now we are in the midst of a growing fiscal crisis,
and it is crucially important that we have an honest
conversation about the challenges we face. The President and
his Budget Director tell us their budget plan does not add to
the debt, that we are living within our means. But the plain
fact is the budget doubles our gross national debt, never once
produces an annual deficit of less than $600 billion in its 10
years.
The President's Education Secretary told us that the
administration was making tough cuts and difficult choices to
make our programs leaner and more productive, but the budget
called for another 11-percent spike in education funding
following a 68-percent increase over the last 3 years.
Perhaps the most consistent spin is the repeated claim that
every cent of new Government spending is an investment in our
future. Just because you call something an investment does not
make it so, certainly not a good investment. If the
administration's argument held true, then even our Nation would
be thoroughly enriched by this year's spending spree and the
$1.65 trillion deficit.
In reality, the most obvious result of what we have done is
this massive surge in Federal spending is a crushing debt
burden that has grown the Government at the expense of the
private sector.
So while your energy budget increases spending
substantially, I reject the idea that you have made an
investment necessarily in a better future. To the contrary,
instead of wisely investing the taxpayers' money, the plan
often would waste it. We have magnificent energy resources in
this country from which we can create thousands of jobs without
adding to the deficit. And yet these resources remain under
lock and key. The American people expect fact- based budgeting
that produces more energy, not locking it up. The simple fact
is that the nearly 10 percent spending increase you have
requested in your budget is not being used to produce larger
sources of energy that would actually impact the American
economy and reduce costs to the American taxpayer, but to chase
after the vision of higher-cost sources of energy in the hopes
that somehow we can bring those down, which has not been
successful to date.
As we contend with a sluggish economy and high
unemployment, the plain truth is the actions of this
administration are making things worse. The gas prices are
rising rapidly, some say to that dangerous level of $4 a
gallon. Yet the Interior Secretary issued only one single
deepwater drilling permit this year, and only after being found
in contempt of court for keeping the moratorium on.
High gas prices exact a painful toll on American families
and have historically done significant damage to the economy.
The refusal to drill domestically has cost tens of thousands of
high-paying jobs and billions of dollars in lost revenue to the
Government, to the U.S. Treasury. Offshore drilling rigs are
leaving for foreign shores and taking jobs with them. This
administration has in the past 2 years revoked oil and gas
leases in Utah, Colorado, and Wyoming, and shuttered the Gulf
of Mexico. One of the major producers there just declared
bankruptcy because they could not get permits to drill in the
shallow waters where we have never had a serious problem.
Permits to mine for coal in West Virginia have been
withdrawn, and permitting delays have occurred elsewhere with
little or no explanation.
The failure of your Department to advance clean, reasonably
priced nuclear power has hurt our Nation. We have talked about
it. I believe we could have done more. We have to do more.
An estimated 40 percent of our Nation's uranium deposits in
Arizona were unilaterally locked up just 2 years ago, leaving
us to import 90 percent of the uranium we use.
And the Green Jobs Program, subsidized by the overburdened
taxpayers, has never lived up to those promises that have been
made about it. Indeed, the much ballyhooed state-subsidized
solar panel plan in Massachusetts, I believe the one you
referred to, failed in January, costing 800 jobs. It got $58
million from the State.
The experience in Spain cannot be ignored, and the
Solyndra, the $535 million loan that the U.S. Government made,
seems to be failing already.
A recent study by Bjorn Lomborg's Copenhagen Consensus
Center demonstrates that the higher prices and job losses that
are the result of green energy policies significantly outweigh
the jobs created. The reason is that costs of renewable energy
are higher than standard forms of energy so that when they are
mandated on the economy, it means more economic inefficiency,
higher manufacturing costs, and less disposable income for the
American citizens.
So, in summary, Dr. Chu, the President's plan I think
worsens a desperate fiscal circumstance and fails to invest by
any honest measure in our Nation's real energy future, the
challenges we have. America's vast proven energy reserves that
we have are not being unlocked, and they are not being acted on
apparently in the pursuit of a failed green jobs stimulus plan
that has produced neither energy nor jobs. Instead, the
President's plan will produce increased spending, increased
taxes, increased regulation, increased reliance on foreign oil,
and increased debt.
So this plan is a non-starter, and the budget is a non-
starter. We do not have the money. So we need to replace it
with a plan that actually does invest in our future by
producing more low-cost energy that makes it easier on American
families, unlocking the vast energy sources that belong to the
American people and keeping dollars and jobs in America, making
us stronger and not weaker.
So I look forward to working with you on this. I know you
are a good man. I know you want to achieve some of these
things, and maybe we will have some breakthroughs. I would
support some research and development, but I do not support
mandated energy programs that drive up the costs that are not
yet competitive economically. We have gone too far in that
direction.
Thank you, Mr. Chairman.
Chairman Conrad. Thank you.
Again, Mr. Secretary, welcome to the Budget Committee. We
look forward to your testimony. Please proceed.
STATEMENT OF THE HONORABLE STEVEN CHU, PH.D., SECRETARY, U.S.
DEPARTMENT ENERGY
Secretary Chu. Thank you, Chairman Conrad, Ranking Member
Sessions, and members of the Committee. Thank you for the
opportunity to appear before you today to discuss the
President's fiscal year 2012 budget request for the Department
of Energy.
Before I begin my remarks, I want to take a moment to thank
Chairman Conrad for his decades of public service and for his
tireless efforts to address the big challenges facing our
Nation, especially fiscal and energy issues.
Chairman Conrad, I look forward to working with you over
the next 2 years and wish you the best as you start a new
chapter in your career.
President Obama has laid out a plan for the United States
to win the future by outinnovating, outeducating, outbuilding
the rest of the world, while at the same addressing the
deficit. Many countries are moving aggressively to lead in
clean energy, and we must rev up the great American innovation
machine to create jobs, win the clean energy race, and secure
our future prosperity.
To that end, President Obama has called for increased
investments in clean energy research, development, and
deployment. In addition, he has proposed a bold but achievable
goal of generating 80 percent of America's electricity from
clean sources by 2035.
A clean energy standard will provide a clear, long-term
signal to industry to bring capital off the sidelines. It will
grow the domestic market for clean energy, creating jobs,
driving innovation, and enhancing national security. The most
competitive clean energy sources will win in the marketplace.
The Government does not need to pick favorites.
The Department of Energy's fiscal year 2012 budget request
of $29.5 billion supports the President's goals and strengthens
the Nation's economy and security. Through programs to make
homes and buildings more energy efficient, we will save money
for families and businesses by saving energy. In addition, the
budget supports the research, development, and deployment of
renewable sources of energy; the modernization of the electric
grid and the advancement of carbon capture and sequestration
technologies; and it helps reduce our dependence on oil by
developing the next generation of biofuels and accelerating
electric vehicle research and deployment.
We are also requesting a new credit subsidy which will
support approximately $1 billion to $2 billion in loan
guarantees for renewable energy and energy efficiency
technologies, And we are requesting a credit subsidy for a
Better Buildings Pilot Loan Guarantee Initiative.
To jump-start the nuclear industry, the budget requests up
to $36 billion in loan guarantee authority, while also
investing in advanced nuclear technologies, including small
modular reactors. To spur innovation, the President's budget
invests in basic and applied research and keeps us on a path to
doubling funding for key scientific agencies, including the
Department's Office of Science.
The budget invests $550 million in the Advanced Research
Projects Agency for Energy, known as ARPA-E. The administration
also seeks an additional $100 million for ARPA-E as part of the
President's Wireless Innovation and Infrastructure Initiative.
This investment will allow ARPA-E to continue promising early
stage research projects that aim to deliver game-changing clean
energy technologies. ARPA-E's projects are generating
excitement both in the Department and in the private sector.
For example, through a combined total of $24 million from
ARPA-E, six companies in their first year have been able to
advance their research efforts and go back to the private
sector and show the potential viability of their cutting-edge
research. This extremely valuable early support enabled these
companies to achieve R&D milestones that in turn have attracted
more than $100 million in private sector funds to the projects.
This is precisely the innovation leverage that is needed to win
the future.
Another key piece of our research effort is the energy
innovation hubs. Through the hubs, we are bringing together our
Nation's top scientists and engineers to achieve similar game-
changing energy goals, but where a concentrated effort over a
longer time horizon is needed to establish innovation
leadership. The budget requests $146 million to support the
three existing hubs and to establish three new hubs in areas of
batteries, energy storage, smart grid technologies, systems,
and critical materials. The energy innovation hubs were modeled
after the Department's Bioenergy Institutes which have
established an outstanding 3-year track record.
Finally, the budget continues to support the Energy
Frontier Research Centers, which are mostly university-led
teams working to solve specific scientific problems that are
blocking clean energy deployment and development. When you
think of the EFRCs, think about a collaborative team of
scientists, such as Watson and Crick unlocking the secrets of
DNA. When you think of ARPA-E, think of the visionary risk
takers launching new technologies and startup companies out of
their garages. When you think of the hubs, think of large
mission-oriented research efforts, such as the Manhattan
Project, the development of radar at MIT's radiational
laboratory during World War II, and the research in America's
great industrial laboratories in their heyday.
To reach our energy goals, we must take a portfolio
approach to R&D, pursuing several research strategies that have
proven to be successful in the past. But I want to be clear.
This is not a kitchen-sink approach. This work is being
coordinated and prioritized with a 360-degree view of how the
pieces fit together. Taken together, these initiatives will
help America lead in innovation.
In addition to strengthening our economy, the budget
request also strengthens our security by providing $11.8
billion for the Department's National Nuclear Security
Administration. The request of $7.6 billion for weapons
activities provides a strong basis for transition to a smaller
yet still safe, secure, and effective nuclear stockpile without
additional nuclear testing. It also provides much needed
resources to strengthen science, technology, and engineering
capabilities, and to modernize the physical infrastructure of
our nuclear security enterprise.
To support the President's goal of securing all vulnerable
nuclear materials around the world in 4 years, the budget
invests $2.5 billion in the defense nuclear nonproliferation
program. Through our investments we are laying the groundwork
for the Nation's future prosperity and security. At the same
time we are mindful of our responsibilities to the taxpayer.
We are cutting back in multiple areas, including
eliminating unnecessary fossil fuel subsidies. We are
streamlining operations. We are making some tough choices,
including freezing salaries and bonuses for hard-working
national laboratory site and facilities management contractor
employees.
The United States faces a tough choice today. Will we lead
in innovation and outcompete the rest of the world? Or will we
fall behind? To lead the world in clean energy, we must act
now. We cannot afford not to.
Thank you, and I am now pleased to answer any questions you
might have.
[The prepared statement of Secretary Chu follows:]
Chairman Conrad. Thank you for that testimony, Dr. Chu, and
thank you for your taking on this assignment. You are a
distinguished scientist with a remarkable record of
accomplishment of your own.
I would be most interested in what your vision is of what
is most exciting on the technological front. As you look across
the broad array of initiatives that are underway, both in your
agency and in the private sector, what are the emerging
technologies that you are most excited about in terms of an
opportunity to dramatically reduce our dependence on foreign
energy?
Secretary Chu. Well, regarding foreign energy, I would say
that in the recent 5 years especially, and even in the recent 2
years, I have seen a quality of ideas and a passion for
developing electric vehicles. We are beginning to market the
first electric vehicles in the United States that have a 100-
mile range, but I see on the very close horizon, perhaps as
short as 4 years from today, the testing of automobile
batteries where people can drive perhaps 300 or 400 miles on a
single charge, where the cost of those batteries can be reduced
by as much as 70 percent, 60 percent. And the companies and
countries that achieve those type of batteries--and this is
close enough that you can really feel. It is not a pie-in-the-
sky dream of the future. Those companies and countries that can
achieve those type of batteries will have a multi-multi-
billion-dollar market. And we really want the United States to
be that country.
We have invested in advanced battery manufacturing to
deliver by 2014 half a million batteries. This is the first
tangible thing that we can do to get us off our dependency on
foreign oil.
Chairman Conrad. And who is our toughest competition?
Secretary Chu. I would say it is the Japanese, the Koreans,
and soon the Chinese. This is actually a worldwide race to
develop these batteries because it is not like it was 20 years
ago where we would say, well, maybe we can do this. You know,
as I said, the ideas that we are now investing in in the
research labs and in agencies like ARPA-E and in the Department
of Energy renewable energy and energy efficiency, they are
really where we can bank on 50- percent improvement, a factor
of two improvement in the next couple years. But to get to the
next steps where it just becomes ubiquitous is very exciting to
me. That is one of the things. I think that is going to come to
pass very quickly.
I think another thing that is not directly related to our
dependence on foreign oil but is also very exciting is we see
very rapid developments now in photovoltaics. For a long
photovoltaics have been making good progress, but there is
still--the energy created by photovoltaics is still too
expensive, and there is no doubt about it.
The industry game plan says certainly within the decade
they think they can reduce those costs, the full costs, not
only of the module but the insulation and everything, by 50
percent.
We started to engage in industry and said, OK, that is
good, but if you reduce the costs by 75 percent, then you do
not even think anymore. You put it up everywhere. And, again,
you have, you know, a tens of billions of dollars world market,
because at that point it becomes competitive with the lowest-
cost fossil fuel generation today.
So if we can pull this off in 10 years, that would be
amazing, and that would be something that would help the United
States lead for decades and create prosperity at both home and
abroad.
So this is not energy for the sake of clean energy that
would last forever on subsidy. We see a pathway now in some of
these areas where within a short period of time it could be
competitive without any subsidy, and that is very exciting.
Chairman Conrad. Let me ask you, we have had a major effort
underway by Boone Pickens to encourage the country to move
toward the use of natural gas for bus and truck fleets, and I
think that his advocacy has had a significant impact here in
Congress.
What is your assessment of the opportunity to encourage the
use of natural gas in our large fleets?
Secretary Chu. I think it is very promising, and we are
looking--in fact, we are indeed supporting some of the pilot
demonstrations of that. Boone Pickens was thinking that for
long-haul trucks that would be very good.
There is an infrastructure issue. We are looking into that.
But on the near term, the short term, the medium term, we think
that delivery vans in a centralized location where there is a
centralized refueling is a no-brainer, and we have supported
those demonstrations. UPS is looking very much at that as a way
of fueling its delivery trucks. But, again, while UPS looks at
natural gas delivery vans, which is, you know, very clean, and
natural gas, because of the fracking technologies which, I
might add, were first invested in at the Department of Energy
in the early 1980s. As soon as industry picked it up by 1992,
we got out of the game because Schlumberger picked it up by
1991, and we handed it off to the private sector. That is
exactly what we wanted to do. You do the initial research. You
prove it. It gets commercial interest, and then you step back
and let industry take over.
So that is a very good story. We do not know whether it is
going to be electric vehicles. FedEx is going to electric
delivery vehicles. They are going to electric delivery vehicles
because--it was a hard business decision. I had lunch with Fred
Smith, the CEO of FedEx, and he said if you look just a few
years into the future, we see only electric vehicles, a total
life cycle cost of electric vehicles less than the cost of a
diesel.
So, again, nobody was saying that 5 or 10 years ago, and
all of a sudden we are in this tipping point. Those are the
things that really excite me. So we can really decrease our
dependence on imported oil.
Chairman Conrad. Let me ask you two other quick questions.
First of all, clean coal technology. Look, coal is the basis
for 50 percent of the electricity in the United States, or
thereabouts. What do you see as encouraging developments on
clean coal technology?
Secretary Chu. Well, first, one of the most amazing
encouraging developments is that countries all around the world
have recognized this, most recently China. And although it is
not widely known, two major utility companies in the United
States, AEP and Duke, are now in agreements with two Chinese
companies, Huaneng and ENN in China, to develop clean coal
technologies. And, amazingly those pilot projects, co-supported
by those four companies, are being done in China.
Now, right now I would say that the clean coal technologies
we now have are too expensive for large-scale deployment. And
so we have put together a game plan. We co-chaired a clean coal
commission that said that it is reasonable to expect by 2020,
in 10 years' time, now 9 years' time, that one can begin to get
the costs down so you can begin to have significant deployment.
But to be fair, it now costs too much money.
Now, we have looked very hard at all the research areas,
both in proving in multiple sites that you can sequester safely
and economically, but also the technologies for capturing the
clean coal, lots of ideas that we think have great promise, but
they have to be tested. This is research and development, and
it is not ready for prime time where the American public could
say, OK, we can deploy this.
There is significant hope, I might say, that now we see
countries all around the world realizing that this is a
technological hurdle that you have to solve, and then also
realizing the country or companies that first solve these
technological things can sell worldwide. And I think that is,
you know, why China is doing this.
Chairman Conrad. OK. I have another question, but my time
has expired. But I would really like to talk about nuclear
power as well before we conclude this hearing.
Senator Sessions.
Senator Sessions. Thank you. Thank you.
Secretary Chu, Admiral Mullen says our debt is the greatest
threat to our national security. Do you agree with that?
Secretary Chu. Whether it is the greatest or not, it is
certainly up there. I think the debt, the national debt is
something that we have to work hard to bring down.
Senator Sessions. Well, you are asking for an additional 9
percent increase for the Department of Energy, and this is the
Budget Committee. Do you think that energy should be exempt
from the tough choices that everyone says, including the
President, that this nation must face on spending?
Secretary Chu. I think the President has made some tough
choices. As you know, this budget has put a freeze on non-
security discretionary spending and made a commitment to do
this for the next 5 years. This stopping the increase is the
beginning, and I think--but having done that, the President has
said that if you look at what is going to drive, what is going
to really be the engine of not only the far term, but the near-
term future prosperity in the United States and get Americans
back to work and really guarantee that we will be as prosperous
in the 21st century as we were in the 20th century, energy was
seen as central to that.
Senator Sessions. Well, Education was in yesterday with an
11 percent increase. They think they are central. We will have
Transportation in tomorrow and they are asking for a bigger
increase than you are getting. The State Department has a huge
increase. So at some point, we have to ask how we can keep this
country on a sound fiscal path, and I believe we are going to
have to ask you to do more with less, at least not the kind of
increases that are being asked for.
You know, this past week, I was in Winfield, Jemison,
Sulligent, Parrish, Haleyville, Glen Allen, and Cullman. I
would talk about the budget and great issues of war and peace
and the question would go up almost every place, gas prices.
This impacts people. It is real to people. I know you have
great hopes about these alternative sources. I called you about
ethanol, an idea in Alabama I thought was going to work, and
now it collapsed. I see this one in Boston, the Solyndra plant,
are not successful. We have to understand, I think, that just
promising, promising does not mean it is going to necessarily
happen.
I know a lot of the focus on solar and wind is for
electricity, but I do believe the biggest threat to our economy
is the liquid fuel we are using to power our cars, 61 percent
of which we are importing. I am willing to support and have
supported spending on batteries and research, but I begin to
wonder how much we can demand of the economy through forcing
technologies that are not yet available, are not yet proven or
effective. You have noticed that coal sequestration or carbon
sequestration is just not feasible.
What we know is that we are going to be importing a
substantial amount of oil for some period of time. I know,
Senator Conrad, in North Dakota, I think they have the lowest
unemployment in the nation. They are producing a lot of oil and
gas. He told me they needed more workers in the oil and gas
field. Yet we have laid off people along the Gulf Coast. We are
not producing in other areas. We are importing this oil now.
People are even discussing selling off some of our Strategic
Reserve because of the surge in prices.
Do you not think, as a matter of national energy policy, we
need to take more immediate actions to actually produce the oil
and gas that we have?
Secretary Chu. I agree with you that we, as part of a
national plan to get off of foreign oil dependency, developing
further sources of oil and gas in the United States as part of
a plan, but it will take five, perhaps even 10 years from now
to actually be producing this amount. But it is part of a
coherent plan. And I agree with you that the $300 to $400
billion we spend, where money is offshored to bring in oil, is
a huge, a huge burden on the American people.
Senator Sessions. Well, Reuters just had this article,
``Deepwater Rigs Moved Out of the Gulf of Mexico.'' Diamond
would move to Egypt. They would also move another rig to the
Republic of Congo. Transocean was moving one to Nigeria.
Another, Transocean said, is leaving for Egypt. INSCO said it
would work off French Guyana. Pride International was removed
to the Mediterranean Sea. Noble Corporation said that the Clyde
Boudreaux rig would move to Brazil.
Presumably, we are importing from Nigeria, Saudi Arabia,
Brazil, Venezuela. We will be, instead of producing this in our
own country, receiving royalties of billions of dollars from
the production of that oil that goes to the Treasury, we will
be importing that oil. Do you not feel like, that as Energy
Secretary, you need to maybe call Secretary Salazar, our
friend, and say, watch out what you are doing. We are not ready
to produce batteries yet that are going to take over America.
Secretary Chu. Well, at least you have the right Secretary.
I think Secretary Salazar----
Senator Sessions. You have his phone number, I am sure.
Secretary Chu. Yes. I think Secretary Salazar wants to
resume Gulf drilling and deep Gulf drilling. He feels compelled
he needs to do it safely, and I, as during the oil spill, I
will certainly avail myself and the Department in any way we
can.
But going back to the fundamental question, I think today's
spike in oil prices is causing great concern, great hardship.
The American people, we have a very delicate recovery going on
and an increase in prices will make that vulnerable. And so we
need both short-term and long-term plans going forward. And as
I said, right now, advanced biofuels, I will tell you, is not
quite ready for prime time, but I also----
Senator Sessions. I had hoped that we would be further
along----
Secretary Chu. Yes.
Senator Sessions [continuing]. And I shared that with you,
but it just has not happened.
Secretary Chu. That is true, but again, what is different
in--you know, if you look back in the early 1980s versus now,
it is a transformative difference in what is going on. In the
last couple of years, again, the proof is going to be in the
pudding, but already, people are beginning to pilot advanced
biofuels where they think they can sell, for example, diesel at
$4 a gallon. Now, that is still higher, but sell at a profit at
$4 a gallon. You want to sell at a profit at $3 a gallon. But
again, it is a little bit further off, perhaps, in batteries,
but it is within grasp. Increased fuel economy,
electrification, gas vehicles, gas-powered vehicles, all those
things are part of the thing. A single--one single technology
will not solve the problem, but also bearing in mind that we do
have gas and oil reserves that we can simultaneously develop.
All these things are needed.
Senator Sessions. Well, we just need more energy at a
reasonable cost, and I am afraid our policies seem to be
focusing more on higher-cost energy and locking up the energy
we have. We have to get away from that direction.
Chairman Conrad. I thank the Senator.
Senator Stabenow is next.
Senator Stabenow. Thank you, Mr. Chairman and Secretary.
Thank you very much for your leadership and vision about the
future.
Mr. Chairman, I think this is such an important debate and
discussion, frankly, that we need to be having, I think, in a
more extended way about what our energy policy is and how we
get there.
At the risk of plugging somebody's book, which I am going
to do, Andrew Liveris, who wrote Make It In America, I would
strongly encourage everyone to read this, my colleagues. He is
the CEO of Dow Chemical Company and has many things I know
colleagues on both sides of the aisle would agree with. What I
think is most powerful about what he talks about, though, is
the fact that energy drives the world, and in this, from his
vantage point as someone who is in every country around the
world, watching what Germany is doing--not exactly a low-wage
country or low-tax country--and China and other places talked
about, he is extremely concerned about the lack of focus in
this country from an innovation and manufacturing standpoint.
One of the things he says--I would just quote one thing he
says--``It is ironic, energy independence is closer at hand
than it could ever be in the age of oil, but America's policy
inertia suggests that it seems willing to trade one form of
dependency for another, to let other countries build the clean
energy technologies that we will then buy. It is still within
America's means to be a world leader in clean energy, but only
if we wake up to what the rest of the world is doing and to
what we must do.''
I raise that because in the book, he really is talking
about, and in conversations, many conversations I have had with
him, about how we partner with American businesses like every
other country is doing. Right now, our companies are competing
with countries. When Germany or China or Japan or someone else
says, come here, we will build the plant for you or provide you
financing or pay for your R&D, we are at a significant
disadvantage.
And so I am reminded of what Japan did to help Toyota get a
jump on us on batteries, by funding most of the R&D. We are now
in a situation where by putting $2 billion into advanced
battery innovation and manufacturing--$2 billion in this
country--we have unleashed billions of dollars. Over 12
companies in my State now, including Dow, are doing advanced
batteries, and we are going--as I understand it, last year, the
number was we manufactured 2 billion--or, excuse me, 2 percent
of the world's batteries, and within 4 years, it is going to be
40 percent.
And so to our distinguished Ranking Member, I would say
part of the way we get off of these high costs and so on in
terms of oil going up is to really create some competition with
other alternatives that are not pie in the sky. They are really
happening now. We have the Chevy Volt and close to, what, 300
miles on a gallon of gas because of extended range, and the
Ford Focus, and, of course, Toyota has been there with the
Prius, and we could go on and on. I mean, these are not
technologies that are fringe anymore. They are technologies
that are here.
And Mr. Chairman, when you said that--we put up your chart
about oil and gas subsidies, you know, we started oil and gas
subsidies in 1916 and it made sense, industrial revolution,
investing in energy policy. But that is 19th century tax policy
and energy policy at a time when we need to focus on the 21st.
So my question would be this. First of all, I want to thank
you for your support and the President's support of an idea I
put out last year to take up to $7,500 tax credit for consumers
to buy these new vehicles, which is already paid for, and
front-loading that at the time of sale so more people can
purchase them and get the marketplace going.
But one of the other areas that we have been very involved
with is doing what other countries are doing in terms of
financing, low-cost loans. You and I have talked many times
about Section 136, which Senator Bingaman and I authored in the
Recovery Act, and I am wondering, as we go forward, we are
looking at about 35,000 jobs nationally, thousands in my State
that have come from partnering. We actually have Ford bringing
back jobs from Mexico to Michigan because of the loan that they
received to retool a plant.
But I am concerned continually, Mr. Secretary, about the
process taking too long. That is what I hear from the companies
and I wonder if you could speak about the process, the hurdles
in receiving this financing, which has been so critical to many
companies to actually be rebuilding, retooling, and keeping
manufacturing here in America.
Secretary Chu. Thank you, Senator. First, I concur. I have
read that book, also, and I agree with much of what it says.
Its fundamental tenet is that America should not be willing to
cede manufacturing to the world. Manufacturing jobs are
particularly highly leveraged jobs because they institute
supply chains and all the support services for the
manufacturing, and finally the services for the workers who are
in manufacturing jobs.
Senator Stabenow. Right.
Secretary Chu. So it is an extremely highly leveraged job
and we should not even think of ceding manufacturing. We
should--you know, I think our slogan should be, invented in
America and made in America.
Senator Stabenow. That is right.
Secretary Chu. Now, regarding the foreign competition, I,
too, agree with you. If you look at what China and other
countries are doing, and the subsidies, tax holidays, very
inexpensive money for loans, that they are luring American
industries abroad to manufacture in their country. They are
also developing a whole market for those products.
China thinks it is mandated by 2020 to be 15 percent
renewables and will probably get to 18, perhaps even 20 percent
renewables. They are growing their nuclear industry. The reason
they are doing this is, in part, because they want to go to a
greener economy, but also in part because they see a world
market for all these products, whether it is wind or solar or
nuclear, you name it, or high-voltage transmission lines. So in
that sense, the loan guarantee program is a very important part
of how we can help industry get going.
Now, if you consider the history of the loan guarantee
program, it was authorized in 2005. I think the first
appropriations were at the end of 2006, beginning of 2007. And
when this administration came into office, not a single loan--
--
Senator Stabenow. Right.
Secretary Chu [continuing]. Had been given. And if you
consider right now, we have now closed or given conditional
commitments to 23 companies, but we are still working to up
that rate. We want to more than double it. The OMB and we are
working very hard, and Treasury are working very hard to make
it smoother. I will be honest, it can be done faster, better.
It is an important part of what we need to do.
And this is why we are asking in the 2012 budget for more
authorization, particularly in the nuclear industry, in which I
think it is very important we start the nuclear industry again,
something where we were the leader. But in all the other, the
clean, renewable energy sources and fossil energy, all those
things could help with that, and we are working very hard with
the other agencies.
Chairman Conrad. Thanks, Senator.
Senator Cornyn.
Senator Cornyn. Thank you, Mr. Chairman.
Mr. Secretary, thank you for being here and thank you for
your service. You have had a distinguished career--continue to
have a distinguished career. But I want to ask you about the
transition to this green energy future that you have described,
which all of us, I believe, support from the standpoint of
alternative sources of energy and reducing our dependence on
imported energy and, hopefully, increasing our dependence on
cleaner energy.
How is it--well, let me just ask this question. Currently,
the U.S. energy supply is about 83 percent fossil fuels, and
the figure I have is that about 51 percent of the oil and gas
that we consume in America, we are importing from foreign
sources. How long will it take us to get from a situation where
83 percent of our energy supply is fossil fuels to a situation
where, let us just say, half of our energy supply will come
from fossil fuels, whether domestic or imported? Are we talking
about a 1-year, 5-year, 10-year, 20-year, what time table are
we looking at?
Secretary Chu. Well, it is not going to be 1 year. I do
not----
Senator Cornyn. It is not going to be 5 years, either.
Secretary Chu. It is probably not going to be 5 years. But
then beyond that, I think a lot of things will kick in. I think
in four or 5 years, I think there is a reasonably good shot a
million cars, electric vehicles, but that is just scratching
the surface because there are about eight million vehicles
being sold now in the United States a year. It would really
depend on what happens in battery development, and as mentioned
before, for the first time in my career--I have been looking at
this for a while, and when I was at Lawrence Berkeley Lab, I
was on the scientific board of a new, innovative battery
company, so I know a little bit about this--but the first time
in the last 3 years, I am seeing things that are saying, you
know, this is going to happen.
Senator Cornyn. I hope you are right, but, of course, a lot
of our electricity is generated by----
Secretary Chu. Right.
Senator Cornyn [continuing]. Fossil fuels, either coal or
natural gas, and we have to--so we cannot say that--we cannot
imagine a fantasy world where all of a sudden, we are all going
to be driving plug-in cars and we will not need fossil fuels
from some source, correct?
Secretary Chu. I absolutely agree with you. For the coming
decades, fossil fuel has to be a very important part of--for
the next half-century and perhaps beyond, it is going to have
to be a very important part of what we do.
Senator Cornyn. So here is my question. How is it,
recognizing that we will continue to be dependent on fossil
fuels for the near term and mid-term, how does it reduce our
dependency on imported energy to raise taxes to the tune of $46
billion on our domestic energy producers, which the President's
budget proposes, which this budget proposes?
Secretary Chu. Well, I think the President was calling for
an ending of certain tax subsidies on fossil fuels that had its
origination in the beginning part of the 20th century and----
Senator Cornyn. But you agree with me, however you want to
characterize it, it will increase costs of production for
domestic producers, correct?
Secretary Chu. It will be, I believe, a very small part of
the total cost of producing oil in the United States.
Senator Cornyn. Well, I think in conjunction with the
policies of the administration with regard to the Gulf of
Mexico, which has been a job-killer in our part of the world,
in Texas and Alabama, the Gulf of Mexico, and reduced revenue
to the Federal Government, the royalties from that production,
and has made us more dependent on imported energy from abroad.
I worry that, along with the additional tax burden, that an
industry which employs 9.2 million people in America right now,
by adding $46 billion in additional taxes over the next 10
years by the permitorium we have seen in the Gulf of Mexico--
now the moratorium has gone away, but the difficulty of getting
permits--and this vision of a green energy future that may
occur ten, 20 years out, but it will not occur next year, what
does that do to the average consumer that is now paying $3.38
for a gallon of gasoline, and with the geopolitical unrest that
we are seeing in the Middle East and elsewhere, if the Suez
Canal is blockaded, if the imports from the countries the
Chairman mentioned were to occur because of disruption there?
Is there not a very real danger of gasoline prices skyrocketing
for the average consumer, and what would that do to our fragile
economic recovery?
Secretary Chu. Well, we are certainly very concerned about
what will be happening to the gasoline prices in the near term,
but we also have to keep in perspective the fact that,
currently, the United States consumes about 25 percent of the
oil produced in the world and we have about two or 3 percent of
the known reserves in the world. And if you further consider
the fact that within our territories we have scoured that much
more than the rest of the world, you know, going to the future,
those newer reserves, that fraction will be less.
So while I do support an integrated plan which includes
production of oil and gas, we cannot simply say, we can end our
dependency on foreign oil by simply drilling our way out of the
problem, given those numbers, 25 percent and 3 percent.
Senator Cornyn. Well, and nobody is suggesting that we
drill our way out of the problem. I think we all agree we need
a plan----
Secretary Chu. Right.
Senator Cornyn [continuing]. Really, what I would love to
see is a plan that deals with every element of our energy
sources here, and particularly domestic. But you have expressed
great hope and optimism about research and development in
electric batteries and other alternative sources of clean
energy and I share that hope and I really do hope that we
develop alternative sources because I think it is going to take
all of the above to get us there.
But you also would acknowledge that we have seen a
tremendous 14fold increase in the amount of natural gas
reserves here in the United States because of the development
of new drilling technology and the fracking techniques that you
alluded to earlier. So is that not an area that we also ought
to continue research and development to see if there are ways
we can gain access to domestic energy sources rather than just
ignore that altogether and put all of our hope, all our eggs in
the basket of something being deployed ten or 20 years in the
future?
Secretary Chu. No, we are certainly not ignoring that, and
it is a wonderful thing that the development of the
technologies that allow us to frac the shale rock to release
natural gas. I am certainly looking at what the projected
increase in reserves are. I hear estimates all over the map.
The EI estimate is much less than that. But that is neither
here nor there. I think as we go forward in time, as the
extraction methods get better and safer and all those things, I
think those estimates will grow. I am not sure it is going to
be 14 times.
But it is a good thing that is happening because this is
energy produced in our borders and it is a cleaner form of
energy and gas will be a transition fuel that we will need in
the coming decades, and----
Senator Cornyn. Mr. Chairman, thank you for your
indulgence. I would just add that this is jobs here in America,
too, right?
Secretary Chu. Right. Absolutely. And that is one of the
reasons--all of the electrification, actually, is using energy
produced in America to power our vehicles.
Chairman Conrad. Let me say this to my colleagues. The vote
is scheduled for 11. Senator Whitehouse is next on our side,
then it comes over to Senator Portman. My intention is to leave
now, have Senator Whitehouse proceed, and I think, Senator
Portman, if you would leave now, there would be a prospect that
you could be back after this vote and have your chance, and
then we will just keep going back and forth.
So if, for whatever reason, we are getting on the second
seven-and-a-half minutes, Senator Whitehouse, and you are done
with your questioning and nobody is here on the other side to
proceed with their questioning, you just put the committee in
adjournment so that you do not miss the vote, OK?
Senator Whitehouse. Very good.
Chairman Conrad. Senator Whitehouse.
Senator Whitehouse [presiding]. Thank you, Chairman, and
thank you, Secretary Chu, for being here.
There is an image that I recall of a lineman who has
climbed up a telephone pole and he is installing on the top of
the telephone pole an array of solar cells. It is a picture
that I recall because it was taken the year that I was born,
back in 1955, and it is a reminder that America invented solar
cell technology.
And yet as you look around, as a country, we are fifth in
solar component manufacture now. Only one of the top ten
companies in the world that is engaged in solar component
manufacturing is an American company. And we seem to have
slipped in terms of our competitive advantage in this market--
and it is not just in this market, it is true, as well, in wind
turbines.
I am from Rhode Island. We have the potential of a very
significant wind turbine farm going in offshore. It has
considerable prospects for our energy portfolio, for clean
energy, for ultimately lower costs, but mostly for the assembly
and installation and construction jobs in Rhode Island, which
we now desperately need.
So in that context, I would love to get you to talk a
little bit more about when it makes sense for the government to
take a role in encouraging investment, and in particular, I
think you have already described in your testimony that this
new clean energy market is a rapidly emerging market and it is
also a potentially enormous market. I do not know if you heard
John Doerr's testimony. He was one of the most successful
investors in the entire tech revolution and he now observes
that the energy revolution is going to be six times bigger than
the tech revolution in terms of the money at stake.
Is there a particular role where it makes sense for a
government to encourage early investment at the beginning
stages of what can foreseeably be described as a rapidly
emerging technology to protect against foreign competition or
protect against being overwhelmed, really, by foreign
competition in those markets?
Secretary Chu. Yes, there is a government role, but before
I answer that, I might also add, at the institution I used to
work at for 9 years, Bell Laboratories, invented that silicon
photo cell. To have the leadership slip and the production
exports slip from the United States is--even in the mid-1990s,
we were the leader in the world----
Senator Whitehouse. Yes.
Secretary Chu [continuing]. And now it is clearly over in
Asia and China is clearly--really wants to dominate this market
today.
Senator Whitehouse. And how does that work? Is there an
economic theory by which the bare investment is justified to
try to capture an early emerging market and take a
technological lead?
Secretary Chu. Yes. What they and--but it not only China,
it is Japan, it is Korea, the EU countries. What they are
saying is, OK, we have certain mature technologies, but there
are some rapidly growing technologies and their crystal ball
says it is highly likely that these technologies will become a
dominant growth industry in this next decade, from now until
2020. And they think that this is going to be the place of
major economic growth, and they made no bones about it.
And for that reason, you have these, you know, no corporate
taxes in Asia type of policies. You have inexpensive money in
Asia type of policies. And you have a bevy of engineers being
trained in those countries that can work on these things and to
drive the processes down. The myth of cheap labor is simply a
myth. Most of the cost of these things is in the capital
expenditures and in the engineering to drive the quality up,
the production costs down. So these are highly roboticized
factories.
Senator Whitehouse. So if you had to make a choice, if you
were a government and you had to make a choice between
subsidizing a mature extractive industry and an emerging clean
energy industry, which is more or less the facts that we have
before us, justify for me the investment in the clean energy
rather than the mature extractive industry.
Secretary Chu. Well, the United States has a history of
having government support in emerging industries which it
thinks is going to be important.
Senator Whitehouse. Has it worked in the past?
Secretary Chu. It has worked in the past. As mentioned,
actually, the oil industry was subsidized in the early 20th
century until today.
The airplane industry, even though we invented the
airplane, the leadership went very quickly to Europe, and by
the end of World War I, it was noticed that we could not
compare in the technology and the United States, beginning with
Woodrow Wilson, started an Aeronautics Board and said, we need
to support this industry. How can you support this? You get
airmail delivery, that the government would sponsor airmail
delivery so there was a market to encourage people to build
better planes that would solve that need. The military played a
huge role in that.
So we rebuilt an air industry that was important for our
national defense, important for commercial things. It did not
spring out of the private sector alone. There was help from the
government. And so----
Senator Whitehouse. So investing in emerging new
technologies has a long and successful American pedigree----
Secretary Chu. Right.
Senator Whitehouse [continuing]. Across Republican and
Democratic administrations alike.
Secretary Chu. Right. The semiconductor industry, the
transistor was invented at Bell Labs. It was a monopoly. It had
the wherewithal to invest in this long-term research. It took
more than 10 years to develop that technology. But the first
transistors were not competitive with tube technology, and for
the first two decades, guess what was the first buyer of all
the semiconductor material. It was the U.S. military, because
they knew full well that they had to nurse this along and
nurture it and it became a dominant force in wealth creation in
the United States.
So again and again and again, the government said, these
are the things--and it was fundamentally a nonpartisan issue,
Republican Presidents, Democratic Presidents, Republican
Congresses, Democratic Congresses, said that this is what you
do in order to nurture a beginning industry which we think will
be a dominant force of wealth creation in the future.
The United States did it. Other countries have taken from
our playbook and are now doing it. And for us to say, well, we
do not want to do this anymore, simply does not make that much
sense to me.
Senator Whitehouse. If you compare extractive industries in
which demand competes for a diminishing supply with
technological industries in which technological advancements
and increased demand have a history of lowering cost--I have my
BlackBerry right here. I see behind you, you have a staff
person with his iPad up. I can remember the days when a simple
calculator was a very expensive thing to buy. Now they are so
cheap, people give them away. The price of technology, I
believe, tends to have a downward curve, whereas the price of
extractive industries tends to have an upward curve, inevitable
from supply and demand in that case. Is that an additional
argument for getting on the side of technology and not just
extraction?
Secretary Chu. Yes, I would say that technologies in all
areas, including actually oil and gas, actually improved. But
with an extractive technology there is something else you are
fighting. As the technology improves, as we see ourselves--the
multinationals have to go harder-to-access oil, deeper
offshore, Arctic regions, much more expensive. A deep offshore
rig now costs $2 to $4 billion for a major platform.
So even though their technology is getting better, they are
fighting this other thing, that you have to go to more
inaccessible oil, and it gets more expensive. And you can
compare that to looking around and saying, well, you know, one-
hundredth of 1 percent of the energy hitting the sun for a day
can power the world for a year, so can we figure out a way to
capture a small fraction of that energy, store it when needed?
Because if we do, and if we can do this in a decade or two,
then we would not be.
Senator Whitehouse. Another potential win big seems to me
to be turning what is presently nuclear waste into nuclear
power. And I know that there are a few emerging technologies
that promise or suggest an ability to take what is now an
expensive-to-dispose-of, poisonous, dangerous, potentially
proliferation and, you know, dirty bomb, national security-
related problem, and through the use of that technology be able
to turn that into clean nuclear power. How are you investing in
that? Do you see those technologies as credible? And is there
an added value to investing in them because it helps solve the
problem of the nuclear waste that is now scattered at various
power sites around the country?
Secretary Chu. Sure. First, as you know, I am a big
supporter of the nuclear industry getting restarted. I think it
should be and has to be part of our energy diversity in this
century.
What you speak of, the fact that in our standard nuclear
power plants we put in the fuel, lightly enriched uranium, and
we have right now a once-through cycling, about 1 percent of
the energy content of that material is used.
After that, you have a used fuel rod, and just imagine_now,
we will naturally evolve, and we are doing short-term research
to help the industry double that, which doubling is great, but
it is only 2 percent. And so if you can say let us not go from
1 percent to 2 percent, but what do we need to do in order to
go from 1 percent to 20, 30, 40, 50 percent? That means for the
same amount of nuclear material you get 20, 30, 50 times more
electricity.
Senator Whitehouse. Yes.
Secretary Chu. Which means for the same amount, that much
less waste. And so we think that it is very important_but this
is a tough long-term thing in order to invest in that
technology.
I can tell you that right now today we do not have the
technologies that we think are cost effective and cost
competitive, but there is time to figure it out.
Senator Whitehouse. When you say cost competitive, are you
taking into consideration the proliferation hazard that these
rods lying around with no purpose and the disposal problems, if
they are left with no other use other than to be poisonous,
hazardous waste?
Secretary Chu. Yes, but there is also--with today's
technology that is being used by France and Japan, notably, the
recycling technology they are using, which was invented in the
United States, actually presents a proliferation problem, and
it is not cost effective either. You know, Japan unfortunately
has discovered this because their costs of their current
recycling have more than tripled.
Senator Whitehouse. Let me hold a moment because I am
getting a different instruction than I had before about the
management of this hearing and the vote.
Senator Thune is here. He is waiting to ask questions. Has
the Senator been over and voted?
Senator Thune. No.
Senator Whitehouse. No. Well, the two choices we have here
are either to go to you, and you are going to have a very close
run at making the vote, or to wait a few moments longer for
somebody to return, and then we can both go vote.
Senator Thune. I am fine with proceeding. I am happy to
make the run to the vote.
Senator Whitehouse. So you would care to proceed now?
Senator Thune. Yes.
Senator Whitehouse. We will do so, and you can make your
dash.
Senator Thune. Thank you, Mr. Chairman.
Mr. Secretary, thank you so much for being here and, again,
for your service and for the work that you do in what is one of
the most important areas that we deal with in this country, and
that is our energy sector. It has enormous potential to create
jobs to grow the economy and reduce the Federal deficit.
Unfortunately, if you do not have the right policies in place,
you can get the exact opposite outcome, and I fear that
sometimes our energy and environmental policies act to destroy
jobs and economic growth and are not a good service to our
taxpayers at the same time.
I know as we look at your budget for this year, there is a
significant proposal in there for an increase, and some of that
I know is attributable to the additional demands on account of
the new START treaty, but we obviously have to, at a time when
everybody else in this country is tightening their belts and
trying to do with less spending, make sure that our budgets are
following that basically same approach.
But I wanted to raise a couple of issues with you, if I
could, and one has to do with--and I know this is not directly
under your jurisdiction, but they say that there is as much as
$2 trillion in capital sitting on the sidelines right now
because of the economic uncertainty that exists today, some of
which is being driven by policies coming out of Washington.
Much of that is--at least folks that I deal with, small
businesses and others, suggest that a lot of that has to do
with policies coming out of EPA.
I guess my question has to do with whether or not you
believe that the Clean Air Act is the best approach to limiting
greenhouse gas emissions.
Secretary Chu. Let me respond by saying that I think the
President has--I think in terms of going forward and
transitioning to a clean energy economy, which will actually
put us on the forefront of being able to export abroad those
technologies we develop at home, one would much prefer to have
it through the legislative process.
One of the things that has been proposed--I am a very big
fan of this--is a clean energy standard that includes, you
know, half credit for gas if it is combined cycle gas, again, a
very efficient generation of electricity by gas, but it also
includes nuclear, it includes wind, solar, new hydro.
If you do that and you give it a long enough leash--and the
President proposed 2035--that clean energy standard will allow
the development of technologies so that you can be sure that
you can build nuclear reactors in a cost-effective way, on
budget, on time; that you can further develop the technologies
for clean coal and other carbon capture sequestration methods;
that just simply saying that this is going to be the goal of
what we need, we have seen this in States. When States do this
it provides market certainty to that $2 trillion, because then
all of a sudden a company says, OK, if I build it--and the
Federal Government is not going to pick winners. They could
say, you know, if you can do it by wind or if you can do it by
solar or if you can do it by nuclear or combined cycle gas, you
do this and you get credit for it, that means that the
financial institutions can say, OK, we will loan you the money
because if you do this, you will have a market.
So the investors will have that certainty. I think the
long-term planning--and we have seen this in States that have
done this, that all of a sudden there is a much longer-term
planning, the electricity transmission and distribution lines,
it creates market certainty. And you say if you do the right
thing and it is cost competitive, you will have a market.
So we think that that will relieve a lot of the uncertainty
that is now--and I agree with you. There is--I do not know
whether it is $1 trillion or $2 trillion--a tremendous amount
of capital sitting on the sidelines, which means not driving
the engine of the United States and jobs.
It is a very light touch. We established this goal;
industry, you figure out what is the best solution. And each
State and each region can figure out what is the best solution.
Senator Thune. But the way to accomplish that--I have come
back to my original point, and you suggested this--would be
some direction from Congress. What EPA is doing today I think
is making it very, very difficult for businesses out there to
create jobs, and it strikes me at least that if you are
concerned about private investment, getting that capital off
the sidelines, getting jobs created, and growing the economy,
the approach that they are taking right now is completely
contrary to that.
You mentioned a clean energy standard. How would you treat
gas, clean coal technologies? You mentioned increased hydro. We
have a lot of hydro in my State, as does the Chairman. How
would those be treated under a clean energy standard in your
estimation?
Secretary Chu. Sure. Hydro is clean energy. I think gas, if
you look at combined cycle gas, it is more efficient than the
most efficient coal plants. It is 55, going to 60 percent
efficient in terms of the amount of energy you get out, and it
has, by its very nature, less carbon emissions. So as you take
the combined cycle gas plant and compare it to a new high-
efficiency coal plant, roughly speaking you get twice as much
electricity for carbon emission, so we count that as half.
Now, if you come along and develop a technology that grabs
80 percent of the carbon from coal or 90 percent, you just pro
rate it that way.
So what that means is if--that is another incentive for the
utility companies to begin to invest in pilot demonstrations of
clean coal technologies, because they can say, OK, there is
going to be a market, and if you are a coal State and there is
a lot of abundant coal, you can say we can develop those
technologies. Now, the development of those technologies, I
firmly feel that the Federal Government has to do a lot of the
research to help the companies to develop those technologies.
But having said that, if you have those technologies, again,
2035 is a long enough lead time where we are pretty confident
they will be developed by then or even--because they have to be
actually developed 10 years before then in order to get a
business plan going. And so 2025 we think is a long enough lead
time where we can dramatically bring down the costs so it looks
like a good business investment.
Senator Thune. Well, and I hope that you consult with
Administrator Jackson about that approach and having Congress
come to some solution as opposed to having these regulations
coming out of EPA, because I talk to groups all the time, and I
hear that over and over and over, that what they are doing over
there is making it incredibly difficult.
I have to go vote, and thank you, Mr. Chairman.
Chairman Conrad. Thank you, Senator.
Senator Merkley.
Senator Merkley. Thank you, Mr. Chair, and thank you, Mr.
Secretary, for your testimony and your leadership.
Senator Cornyn was talking about the importance of a plan
to end our dependence on imported oil, and indeed certainly
that echoes a sentiment of mine. We have so many technologies
that we are talking about at this point, including electric
vehicles, plug-in hybrids, the use of more natural gas for
trucks, many technologies that increase the fuel efficiency of
trucks, the shift of trucking to rail, et cetera, et cetera, et
cetera.
What has been missing, in my thinking, is for the
Department of Energy to lay out a plan for how we are going to
over a period of some time--because it does take time to, say,
shift fleets--end our dependence on foreign oil? Is there any
prospect we might see a plan like that from the Department in
the course of the coming year?
Secretary Chu. Well, we are beginning--I am so glad you
asked that question because this is something where I think in
the past we would say, OK, this looks good, we will fund this;
that looks good, we will fund that. But we are now going about
it in a slightly different way. It is a very hard look. Without
Department of Energy help, where is business going? And what is
its timeline? What can we do in the Department of Energy to
accelerate it? And what price point can we get to at any given
time? And it is those price points--because energy, you know,
fundamentally the investments in energy and how it is, it is
about money, and you have to bring prices down in the new
technologies. And what is the timeline you say? You know, can
it be done in 5 years, 10 years? Or is this so far--you know,
20 years means, well, we are not really sure.
And so we are developing this. We are looking at this in
every sector, and it now cuts across all of the Department. For
example, in photovoltaics, we are able to attract a very
talented individual--who happens to be a personal friend of
mine, Arun Majumdar, a professor at Berkeley--to say, OK, we
have had our Sputnik moment on energy; the equivalent of the
moon shot is not a sun shot. What do we need to do in order to
bring the price of electricity generation down to--the full
cost, what is called the levelized cost down to be competitive
with gas or coal? And how far will that be?
And so now all of a sudden this program is going to cut
across all the lines within the Department to say what is it we
can do. And so we are doing this for every technology--
biofuels, coal, transmission and distribution, battery storage,
battery storage for vehicles, but also for utility scale. And
so we will be developing this plan.
In addition to that, we are working--there was a PCAS
report, Presidential Science Commission, that suggested--in
fact, it was spurred by requests I made of them, to say what
can we do in the Department of Energy to help the country's
goals in energy. They made a recommendation that said, Why
don't you develop a longer-term plan, what they call a
Quadrennial Review, which has been done in the Department of
Defense and now in State, and they made that recommendation to
the President and we are enthusiastic about it and intend to go
forward with that. We are now working with OMB and then soon
with relevant agencies within Congress going forward. And we
would like to actually do in a very short time scale the first
version of that. It is a technology review to address precisely
what you want to do.
Senator Merkley. Well, thank you. I am very glad to hear
that, and it is certainly appropriate to incorporate the vision
for how costs will play into this.
Quite frankly, most of our estimates about cost are always
a bit of because the world changes in ways we do not
anticipate. Certainly the drop in natural gas and the increase
in the supply are a good example of that. But, crudely, the
projections are that 20 years from now we will be importing
between 8 and 9 million barrels per day without our changes in
technology.
Four Senators have put out a plan as a bill that lays out a
pathway to reducing our consumption of oil by over 8 million
barrels per day, which more than exceeds our non-North American
imports 20 years out. This is without the sophistication that
the expertise of your Department can bring to bear. But I think
when you complete this vision of wrestling with the cost lines,
I think you will have all the data to do a much more
sophisticated version of a 20-year plan or less to end our
dependence on foreign oil.
Now, clearly, that does not end our dependence upon or our
concern about price shocks because it is a global oil market.
Secretary Chu. Right.
Senator Merkley. But it does play a lot into our
understanding of our national security challenges from being
dependent on overseas oil. So I would really encourage you with
considerable enthusiasm to translate all that data into a road
map, recognizing the road map will change, because the world
will change and we cannot envision accurately all the ups and
downs. But I think it would give us a pathway to seize hold of.
We have proposed, the Senators who have put this forward
have proposed having a Department of Energy Security that is an
ongoing--not a full department but actually a council like the
National Security Council--to keep pushing so that between
administrations or the transition of administrations we can
fulfill a 20-year plan. That, too, I think is part of a plan I
would love to see the administration come forward with. Lay out
a 20-year vision but then a structure for how we make that
vision happen, knowing that we will have to adjust the changing
dynamics over time. I just think that sort of understanding--it
is like a business positioning itself in a smart way
strategically. And we need to position ourselves as a Nation
not to be dependent on overseas oil. And in the process it
creates a lot of jobs at home and does a lot of good for the
environment. So obviously I am spending a lot of time on this
just to try to root for it as much as possible.
Secretary Chu. I could not agree with you more. And, in
fact, when you said do it like a business, that is exactly the
way we are trying to do it. If we think more as, you know,
green eyeshades, what are we going to do, you know, it is a
competitive world out there. There is going to be a race as to
who is going to develop these technologies first, and we want
to get them and we want to win this race. So treat it like a
business.
So that is why we are saying, OK, the traditional boundary
and traditional way of thinking cannot go forward, and it has
to be a business plan that looks out into the future, knowing
that a technological breakthrough can be totally upended, and
that is what we really want. But you also make plans. You know,
you do not want to make--sail on on what we are doing hoping
out of the blue some miracle might happen. You know, you do not
make plans hoping for a miracle. But you make miracles much
more likely with a better plan.
Senator Merkley. Great. Thank you. My time is up. On your
way out, I will give you the copy of the plan that the four
Senators put forward, ``America Over a Barrel: Solving Our Oil
Vulnerability,'' and I will look forward to when you can hand
me back a plan from the administration of a more sophisticated
strategy. Thank you.
Chairman Conrad. Thank you, Senator.
Senator Portman. Thank you, Mr. Chairman.
Dr. Chu, good to see you again and have you before the
Committee. I am going to followup on Senator Merkley's comments
about a plan and also focus, I hope, on two issues: one is
nuclear and natural gas. You just said we are living in a more
competitive world, and you are right. Senator Sessions has also
reminded us that we are living in a time period of not just
more competition but more budget constraints. And to me this
means that we need to determine ways to unleash the American
potential to create sources of energy right here. And I would
associate myself with some of the comments earlier of some of
the members on both sides on clean coal and other technologies,
but let me focus on nuclear, if I could, because I think that
may be one we have not gotten into as deeply.
As you know, I am very concerned about the slow pace on the
loan guarantees. I think it is fair to say that nuclear is the
only baseload emissions-free option that we have. It is U.S.
based. It will create a lot of jobs, and it is critical in
terms of our dependency on foreign sources, but also in terms
of having cleaner energy. And the infrastructure is aging, as
you know. Plants are getting older. They are less efficient. We
should certainly be encouraging upgrading our energy
infrastructure generally. As you know, I have been specifically
involved in the front end of that on the enrichment side. And
when you look at the track record since the beginning of this
administration, I think there has only been two loan guarantees
on the nuclear side. The last one was about a year ago, one of
which is conditional. And that, of course, goes to a French-
owned company on the front end, which is nuclear, but it is
really uranium enrichment.
So I guess my question to you would be--you said earlier
your goal was to double renewable loan guarantees. What is your
goal on nuclear? And what can we do here in the Congress to get
these loan guarantees moving? And then I want to followup with
some specific questions about enrichment.
Secretary Chu. Sure. First, in the President's fiscal year
2012 budget, we are asking for an additional $36 billion in
loan guarantees. We have made one conditional commitment to the
Vogtle plant for two new reactors. We have another three
projects before us, and then after that, another four. And so
we are actively working on the first three.
I think it requires additional loan guarantees, and it
requires other things. A great stimulant to nuclear energy
would be a clean energy standard, quite frankly, because that
says if you build a nuclear power plant, you get credit for
this. And many regions in the United States say this is part of
it. So it is a market draw. The loan guarantees will help
industry get started, provide the assurance that you can build
these reactors on budget, on time.
Then in addition to that, we are helping--we think there is
a great opportunity in the United States for the development of
small modular reactors, and so instead of reactors that are
1,000, 1,500 megawatts of power, these would be more of the
scale of 100 megawatts of power, maybe 200 megawatts, maybe 50
megawatts.
The advantage of that is--well, first, the reason we built
these very large reactors is you get an economy of scale. There
was a very long licensing period, approval period, things like
that, so you built one big one. The only trouble is when you
build one humongous one that the full costs could be $8 billion
plus, this is a huge asset and so, you know, this is a large
fraction of the cap ex of a utility company. So if you build a
small or large reactor that can be built in a single factory,
the economy of numbers can then compensate for the economy of a
single one.
The electricity infrastructure in many parts of the United
States could not even accommodate a 1.5 gigawatt reactor. And
it is something where we think we can begin to retake back the
lead in nuclear technology. We made the first nuclear reactor
in the world in the United States. But that lead has gone to
France, it has gone to Japan, it has gone to Korea, and now
China want to take that lead. So we are no longer major
players. GE and Westinghouse are majority owned by Japanese
companies. But to be sure, these companies, GE and
Westinghouse, many U.S. engineers are still part of this.
So we want to restart the nuclear industry. We also want to
start----
Senator Portman. Let us not forget Babcock and Wilcox.
Secretary Chu. Oh, Babcock and Wilcox.
Senator Portman. Modular units like mPower.
Secretary Chu. Right.
Senator Portman. But let me just back up for a second, if I
could. It is fine that you are asking for more money for loan
guarantees. The question is: You have loan guarantee money in
the pipeline; how do we get it out?
I agree with you on modular. It seems to me--you are the
expert, literally the scientist on this, but it seems to me it
makes sense for a lot of reasons, including commercial reasons.
But there has to be a demand for it, and there has to be a
clear pathway through the regulatory process. So what can we do
to get utilities to move forward and get you to get these loan
guarantees out so we can actually begin this nuclear
renaissance?
Secretary Chu. Well, I think if you look at the dynamic of
what is happening, there is uncertainty. For example, there
will not be a price on carbon in the next couple years. The cap
and trade is not going to be revived for the next couple of
years. And so that is why the clean energy standard is a market
draw that allows that to go.
The low price of natural gas also has an influence on
economic decisions of investment, and so--but when you build a
nuclear reactor, this is a 70-year horizon, and we do not
really know what is going to happen to the price of natural gas
in 70 years. We know in the next 10 or 20 years it is probably
going to be a lot lower than it has been in the past. But it is
still a very volatile commodity.
And so that is why we need to diversify our energy supply,
and that is why I think nuclear is very important in that. But
there are all these other factors, and to the extent that the
Federal Government can say, OK, there is a market for clean
energy and nuclear counts full, whereas natural gas might count
half, we think that that would be a stimulant. But as these
companies go through this, we still see a lot of interest in
trying to get it going, and we are looking at those companies.
Senator Portman. I would love, if it is all right, to do
some followup with you on this, maybe just look on paper at
what is exactly your goal on the nuclear side. You mentioned
doubling on the renewable loan guarantees. How would you
measure your success or failure to get there over the next
couple years? And what do we need to do specifically to get
some of these loans going?
On enrichment just for a second, do you think we need a
U.S. source of enriched uranium?
Secretary Chu. Yes.
Senator Portman. Do you think we need a U.S. sort of
tritium, which is so critical to your nuclear arsenal?
Secretary Chu. Yes.
Senator Portman. And any update on the loan guarantee for
the Piketon plant? We are, as you know, very concerned about
that and particularly concerned that this may be a pivotal time
over the next few months in order to keep the project going?
Secretary Chu. Right. I think, you know, we are--specific
loan guarantees, as you know, I really cannot talk to you about
that, but I do believe that we do need a domestic enrichment
technology. It is important for our national security, let
alone our energy security, which are now so intertwined I do
not really draw a distinction between our national security and
our energy security. And so I do believe it is important that
we develop technology, a leading technology in the United
States.
Senator Portman. Thank you, Dr. Chu.
Chairman Conrad. Thank you, Senator.
Senator Begich. Thank you, Mr. Chairman.
Thank you, Secretary Chu, and thank you for coming up to
Alaska and especially to rural Alaska, and Hooper Bay was one
of the locations you went to, and I thank you for that.
I have a couple questions, and just by circumstances and
timing, I just finished meeting with Mayor Hopkins of Fairbanks
North Slope Borough, and in Alaska, as you saw, the cost of
energy is high. In some cases, you can be as low as $4--and I
say ``low``--for heating fuel to as much as $11 or $12 a gallon
for heating fuel. So the economics for some of the projects are
important.
I am going to give you a little frustration, but it is
really an ask to have you review, and that is, Fairbanks, which
is a cold climate area--today I think they are 20 below. The
last 60 days they have failed their PM2 air quality 50 times,
so EPA, of course, is going to tell them, you know, shame on
you, we are going to take highway money away and everything
else.
But one of the things they are doing is starting to truck
in gas, truck it in, because there is no pipeline access there.
In order to do that, they have to have an LNG plant, they have
to have storage and so forth. So they are going to be meeting
with your folks tomorrow to try to see if there are
opportunities for loan guarantees in doing that project.
This is the frustrating part. On the one hand, EPA says
clean up your air. So they say, OK, let us use clean-burning
gas, but there is no one to help in figuring out this problem.
But it is a Federal rule that is telling them they have to do
it. So I am hoping that there is some coordination between
these kind of activities. They are going to be in your office
or with your folks tomorrow. I am just putting the bug in your
ear now because it is very frustrating to me when the climate
conditions themselves are--we cannot change 30 below. It is
what it is. But can we move down the path? Yes, we can with
some gas issues, which is a better fuel than some of the stuff
they use now. So I would hope at least you would consider that
when there is a Federal agency putting the requirement on.
The second part of this is we have strategic military bases
there; 4,500 Striker Brigade members are leaving in the next 2
months to go to Afghanistan to fight the war there. But they
are stationed right there in Fairbanks. And one of the big
issues the military keeps bringing up is air quality. And yet
we have a solution, but we cannot get DOD, EPA, Energy
Department, who all have--it is all the same pot of money--to
figure this out in order to protect our energy resources up
there, make it economical to clean the air and make sure we
have a very strategic air base and army base continuing to
operate.
So this is just kind of a statement. It is a little
frustration, I got to tell you, after hearing what I just heard
about an hour ago in this meeting. So I would hope you would at
least have your folks look at that.
The second piece is--and you talk about gas, and I
appreciate it, and this is one I am just going to ask you if
you could come back. In the 2012 budget, there is an amount of
money, $17 million, that goes into the North Slope. It is a
partnership that the Department of Energy has had for many
years in developing gas resources and understanding the
research, and it is called the Barrow Gas Field. It has been
very successful in having that whole community on gas, for
example, but also looking at new technologies. But it has been
totally eliminated out of your budget, and this is how it
reads: ``The detailed justification''--that is what it is
listed under. It ``reads: `Consistent with the administration
policy to phaseout inefficient fossil fuel subsidies.' '' That
is it. That is the detailed justification.
I would say that gas, which you have mentioned more than
once here, as well as others, Secretary of Interior, EPA, the
President, is a very important part of the equation in dealing
with our long-term energy policy. So if I could get a little
more justification, because honestly this is an incredible
project that has brought great technology to the field when it
comes to gas, oil and gas exploration. It is why in a lot of
places--and the Chairman's State is very successful, it is
because some of the gas exploration technology, fracking as
well other things, were developed in Alaska.
So just help me understand it and why you have cut that
from your budget totally, not even lowered it but totally
eliminated it.
Secretary Chu. Well, I am not sure which one. I know of one
item of gas in Alaska that was shifted from fossil energy to
the Office of Science. This is a--it is a cooperative research
with, I think, Conoco----
Senator Begich. It is Conoco.
Secretary Chu. Yes, OK. So that is the one. So that one is
one that is looking at research into whether one can extract
gas from methane hydrate formations under the ground. I
actually support that, and it has been transferred over into
the Office of Science, but we hope to continue--and it is a
research thing. It is not a subsidy of oil and gas, and----
Senator Begich. Well, I agree with you. The justification
seemed----
Secretary Chu. Right. And so--but it has not been killed.
That program has been moved over to the Office of Science and
what we want to do is we want to do research. Again, if you
look back in the fracking, long before, the major oil and gas
companies were not interested in that.
Senator Begich. That is right.
Secretary Chu. They did not think it would----
Senator Begich. Would produce anything.
Secretary Chu. Right. And so in terms of research, we think
that there--you know, it is difficult. Methane hydrates, as you
may know, they were found because they plugged up oil and gas
lines----
Senator Begich. That is right.
Secretary Chu [continuing]. Because as you release the
pressure, it freezes----
Senator Begich. Right.
Secretary Chu [continuing]. As we saw, actually, in the
Gulf of Mexico, in the deep Gulf. And so--but there is a
tremendous amount of natural gas in methane hydrates, both
underground and off the continental shelf. If you think that
fracking of natural gas can perhaps double our natural gas
supplies, if you can safely, environmentally, responsibly extra
methane hydrates----
Senator Begich. It is huge.
Secretary Chu [continuing]. It is much bigger.
Senator Begich. That is right.
Secretary Chu. And then you can really think of doing
things like reforming natural gas to hydrogen and sequestered
carbon. There are many opportunities. But it is still research,
and----
Senator Begich. Good. So I am going to hold you to that,
because I have only got about 30 seconds left.
Secretary Chu. OK.
Senator Begich. But let me just say that what I hear you
saying is it is transferred. It is still happening on some
level of research. And the language that was utilized in
justification may not have been the most accurate in
description of what happened to that.
Secretary Chu. Yes. I have personally known about that
program for a couple of years----
Senator Begich. Right.
Secretary Chu [continuing]. And I am very positively
disposed to it because it is research. It is not--again, it is
not underwriting of commercial interests, because right now,
the gas companies are staying away from it, quite frankly, the
oil and gas companies, because----
Senator Begich. But in this case, we have a partner, which
is----
Secretary Chu. Well, it is not only a partner. We need this
partner because they actually have the equipment that we could
not--so they are actually, in a certain sense, loaning us--they
are using--ConocoPhillips-BP is loaning us this equipment, if
you will, working with us. The program is dictated by the
Department of Energy research scientists-----
Senator Begich. Right.
Secretary Chu. And they are willing to say, OK, we will
partner with you. You can--because we could not afford----
Senator Begich. I hear you. Let me end there and just ask
one question. Does the President have an energy team that is
developing an energy policy for this country, and who are they?
And I will leave it at that.
Secretary Chu. Yes, and this was actually in an earlier
question, asked before. We have not in the past had a
coherent--I would start with, more modestly, first, where we
are in energy technology and where the most probable outcomes
will be in the coming years and what the cost will be. And so
we are embarking--I talked yesterday to the OMB about this and
it is set in plans, and my next step would be to Senator
Bingaman and Murkowski's committee to talk to them about it,
but to be able to start a review of the technologies that would
then form a basis for the energy policies. You need sort of a
knowledge of the technologies, where they are going, and how
might they be accelerated, and then from that you formulate
policies, and that is our intent.
Chairman Conrad. Senator Cardin.
Senator Cardin. Thank you, Mr. Chairman. Secretary Chu, it
is always a pleasure to have you before our committee.
Just following up a little bit on Senator Begich's point,
it seems to me, though, that to have an energy policy that is
going to be right for America, that three goals must be met,
and that is one of energy independence so that we are not held
hostage to countries who disagree with our way of life or
circumstances that happen globally that disrupt our economy and
our security.
And second, we have to do it in a way that is smart for job
growth. Clean energy is a way that we can create more jobs here
and keep more jobs in America.
And then, of course, third is the environment. This is a
serious risk we have on the environment. In your exchange with
Senator Portman, you sort of gave up, and I think it is right,
that we will not be able to pass a comprehensive bill. We tried
that. I think that is regrettable because I think until we have
a proper price for pollution, it is going to be very difficult
to put in place an energy policy that is right for America.
So I do not want to give up on the pricing of carbon. I do
not want to give up on the way of energizing our economy to
solve these problems. But I do think we have to look at steps
now that are politically realistic, and I think the way that
you have presented it is what we will need to do. But do not
ever give up where we need to be as a nation, not only for
America's security, but for international leadership on a lot
of these issues.
I want to ask a specific question, following up on Senator
Portman's comments about nuclear energy. As you can tell by my
previous comments, I am a strong believer that to solve our
energy problems in America, we have to use less energy, we have
to develop alternative and renewable energy sources, we have to
continue with technology growth, all of the above.
But part of it is obviously, to me, is nuclear power, that
we need to move forward with nuclear power, which leads me to
the concern that we now have the appetite and need for more
loan guarantees than the budget will allow us to move forward
with at the current time. Part of it is the fact that we do not
have enough money up for loan, enough capacity for loan
guarantees, and the second is the manner in which OMB scores
these loan guarantees, which at times discriminates against a
State based upon its regulatory structure.
I represent Maryland. Maryland is prepared to move forward
with a nuclear power plant at Calvert Cliffs and we are in the
process, and it is not really aimed at that specific
application, because I think that process is moving forward and
we thank you for your help in that regard. But if we are going
to accomplish the need for nuclear power in America, then we
have to sort of get a handle on the realistic cost of this. It
is my understanding that the risk factor of these loan
guarantees are very minimal, so it actually will be beneficial
to our budget and our economy. So it is going to be a plus, not
a negative.
So I just urge you as we go through this process of trying
to move forward with loan guarantees for nuclear power plant
expansions or construction, that we work together as a team
here and figure out the problems that OMB might have so that we
can get more action for the dollars that are available.
Secretary Chu. Yes, Senator. So what you are--for others in
the room, I know you will understand this, but what you are
referring to is what is called the credit subsidy in a loan
guarantee, that the $36 billion we are asking for is scored by
CBO as 1 percent cost, even though we have to prove to OMB that
it is zero cost to the taxpayer.
So the credit subsidy is, loosely speaking, what we would
call a loan, mortgage insurance, should the project be delayed,
something of that nature, and the payment of the loan be
delayed, that the government could still recover its
investment. And so it is essentially insurance that is then
paid to Treasury. And in that amount of money, that comes from
the company. It does not come from the Federal Government. And
if that amount is too high, then it is prohibitively costly.
If, let us say, you want to mortgage, but the mortgage
insurance is half the cost of the mortgage, that is pretty high
and the mortgage might not be so desirable.
So we are working with OMB. Now, by statute, OMB has the
final authority ruling on what that credit subsidy should be.
They make a determination of the likelihood that the loan might
default and the U.S. Government cannot get its resources back.
Therefore, that company has to pay that insurance to the
Treasury. It is that probability that that will happen.
And so we certainly are willing to work with OMB to try to
figure out what is the best way of assessing the most accurate
probability that these loans will not be paid back. I think the
nuclear industry--the highest risk is that there would be delay
in construction. It is not as though this thing will not work.
That, we know. We have done 107 nuclear commercial reactors in
the United States. We know they will work. And so the risk is a
delay, and then to what extent. So we are working with OMB to
try to see if we can have a good assessment of what that risk
is.
Senator Cardin. I appreciate that, and let me just
underscore the point. You have to set it at a rate where it
will not cost the taxpayers any money, and yet it still gets
scored as an issue because of the OMB formula.
Secretary Chu. It is actually a little more--for these type
of loans, the nuclear loans, we have to convince the OMB, and
it has to be scored as no cost, and then it is a probability of
default, so you will not get paid back, or at least the pay-
back would be a long period of time. So we have to convince OMB
that it costs the taxpayers zero, but then the CBO says, no
matter what you do, we will still charge you 1 percent, and
that is just the way it is.
Senator Cardin. Well, I----
Secretary Chu. And so that is beyond my comprehension as a
physicist----
[Laughter.]
Senator Cardin. You know, it is beyond our comprehension,
also. But I think what we need to do is to work closely
together between Congress, OMB, and DOE, because I think there
is a real commitment here to make sure the capacity is there to
move forward on approved nuclear reactors, where it has gone
through the process and where it is reasonable to expect that
the loan guarantee is part of the overall equation.
So I think there is a number that we all should be able to
come together with and I very much appreciate the way that you
explained it, not only to those who were unfamiliar with this
issue, but even those of us who are familiar, because I think
you laid it out in the best way. Thank you very much.
Chairman Conrad. I want to thank the Secretary for your
appearance before the Budget Committee today. I also want to
thank you for your service. It is so important to the country
that people of your quality and your character are willing to
serve in these positions, and we very much appreciate it. And
we appreciate the time that you have spent with the committee
this morning. I think it has been very valuable for the
members. It has certainly been valuable for me.
The committee will stand adjourned.
Secretary Chu. Thank you.
[Whereupon, at 11:51 a.m., the committee was adjourned.]
THE PRESIDENT'S FISCAL YEAR 2012 BUDGET REQUEST FOR THE U.S. DEPARTMENT
OF TRANSPORTATION
----------
THURSDAY, MARCH 3, 2011
U.S. Senate,
Committee on the Budget,
Washington, DC.
The Committee met, pursuant to notice, at 10 a.m., in room
SD-608, Dirksen Senate Office Building, Hon. Kent Conrad,
Chairman of the Committee, presiding.
Present: Senators Conrad, Wyden, Nelson, Cardin, Sanders,
Whitehouse, Warner, Merkley, Coons, Sessions, and Thune.
Staff present: Mary Ann Naylor, Majority Staff Director;
and Marcus Peacock, Minority Staff Director.
Chairman Conrad. The hearing will come to order.
First of all, I want to welcome everyone to the Senate
Budget Committee. I especially want to welcome the Secretary
and say right at the top that I personally think you are doing
an outstanding job. I have had this responsibility for more
than 24 years now, and you have done the best job I have ever
seen of communicating with members, and that is to your credit.
Before I give my full opening statement, I want to
recognize Senator Nelson because he has another commitment and
would like a few moments. Then I will give my opening
statement, Senator Sessions will give his, then we will go to
you, Mr. Secretary, for your statement.
I will recognize a very valuable member of this Committee,
my very good friend Senator Nelson.
Senator Nelson. Mr. Chairman, thank you for this courtesy.
Mr. Ranking Member, my favorite Republican from Alabama, thank
you for your courtesy. Do not tell Senator Shelby that, please.
[Laughter.]
Senator Nelson. I just wanted to say publicly, Mr.
Chairman, that I have seen the Secretary on a daily basis
perform his duties in the last several weeks as we have been
going through the turmoil of, after an awful lot of hard work
by a lot of people, including the Secretary, one of the best
high-speed rail projects in the country because it is ready to
go--the environmental studies, it is the right of way right
down the middle of Interstate 4 from Tampa to Orlando,
eventually to Miami. The recognition that Interstate 4 and
Interstate 95 in 20 to 30 years you can imagine what it is
going to be like in that period of time. And here we have an
opportunity of an alternate form of transportation where the
United States is 30 years behind Europe, and now high-speed
rail is all over Asia.
I just want to sing the praises of the Secretary. He has
worked with the State of Florida, despite the Governor of
Florida trying to reject the funds, and over and over has
worked with us in order to give us time to try to work it out,
to show the Governor that his conditions are met, that the
State of Florida will have no financial responsibility, that it
will all be a privatized matter. And if it were not for the
Secretary, this thing would have long been passed. And we now
are at the 11th hour with a petition filed by a Republican
State senator and a Democratic State senator to the Florida
Supreme Court asking for a writ of mandamus to compel the
Governor to follow the law of the State of Florida. Oral
arguments are this afternoon, and we are expecting--because the
Supreme Court took this quickly yesterday, we are expecting an
imminent decision. And I just want to thank the Secretary again
for his being willing to work with us, to extend the deadline,
to try everything possible that we can to make this happen. And
so, too, depending on what the decision is of the court, we may
come back to him and ask him again for another extension,
depending on what the Supreme Court says.
So I wanted to put that on the record to corroborate your
kind comments about Secretary LaHood.
Chairman Conrad. Thank you, Senator Nelson. Let me----
Secretary LaHood. Mr. Chairman, can I just offer my thanks
to Senator Nelson?
Chairman Conrad. Certainly.
Secretary LaHood. And to you for your very kind comments.
Thank you.
OPENING STATEMENT OF CHAIRMAN CONRAD
Chairman Conrad. Let me say that the hearing today will
focus on the President's transportation budget request. Our
witness is the Secretary of Transportation. This is Secretary
LaHood's second appearance before the Budget Committee. He
reminds me the last time he was here I was the only one here,
and I had my little dog, Dakota, with me because, as I recall,
we were in the middle of a blizzard, I think. No one else could
make it. So it was a very good hearing. I know I got all of my
questions answered.
[Laughter.]
Chairman Conrad. Probably for the first time ever.
So we are pleased that he could be back and look forward to
his testimony. I believe personally that the strength of the
Nation's transportation infrastructure is one of the most
important factors that will determine our future economic
success.
Transportation infrastructure is really the foundation for
our economic growth, and I recognize absolutely jobs are
created in the private sector, but I also recognize that
transportation infrastructure is absolutely critical for the
economic competitive position of the United States. So even as
we look to cut spending to bring down the deficit, which we
absolutely must do, we need to ensure that transportation
funding remains a priority.
Yes, we have to cut spending, but we have to be smart about
where we cut. We cannot afford to cut areas that are critical
to future growth. That would be counterproductive.
Investment in transportation can play a critical role in
strengthening the economy in the near term because it is clear
that transportation funding in the 2009 Recovery Act did help
to create jobs and created jobs here in America and jobs that
helped strengthen the Nation's economic recovery.
It is also clear that there is a tremendous need for
further infrastructure investment. According to the World
Economic Forum's Global Competitiveness Report, the United
States ranks 23rd in the world in the quality of its overall
infrastructure. We even rank behind countries like Barbados and
Oman.
The American Society of Civil Engineers has created a
report card on America's infrastructure. They give our
infrastructure an overall grade of D. Aviation they give a D;
bridges they give a C; rail, a C-minus; roads, a D-minus;
transit, a D. An overall grade of a D from the American Society
of Civil Engineers.
The next graph, which was made with data from the
President's budget, shows that our combined investment in
infrastructure, research and development, and education has
fallen as a share of GDP from 6.1 percent in 1962 to 3.6
percent in 2012. So as a share of the economy we are spending a
smaller amount on infrastructure and these other critical areas
than we did in the 1960s.
There is widespread agreement on the need for further
infrastructure investment. I think it is notable that just last
month Thomas Donohue, the head of the U.S. Chamber of Commerce,
which represents many of the country's largest businesses,
joined Richard Trumka, the head of the AFL-CIO, America's
largest union, in testifying before the Senate Environment and
Public Works Committee on the need for more infrastructure
funding.
Here is what Mr. Donohue said: ``If we don't change course,
over the next 5 years the economy could forgo as much as $336
billion in lost economic growth as transportation networks
continue to deteriorate. I am well aware of the fiscal
constraints facing this Congress and the Nation,'' he went on
to say, ``but we must avoid cutting off our nose to spite our
face. Without proper investment and attention to our
infrastructure, the United States' economic stability,
potential for job growth, global competitiveness, and quality
of life are all at risk.''
I think Mr. Donohue has it about right.
Here is what the Obama Administration has proposed in its
budget for transportation. It proposes $556 billion in a 6-year
surface transportation reauthorization. This includes $468
billion to rebuild roads, bridges, and transit systems and
improve safety, which represents a 60-percent increase over the
previous 6-year authorization bill. It also increases funding
for high-speed rail and incorporates rail funding in the
Highway Trust Fund, and it creates a National Infrastructure
Bank within the trust fund to leverage Federal funds for
transportation projects.
The budget proposes front-loading $50 billion in
transportation funding in 2012 to help boost economic growth.
It reclassifies transportation spending as mandatory spending,
subjecting it to PAYGO rules. And it includes a place holder
for a bipartisan financing solution to be developed between the
President and Congress. I will be interested in hearing more
from Secretary LaHood on the Administration's ideas in that
regard.
The reality is that even before we factor in the
Administration's new transportation request, we already have a
very serious shortfall at existing funding levels.
Let me repeat that. At existing funding levels we have a
very significant shortfall.
This chart shows that Highway Trust Fund receipts are
projected to be far lower than Highway Trust Fund outlays in
the years ahead, and under the Administration's request, the
funding gap would be far larger.
Now, let me just point out here: The red line is the
outlays, the expenditures. The green line is the anticipated
Highway Trust Fund receipts. And you can see the gap by the
time we get to 2021 is over $18 billion a year. Now, that is at
the existing levels.
We have a very big problem here to deal with, and we know
that the reality of the trust fund financing is based on the
gasoline tax. The gasoline tax is more and more disconnected
from the reality of modern transportation. With electric cars,
with hybrids, with renewable fuels, with all the rest that is
happening to change the way we transit, we have a big problem
here between the need and the funding mechanism.
With that, I will turn to Senator Sessions for his opening
remarks. I want to thank Senator Sessions for the cooperation
of him and his staff as we have scheduled these hearings. We
have had a lot of hearings.
Senator Sessions. Yes, we have.
Chairman Conrad. And we have more to go. I just want to
thank him for his courtesy and the professionalism of his
staff.
OPENING STATEMENT OF SENATOR SESSIONS
Senator Sessions. Thank you. I appreciate your tough
leadership. We have a lot to do. I agree with you. We have to
contain spending in this country. We are heading off a cliff
with 40 cents out of every dollar being borrowed and our debt
surging, on pace under the President's budget to double from
$13 trillion to $26 trillion in 10 years, and we know we have a
difficulty with transportation.
Secretary LaHood, I share my colleague's comments that you
are accessible, and I appreciate you coming by and visiting in
my office. That does not often happen, and I think that is very
helpful.
I do believe that transportation is a major issue for us.
We have to be sure that we maintain the required infrastructure
this Nation has to maintain its productivity. But we have
problems. We know that our gas tax revenue has been falling
below our projected budget for a number of years now. I think
we were at 36 billion income and 43 billion spending last year.
So that money is filled with Treasury money, and Treasury money
is borrowed money.
And so we know we are in this difficult time, and I was
looking with great interest on what kind of budget projections
we would see. We have seen a Department of Education request on
Tuesday for an 11-percent increase. We had the Department of
Energy yesterday with a 9.5-percent increase. But I have to say
I was flabbergasted to see that the Department of
Transportation is asking for a 62-percent increase in
spending--at a time when all of us know we have to contain
spending and do something about the surging debt we have.
And why is this? Well, because we have crumbling
infrastructure. But I remember very well, because I made a
number of speeches on the floor about it, that I was
disappointed deeply that the stimulus package, which was
projected repeatedly as a plan to increase spending for our
crumbling infrastructure, only had about 3 percent of the
budget for roads and bridges, maybe 5 percent for
transportation total out of the $800 billion or so. That was a
tragedy. That was an opportunity lost of monumental
proportions. We did not do enough to fix the crumbling
infrastructure we have, so now we are reduced--having not
produced many jobs out of this stimulus package, every penny of
that money being borrowed, now we are reduced, I suppose, to
coming up with a new plan. And this plan says that we are going
to have a tax that is not a gas tax, ``a not-gas-tax tax,'' I
guess we will call it. And it is going to raise $435 billion.
Well, we have a $300 billion plus hole in our Medicare
physician payment that we cannot find the money to fill in that
critical area. We have a 200 or so plus hole on the alternative
minimum tax that we cannot fill. But now the Administration
proposes some tax that we are supposed to assume will arrive in
a bipartisan fashion to produce $435 billion so that we can
have a massive increase in highway spending. And I just have to
say that is unrealistic, Mr. Secretary. I am sure that when you
were in the room--I have no idea directly, but I am confident
over the stimulus bill that you were advocating for as much for
highway infrastructure as you could get. But the final decision
was not enough, and we are placing this country at risk. In all
honesty, I do not think--if you cannot tell us what kind of tax
you think would fund this and prepare to defend it, I think
there is zero chance of us passing such a tax as this. And so
we are dealing with the question, will we just borrow it again
or not have enough? Or what will we do?
Mr. Chairman, I think that is a fairly honest statement of
where we are from my perspective, and it leaves us in an
unhappy place with regard to transportation infrastructure. I
look forward to questions as we go forward.
Chairman Conrad. Thank you, Senator Sessions.
We will turn now to the Secretary for his opening statement
testimony, and then we will go to colleagues for questions.
STATEMENT OF THE HONORABLE RAY LAHOOD, SECRETARY, U.S.
DEPARTMENT OF TRANSPORTATION
Secretary LaHood. Thank you, Mr. Chairman. Chairman Conrad,
Ranking Member Sessions, Senator Wyden, I appreciate the
opportunity to discuss President Obama's fiscal year 2012
budget request for the U.S. Department of Transportation.
Joining me today is our Chief Financial Officer Chris Bertram,
who is an alum of this side of the Capitol.
Just a few weeks ago, President Obama delivered a powerful
message in his State of the Union address. He said that for
America to win the future, our citizens and companies need the
safest, fastest, most reliable ways to move goods and
information. He reminded us that if we build it, they will
come. If we want businesses to open shop and hire our family
and friends and neighbors, we have to invest in our roadways,
railways, and runways. We have to invest in 21st century buses,
street cars, and transit systems, and we have to invest in
next-generation technology for our skies and sidewalks and bike
paths that make our streets more livable. And all of this is
included in the President's $129 billion 2012 budget for the
U.S. Department of Transportation. Designed as the first
installment of a bold 6-year, $556 billion reauthorization
proposal.
Now, to make room for these essential investments,
President Obama's 2012 budget proposes the lowest relative
level of domestic spending since President Eisenhower was in
office six decades ago. That was ten administrations ago, if
you are counting. The simple fact is that we have to cut and
consolidate things that are not growing the economy, creating
jobs, or making it easier to do business in order to pay for
the things that are.
So at the Department of Transportation, President Obama's
budget slashes red tape. It consolidates more than 50 programs,
and it includes reforms that will accelerate project delivery
and empower local communities.
Of course, our major objective is to make investments in
tomorrow that expand economic opportunity today, to dream big
and to build big. And to illustrate that, if you look at the
cover of our budget, you see a picture of a bridge over the
Hoover Dam, which several months ago some of us had the
privilege of cutting the ribbon on and dedicating. This is
thinking big. This is a bold vision. This is a vision that the
people who came before us had about transportation. This put
thousands of people to work building this bridge. And it is a
21st century opportunity for infrastructure to connect two
States and a magnificent structure, and I think it really
reflects the big, bold vision that the President has.
Our major objective is to make investments in tomorrow that
expand economic opportunity for today, to dream big and build
big. That is why the budget keeps us on track toward a national
high-speed rail system with an $8 billion investment in 2012
and a $53 billion investment during the next 6 years. It
increases resources for highway and bridge improvements by 48
percent and increases funding for affordable, efficient, and
sustainable bus, street car, and transit systems by 126
percent. It includes a $50 billion up-front boost to keep our
economy moving in the short term and a $30 billion annual
infrastructure bank that will finance major projects of
national and regional significance over the long run. It also
unleashes innovation and competition with a new $32 billion
grant program called the Transportation Leadership Awards.
At the same time, safety is and always will be our No. 1
priority. President Obama's budget renews our commitment to
prevent traffic crashes with resources for ongoing campaigns
against distracted driving, drunk driving, and to promote seat
belt use. The President's proposal requests new authority for
the Federal Transit Administration to ensure the safety of rail
transit riders across America, and it gives the Federal Motor
Carrier Safety Administration stronger capacity to keep
commercial traffic safe.
Finally, we are dedicated to doing all of this without
passing on another dime of debt to our children or
grandchildren. For the first time, transportation spending will
be subject to PAYGO provisions that ensure that the dollars we
give out do not exceed the dollars coming in.
So these are just a few components of the President's plan.
They reflect a much larger point. America's transportation
system is at a crossroad. Our choice is not between policies on
the left or policies on the right. Our choice is whether our
economic recovery rolls forward or falls backward. It is up to
us whether we lay a new foundation for economic growth,
competitiveness, and opportunity, or whether we settle for a
status quo that leaves America's next generation of
entrepreneurs, our children and grandchildren, with clogged
arteries of commerce.
It is up to us whether we do big things or we do nothing.
And if we choose wisely, our legacy can be an economy on the
move and a future that America is prepared to win.
With that, Mr. Chairman, I will be happy to answer your
questions. Thank you very much.
[The prepared statement of Secretary LaHood follows:]
Chairman Conrad. Thank you, Mr. Secretary.
Let me begin where I ended, and that is with this chart.
Matt, if you can put that up?
This is kind of the harsh reality that we all confront. It
is not anybody's fault. It is because of a changing of
transportation financing in this country.
The green line is the revenue of the trust fund, and
basically it goes from $36 billion a year to $40 billion a
year, basically flat for the entire 6 years. And we have a gap
before we ever enter this 6-year period, as can be seen in 2011
where the expenditures were $43 billion, which Senator Sessions
mentioned, and the income was $36 billion. So we start with a
gap of $7 billion, and that gap grows dramatically as we go
toward 2021, 10 years out. So a $7 billion gap per year turns
into a gap of $18 billion. That is under the baseline. That
just takes the current program and extends it. That does not
capture what the President is proposing, which is an actual
increase.
So the question that we have before us is: What are the
options for closing this gap? And what is your assessment of
how realistic those various options are? That is really my
first question to you. What do you see as the options for
closing this gap? And what is your assessment of how realistic
those various options are?
Secretary LaHood. Well, look, the Highway Trust Fund is
deficient. There is no question about it. People are driving
less. They are driving more fuel-efficient automobiles. We know
that. And as things continue to stay stirred up in the Middle
East and countries that produce crude oil, we know that
gasoline prices are going to continue to go up, and probably as
a result people will be driving maybe even less frequently than
they are today. It is probably not going to help us in our
collection of the gas tax.
The Highway Trust Fund helped us build a state-of-the-art
interstate system. There is no debate about that. We have one
of the best interstate systems anywhere in the world, and we
want to work with Congress on our way forward.
I think the one thing that people ought to recognize is
that our budget is a budget that will put people to work. For
the $48 billion that we received in the economic recovery plan,
we created 15,000 projects and 65,000 jobs. Our money actually
helped people build roads in your States.
We know that the work that we do and that our budget will
reflect will increase jobs, increase opportunities to get
economies going in the States. And, Mr. Chairman, we want to
work with Congress on the way forward. There can be no dispute
about the fact this is a big, bold plan. This is a big vision,
thanks to the President, because the President recognizes this
is a jobs bill. When you all pass a transportation bill or pass
our budget, you are going to create jobs. That is the one thing
that everybody recognizes. There is no debate about that.
So we want to work with you on trying to find the resources
that we know will put our friends and neighbors to work
building our infrastructure and creating a 21st century
transportation system that really reflects the values for the
next generation the way that, you know, others did for our
generation.
Chairman Conrad. Well, I agree with your basic statement
here. I mean, there is no question in my mind that these
highway funding initiatives, bridge funding initiatives,
transit funding initiatives create jobs, create jobs in the
United States, and they are also critically important to our
competitive position.
Do we have an assessment of what the lost productivity is
because of a deficient infrastructure system in terms of
transportation?
Secretary LaHood. You know, I do not have that figure, but
we will see if some of our smart people can get that for you. I
have never really heard that articulated in the Department, but
I am sure we can find it.
Chairman Conrad. You know, I would be very interested. I
ask the question because any day after 4 o'clock, if you leave
here and you go out on the major arteries--395, 295, 95--often
as not they are stopped dead. And I see trucks delivering goods
across the country. They are idle. They are stopped dead in
their tracks. There has to be an economic cost to that. And I
believe the economic cost must be substantial because on the
east coast and the west coast, these arteries are clogged.
Let me go back to the first question I asked because you
answered about the importance of doing what has been proposed.
The question we have on this Committee is: how do we pay for
it? And, of course, we cannot direct the funding committees on
how to raise the money. We can tell them how much money to
raise. We cannot tell them how to do it. But we have to give
them--to be credible, we have to give them some options. Do we
do a gas tax? Do we move to some kind of an assessment that is
based on how many miles vehicles go so that we capture revenue
from those who are going to be using the roads who are not
going to be paying any gas tax or very little with hybrids and
electric cars? Do we go to more tolling? I have just had, as I
told you, the head of my transportation department back home,
Francis Ziegler, in to see me yesterday. He said, ``Kent, in
North Dakota, tolling does not work at all.'' It does not make
any sense in a big, wide open State like ours, sparsely
populated.
What options do you see--are there options that I have not
listed there that we should be thinking about?
Secretary LaHood. Mr. Chairman, tolling is an option--not
in every State. I just met with the two Governors of Oregon and
Washington. They are proposing to build a bridge across the
Columbia River. It is a great project. It is about as
multimodal as you can get. And there is going to be a transit
system that runs across that bridge. There is going to be
availability if somebody wants to ride their bike across the
bridge, and there is going to be availability for people to
drive across that bridge. And they are going to pay for part of
it with tolling. They are going to pay for part of it with
State resources. They are going to pay for part of it with
Federal resources. But tolling is a good way for those two
States to, you know, think big and dream big for this Columbia
River crossing.
Chairman Conrad. But you would acknowledge that in some
States tolling is really not a very viable option.
Secretary LaHood. I do not think it probably works in your
State, Mr. Chairman, but there are a lot of States where it
does work. And you know what? A lot of States are thinking
about adding capacity, taking an interstate that was built with
taxpayer money, putting a couple additional lanes on it, and
tolling that. They have done that in Miami where they call it a
``hot lane.'' They built a lane, and they toll it. And you can
raise a lot of money and actually pay for a project like that.
We support that kind of opportunity where you can add
capacity and use tolling to help pay for it. And then, you
know, leverage that with maybe some money from our Department,
leverage it against maybe some private dollars.
Look, our idea is this. The Highway Trust Fund is going to
be around. It is deficient. We know that. Tolling, couple it
with tolling. We have a TIFIA loan program that people--the
President has talked about in his budget the Infrastructure
Bank with significant, billions of dollars. You leverage all
those together, you can begin to do big things in America.
People can then think about dreaming big again.
Does that get us to everything we want or everything that
we think is necessary? No. That is why we need your help on
this.
Look, I agree with what Senator Sessions said. If some of
us had been writing the stimulus bill, there would have been
more than $40 billion. We spent every one of those dollars the
way that you all directed us. No boondoggles, no earmarks, no
sweetheart deals. You have not seen any bad stories written
about the $48 billion. And what it did, it created 15,000
projects that put 65,000 people to work over 2 years that would
not have had a job if you all had not given us that authority
and given us that money. The stimulus worked.
Chairman Conrad. I can say--and then we will turn to
Senator Sessions because my time is over--I remember very well
the battle. A group of us proposed a $200 billion
transportation package as part of the overall stimulus plan,
and we lost that fight. But we did not lose it because you
opposed it. You did not oppose it. You were an ally. So I think
that should be stated publicly. There were others who did
oppose it, and I remember them well.
Senator Sessions. Well, we lost. The President and the
leadership kept the highway transportation money at a minimum
and it was a tragic, tragic thing, because one thing about a
road, as you know, Mr. Secretary, once it is built, it can be
used for generations. It is an asset that continues to help us
be more productive and happier as a society and I think that is
important.
So I know you are passionate about roads, but we have a
problem now. We had our opportunity and it lost, passed, and
now we have a budget that says how we are going to fix this
with a $435 billion new phantom tax, the ``not gas tax'' tax,
and I do not believe that is going to be successful and we have
to wrestle with how we are going to proceed there.
Another thing I think is important for us to acknowledge,
Mr. Chairman, since we are a Budget Committee and we received a
budget as required by law from the White House, that this is
another huge gimmick in the budget. Since it does not suggest
how and where this tax is going to come from, CBO is not going
to score it as income as the Administration scores income. They
are proposing a spending plan for roads and they are proposing
to pay for it with a tax increase they will not even explain
what is, and the money is not going to come in. It is just kind
of Washington budgeting, this kind of Washington logic that has
put us in this financial crisis we are in, and we cannot
continue it.
We cannot go forward on the bald assumption that, somehow,
we can appropriate and authorize spending based on a tax that
is not going to be collected, probably. We have a lot of things
in this country we have to raise money for, and I will tell
you, the doctors so they take care of our Medicare patients is
one of them, and there is a lot of money there.
Well, you have said, Mr. Secretary, that the budget would
collect more revenue. It is definitely not a gas tax. So where
will the money come from?
Secretary LaHood. Well, Senator, as I said earlier, we want
to work with Congress on that, and we are happy to work with
you. We are happy to be a part of the debate and happy to work
with you. I think the President has made it clear that he is
not in favor of raising the gas tax when we have 9 percent
unemployment in this country and a lousy economy in many places
in the country, but look, we are----
Senator Sessions. Well, do you have any suggestions?
Secretary LaHood. You know, Senator, I think what we need
to do is to sit down together and figure this out and we are
willing to do that.
Senator Sessions. Well, sitting and figuring out is a
little late when you have a budget that assumes it is going to
be done when it is not going to be done. We just are not going
to be able to raise that much tax to meet this need when we
have a lot of other departments that have needs, too,
particularly when you are talking about a 62 percent increase
in spending next year--62 percent, on top of the $48 billion
total that went to roads and transportation--$27 billion only
actually went to roads, about 3 percent of that total stimulus
package. And so I do not think we are going to get there and I
think we are fooling ourselves and I think we are putting
ourselves, from a budget perspective, do you not, on a
dangerous course that could lead to increased spending without
any revenue to pay for it.
Secretary LaHood. Look, Senator, here is what I think. I
think this. I think that what we do in transportation will put
our friends and neighbors to work. This is a jobs bill. This is
a jobs budget. That is what this will do. And we have--in
America, what we have never done is been dissuaded by the fact
that we do not have--we are not smart enough to figure out how
we get there. If we really want to get the economy going, if we
want to build roads and bridges, if we want to really improve
infrastructure, there are a lot of smart people previously,
other leaders, that have done it. And we can do it, too, and we
are willing to do it. We are willing to sit at the table----
Senator Sessions. Well, Mr. Secretary, we have been----
Secretary LaHood [continuing]. With you and figure it out.
Senator Sessions. We have tried this and we have had, I
have no doubt, some jobs created with the stimulus package. It
is impossible to spend that much money and not create some
jobs. I think, percentage-wise, we probably did more jobs per
dollar on the highway side than we did on all the other 95
percent that was spent. I am totally confident of that.
But we do not have the money. We are borrowing 40 cents out
of every dollar we spend. We do not have the money to go a
massive new program. So if we do not have a tax increase, do
you propose borrowing the money?
Secretary LaHood. Here is what I propose. What I propose is
that a budget is a reflection of the Congress's values, and
this President's budget on transportation is a realization that
if you pass a very strong transportation program, you recognize
that it will put people to work. It will get our economy going.
It will set priorities. The President has a pretty big view
about this.
Senator Sessions. Well, we have some priorities and views
and one of them is to get the country's fiscal house in order
before we go bankrupt and have a debt crisis----
Secretary LaHood. Well, look at----
Senator Sessions. --Geithner sitting right there a few days
ago indicated that not only is this debt that we are increasing
dramatically reducing economic growth, and he agreed with the
studies that show that, he said it places us at risk of a debt
crisis, another fallback, perhaps, to another recession, and
this would be a tragic thing for us. So we just--obviously, we
cannot unlimitedly borrow money.
Now, the proposal is to double spending on highways over
the 10-year period, basically. In this time of financial
crisis, are you asserting that education gets a 10-percent a
year, I suppose, energy gets an increase, and you all get to
double the transportation budget?
Secretary LaHood. I think this is a reflection of the
President's values. That is what I think. This is a--our budget
is a reflection of the idea that if you put people to work,
what are they going to do? They are going to pay taxes. Some of
those taxes are going to come to the United States. What is
that going to do? That is going to improve our fiscal situation
here.
Look, you can pay down some debt and the President wants to
do that. You can also have transportation priorities that puts
Americans to work building American roads and bridges. You can
do both, Senator.
Senator Sessions. We are not going to pay down a dime of
debt. I cannot believe that the President continues to insist
that we are going to be paying down debt on this budget. The
lowest annual deficit is $600 billion added to the debt. All of
this borrowed. This money is going to be borrowed if it is
spent because we are not going to have this kind of tax
increase, so we have a problem.
I really respect your passion and interest, but I do
believe that this Congress has a high priority to have fiscal
sanity in this Congress in spending and we have to work at it
and it is not going to be easy.
Chairman Conrad. Senator Whitehouse.
Senator Whitehouse. Mr. Secretary, thanks for being with
us.
Secretary LaHood. Good morning.
Senator Whitehouse. Good morning. You have been to Rhode
Island to visit Senator Reed and myself and you are aware of
our circumstances, how difficult the State budget is there, how
difficult our unemployment situation is there. We are still at
11.5 percent unemployment and it has been that way a long time.
We have the so-called 99-ers who have run out their 2 years, 99
weeks of unemployment and are stranded now. It is a tough
situation.
We have a couple of potential bright spots on the horizon.
I want to make sure that they do not get snuffed out. One of
them is our TIGER II grant that goes to the Port of Providence
to buy new cranes because our cranes are so decrepit, and that
will, it has been estimated, add 550 jobs just in Rhode Island,
another nearly 1,000 jobs around the country because of the
activity that having those cranes in place as infrastructure
will generate.
Our predicament is that that is being held up right now, as
I understand it, while we get a ``Made in America'' waiver for
the cranes, and my worry is with all the sweeps that are being
threatened here, I do not want to be in a situation in which
this account gets swept while this money is unobligated because
we have not sorted through the waiver when it should be an easy
call. We got the waiver already on the TIGER I grant, which was
also for a crane down at Quonset, and the reason we got the
waiver is because no matter how you slice and dice the
information, nobody makes a crane in America any longer. It
just cannot be done. That should be a 2-minute discussion,
already decided on TIGER I. There ain't no crane out there to
buy. Please, if you can do anything you can to expedite this so
we can move it through, obligate it, and make sure that we do
not lose that funding.
Secretary LaHood. Senator, I told our Deputy Secretary to
sign the waiver today. It is already--it was signed this
morning.
Senator Whitehouse. I am delighted.
Secretary LaHood. I knew you were going to bring this up,
and I am sorry that we have delayed and caused so much
heartburn about this, but it is signed.
Senator Whitehouse. Perfect. Perfect.
The second thing up there is high-speed rail. We have
common cause here on high-speed rail. I think we all recognize
that when, in the Eisenhower administration, we took a national
move to high-speed road and built a national highway system, it
was one of the best things ever done for our economy. It
exploded growth in shipping, lowered costs, created enormous
industry that uses that infrastructure to this day.
So now that we had our high-speed road moment, it would be
great to have also a high-speed rail moment, and there is no
place that is more important than in the Northeast where that
rail corridor gets used so much, creates so much value, is such
an important core, spine of transportation infrastructure. What
can you tell us about where you are on Northeast corridor high-
speed rail?
Secretary LaHood. Well, we believe that the Northeast
corridor is--not only exists currently as a very viable rail
connection for many, many people and takes a lot of cars off
the road in the Northeast corridor, we like the plans that take
us well beyond, all the way to the Canadian border and further
south through the Carolinas, all the way to Florida. That is
our dream. That is our vision. If you look at the President's
budget, 50----
Senator Whitehouse. We particularly like that Boston to New
York corridor.
Secretary LaHood. I have it. We like Boston to New York,
also. But if you look at the President's--look, nobody has a
bigger, bolder vision of this than President Obama does. We
would not be where we are at. We have invested $11 billion
already. That is more than has ever been invested in high-speed
rail, ever in the history of the country, thanks to the
President and the Vice President.
Senator Whitehouse. I appreciate it. I think it is a great
thing.
Secretary LaHood. And there is $50 billion in the
President's budget over the next 6 years for high-speed rail.
That is more than has ever been invested. We are with you. We
are on the track with you on this.
Senator Whitehouse. Good. And as we have seen some of the
newly elected Governors decide that they do not want money from
the Federal Government on this, even though it has been
allocated to them, when Governors turn back this money, I hope
that you will quickly reallocate it to places like the
Northeast corridor that do want it and it will have----
Secretary LaHood. What we intend to do, Senator, is when
States decide they do not want the money, we are going to make
it available throughout the country so everybody has a fair
shot at it. We think that is the only fair way to do it.
Senator Whitehouse. Good. I appreciate it. And obviously,
the quicker that can be turned around and the quicker other
States can get access to that, the better, and I am confident
that in the Northeast, we will be able to make a compelling
presentation as to why----
Secretary LaHood. I have no doubt of it.
Senator Whitehouse [continuing]. The Northeast corridor is
critical. Thank you very much.
Secretary LaHood. Thank you.
Senator Whitehouse. Thank you, Mr. Chairman.
Chairman Conrad. Senator Thune.
Senator Thune. Thank you, Mr. Chairman. Mr. Secretary,
great to have you with us.
Secretary LaHood. Thank you.
Senator Thune. Thank you for your service and your spirited
answers to these questions today.
I want to--and I do not want to beat a dead horse, because
I know it has been talked about already at some length, but I,
like my colleagues who have spoken before, am concerned and
somewhat mystified at why we did not do more in the area of
infrastructure out of the amount of money that the stimulus
provided. I mean, you look at just over 5 percent was spent on
transportation and what could have been done in terms of
addressing these shortfalls that we have and this year over
year shortfall that we are now experiencing in the Highway
Trust Fund, which is a problem. We are transferring now out of
the general fund to the Highway Trust Fund.
And the budget, as I understand it, suggests that
significant increases in spending and a highway reauthorization
bill, which I hope we can get to this year, but increases 2012
spending on surface transportation by 86 percent over 2010
levels. It also includes a $50 billion front-loaded
transportation infrastructure plan for 2012, which, I think, as
again is mentioned, sounds more like another stimulus program.
But I guess the question I come back to is the issue that
has already been raised. There has not been any--there is not
anything in this proposal, and you have said several times your
proposal does not include any more revenue raised from the gas
tax and that that is not an option the Administration is open
to, so where does the increased revenue come from? How do you
pay for all this stuff? If you do not tax gasoline, how do we
do it?
Secretary LaHood. Well, we have to think creatively and we
have to figure out ways to pay for this. We think that it can
be done the way that things are done around here, when people
sit around a table together and put creative ideas on the
table, and I think that will be done when the Congress gets
around to writing a transportation bill. We hope we are in the
room and we hope we can be part of finding the revenue to do
it. We think that is the way we get there.
Senator Thune. Do you have any more specific ideas? Does
the Administration have any suggestions that they would like to
offer up, because historically, this has always been a--this is
a gas tax issue. It is a user fee, basically. And obviously it
is not keeping up with the demands. You saw what the Chairman
put up in his chart and how big that thing gets to at the end
of the decade. It is a $28 billion shortfall. Clearly, that is
going to take a significant amount of revenue, and although we
all appreciate, I think, the budget and its recognition of the
needs that are out there, not having a way of funding it seems
like many of the aspects that we have seen in this budget, and
that is these proposals just do not have funding sources.
I mean, it seems to me, at least, that the Administration
has kicked the can down the road on a lot of the big issues
that we are facing. This is one of many. But do you have any
ideas? Has there been any discussion on your end of this about
how we might--what kind of a funding mechanism or source we
might come up with?
Secretary LaHood. Well, we have had lots of discussions
privately with Members of Congress about this, particularly
members who believe that the investments the President is
proposing are absolutely critical to continuing the progress.
And as the Congress gets serious and really begins to sit down
and write a bill, you know, we want to be there. We want to be
a part of the discussions and we want to be a part of finding
ways to continue to make these investments, to put friends and
neighbors around the country to work building roads and
building bridges.
Senator Thune. Let me ask you, and I appreciate the answer,
although there is a complete lack of specificity or any hard
solutions, in my view, about how we deal with this. The
suggestion that we have to be creative is great, but----
Secretary LaHood. We like your Build America Bonds program,
Senator. I know you and Senator Wyden have promoted that. It
has been a good program. It has worked very well. Lots of
States have taken advantage of it. I mean, look, that is one
way to get some additional money. I talked about tolling. I
talked about the fact the President has put the Infrastructure
Bank on the table. And so it is not as if you all have not come
up--you and Senator Wyden have come up with this very creative
way of--and it has worked, and we think the Infrastructure Bank
is also another creative way of thinking about funding some of
these things. The specific pay-for, we are willing to be in the
room and have these discussions and debates.
Senator Thune. I am not a big fan of the Infrastructure
Bank, as you might expect. I think that we are going to see
that probably is going to benefit primarily largely
metropolitan areas.
But the other thing I wanted to express a concern about is
the $53 billion plan on passenger rail investment over the next
6 years. As someone who represents a rural State, the budget
proposal is concerning when you look at the much faster growth
in proposed spending for transit and passenger rail investment.
I, frankly, do not think that if you get west of Boston or east
of San Francisco that you are going to see much transit
investment, and at the same time, the transit programs within
the DOT do not contribute to the Highway Trust Fund when it
comes to user fees. And as I understand your proposal, it
allows transit systems to use funding for O&M. That, to me, is
very concerning, given the fact that transit does not
contribute to the Highway Trust Fund.
Secretary LaHood. Well----
Senator Thune. In rural areas of the country, we are not
anticipating we are going to see any high-speed rail anytime
soon.
Secretary LaHood. Well, I hope you also looked at the idea
that we increased the spending on highways by 48 percent. In
over 6 years, it is $330 billion. We get it. Look, at DOT, we
know how to work with our partners in the States to build roads
and bridges and the President has asked--requested huge
investments and a huge increase to build roads and bridges for
States like yours, Senator. We get it. We know that there is
crumbling infrastructure. We want to be helpful on that. We
have great partners in the States. We worked with those great
partners on spending $48 billion, of which $28 billion was for
roads and bridges, and we did it the right way because of our
friends in the State that have partnered with us on these
things. We believe in roads and bridges, and if you look at the
increase, it is significant.
Senator Thune. OK. Well, thank you, and my time is
expiring, but again, I just come back to the proposed increases
are great, but at some point, the Administration is going to
have to lead in figuring out how we pay for this stuff. Thank
you.
Chairman Conrad. I thank the Senator for respecting the
time.
Let me just indicate, Senator Wyden is next, then Senator
Cardin, Senator Coons, Senator Sanders, Senator Warner.
Senator Wyden. Thank you, Mr. Chairman, and welcome, Mr.
Secretary. I just want to followup on that last point with
respect to Build America Bonds, because as you know, they just
went out the door like hotcakes. We estimated that, given the
fact that we never tried anything like this in our history--
Senator Conrad will remember this--in the Finance Committee, I
was asked to give an estimate of what we might do in the Build
America Bonds area, and I said, oh, maybe $8 or $10 billion,
and as you know, it was $181 billion, I mean, something like 18
percent--exceeding an 18-fold increase in terms of
expectations.
Now, the question is, where do we go from here, and Senator
Thune asked the right question and that is where are we going
to look to try to get additional funds. And I think it would be
possible to again build a bipartisan coalition for Build
America Bonds if we get them to focus only on transportation.
And I have talked with a number of my colleagues on both sides
of the aisle about this. We are looking at the numbers that
have come in so far and it looks like Build America Bonds just
for transportation purposes over this experimental period of
time exceeded the amount that went out under the Recovery Act.
So the Recovery Act was $48 billion and we think--the numbers
are still coming in--that it was well over $50 billion just for
transportation alone, Build America Bonds.
And for colleagues that are interested in this, in our
State, where they really kept track of the numbers, they
estimated there was a 10-percent savings associated with this
compared to the traditional level of bonds. So a chance to do
more work, A, get additional revenue, and save money at the
same time.
My question to you, Mr. Secretary, because Senator Thune
has been a wonderful partner in it, and, as you know, many
Republicans have been involved in this going back to Senator
Talent and Senator Dole and Senator Vitter, we have had a whole
lot of Republicans involved in this, and I think we could get
this again to be a bipartisan program if the Administration
would say, look, it has been wildly successful as it related to
transportation. New money, savings. We will, for purposes of
bringing the Congress together, put it solely to
transportation, and I have mentioned to Senator Thune, perhaps
we could rebrand this. We could call them TRIPS bonds,
Transportation and Regional Infrastructure bonds, so that
everybody would walk away and see that we are trying to get a
good concept which has been successful confined to
transportation and have a chance to answer the question asked
by Senator Sessions, asked by Senator Thune, where we have had
bipartisan support. What is your take on that in terms of
trying to bring folks together once again as we were able to do
over the years?
Secretary LaHood. Well, as I said, Senator, I congratulate
both you and Senator Thune for your leadership on this. I know
there are other Senators involved in this. This is a very good
stream of funding and we will work with you in any way we
possibly can because we think this is one of the options that
needs to be out there to pay for all the things we want to do.
Senator Wyden. What is going to be our challenge in the
Administration? Part of it--I discussed this with some of my
colleagues on the other side of the aisle--this was so
attractive to the private sector that people automatically
said, well, let us see if we can look at it for other kinds of
approaches, and that is when some of the bipartisan support
seemed to drift away, is people just saw it being used in a
variety of other kinds of areas. Do you think within the
Administration you can get people to say that the
transportation need is so great, No. 1, and getting this back
to having bipartisan support is just as important, that you can
get the Administration to help us as we build a bipartisan
coalition, say we will go just with transportation given the
fact that the need is so acute?
Secretary LaHood. Well, I will commit to say this, Senator.
I will work very hard within the Administration to make the
strongest case that I possibly can that this ought to be
dedicated to transportation. Now, whether I can get there or
not, I do not know, but I know this. There is a shortfall. The
President has a big vision. We need to find the resources to
pay for it. Your Buy America Bonds have been wildly popular, as
you knew they would be and Senator Thune knew they would be,
and they have provided a great resource to get some significant
things done.
Senator Wyden. I appreciate your willingness to do this
because I think Senator Thune and a number of Republicans are
very interested in working in a bipartisan way on this issue.
We worked through some of the kinks early on. There were
questions about fees early on. Now we have seen no one raise
concerns about that. The one concern has been, is this going to
be used as an open-ended approach to fund all kinds of other
services in government, and I hope we can get back to what
essentially Senator Talent and a big group of Democrats and
Republicans started dreaming about six, 7 years ago.
I think it is clear it has worked, No. 1. I think the other
approaches are going to be a huge lift in terms of getting
bipartisan support. Colleagues are asking for details about
Infrastructure Banks and the like. This is something we know
works. We know there are not a lot of rallies outside our
offices to raise the gas tax in this kind of economy. We know
that to have big league economic growth, you have to do
something about little league transportation systems. And my
hope is that as you go forward, you can convince the cabinet
and the Administration to say that this is the area that will
produce the most jobs most quickly.
You have been to Oregon. You can go around our State and
see all kinds of folks across the political spectrum, some of
our most conservative business leaders working with labor
leaders around Build America Bonds because, they say, this is
something that has actually made a difference. And if we can
get it back to its original focus, I think we will have an
answer to Jeff Sessions's questions, the point that Senator
Thune was making. I think they were raising logical concerns
and we can come together in a bipartisan way and I am grateful
for what you have said today.
Secretary LaHood. Thank you for your leadership, and to
Senator Thune, also.
Senator Wyden. Mr. Chairman, thank you.
Chairman Conrad. Senator Cardin.
Senator Cardin. Well, thank you, Mr. Chairman. Secretary
LaHood, it is nice to have you before the Committee.
Secretary LaHood. Good morning.
Senator Cardin. I am going to give you a little different
view than Senator Thune on the transit issues, but first let me
say that I support the budget, the more robust budget that you
come in with for transportation infrastructure. I think that it
is critically important for our Nation to be as competitive as
we need to be. It is about jobs. It is about outbuilding our
competitors. And I think that we need to find a way to make
sure we can finance that.
I also want to applaud you on the multimodal approach that
you have. Look, we cannot do it by roads alone. We cannot do it
by transit alone. We need to invest in smart transportation
that allows us to recognize the different needs in rural
America and in urban America.
But I just really want to urge you to continue aggressively
on the transit funding, and I really want to respond to Senator
Thune's point.
You know, it is interesting. In the prospectus that GSA
puts out for Government space in this area, a high priority is
given to locate a space on a transit line because the Federal
Government understands that we do not have the resources to
build all the parking lots that we would need in order to take
care of people using the highways. If we had all of our Federal
workers on the highways, they would never get there because we
do not have enough roads.
If you take a look at the dollars--and maybe you should do
this for us--as to how much more you would have to spend in
highway maintenance if we did not have a transit system to deal
with people getting to and from work. You know, we are building
a new road in Maryland, the ICC. That is going to cost close to
$3 billion. So transit saves us highways and highway
maintenance dollars and allows us to have a way that we can
bring our communities together.
I would last point out on this argument of rural versus
urban, in our State, on the eastern shore and in western
Maryland, transit is critically important. They understand
that. Now, maybe we could be more effective in rural
communities on transit, and we should look at that. But it is
important in Salisbury, it is important in Cumberland,
Maryland, to have transit to get people to and from work.
So I just want to urge you to keep focused on it, and I
have not even gotten to the other issues of our national
security, of using less energy and a cleaner environment. So
this is an important issue for our Nation, and I just want the
Chairman to understand that this Senator is going to continue
to fight for adequate infrastructure financing for all the
modes of transportation because I think we need--it includes
also our bill we just passed for the airports, the port
modernization, and rail.
In rail, we need to get to the next generation. Thank you
for what you are doing on high-speed rail--I think that is
important--for inner city rail. All of the above we are going
to need if we are going to be able to have a sensible transit
project.
With Senator Warner here, we live in the second most
congested area in the country, and we all, I think, have a
responsibility because the Federal Government is mainly
responsible for the transportation challenges we have in this
community. And it is important that the Federal Government
maintain its responsible share in dealing with the transit
costs. We are going to be talking about that because the House-
passed budget did not. And we are going to fight for the
Federal Government doing what it is responsible for. We do not
want to see newly created unfunded mandates to local
governments as a result of what is coming out of the House of
Representatives.
Now, I had one question which was dealing with groundwater,
storm runoff. I have asked you about this before. I have the
honor of chairing the Water and Wildlife Subcommittee on the
Environment and Public Works Committee, and we need partner
wherever we can. And high construction--and I really do applaud
you because we are using the best practices. It can make a
major difference on the amount of storm water that runs off in
a very inefficient way, or in an efficient way, and the way we
do our highways can be critically important.
So I just really want to get your reply as to how you see
the priorities in your agency helping us deal with the proper
management of storm water.
Mr. LaHood. Well, as you know, Senator, we stole away from
your State your Secretary of Transportation, John Porcari, and
he is our Deputy Secretary now, and he knows these issues
intimately, having worked on a number of road projects in your
State. We are committed to work with the EPA and work through
the environmental impact statements to make sure that whatever
responsibilities we have to take in terms of providing the
resources to make sure that when the construction takes place
there is the right, you know, avenues for water and runoff and
all of those things.
You know, our commitment is to work with the other agencies
to make sure that it is done correctly and properly and that we
provide the resources to do that.
Senator Cardin. I thank you, because the private sector
really looks to what we do in Government, and if we do not set
the example--we have done that on our energy standards. We need
to do it on our environmental commitments on storm water. It
can make a huge difference in getting the type of cooperation
we need from the private sector as they develop their buildings
and construction to also do the right thing.
Secretary LaHood. Right.
Senator Cardin. We have rules, but if the Federal
Government does not set the example, it makes it difficult to
get the type of compliance----
Secretary LaHood. Right. We are committed to that.
Senator Cardin. Thank you.
Thank you, Mr. Chairman.
Secretary LaHood. Mr. Chairman, could I just respond to
Senator Cardin about transit?
Chairman Conrad. Oh, please do. Certainly.
Secretary LaHood. He and Senator Warner have the privilege
of representing what I believe is, if not the best, one of the
best transit systems in America. And I will tell you why I say
that. I was struck when I was on the platform at President
Obama's inauguration and saw a couple million people out on The
Mall. Almost every one of those persons was delivered there by
the Metro system in Washington. It is a magnificent system. It
was well designed. It is not without its problems, but it is a
great system. And if you think of all the people that it
delivers here to Capitol Hill every day and around this region
every day, it really is a good system, and we support their
efforts to improve. We are going to provide $150 million to,
you know, do the fix-up on the infrastructure and help them buy
new cars, help them buy safer cars. But this is America's Metro
system, and it is a model for the rest of the country. And we
have worked closely with your Metro system because we think it
is one of the best, and we want to keep it that way, and we
want to make sure it is the safest.
And that is why, if I can put a plug in, Mr. Chairman, last
year last year the Banking Committee passed by unanimous
consent a transit safety bill that gives to the Department of
Transportation some responsibility that we are currently
prohibited from doing now, which is looking after safety in
transit systems around America. And I hope there will be some
Senators this year that will reintroduce that bill, give us
that responsibility, because there is nobody in the Government
looking after transit safety, and we need that. We need that
responsibility. We need the Congress to give us that
responsibility. And those of you who represent one of the
greatest transit systems in America, I hope you will consider
doing that.
Senator Cardin. Let me just very quickly, Mr. Chairman,
agree completely, and that bill, of course, was strongly
supported by our delegation here, and we want to see you have
that authority. We have had difficulties with safety issues in
regards to the Washington Metro system.
Let me also just underscore the point that the $150 million
that you have put in the budget, there was a 10-year commitment
of $1.5 billion. You have carried out that commitment. Now it
is our responsibility to make sure that stays in the budget. It
was not in the House-passed budget. We are going to do
everything we can to make sure it stays in the budget.
And the last point, I also got to the inaugural through
rail coming in from Baltimore, so rail is very important to get
into the city.
Thank you.
Chairman Conrad. Senator Warner.
Senator Warner. Thank you, Mr. Chairman, and, Mr.
Secretary, it is great to see you.
Secretary LaHood. Good morning.
Senator Warner. There are so many places to hit in 6
minutes and 54 seconds. Let me, first of all, thank you for all
of your work, but let me start with associating, affiliating,
and whatever other terms we use my comments and questions with
my good friend Senator Cardin's. And as a member of that
Banking Committee that passed that bill out unanimously, I look
forward to working with your office to make sure it gets
reintroduced and gets again that kind of support from the
Banking Committee.
Secretary LaHood. Thank you.
Senator Warner. Because it is terribly important. The
Washington Metro is a great system, but it has had its issues,
particularly around safety. As a former Governor, this notion
of where the ball lands in terms of safety was something we had
never really fully thought through.
But let emphasize again what Senator Cardin has said, is
that it has taken--it took a long time for all of the State
partners to pony up their share, but we got there. And as we
build out some of these extensions and upgrade the facilities
on Metro, it is, I think, both for the region irresponsible but
from plain business planning purposes to kind of have the rug
pulled out the way the House budget proposes is something that
we should not allow to happen. And I look forward to working
with Senator Cardin and I hope a united bipartisan Senate on
that issue.
Secretary LaHood. Senator, let me just say, you are very
modest about this, but when you were Governor, you were one of
the leaders that made this system what it is today, and you
should be congratulated for all of your leadership on making
Metro what it is today.
Senator Warner. Well, thank you. When we first tried to
convince our folks in Northern Virginia how we would help pay
for that share, I got my tail whipped. I wish you had been
Secretary then to give that support.
Let me also echo my good friend the Senator from Rhode
Island's comments with one slight amendment.
Senator Whitehouse. Is that the southward amendment?
[Laughter.]
Senator Warner. One slight amendment. As we have discussed,
we were concerned in Virginia--I think it is great that we are
moving forward on high-speed rail, but building out pieces in
Florida or elsewhere, or to my good friends in North Carolina,
building out these segments without a connection, without a
connection to the Northeast corridor that starts from
Washington up through Boston, to me, you know, did not make
necessarily all that much sense. And when we think about a
corridor where we do not have the amount of congestion and
other issues and more of a straight shot, our Nation's capital,
down the 95 corridor through Richmond, connecting with Hampton
Roads and down into North Carolina, I cannot think of a better
place with higher potential usage and a more willing bipartisan
support at this point than the Commonwealth of Virginia.
I know you were able to move very quickly on some of those
others dollars that came back from the Midwest, but if those
Florida dollars--and I say this with trepidation and Senator
Nelson is not here. If those Florida dollars get back in the
pot--I love my friends in the Northeast, but if we wanted a
great demonstration example of how to do high-speed rail, we
look forward to Virginia's application being perhaps more
competitive than it was in the first round.
Now let me come to, in my 3 minutes left, something that
Senator Sessions and I have talked a lot about, and Senator
Whitehouse as well. We have to figure out how we are going to
fund transportation, but we have also got to make sure that,
within our limited dollars of how we fund, we have better
performance metrics. And I want to commend you and your
Department for recognizing, I think for the first time in a
long time, that we have to have performance metrics in our
allocations; that some of the current formulas and some of the
current approaches just do not get it.
I am glad that your proposal includes the establishment of
performance measures for highway investments and repair
investments at the FHA. I do think we need more. As you know, I
have been working with the Bipartisan Policy Center about how
we make sure that these metrics and data are out there so we do
not just have these kinds of arguments back and forth, but we
have actually some ability to evaluate.
One of the things I think we have to do, though, is make
sure that these metrics go outside of highway but that they are
kind of mode neutral. And I would like for you to comment for a
moment about the whole sense of metrics, how we make sure that
we have some mode neutrality in this, that we really look at
moving people and goods as the goal, not simply highway miles
traveled, vehicle miles traveled, that we look at----
Secretary LaHood. Well, on both of your points, the reason
that Virginia is going to be significant in high-speed rail is
because of your leadership, meetings that you have called that
we have attended. You are really persuading us that there is a
lot of leadership in Virginia thanks to you and other members
of your delegation.
Senator Warner. Bipartisan support. Let us make sure we get
that on the record again.
Secretary LaHood. Absolutely. But, again, you are being a
little modest here.
Senator Warner. That is not something I have often been
accused of, Mr. Secretary.
Secretary LaHood. I think you have pressed on this, and the
reason we have really gone to these performance standards is
because of what you have said to us over the last couple of
years. We get it. We think it is important. We think it is a
way to show the Congress and the country that we are just not
spending their money willy nilly, that we are just not spending
money because the Congress gave it, but there are performance
standards, and it will be multimodal and it will be an
opportunity for us to really measure and judge using good
metrics to make sure that taxpayer money is being spent in a
way that reflects the values of the Congress. And we took our
cues from you on that.
Senator Warner. You are more generous with your comments
than the actual record is, but I will take them.
Let me on the last comment just say I am very intrigued
with the infrastructure investment bank that you have talked
about. I do have some of the concerns that Senator Thune has,
that, you know, we have to make the financing work the right
way. It is not free money. But some of the existing programs,
the TIFIA program and others, they do have a tendency to bias
toward highway. How do we make sure we get that mode neutral
right in the infrastructure investment bank? My time has
expired.
Secretary LaHood. We want to work with Congress on this
infrastructure bank and make sure we do get it right. And we
want to make sure that it is money that can be leveraged with
TIFIA, with tolling, with other opportunities from the private
sector that want to make investments.
It would not be the sole source of funding. What it would
leverage is tolling, TIFIA, private sector money, maybe some
State money, maybe some additional Federal money out of
highways or something. So it really is--we think it is an
opportunity to leverage some additional money and really get
some other players involved. And that is the way we see it.
Senator Warner. My time is up, but do you see this bank
being transportation only, or do you see it ultimately
migrating to include smart grid and other kinds of
infrastructure-related projects?
Secretary LaHood. Well, we see it in our proposal for
transportation.
Senator Warner. Thank you, Mr. Chairman.
Chairman Conrad. Senator Sanders.
Senator Sanders. Thank you, Mr. Chairman.
Mr. Secretary, thank you very much for the very important
work you are doing. Sometimes what gets lost in the shuffle is
the disastrous condition of America's infrastructure, the fact
that we are falling further and further behind many other
countries, and the point that you have made, and made
repeatedly, is that if we are serious about pulling ourselves
out of this recession and creating decent-paying jobs,
investing in the infrastructure--our roads, our bridges, public
transportation--is perhaps the fastest way we can do that. So
count me in as somebody who supports the thrust of your
argument. I think it is exactly right. And to my mind,
investing in infrastructure, creating decent-paying jobs
frankly is a lot more important than giving tax breaks to
millionaires and billionaires for the future of this country.
So when our friends ask where the money is coming from, I think
some of us know where the money could come from.
Let me just get to a question. In Vermont, we are
concerned. We have a new Governor, and I would like the
opportunity to chat with you, maybe bring the Governor into
that, to talk about transportation needs in Vermont. Is that
something that we could do?
Secretary LaHood. Absolutely, and I met your Governor at
the White House when he was here for the Governors' meeting,
and I think he is going to be very progressive on
transportation issues.
Senator Sanders. I think he will, and the problem in our
State, as in many rural States, is that people often have no
option other than the automobile to get to work. So how we can
address some of those needs is important.
Second of all, you received and responded to a letter that
the Vermont delegation sent to you requesting that you extend
the designation of the Northern New England High-Speed Rail
Corridor to include a 120-mile segment between Springfield,
Massachusetts, and White River Junction, Vermont. I know it is
an issue you are looking at.
Secretary LaHood. Yes.
Senator Sanders. It is an issue we would like your support
on, and let us continue talking about that as well.
So I will just end with that and to say that as a Nation,
Mr. Chairman, we should be deeply concerned that in China they
are building high-speed rail all over the place, and that we--
Mr. Secretary, you correct me if I am wrong. Are we the only
major nation on Earth that is lacking in real high-speed rail
at this point?
Secretary LaHood. Well, we are one of a few, that is for
sure.
Senator Sanders. And would you agree with me that if we
want to take cars off the road, if we want to lessen the heavy
traffic at our airports, high-speed rail is one way to go?
Secretary LaHood. High-speed rail will provide thousands of
jobs. It will help the economy. It will provide lots of green
jobs, and it will provide alternative transportation that does
not exist in America today. And this is what Americans want. It
is not just President Obama or Vice President Biden or Ray
LaHood. This is what Americans want. You have people all over
the country that have worked on high-speed rail for over two
decades, and 33 States and the District of Columbia have
accepted the $11 billion that we have put out so far because
they want to connect America with high-speed rail.
Senator Sanders. And I think others have raised this point.
If there are States that choose not to take the Federal money,
please put Vermont at the top of the list.
Secretary LaHood. Yes, sir. Your Governor made that very
clear.
Senator Sanders. We will take that money. If other States
do not want it, that is fine.
Go back to a point you made earlier. In terms of job
creation, if we are investing in roads, bridges, tunnels, how
many jobs do you see being created in that type of investment?
Secretary LaHood. Well, I would just say this. The $48
billion that was in the stimulus program created 15,000
projects and 65,000 jobs. We did that in 24 months, and we did
it by the way Congress said to do it. You have not seen any bad
stories written about our stimulus--none--because we did it the
right way. We did it the way you all told us to do it, and we
put 65,000 people to work in 2 years with 15,000 projects.
Senator Sanders. But you would not deny--and, by the way, I
happen to believe that the stimulus package did pretty much
what it was supposed to do. It created 2 or 3 million jobs. I
agree with those people who say we should have put more money
into infrastructure. But let us not ignore the other very good
things, and my State opened up a whole lot of other areas. But
I will tell you that the stimulus package in Vermont put more
money into our roads and bridges than we have ever seen in the
history of the State. But you would agree, I think, that that
is just the tip of the iceberg.
Secretary LaHood. Tip of the iceberg, absolutely.
Senator Sanders. Give me an idea, give us an idea--and I
understand the funding issue. We cannot create money out of our
ears here. But if you had your druthers, what would we be
investing in infrastructure in America?
Secretary LaHood. Over the next 6 years, the President put
out a plan for $550 billion. That is as bold as any President--
no other President has been that bold. No other President has
stepped up with that kind of a plan, $50 billion for high-speed
rail. Never that kind of investment. We have increased funding
for roads and bridges. It is now over--it will be over $300.
Senator Sanders. All right. Let me ask you again a question
whose answer is obvious, and I speak as a former mayor. If we
have a crumbling infrastructure, which I think many people
recognize that we do, and you do not invest in that
infrastructure, if States all over this country are facing
enormously serious fiscal problems and are unable to do that,
if you do not invest in infrastructure, does the
infrastructure, our roads and bridges, magically get better?
Secretary LaHood. They actually become unsafe, Senator.
Senator Sanders. Not only do they become unsafe, will it
cost more money to improve them as they deteriorate----
Secretary LaHood. Costs go up every year for
infrastructure.
Senator Sanders. So we are in a situation where, if you do
not invest now, you are simply going to have to invest more
later. We are in a situation now where we have a horrendously
high unemployment rate. Now is the time to invest to create the
jobs. The Federal Government has that responsibility. Where do
we get the money? Well, I would say to my good friend from
Alabama that investing in infrastructure is a lot more
important than giving tax breaks to billionaires. He may
disagree with that. That is my view.
Mr. Chairman, thanks very much.
Chairman Conrad. Senator Merkley.
Senator Merkley. Thank you very much, Mr. Chair, and thank
you, Mr. Secretary.
Secretary LaHood. Good morning.
Senator Merkley. Good morning, and I know that you will be
out in Oregon soon to visit Oregon----
Secretary LaHood. Yes, sir.
Senator Merkley. --Iron Works and attend a gathering of the
Bicycle Transportation Alliance. I am sorry I will not be able
to be there with you, but I know you will get a firsthand view
of the street cars under construction at Oregon Iron Works and
some other good projects. And thank you so much for your
support of smart transportation modes.
Secretary LaHood. Thank you.
Senator Merkley. In the budget from the Department, it
notes that the Administration will bolster metropolitan
planning, award funds to high-performing communities, and
empower most capable communities and planning organizations to
determine which projects deserve funding.
When I read those words, they sounded a little bit akin to
a concept I have been promoting, and I am not sure they are the
same, but I will use this as a chance to ask you if they are.
But essentially I have been working on legislation that would
encourage communities and States to use performance-based
planning where the local community would set goals for how they
want to grow on a range of factors from economic development to
congestion reduction to a reduction in oil dependence. They
would then develop several scenarios to weigh or to compare how
they perform against those standards, and this sort of
scenario-based planning captures the interaction of different
modes of transportation. So that concept, is that akin to what
you are talking about in your planning document?
Secretary LaHood. One of the things that we learned during
the six town meetings or listening sessions, or whatever we
were calling them--transportation authorization listening
sessions that we held around the country--is that there needed
to be some change to incorporate more ideas. And as I said to
Senator Warner, we believe these performance standards are
critical so that taxpayers know and that you can go back to
taxpayers and say, hey, they are using metrics to make sure
this money is being spent correctly, and they are basing it on
some performance standards.
So I think what you have said is where we are at and what
we would like to incorporate in a transportation bill so that
we can say to taxpayers this money is being spent according to
these metrics and really have some good performance standards.
Senator Merkley. Well, thank you. I appreciate that a lot.
Another concept that we have been talking about is
practical project design that would empower local communities
to plan projects that are more tailored to their local needs,
most cost effective. We hear from a number of communities that
they get frustrated that the State Departments of
Transportation have very rigid design guidelines that increase
the project costs, maybe the same large lanes or the same large
ramps, regardless of the community context. Is this concept of
additional flexibility in design something that fits in with
the way you are approaching the transportation----
Secretary LaHood. Well, look, we have great partners at the
State level. We work with them day in and day out. And we will
continue to work with them. We know that sometimes it can be
frustrating for local folks to get their projects through the
State. We know that the TIGER program was very successful
because people with creative ideas brought them forward, and we
looked at them and we thought they could be creative and do
some creative things. We awarded the money to them, and
certainly your State benefited from that program.
We are going to continue to work with our State partners to
make sure they understand that we want to get projects done, we
want performance standards, and we want to make sure that all
the stakeholders are involved in the process.
Senator Merkley. Great. Thank you.
One of the other changes that is in your budget is
consolidating 55 highway programs into five streamlined ones.
How do you see that in terms of the application process for the
communities that are seeking funds, any--let me put it this
way. A lot of our smaller communities do not have a lot of
grant writers, and when I saw this, I thought this is going to
make it a little easier for them to track opportunities to
apply and find the funds that match their community and easier
for us as a congressional office to help them find funds that
they can apply for.
Is that part of the thinking that went into this or----
Secretary LaHood. Part of the thinking is that we want to
follow the President's lead on trying to reform agencies and
make sure that the Department of Transportation comes into the
21st century, continue to work with our partners, but really
squeeze a lot of programs together. Almost everything now is
multimodal. It might involve--you know, the bridge that they
are going to build across the Columbia River is certainly
multimodal. It involves transit, it involves cars. It involves,
you know, the ability of people to bike and walk across the
bridge. It involves tolling, and it involves a number of
things. And so we want to make sure that we have an
organization that is lean but also takes the best talent we
have so that we can give people access so they do not have to
go through 50 layers of bureaucracy to get done what they want
to get done. And we know a lot of things are going to be
multimodal, and we have really tried to take the best and the
brightest, put it together, and make it certainly more
accessible to States around the country.
Senator Merkley. Well, I want to applaud the work you are
doing on that because I do think that it is exactly the right
direction for the reasons that many things are multimodal, and
also that in terms of communities being able to understand how
and where to apply, it greatly simplifies it.
You mentioned the Columbia River Crossing, and that is a
huge regional challenge, including the extension of light rail
across the river, pedestrian and bike paths, but having an
effective passenger and freight corridor as well. It is just
such a huge choke point. I appreciate that you are familiar
with it, and we are doing all we can to get all of the
community leaders to come together behind a common design, and
I will certainly be working with you all on that project.
We have others--the extension of our light rail into the
Milwaukie area--and your Department has been extremely helpful
in that. And I just in general want to applaud your--you have
been a breath of fresh air since you came in in terms of
thinking about transportation and making it cost effective and
functional. I guess I echo Senator Warner's comments about it
is not about how many miles you pave or how many miles you
build, but how do you make the transportation system overall
work better, and that has been a concept that Oregon has been
pursuing for a long time and that I think you have really come
to take forward to the benefit of transportation across this
country.
Secretary LaHood. Well, thank you, Senator. You have some
great leadership in your State. I just met with the Governor of
your State, and also Washington, and we talked about the
multimodal nature of the bridge, the Columbia River Bridge
Crossing, and the multiple ways that we are going to fund it.
It is very creative. It is going to happen. It is needed, and
you have some great leadership in your State.
Senator Merkley. Thank you. I look forward to continuing to
work with you.
Secretary LaHood. Thank you.
Chairman Conrad. Thank you, Senator.
Mr. Secretary, I would like to now just take a few more
minutes and Senator Sessions will take a few more minutes.
Secretary LaHood. Sure.
Chairman Conrad. If Senator Coons has returned by the time
we are done, we will have him have time. If not, we will shut
it down.
I want to raise the issue that you are very well aware of,
Devils Lake, North Dakota. Devils Lake is a lake that has risen
more than 30 feet in the last 15 or 16 years. Devils Lake is
now three times the size of the District of Columbia. Devils
Lake is now forecast--we just have in the last week a most
recent forecast from the National Weather Service that the lake
is going to go up another three feet this year. That puts it
perilously close to an uncontrolled release of water out of the
east end of the lake, where the water quality is many times
worse than the water quality in the west end of the lake.
As you know, the entire transportation system is
compromised in that part of our State. We have already spent
$850 million--that is Federal money alone--$850 million dealing
with the flood threat in the Devils Lake basin. We have had
hundreds of thousands of acres that have been flooded and
inundated. People have lost access to their land. We have spent
hundreds of millions of dollars raising the road network and
building a massive dike--it has been raised three times--
protecting the city of Devils Lake. We have a town that is
about to be flooded on the west end of the lake, the little
town of Minnewaukan. The school is directly threatened. We have
$6 million than has just been secured to move that school. We
need to move much of that community.
The road and bridge network in the area, as you know, has
been raised repeatedly and we require additional work or parts
of the road network are going to go under this year, and maybe
you could give us an idea of what the plans are in the
Department of Transportation to continue to help us with this
crisis.
Secretary LaHood. Well, Senator, thanks to your leadership
and others in your delegation, we will be committed to working
with you and others in the State to do whatever is necessary to
make sure that the roads and bridges are not compromised, that
communities are not compromised. We are committed to doing
whatever we can to make sure that we take care of continuing to
fix the problem.
Whoever named this Devils Lake named it aptly. I think that
this--the devil is responsible for this. I mean, I do not know
how else to explain it. It is something that belies belief or
belies nature. So I do not know who else to blame but the
devil, so that is why his name is on it, I guess. Somebody was
prophetic in putting that name on it. This is a natural
disaster and we are committed to working with you to do
whatever it takes to make sure that roads and bridges and
communities are not compromised.
Chairman Conrad. I appreciate that, and you have been
great. You know, I think so many people in the Federal
bureaucracy have hoped that this lake was going to just stop
going up. We know in 4,000 years of history, this lake has gone
through this cycle before, and it is now on its fourth time.
And when it has gone through this cycle, it has led to an
uncontrolled release of water out of the east end. If it
happens this time, now that that part of our State is
populated--in the previous times it has happened, there was
very little population--this will be a disaster of staggering
proportions, absolutely staggering proportions.
And so I wanted to again alert you to this latest forecast
that predicts that the lake is going to rise much more than the
previous forecast, and so we have an ongoing crisis. And I
thank you for the help you have already given and I thank you
for the attention that you, I am sure, will give to it in the
weeks ahead.
Secretary LaHood. Yes, sir.
Chairman Conrad. Senator Sessions.
Senator Sessions. Mr. Secretary, just to push back a little
bit on this high-speed rail, the President wants it available
to 80 percent of the population. You talk about $53 billion,
but there is going to be hundreds of billions if anything like
that were to occur. And I would just note that in Tampa, to
Florida, the Governor there has rejected that after careful
review. I do not think he did that because he wanted to. I
think he did it because he felt it was not a defensible matter
economically.
Governor Kasich has rejected $385 million for a passenger
rail line, Cleveland to Cincinnati through Columbus, Dayton. I
am sure they have given great thought to that. It is their
State. I am sure there are people there that want to see the
free money from Washington.
You have Wisconsin, Governor Walker rejecting an $810
million connection. You have California with a high-speed rail
line to nowhere out in the desert, some $5.5 billion on that
project. In Minnesota, that plan has controversy, cost
concerns, and without the Wisconsin connection, it is probably
indefensible.
So I just want to say, what I am hearing about and what I
think most of us are hearing about is how to get across the
14th Street Bridge. I mean, there are traffic intersections and
problems and headaches all over cities and I just think we have
to be realistic. And we will have a tough debate about it, and
where it can be defended, I will acknowledge that. In some
areas of the Northeast, I think it probably can be. In some
other areas, it cannot be.
No. 2, would you look at a situation that I think is
systemic dealing with a two-lane intersection improvement in
Alabama. Two roads cross, two-lane roads, and they want to fix
the intersection and are told they have to have a NEPA review,
environmental review, for 30 miles on either side of that
intersection. And apparently, this is a systemic problem and I
was advised of it by my people yesterday and they asked me if
we could seek relief and I will followup in writing with you.
Secretary LaHood. Yes, sir. We will look at that.
Mr. Chairman, could I just respond to the high-speed rail?
Chairman Conrad. Sure.
Secretary LaHood. What we are pleased about, Senator
Sessions, is that 33 States and the District of Columbia have
accepted more than $11 billion because they believe in high-
speed inner-city rail. They believe in the President's vision.
I have talked to Governor Brown twice about high-speed rail,
Governor Jerry Brown of California. They are going to move
ahead with their project. Eventually, there will be a
connection to the so-called rail line that you claim is going
to dead-end somewhere.
I met with Governor Dayton of Minnesota when he was here
for the Governors' meeting. He came to my office. I spent an
hour with him. He is a very strong advocate of high-speed rail.
He asked for our cooperation and we are going to work with him
on that.
There are some Governors who, for whatever reasons, believe
that, at least in Ohio and Wisconsin, and we are going to hear
from the Governor of Florida tomorrow who is going to give us a
final decision on high-speed rail, but you are correct about
Ohio and Wisconsin. They have decided to go a different
direction. But that will not dissuade the other 33 States and
the District of Columbia from moving ahead with the investments
that we have provided and matched with a lot of local
resources. High-speed inner-city rail is coming to America
because that is what the people want.
Senator Sessions. Well, it may show in polling data, but
when the numbers become reality, the support is not so strong.
And I just would say we are going to have to look at that
closely and I have doubts, as these Governors have indicated.
It is hard to turn down free money from Washington, though. A
lot of States may find themselves lured into projects that end
up costing far more than they expected and doing far less than
they expected, so it is a matter of good debate. Thank you,
sir.
Secretary LaHood. Thank you.
Chairman Conrad. I thank the Senator.
Senator Coons.
Senator Coons. Thank you, Mr. Chairman, and thank you, Mr.
Secretary, for your passionate defense today of the important
infrastructure investments that are projected in this year's
budget. I think you have been a vital part of the
Administration. I think your vision for modernizing and
streamlining and investing in infrastructure around
transportation is critical.
I just want to ratify some comments that were made earlier.
My previous role was as a county executive. We made great use
of the Build America Bonds. They were well received by our
private sector community. We were able to create jobs with
them. I have already spoken with Senator Wyden and hope to
speak with Senator Thune. I will join them in whatever way they
can to try and move them forward. I think we need creative
financing mechanisms like an Infrastructure Bank. Some would
say that Delaware is the case study for tolling. We toll
everything. We probably collect more per mile of highway tolls
than any State in America.
On to high-speed rail, if I might. As our Vice President
did for so many years, as my senior Senator Carper does every
day, I commute almost every day by rail from my home in
Wilmington to Washington and am sold, and have been for years,
on the value of inner-city passenger rail, and in particular
the promise of high-speed rail. I think it will put people to
work. I think it will make us more competitive. I will join
Senator Whitehouse in saying, should the Governor of Florida be
so foolish as to turn back funds, please reprogram it as
swiftly as possible, and it is our hope that the Northeast
corridor will be highly competitive in that.
I understand that the FRA is leading a region-wide
Environmental Impact Study, and that EIS, the Environmental
Impact Statement, for high-speed rail in the Northeast corridor
has hit some snags, some delays, there are some challenges, and
that that may be part of why we are not seeing as much coming
to our region and to the Northeast corridor in funding as could
be.
Can you help me understand what I might be able to do, what
barriers you see in terms of moving that forward? What do we
need to do to get more investment in high-speed rail in the one
part of the country where there is already a corridor that
benefits from it daily?
Secretary LaHood. I think more than anything else, one of
the things that we are going to do is include Amtrak as a
potential applicant for high-speed rail money. I think we were
not able to do that earlier on and we think we can. I think
once that happens, I think there will be a lot more
opportunities on the Northeast corridor, frankly.
You know, one of the criticisms was that Amtrak was not
able to utilize this money and we feel there is a way now for
us to include them and we are going to do that, and I think
that will enhance the Northeast corridor's ability to really
step up and do some of the things that you and others have
provided leadership on. So I see that happening in the near
term.
Senator Coons. Thank you. If there is anything I can do to
be supportive of that move----
Secretary LaHood. Thank you.
Senator Coons [continuing]. I would welcome a chance to do
so.
I am also very concerned about the potential impact that
the House-passed Continuing Resolution would have on Amtrak
employment in my home State. I have been to the Bear and the
Wilmington shops repeatedly. They have high-quality employees.
I think they are critical to the mission of sustaining the
train sets that you have in service in Amtrak today and could
play a key role in high-speed rail in the future. My
understanding is the House-passed CR would cut 215 jobs in
Delaware. What is your sense of the impact on transportation
were we to, on the Senate side, pass the same level of cuts
that the House side has already----
Secretary LaHood. Well, I would recommend that the Senate
not do what the House did. I would say that. Amtrak is doing as
well as it has ever done in the history of Amtrak. They made
money last year.
Senator Coons. Yes.
Secretary LaHood. People like their service. They are
providing on-time service. They are providing good food. They
are providing a great form of transportation for people that
people can afford to use, and ridership on Amtrak is through
the roof. I know I am telling you everything you already know,
but--so this idea that you should cut something that is
successful is just, to me, not realistic.
This is one form of transportation that takes cars off the
road, provides clean, green transportation along a corridor
that is one of the most congested corridors in the country, and
to a company that now is making money, providing a good
service, and should be rewarded by having as many passengers as
they possibly can. Cutting their funding will not be helpful.
It will be hurtful.
Senator Coons. Can you tell me anything, Mr. Secretary,
about the status of Amtrak's application? They applied for an
RIF loan for their electric locomotives that would also help
them expand their fleet.
Secretary LaHood. Mm-hmm.
Senator Coons. What is the status of that?
Secretary LaHood. Well, we are working on that and we are
reviewing it and, you know, it is sort of in process.
Senator Coons. What I would like to do is work with you as
much as I could to make sure that Amtrak achieves the level of
service that I think they are capable of delivering, both with
the current train sets and with the next generation.
Secretary LaHood. Yes, sir. We will do that.
Senator Coons. Also, there are some substantial State of
Good Repair needs in the Northeast corridor, as you are well
aware. Some of them could fall under the System Preservation
account, some under Network Development. How do you see the
Northeast corridor fitting into this budget proposal and what
sorts of benefits or investments might there be in the----
Secretary LaHood. I am going to ask Chris Bertram, our
Budget Director, to give you the figures, but look, this
Department of Transportation is very high on Amtrak. We think
they have good management. We think they have a board that is
paying attention. We think they are providing a valuable
service. We think that the fact that ridership is up, that they
made money last year, is an indication, if you will pardon the
pun, they are on the right track.
Senator Coons. They are. They are. I am grateful to hear
that from you, Mr. Secretary.
Secretary LaHood. Could we just have Chris respond?
Senator Coons. Please. Absolutely.
Mr. Bertram. On the Northeast corridor for the State of
Good Repair projects, most of those would probably be eligible
under the new proposed System Preservation account, and then if
there were sort of capacity additions or extensions that Amtrak
would be interested in doing, they would be available under the
Network Development account.
Senator Coons. And do you think this budget provides
adequate capital financing for those sorts of improvements in
the corridor?
Mr. Bertram. Yes. There will be almost $4 billion available
for State of Good Repair, System Preservation type. Most of
those probably would be for Amtrak, which would be quite a bit
of an increase over 2010.
Senator Coons. One last concern I have. There is a
critical, oh, I think it is an eight-mile gap between Delaware
and Maryland where there are two rails rather than three and
there is a capital investment project that has already been
design engineered, applied for, and there is funding, but it is
not yet under construction. One of my concerns is that should
there be some agreement that leads to recisions of financing or
funding for projects like that, that there be particular
attention given to that.
The rail line congestion that exists between sort of
Baltimore and Philadelphia could be critically advanced by
finishing that rail that would allow then SEPTA and MARC to
connect. It would make a significant advancement in the sort of
variety of passenger rail systems that are accessible to our
general community so that Amtrak can do what it does best, be a
regional rail carrier, and then MARC and SEPTA can connect
right at the Newark train station.
I just want to say how grateful I am----
Secretary LaHood. Thank you.
Senator Coons [continuing]. For the energy, the focus, the
vigor you bring to this. It is difficult in other parts of the
country, I think, for folks to assess effectively just how much
high-speed rail can bring to them. I think we have a great work
force working for Amtrak, and literally every day, I can tell
you, you are right. They have better food, better service, more
on-time delivery of a great resource for America. So anything I
can do to work with you on rail, I would be grateful for a
chance to do so.
And Mr. Chairman, thank you for keeping the hearing open to
accommodate my floor speech on patent reform.
Secretary LaHood. Thank you for your leadership on this,
Senator. We appreciate it and we will work with you.
Senator Coons. Great. Thank you very much, Mr. Secretary.
Chairman Conrad. Thank you, and thanks, Senator Coons, for
coming back quickly so that we could not have a break in the
hearing.
Let me just conclude, if I could, on some of what I heard
from the committee on high-speed rail, because I hope
colleagues will think very carefully about the appropriate test
for whether or not high-speed rail should be supported in our
country.
If the test is, is it going to be in my State, I do not
think that is the right test. High-speed rail is probably not
going to be in my State. But I support high-speed rail because
I believe it is good for America. Look, I have things in my
State that are not in other States that get Federal support. I
have two of the largest Air Force bases in the country in my
State. They are not in other States. But my colleagues know
that those bases have value for America and so they support
them.
High-speed rail, it is very clear to me, has value for
America, and we are all part of Team America. When I look at
what Team Japan is doing, they have high-speed rail. I have
ridden on it. I think it goes nearly 200 miles an hour. I have
been on high-speed rail in Russia, a train that went almost 200
miles an hour. We see what is happening all across Europe with
high-speed rail. If America is not to fall behind, if we are
going to be competitive, we are going to have to have high-
speed rail, and I believe it is one of those investments that
actually will pay dividends in terms of the competitiveness of
our country, in terms of attracting tourists to America.
And by the way, I have thousands of people from my State,
my little State of North Dakota, who come and ride the rail
that is outside of my State. I have people who ride the Metro
system here in Washington. Thousands of people from North
Dakota have come here every year and ride Metro and ride the
Northeast corridor rail.
So we are not the individual States of America. We are the
United States of America, and if we are going to be strong, I
do not think the best can be, it has to be in my State or I am
not going to support its funding. I think the test has to be,
is it good for the country. I think we have to apply the
additional test now, is it being paid for, because we cannot
just add to the charge card when we are borrowing 40 cents of
every dollar we spend.
And the hard reality is when we look at the spending of the
country today as a share of the GDP, it is the highest it has
been in 60 years. The revenue as a share of GDP is the lowest
it has been in 60 years. So both sides of that equation are
going to have to be worked, but we cannot forget the
fundamentals of economic strength and growth. And if we are not
investing in infrastructure in America, we are making a big,
big mistake.
Mr. Secretary, I want to end as I began. I think you are
exceptional.
Secretary LaHood. Thank you.
Chairman Conrad. I have rarely seen a witness who is better
prepared or does a better job of defending his position than
you do, and I just want to thank you for the leadership you
have provided.
Secretary LaHood. Thank you, sir. Thank you for your
leadership.
Chairman Conrad. We will stand adjourned.
[Whereupon, at 11:52 a.m., the committee was adjourned.]
THE REPORT OF THE NATIONAL COMMISSION ON FISCAL RESPONSIBILITY AND
REFORM
----------
TUESDAY, MARCH 8, 2011
U.S. Senate,
Committee on the Budget,
Washington, DC.
The Committee met, pursuant to notice, at 10:03 a.m., in
room SD-608, Dirksen Senate Office Building, Hon. Kent Conrad,
Chairman of the Committee, presiding.
Present: Senators Conrad, Wyden, Nelson, Cardin, Sanders,
Whitehouse, Warner, Merkley, Coons, Sessions, Enzi, Crapo,
Graham, Thune, Portman, Toomey, and Johnson.
Staff present: Mary Ann Naylor, Majority Staff Director;
and Marcus Peacock, Minority Staff Director.
OPENING STATEMENT OF CHAIRMAN CONRAD
Chairman Conrad. The hearing will come to order.
I want to welcome everyone to the Senate Budget Committee
today. I particularly want to welcome our two distinguished
witnesses today: Erskine Bowles and Senator Alan Simpson, the
Co-Chairs of the President's National Commission on Fiscal
Responsibility and Reform. Our hearing today will focus on the
Commission's plan and how it would address the Nation's long-
term debt crisis.
I want to begin by thanking Erskine and Alan for the really
outstanding job they did leading the Fiscal Commission. We
never would have accomplished as much if it would not have been
for their extraordinarily gifted and determined efforts. They
made a significant personal sacrifice to come back to
Washington to lead this Commission, and we owe them deep
gratitude. I believe when the history of this period is
written, their names will ring out as being leaders at getting
the country back on track.
I also want to thank them for starting the Moment of Truth
Project, which they are launching today to continue pushing for
a bipartisan solution to the debt threat that we confront. The
Fiscal Commission succeeded in putting this issue in the
national spotlight. There is now a growing consensus on the
need to act, and the Commission provided a bipartisan road map
for moving forward.
Now, I believe we need to seize this opportunity. I believe
we need to act this year. And that is why I have been part of a
bipartisan group of Senators who are trying to turn the essence
of the Fiscal Commission's plan into legislation. If we can
reach some kind of bipartisan agreement in the Senate, we hope
it will provide more momentum to move toward a broad agreement
this year.
Here is what Admiral Mullen, the Chairman of the Joint
Chiefs, said about the debt threat: ``Our national debt is our
biggest national security threat.'' That is coming from the
Chairman of the Joint Chiefs of Staff.
Make no mistake. We are at a critical juncture. We are
borrowing about 40 cents of every dollar that we spend.
Spending as a share of our national income is the highest it
has been in 60 years. The revenue as a share of our national
income is the lowest it has been in 60 years. No wonder we have
record deficits.
If we look at the gross debt as a share of the economy, we
see that it will reach 100 percent this year, well above the
90-percent threshold that many economists regard as the danger
zone. Two of our Nation's leading economists, Carmen Reinhart
and Kenneth Rogoff, studied the impact of debt on economies.
They looked over a 200-year span at 44 countries, and this is
their conclusion: ``We examined the experience of 44 countries
spanning up to two centuries of data on central government
debt, inflation, and growth. Our main finding is that across
both advanced countries and emerging markets, high debt/GDP
levels''--above 90 percent gross debt to GDP--those levels
``are associated with notably lower growth outcomes.'' So if
people wonder what this is about, this is about our economic
future. This is about opportunity, this is about jobs, this is
about the economic strength of the Nation.
This is not just about numbers on a page. This is not just
about bar charts showing deficits and debt. This is about the
economic future of America. And the conclusion of the Reinhart-
Rogoff study is that when you get a gross debt above 90 percent
of GDP, your future economic prospects are compromised, are
reduced, and reduced substantially. That is why this matters.
I believe the only way we are going to solve the Nation's
long-term fiscal imbalance is by enacting a comprehensive debt
reduction plan. We need a plan of the size and scope of what
was proposed by the President's Fiscal Commission. The proposal
would reduce the debt by $4 trillion over the next decade. It
would put us on a course to get the debt stabilized and then
brought down as a share of GDP so that we would be in a
position to handle future shocks that none of us can
anticipate.
I believe a plan like the Commission plan must include
spending cuts, entitlement changes, and fundamental tax reform
that simplifies the Tax Code, lowers rates, and raises more
revenue. The Commission plan provided such a balanced approach.
Its savings come roughly equally from non-defense
discretionary, defense discretionary, mandatory spending, and
revenue. It is worth emphasizing that savings from Social
Security reforms in the Commission plan are used only--and I
emphasize ``only''--to extend the program's solvency, not for
debt reduction.
If there is one message I would like to get out there as
clearly as I can, the savings in Social Security were
redirected to Social Security to extend its solvency, not for
debt reduction.
This chart highlights the key elements of the tax reform
included in the plan. The plan eliminates or scales back tax
expenditures and lowers tax rates. And, by the way, tax
expenditures are now running over $1.1 trillion a year. Tax
expenditures are as big as all of regular--that is, non-war
related--discretionary spending. And it makes the Tax Code more
progressive. It promotes economic growth and improve America's
global competitiveness. If we are going to reform the Tax Code,
one thing we have to have in mind is the competitive position
of the United States. We are no longer so dominant that we do
not have to worry about the effect of our Tax Code on the
competitive position of the United States.
Notably, the Commission's report included an illustrative
tax reform plan that demonstrates how eliminating or scaling
back tax expenditures can actually lower rates and produce more
revenue. Instead of six tax brackets for individuals, the
illustrative plan included just three brackets of 12, 22, and
28 percent. The corporate rate would be reduced from 35 to 28.
Capital gains and dividends would be taxed as ordinary income.
The mortgage interest and charitable deductions would be
reformed, better targeting their benefits. The child tax credit
and earned income tax credit would be retained to help working
families. And the alternative minimum tax would be repealed.
The Commission's plan also increases revenue to 21 percent
of GDP by 2022 and over time actually balances the budget. That
is the kind of tax reform we will need to adopt. That along
with the spending reductions and the entitlement reforms are
what is required to actually succeed.
Let me just conclude by showing the different paths forward
of the various plans. You can see the course that we are on is
going to take us to a debt-to-GDP--and this is publicly held
debt now, not gross debt; publicly held debt of 233 percent of
GDP on the current course. The Ryan road map takes us to a
place I do not think we want to go because that is over 90
percent of GDP for publicly held debt. On a gross debt basis,
that would be higher.
The plan by the Commission takes us to publicly held debt
of 30 percent of GDP. On a gross debt basis, that would be even
higher. That is to me a responsible target, one which would
allow us to handle any future shocks that we might experience
as a Nation.
So that is why we went a little further than just
stabilizing the debt. We actually brought it down markedly as a
share of the economy so that we could handle future shocks.
With that, I am going to turn to my excellent colleague
Senator Sessions for any opening statement that he wants to
make, and then we will go to the witnesses.
OPENING STATEMENT OF SENATOR SESSIONS
Senator Sessions. Thank you, Mr. Chairman, for those wise
remarks and our challenge to us all.
Senator Simpson and Mr. Bowles, thank you for appearing
before us and for your very successful report that in a mature,
wise, and indisputable fashion affirmed the growing consensus
that our Nation is on an unsustainable path of surging debt.
We live in an ordered universe, and the laws of finance are
as immutable as the laws of gravity. Nothing comes from
nothing. Government debts have the same kind of consequences
that individual family debt does. Deficits do matter. They
always have and always will. Too much debt has always brought
destruction, and it always will.
But some of our great minds have thought they knew better.
They mock the green eyeshade folks who worry about debt until,
of course, the wolf is at the door, and then they say, well, we
did not mean that much debt. Now our financial masters say it
is all Congress' fault, and it is a lot of Congress' fault; but
you have to clean it up, Congress. And we do. But do not be too
quick, be careful, do not go too far, do it just right. For
sure do not take any action that might affect my investments or
my program or my interests that are there. It is the other
programs that are wasteful, not mine.
Your Commission rose above that. For the most part, it was
not without compromise. Your recommendations I think should
have gone even further. But it was a bipartisan effort, and it
left no doubt that our debt problem is not imaginary but very
real, even immediate.
When former Chairman of the Federal Reserve Alan Greenspan
told the Wall Street Journal a few weeks ago that our Nation
has a little better than a 50/50 chance to avoid a debt crisis
in 2 to 3 years, surely we can take the hint that something
serious must be done. And Moody's said in December that--
warning us that they could downgrade our debt in less than 2
years if we do not take action. So the Nation and much of the
world is in a serious financial fix.
If you read the comments of Wall Street, the fear there is
real. Anger is real among the Wall Street people. Their words
combine concern for our Nation's future and short-term self-
interest. But our best path I think calls on us to--some of our
best people, I would say, are producing contradictory ideas for
action, and it is causing some confusion. You have helped us
cut through that confusion, in my view.
So the House proposes meaningful spending reductions.
Meanwhile, the President continues to advance his investment
agenda, declaring against plain fact that his budget calls for
us to live within our means and to begin paying down our debt.
What world are they living in? Are we now through the looking
glass, a post-modern world where words have lost all meaning?
If so, our beloved Nation is in greater danger than many think.
But I do not think so.
The American people get it. We can do this. This is not
impossible. Leadership at this time is most precious and in
short supply. It seems to me that when confusion, uncertainty,
hard times, even fear abound that good leadership like your
report should call us to return to the tried and true--first
principles, the old verities. We are vigorous, healthy people.
We can accept the truth and get on with fixing problems. The
people know, if not the intelligentsia, the bubblized folks in
Washington, that the right road will be difficult for a while,
but that it will lead to prosperity and progress and preserve
our great heritage of freedom and limited Government. The
current road just leads to debt and decline.
The first old verity is to start telling the truth, and the
truth is this budget we have been presented does not live
within our means, but instead doubles the entire gross debt of
the United States from $13 trillion to $26 trillion by the end
of the decade. It assumes no recession, low interest rates, and
no new war or military conflict. It cannot stand. It will not
stand.
For the time and effort you have given this cause, we are
much obliged. You have worked hard, given us clear picture of
the danger we face and the methods available to overcome that
danger. Your Nation is once again grateful for your service.
Thank you.
Chairman Conrad. Thank you so much, Senator Sessions.
We will now turn to our witnesses: Erskine Bowles, Alan
Simpson, two people of real courage and character. And I would
say to other members, including Senator Crapo who served on the
Commission, as did I. The leadership of these two was really
textbook. It could not have been done better. And at the end of
the day 11 of the 18 members endorsed the findings--five
Democrats, five Republicans, and one Independent. That is about
as bipartisan as it can be. And so welcome to the Budget
Committee. Thank you for your leadership. I do not know who
wants to go first.
Senator Simpson, welcome.
STATEMENT OF THE HONORABLE ALAN SIMPSON, CO-CHAIR, NATIONAL
COMMISSION ON FISCAL RESPONSIBILITY AND REFORM
Mr. Simpson. Thank you very much, old friend, and Senator
Conrad and Senator Sessions. Thank you for your remarks. Thank
you for, again, explaining it through those wonderful charts
that we have been watching for many months. You have been very
helpful, and you are very informative. And it is a great honor
and privilege to be here, to be in this chamber, in these
offices, this Capitol, and not be always inspired by the
democratic experience. If that feeling ever leaves any of you,
you want to leave. And it is a great forum.
Erskine and I have left our witness protection program. We
make sporadic appearances in various locations, as is today,
and the people are waiting for us to go back into sequester
when we leave.
Let me just say this: It is a treat to look around this
room and see friends of both parties that I thoroughly enjoyed
when I was here. And over there is Mike Enzi. He replaced me,
and people said, ``Thank God'' that he did that.
[Laughter.]
Mr. Simpson. It was a selfless effort. And he is an old and
dear friend, and he and Diana are very dear friends. And this
cat over here, Portman, was a staffer when I was on the Select
Commission on Immigration and Refugee Policy. Now look at him:
suave, a piece of work. Rob Portman, as I say, Ron over there,
Bill, I worked with all of them.
But on with the business. I know that it is 5 minutes or
something like that.
This forum is where the most frustrating and irritating and
cumbersome and sometimes sloppy work of legislating is
performed. As an old cowboy said, ``It ain't pretty.'' But as
another Western rustic said, ``If you hire on to be a cowboy
and you draw a bucking bronco, you cannot complain.'' And
Erskine and I drew that critter. And he is a splendid man. He
is a remarkable man, a creative and positive fellow with great
integrity and an absolute joy to work with. And we have
thoroughly enjoyed our time together, and work is what we do.
We do work together.
Folks say to us, ``Why are you doing this?'' And we say,
``We have 14 reasons.'' He has eight grandchildren and I have
six. It cannot be simplified any more than that. That is where
this is. It is about my grandchildren and yours. It is not
about us.
It all started for me when I got this cheerful call from
Joe Biden in January. He said, ``Al, I got a real deal for
you.'' I said, ``Thank you, Joe. Let me get Ann on the phone so
she can laugh along with me so that we can get out of this.''
He said, ``No, no. Listen.'' Joe and I worked together on many,
many things when we were here together.
And so I said, ``Well, who is the Co-Chair?'' And they
said, ``Erskine Bowles.'' The first call I get is from
Elizabeth Dole and Bob, my Leader. I was the Assistant Majority
and Minority Leader. You need to serve in both of those
capacities. It is very helpful in legislating if you are in the
minority for a while and you are in the majority for a while.
It kind of sobers you up.
Anyway, the Doles called and said, ``This is one of the
finest men we have ever worked with.'' And so it is, and so it
came to pass. But let me tell you, it took us 3 months on this
Commission to establish trust. Just plain trust. Trust used to
be the coin of the realm around here. Let me tell you, the coin
of trust is severely tarnished in this place, which is very
sad. I worked with so many on the other side of the aisle,
Kennedy and Pryor and Bradley and Bumpers, and Levin, who is
still here. Dear Carl and I came here together. And we trusted
each other, and I hope that that can come back. It came back in
our Commission, and once we got through the initial hammering,
which was who was the biggest spending President in the history
of the world: George W. Bush, 6-12 years, never vetoed a single
spending bill. Then this other side would say, yes, but your
guy has outdone him 3:1. Finally, Erskine and I said, ``Look,
we will just do a two-man report. It will just be the two of
us, and it will not be mush.'' Too much stuff comes out of here
which is much.
So off we went, and as they came around, a remarkable group
of five Democrats, five Republicans, one Independent--Mike
there was on it and, of course, the Chairman. But 60 percent of
the Commission bought this. That is pretty good; 60 percent is
kind of the big number around this place. It fits well with the
filibuster activities, the magic number.
When we go around the country, we just tell people--I do
not use charts. This is the numbers guy. You are going to hear
from him. And if you have any numbers or percentages that you
wish to probe, this is your man. I do the color, he does the
numbers. And it works so far. We still do things together if we
can.
Now, I have one more minute. I yield to myself one other,
whatever we did there.
What I tell people is very simple, and people in America
are way ahead of all of you. They know what is going on because
when you say, ``Why don't you go back and think what people are
doing at their kitchen table?'' I will tell you what they are
doing at their kitchen table. They know that if you spend more
than you earn, you lose your butt, and they know that if you
spend a buck and borrow 40 cents of it, you must be stupid. And
they have it figured out that this Government is stupid, to
borrow 40 cents for every buck you spend. Forget the charts,
forget the GDP and all the rest of it. That is where we are.
The tipping point--I do not know where the tipping point
is. Erskine and I would take questions on that. But Durbin kept
asking. Give Senator Durbin the Medal of Honor. He stepped
right in here, and at the end of his vote, he said his son
called him and said, ``Thanks, Pop,'' because that is what this
is about.
So, anyway, the tipping point, I do not know where it is,
but at some point it comes when those people that hold our
paper say, ``We thought these guys had the guts to attack
Medicare, Medicaid, the solvency of Social Security.'' Do not
swallow this business that we are balancing the budget on the
backs of poor old Social Security people. That is a fake. It is
a phony. It is wrong. It is untrue. We are doing it so it will
have its own solvency, and your chart showed it.
So I just want to give you a couple of quotes--and let me
just say about Social Security. Do not throw anything. There
are people out here. I get that. I have a lot of e-mails that
are choice and that I will hope never get into the public
venue. Social Security is not a retirement. It was never
intended as a retirement. It was an income supplement after the
Depression. The average age of life was 63, and that is why
they set the retirement age at 65--the beginning of the
greatest Ponzi of all time.
Now the life expectancy is 77. There were 16 people paying
into this system when I was at the University of Wyoming and
one taking out. Then there were 10 paying in. Today there are
three people paying in and one taking out. And in 10 years,
there will be two people paying in and one taking out. How long
do you think that kind of thing can be sustained? And the money
has not been stolen by you greedy people. It is all choice
stuff, highly--lots of frills and prints on the side, paper. It
is paper. They were not going to leave that kind of cash, nor
did President Roosevelt want it. That is why the statute said
you could get in there and give full faith and credit to take
it out.
So, anyway, if you have to go through the myth and the
anguish, just remember everything in this place, it was my
experience, sadly, that you have to use facts, because you are
going to have to beat back emotion, fear, guilt, and racism.
Everything I touched was filled with emotion, fear, guilt, or
racism, used a death blend either way to get it done or kill
it.
Two quotes, and then I will turn it over to the numbers
guy.
Cicero--boy, here is a crazy guy--said in 55 B.C.: ``The
budget should be balanced, the treasury should be refilled,
public debt should be reduced, the arrogance of officialdom
should be tempered and controlled, and assistance to foreign
lands should be curtailed lest Rome become bankrupt.''
Here is what Abe Lincoln said as a young man: ``At what
point then is the approach of danger to be expected? I answer,
if it ever reach us, it must spring up amongst us....If
destruction be our lot, we must ourselves be its author and
finisher. As a nation of freemen, we must live through all
time, or die by suicide.''
And, finally, I do not know where this little baby came up,
so I do not want any copyright infringement on it. ``Gold is
the money of kings; silver is the money of gentlemen; barter is
the money of peasants; but debt is the money of slaves.'' Go
look at Alexander Hamilton. Go look at his statue. Look at what
it says on there. Everything this country has meant had to do
with getting rid of its debt. And, boy, here is your handful.
So God bless you.
[The prepared statement of Mr. Simpson and Erskine Bowles
follows:]
Chairman Conrad. Thank you, Senator Simpson.
Erskine Bowles, good to have you here.
STATEMENT OF THE HONORABLE ERSKINE BOWLES, CO-CHAIR, NATIONAL
COMMISSION ON FISCAL RESPONSIBILITY AND REFORM
Mr. Bowles. Thank you, sir. I spent a long time trying to
get here. I sometimes thank God for unanswered prayers.
[Laughter.]
Mr. Bowles. I want to thank Senator Conrad, and he is not
here but Senator Gregg. Without their leadership none of us
would be here today to talk about this, so I thank you for
having the courage, you and the group that stood up some years
ago and said we are not going forward unless we have some
Commission to deal with this. It simply would not have happened
without you.
Senator Sessions, thank you for meeting with us this
morning and thank you for your kind words.
I also want to thank Senator Crapo, Senator Coburn, and
Senator Durbin for having the courage to support what is a
politically very, very difficult plan to support. And I want to
thank Senators Warner and Chambliss for your yeoman's work in
trying to turn what is a 67-page plan in plain English into
legislative language and bring together a bipartisan group to
make this happen.
I am not going to use any notes today. I am just going to
talk to you. And I am really concerned. I think we face the
most predictable economic crisis in history. A lot of us
sitting in this room did not see this last crisis as it came
upon us, but this one is really easy to see. The fiscal path we
are on today is simply not sustainable. This debt and these
deficits that we are incurring on an annual basis are like a
cancer, and they are truly going to destroy this country from
within unless we have the common sense to do something about
it.
I was with former Senator Kerrey, Bob Kerrey, about a year
ago exactly, and he said, ``Erskine, look at the Nation's
current income statement, and let me tell you what you will
see. You will see that 100 percent of the revenues that this
Nation produces today are being consumed by our mandatory
spending and the interest on the debt.'' That means that every
single dollar that we spend today on these two wars, on our
military, on national security, on homeland security, on
education, on infrastructure, on high-value-added research is
borrowed, and half of that is borrowed from foreign countries.
That is a formula for failure. And if we do nothing, if we just
take the ostrich theory in this room, then we will be spending
$1 trillion a year in interest costs alone by the year 2020.
Think about that. That is $1 trillion that will not educate
our children. It is $1 trillion that will not build a highway
or will not bring broadband infrastructure to rural South
Carolina. That is $1 trillion that will not create the next new
thing in this country. It is $1 trillion that is going to
create the next new thing somewhere over there from the people
we are borrowing money from. It is crazy.
And this is not a problem we can grow our way out of. You
could have double-digit growth for the next two decades and not
solve this problem. So do not think we can grow our way out of
it.
And this is not a problem we can tax our way out of.
Raising taxes does not do a darn thing to slow the rate of
growth of health care or to change the demographics of the
country. And, in fact, if you want to try to solve this with
just taxes, you will have to raise the highest marginal rate to
around 70 percent, the corporate rate to 80 percent, the
capital gains and dividends rate to 50 percent. And what kind
of country will we have? You are not going to have any
businesses started or businesses growing with that kind of tax
structure. So we cannot simply tax our way out.
And we cannot simply cut our way out of this problem. You
know, when I see people go on the Sunday shows and they say,
``Oh, look, we are going to cut our way out of this problem,
but we are not going to touch Medicare and we are not going to
deal with Medicaid and we are not going to mess with Social
Security, and for sure we have to stay safe and secure so we
are not taking a dollar out of difference, and, oh, by the way,
we have to pay the interest on the debt--well, you know, if we
exclude all those things, you have to cut everything else by 65
to 75 percent. That is not going to happen. That is not a
realistic world.
So what Al and I tried to do was to present a realistic
plan, a balanced plan, a plan that turned out to be a
bipartisan plan. And it is based on six basic principles.
The first is we did not want to do anything that would
disrupt a very fragile economic recovery, and the economy is in
a recovery. This growth is real today. But, boy, we can lose it
and lose it quickly.
So when we looked at cutting spending, as Senator Crapo
knows, most of our spending cuts come in 2013. That is where we
get back to 2008 levels in real terms to the pre-crisis level,
which I believe we can do.
Now, I expect that the Republicans will be for getting back
to 2008 levels in 2012. We simply were afraid to do that
because we did not want to disrupt what is a very fragile
economic recovery. We have real cuts in 2012, but we get back
to 2008 levels in real terms in 2013.
Second principle, we did not want to do anything that would
harm the truly disadvantaged, and that is why if you look at
the cuts we made in mandatory spending, we did not touch things
like food stamps or unemployment or SSI. We left that off the
table, the income supplement plans. And when you look at
Medicare, we did a couple of things that made our job more
difficult. We increased the minimum payment up to 125 percent
of poverty to protect the truly disadvantaged, and we gave that
1-percent bump-up a year to what is called the ``older old,''
people between 81 and 86. Both of those cost money, and in our
plan we paid for that. But we wanted to do the right thing. And
when we, yes, raised the retirement age, we did put in a
hardship provision to protect those people that had those back-
breaking jobs, those manual labor jobs, that really cannot work
as long as we raised the retirement age. So we really did--our
second principle, we tried to protect the truly disadvantaged.
Third, we do want to keep this country safe and secure.
Now, I am not personally one that believes we can afford to be
the world's policeman. But I will put it in more basic terms. I
do not think this country can afford to spend more on national
defense than the next 14 largest countries combined--and have
enough money to invest in education, infrastructure, and high-
value research, which we have to do in order to be competitive
in a knowledge-based global economy that we all compete in
today.
Fourthly, I do think we have to make these investments in
education, infrastructure, and high-value-added research. It
does not mean we have to spend money willy nilly. I just
finished 5 years as president of the University of North
Carolina. It is a 17-university system, and so I saw where some
of your research dollars go. Today we have 375,000 research
projects that you all are funding on 3,000 separate university
campuses. Now, all of that is not great research. Some of it
keeps us from going down a lane and, you know, it ends up
dying, but it is good research because it keeps you from making
a bad decision. And some of it actually ends up in something
that is great. But some of it is not high-value research. In a
time of limited resources, we have to spend our money more
wisely.
Fifth, for God's sake, let us reform the Tax Code. The Tax
Code is archaic. It was created when America dominated the
world. We live in a global economy today. You saw it every day
when you were at USTR. It is a fact. What we proposed was
broadening the base, simplifying the Code, eliminating or
greatly reducing these tax expenditures, bringing down rates,
and using some money to reduce the deficit.
We went to what is called a ``zero-based plan,'' and if you
eliminate all of these $1.1 trillion worth of tax
expenditures--I call them ``tax earmarks.'' You all have been
so bold to get rid of the $16 billion of earmarks in the
spending part of the budget. But we have $1.1 trillion that we
are spending in the Tax Code, and it is just spending by
another name. But if you eliminate those, you could actually
take rates to 8 percent up to $70,000, 14 percent up to
$210,000, and a maximum rate of 23 percent, you could take the
corporate rate to 26 percent, and you could go to a territorial
system which will bring all of those trillions of dollars or
billions of dollars back to the country that are captured
overseas and create jobs over here. So I hope we will reform
the Tax Code.
Last, we, too, have to cut spending, and we have to cut
spending wherever we find it. We cannot just deal with domestic
discretionary spending. You know, the Democrats, as near as I
can tell from reading the paper or talking about cuts of $10.5
billion in discretionary spending and the Republicans are
basically talking about $61 billion worth of cuts. Well, let me
tell you something. Sixty-one billion dollars out of a $3.7
trillion budget is 1.6 percent. I can cut my budget 1.6 percent
tonight, by tomorrow morning. I took $625 million out of a $3
billion budget at the University of North Carolina. The 1.6
percent is nothing. The problem is that you all are focusing on
taking 1.6 percent out of a very narrow part of a budget, out
of 12 percent of a budget, so some of the cuts are having a
disproportionately adverse effect on certain groups of people.
But if you are talking about the gross amount of $61 billion,
hey, it is nothing. You know, we take $1.7 trillion out of
discretionary spending, we take $430 billion out of health care
spending, we take $215 billion out of other mandatory spending,
and we get Social Security solvent for 75 years. Our plan
reduces the deficit by $4 trillion. It takes the debt-to-GDP
ratio to 65 percent by 2020 and to 60 percent by 2023. It cuts
the deficit in half by 2015 to 2.3 percent of GDP. The
President asked us to get to 3 percent of GDP. And it takes us
to 1.2 percent of GDP by 2020 and eventually to balance.
I came here today simply to ask you to act. I know these
cuts are politically difficult, but this is not a decision we
can postpone. We have to act and we have to act now. And if we
do, the future of this country has never been brighter. We can
compete with anybody. But we have to get our fiscal house in
order.
Thank you, Mr. Chairman, for allowing me to come.
Chairman Conrad. Thank you. I think you have made the case
about as clearly and persuasively as it can be made. And I want
to thank you both for, again, the leadership that you have
provided.
Let me ask you this: What happens if this does not get
done? In other words, Erskine--and I did not give all the bona
fides of Erskine Bowles when I introduced him, but this is a
man who was Chief of Staff to the President of the United
States, headed the Small Business Administration, has been the
administrator for the college system, the university system in
the State of North Carolina. A pretty good set of bona fides.
And at every place he has served, he has produced results.
Let me ask it again. So what happens in your judgment to
the United States if we fail to get an agreement in the range
of what the Commission concluded was necessary?
Mr. Bowles. Hearing what he said about me reminds me of
when my Uncle Sam died in North Carolina, and the obituary
editor of the Greensboro Daily News called up to ask about him.
And my aunt kind of went on and on about all the things he had
done, and finally he said, ``Now, Mrs. Bowles, you do know we
now charge $5 a word for every word we put in the paper.'' She
said, ``Oh, no, no. I did not know that.'' She said, ``In that
case just put in there `Sam died.' ''
[Laughter.]
Mr. Simpson. I thought you were going to say the one about
look in the casket and see if that really is your old man.
[Laughter.]
Mr. Bowles. You know, Al said and I used to say that I got
into this thing for my grandchildren. I have eight
grandchildren under 5 years old. I will have one more in a
week. And my life is wonderful and it is wild. But this problem
is going to happen long before my grandchildren grow up. This
problem is going to happen like the former Chairman of the Fed
said or Moody's said, this is a problem we are going to have to
face up to. It may be 2 years, you know, it may be a little
less, it may be a little more. But if our bankers over there in
Asia begin to believe that we are not going to be solid on our
debt, that we are not going to be able to meet our obligations,
just stop and think for a minute what happens if they just stop
buying our debt. What happens to interest rates? And what
happens to the U.S. economy?
The markets will absolutely devastate us if we do not step
up to this problem. The problem is real, the solutions are
painful, and we have to act.
Chairman Conrad. Alan, do you want to add to that?
Mr. Simpson. I would just say--and I know it is
repetitive--if you can understand here what the people of
America--as we travel around and we do stuff, we go to the
business councils, we go to the conservative group in Dallas,
the policy institutes, the Panetta Institute, the Economic Club
of New York, and wherever we go people get it. And then we tell
them that if they just draw, pick, go to the Internet and go
www.fiscalcommission.gov, it is 67 pages. If we leave that out,
they will never read it, you see, because they will say, oh, my
God, they worked for a year, must be as high as this box. It is
not. And it was not written for pedants or politicians or
panderers. It was written for the American people, and I uses
terms like ``going broke'' and ``shared sacrifice.''
Let me tell you what was stunning for us. There has never
been any sacrifice required of the American people since World
War II--except for our military, God bless them, and that is
the sacrifice. And they chose to do it. They are volunteers.
And so when someone says, well, you cannot use that word,
well, the American people are using that word. It is called
``shared sacrifice.'' And it is a puzzling thing. It is the
right and the left. They are not involved in social issues
deeply. Now this has risen to No. 1: jobs, very important, and
this No. 1 or No. 2 is the debt. They understand debt, because
in their own home they have been wiped out by debt.
The first thing that anyone did during this crash that had
any brains at all was to gather their loved ones around and
say, ``We have to get out of debt.'' That is first. And you
know my wife, Ann, and Lucy has saved you many times. She said,
``Pay it off, Al. You guys from Cody are on credit cards. In
Grable, we paid cash.'' So I said, ``OK, it is a deal.''
I think it will come before 2 years. I think that when the
people that hold this paper look around and all you have done
is cut waste, fraud, and abuse, foreign aid, Air Force One,
Pelosi's aircraft, and all this and Congress pay, that they
know that you did not get anywhere. You got to 5 or 6 percent
of the whole, and they are going to say, ``You did not do it.''
And then, of course, when the debt limit extension comes up,
you have about 85 guys over there saying, ``Hey, I am never
voting for that under any circumstances.'' And they say, ``Wait
a minute,'' and then you will hear the cracking of knuckles and
elbows as they say, ``If you do not do this, you are going to
impair the full faith and credit of the U.S. and might even
have to shut the Government.'' And some of them are going to
say, ``That is why I came here.'' And at that point, there will
be a sound of bone against flesh. But at that point, too, if
they--I cannot imagine shutting the Government. Our party tried
that once. It was just about the biggest disaster that I have
ever seen.
So I am just saying that at some point, I think within a
year, at the end of the year if they just thought we were
playing with fluff, 5, 6, 7 percent of this whole, they are
going to say, ``I want some money for my paper.'' And if there
is anything money guys love, it is money. And the money guys,
when they start losing money, panic. And let me tell you, they
will and it will not matter what the Government does. They will
say, ``I want my money. I have a better place for it.'' Who
knows? Stabilize the euro, do this, do that, whatever. I am
just saying, to me it will not be a year.
Mr. Bowles. You know, I do not see how we cannot face up to
it. You showed a chart, Senator Conrad, from Admiral Mullen.
Admiral Mullen says it is our greatest national security
problem. Think about that. You know, if you believe in
investing in education and infrastructure and high-value
research to be competitive in today's global marketplace, if
you do not want those people creating that next new thing over
there but creating it over here, there is not going to be any
money for it. And if you are a business guy like me, you know,
small businesses cannot grow and cannot create jobs without
money. And, you know, they will be starved for capital if this
budget continues to grow as it is today.
Chairman Conrad. Thank you. My time has expired.
Let me just say we are going to go to 5-minute rounds, make
an exception for Senator Sessions, but 5-minute rounds because
of the number of people we have.
Senator Sessions. Well, the remarks you have just made are
very sobering. It goes beyond the academic or theoretical to a
warning of an immediate and dangerous threat that is before us.
The language you used in your written statement, I noticed that
it was pretty stark, and you used it, Mr. Bowles: ``We believe
that if we do not take decisive action, our Nation faces the
most predictable crisis in history.''
And I really, I cannot dispute that. The more I read about
it, the more I believe that is true, and, therefore, I believe
we need to take action.
Let me ask you to just share with us your thoughts about
the President's budget, if you have had a chance to see it and
if you think that is sufficiently decisive to alter the
trajectory we are on.
Mr. Bowles. I guess you want me to do that.
Mr. Simpson. I do, I do.
Mr. Bowles. The president's budget, I think, on the
domestic discretionary spending does a pretty good job if you
look at it over an 8-year period. It has some gaps in it, like
they talk about investing in transportation, but they do not
tell you how they are going to pay for it. We said you have
even got to cut transportation spending back to the level of
income coming in, or if you are going to spend to the level you
are today, then we proposed a 15-cent gas tax to pay for it.
Your choice.
The total deficit reduction in the President's plan is
somewhere between $1 and $2 billion. It is hard to tell. We
propose $4 billion worth of cuts, so it was much less than what
we proposed.
Chairman Conrad. Trillion.
Mr. Bowles. Trillion, excuse me. And I think that is about
the minimum amount that should be done.
If you look at health care, we cut health care spending by
$430 billion. His budget cuts it by $310 billion, but only $50
billion of that is specifics; the other is $250 billion worth
of unnamed cuts. But I do not know where it is coming from. We
did say how we would pay for all $430 billion of our cuts.
On other mandatory spending, we had about a $215 billion
cut or 11.2 percent over that time period. In his cuts, he has
about $60 billion for waste, fraud, and abuse, and we could not
find anybody who could support more than $20 billion for that.
So I do not know where that other $40 billion is going to come
from.
On Social Security, we have a real plan that leads to 75-
year solvency, and they talk about us doing something for
solvency and also making sure that we up the minimum payment
and we protect the basic payment and we get it solvent in the
long run. And, of course, our plan does exactly that.
And on revenue, they, too, eliminate some tax expenditures,
but they spend the money that they create by eliminating those
tax expenditures. We take those tax expenditures, and the vast
majority of it we use to reduce rates and to lower the deficit.
So the overall effect of the President's plan I think falls
short of what the country needs to do right now.
Now, I think the President has done a lot of good things. I
think appointing this Commission was a bold step. I think in
the State of the Union he showed us a little leg of some of the
things he would cut. I think in the budget he went a little bit
further. My hope is that he will show strong support to what
Senators Chambliss and Warner are now trying to do. But we have
to do more, and it is going to take the leadership of both
Houses of Congress; it is going to take it from both parties;
and it is going to take it from the President.
Senator Sessions. Well, the way we calculate it, it is not
a $4 trillion reduction as you propose, but one basically as
the President declares, and then we think that is incorrect
scoring, and CBO will probably score the budget as not having
reduced spending at all. So I really think it is insignificant
there.
With regard to discretionary, I just want to push back a
little bit. The $61 billion, we have calculated this out over--
reducing the baseline $61 billion over 10 years plus the
interest saved, assuming some steady growth or no growth or
however you calculate it, but taking that baseline down 60
would result in a save of $850 billion, pushing $1 trillion.
You proposed $1.7 trillion. I notice you shared with me the
rather significant reductions you had to undertake at the
University of North Carolina, 30 percent or some figure such as
that. The $61 billion would amount to, as you noticed, 1.6
percent of the overall budget. And if you take it only on
discretionary, it is about 6 percent. So I do not think that is
harsh or extreme, especially in light of the fact that the
administration has achieved a 23-percent increase in
discretionary spending baseline in the last 2 years.
So I believe you are on the right track. I believe you are
sharing with us the fundamental truth of the financial
condition we are in. I do believe that the American people who
benefit from Social Security and Medicare want to see us bring
the wasteful Washington spending under control, too, that it
should not be off the table. It should be on the table, and it
results in real trillions of dollars in savings if we work at
it. And if you combine that with the entitlement reforms that
could take place, we would do pretty well, I think, in altering
the trajectory.
Thank you, Mr. Chairman.
Chairman Conrad. Thank you,
Senator Wyden.
Senator Wyden. Thank you, Mr. Chairman.
Mr. Bowles, you correctly say that you cannot do serious
deficit reduction just by cutting, and you cannot do serious
deficit reduction just by taxing. What I want to do is make
sure that as part of this debate we see that to really drive
the deficit down, you have to do some serious growing. And to
me, that is what the tax reform debate is all about.
In the 2 years after the 1986 tax reform bill was passed,
we created 6.3 million non-farm jobs, twice as many as were
created between 2001 and 2008. So we are clear--and you all
have done an excellent job--isn't the heart of your interest in
tax reform, that it will help us create more good-paying jobs
and it is key to growth?
Mr. Bowles. Unequivocally, yes. As you know, our plan has
been called ``Reagan on steroids.'' It was modeled after the
Wyden-Gregg bill. And I believe that if we take such steps and
we get rid of some of the inefficiencies in the Tax Code and
bring down rates and reduce the corporate rate and get rid of
this--get to a territorial system, then I think we have a
chance to really create a lot of jobs in this country.
Senator Wyden. Let me ask the two of you a technical
question, and I am very appreciative of all the work that you
have done with Senator Gregg and myself. You all propose an
important budget enforcement mechanism--this is something I
have talked about with the Chairman and colleagues in the
past--but you did not include a mechanism that would keep us
from backsliding on tax reform. And what concerns me is when
you go back and look at the history of 1986, practically as
soon as the ink was dry, as soon as Democrats and Ronald Reagan
came to this historic kind of compromise, what you saw is the
lobbyists went back to work and they kept packing in break
after break after break, and pretty soon it added up to 15,000
new breaks added to the Tax Code between 1986 and 2005.
Do the two of you agree that this time as part of tax
reform it is going to be important to have a mechanism in place
to no longer have this easy backsliding so that a few years
after you have put in place major historic tax reform you are
not back in the same boat? I will let either one of you take a
crack at that.
Mr. Simpson. Well, I agree with that totally, Senator
Wyden. It has been so interesting to talk to people about the
Tax Code, and we have people who--one person came and testified
that Ronald Reagan was his hero, and I said, ``Well, that is
good because he is kind of my hero, too.'' And I knew him very
well. This man was Grover Norquist. He has a job to do, and he
does it beautifully.
I said, ``Well, Ronald Reagan raised taxes 11 times in his
8 years.'' He said, ``I did not like that at all.'' I said,
``It is not whether you liked it or not. Why do you think he
did it?'' ``Well, I do not know, but I am very disappointed.''
I said, ``He did it to make the country run.''
Now, we have to put triggers in there. We have to do
things. But let me tell you what happened. People were talking
about a VAT tax. I cannot understand how distorted things can
get as if we were going to put a VAT tax on top of the present
Tax Code, and that is the word. That was the word, the Bible
said. They are talking about a VAT tax on top of this atrocity.
If you did a VAT tax, you have to scrub everything off the
board.
It was very difficult to deal with a VAT tax when the U.S.
Senate, by a vote of 84-15 or something, said there will never
be a VAT tax in the history of the world. The Rivlin-Domenici
group talked about a VAT tax, and they probably get hammered a
lot on that. But at some point these--we found that only 2
percent of the American people, the wealthiest in America, the
connected, are using these 180 tax expenditures. That is who is
using them. The little guy does not even know what they are. If
he does a standard deduction, he has no concept of--well, I
will mention this. I mean, bombs will fall: oil depletion
allowance, mine land reclamation. I am from Wyoming. You know,
if we were a country, we would be the largest coal-producing
country in the world.
So we all took a terrible bite out of our ankles, and we
are here. But unless you do something, these things are like
the zombies that rise from the graves because this city is
lined with people who make big bucks to go get it back. But
this time they will not be bringing home the bacon. The pig is
dead.
Senator Wyden. Thank you.
Mr. Bowles, a mechanism to make sure that we have
essentially tax enforcement from backsliding like we are going
to do on budgets.
Mr. Bowles. Absolutely. If you do not, you will end up
right back where we are today. The top 400 taxpayers in the
country pay a marginal rate of 16 percent. You know, Warren
Buffett talks about he pays a lower rate than his secretary
does. That is what will happen. The people that benefit from
these tax expenditures are, by and large, people in the upper-
income brackets.
Senator Wyden. Thank you, Mr. Chairman.
Chairman Conrad. Thank you.
Senator Enzi. Thank you, Mr. Chairman. It was about 37
years ago that Senator Simpson told me that I needed to put my
money where my mouth was on this leadership stuff and get into
politics, and I ran for mayor as a result of that. And God has
winked a number of times, and I wind up here. He has been a
tremendous mentor to me over the years, and I appreciate that
both he and Mr. Bowles were willing to take on this task. And I
appreciate the results that they haveten and the way that they
have promoted it across the country. It needed to be done.
I was one of the cosponsors of the Conrad-Gregg bill and
thought that that was essential and was disappointed when that
did not pass and was elated when the President decided to do it
anyway, and I thought that was a good step.
I have to say I was a little disappointed when the
President missed the opportunity in the State of the Union
speech to say exactly what you have been saying here today, to
inform the people of this country of just how desperate the
situation is so that we could take some positive action on it.
And I was disappointed when the budget proposal came out
because I think that was another opportunity for him to show
exactly what you have been saying and to put some of those
things into effect. And the biggest thing he did in there was
take the tax expenditures and use them for new programs instead
of reducing the corporate debt.
The American people have figured it out with your help, and
they are getting it clearer and clearer every day. We have to
get Congress to catch up. But, yes, there is a question in
there somewhere.
[Laughter.]
Senator Enzi. My question is: You broke your
recommendations into six areas: discretionary, taxation, health
care, mandatory spending, process reforms, and Social Security.
Now, I know that your task was to have a single vote on all of
that, but given the fact that Congress has trouble doing
comprehensive legislation, well, would it make sense for us to
break that into six areas separately? Or do you think we have
to do it in one big piece of legislation?
Mr. Bowles. Alan can probably speak to that better than I
can. What I can tell you is based on what our experience was.
Before I do that, I want to address one of the things you said,
that we had shown how desperate the situation is. It is only
desperate if we do not act. If we do act, the future of this
country is so bright, I cannot believe it. So if we just have
the guts and the courage to stand up and do something that is
real today in all six of those areas, then the future could not
be brighter.
We originally started out thinking that one of the easiest
things to do, since it was part of the President's request, was
Social Security because you can kind of figure out how to get
it to 75-year solvency and make it safe over the next 75 years.
And we thought that was morally important.
Second, we thought we could do some of the discretionary
stuff and thought we could make some progress there.
But as we went on through this process, we found that the
bipartisan group really did coalesce around doing something
that was comprehensive, and we got more support rather than
less support when we were bolder and did something more
comprehensive rather than trying to break it up into individual
pieces.
Mr. Simpson. I think that we also felt that--you know, it
is tough to keep anything together here. I remember that so
well. But if we could just stabilize the situation, just
stabilize things so that they know that it is just not on
automatic pilot, that alone would be worth everything. I know
that is--you would not challenge that, would you? No, I do not
think. Of course you would not. You would try. But you would
not.
Let me just say this: If you cannot get Social Security
solvent for 75 years and this Congress cannot do that, you can
forget everything. You will never get to Medicare, Medicaid,
and defense. You will have failed what we see is the easiest
thing to do, which is to restore solvency of Social Security
for 75 years. Very clear what we do. We do not privatize it. We
are not stealing from the old people. We are not putting
people--throwing bedpans out of hospitals. That is not what we
are doing. And people who use that are involved in massive
fakery, at worst. And I do not use those words. I have many,
many other words. Just as salty as Bernie can be. I have always
respected him. I hope he comes back and asks some questions. We
want to answer his questions about Social Security. But if you
cannot solve that, you are gone. Forget the rest of it. It will
not work. It just will not work. It will not touch it with a
stick.
Senator Enzi. I did appreciate your comments in the report
about when we were doing the tax reform to have transition
rules in there. I think that will make it possible to get it
done. I am anxious to work on all of the ideas that you put
forward and see a way to get them done.
Mr. Bowles. But if we only do Social Security, we have not
come close to solving the problem. It is just like if we only
do domestic discretionary spending, you can get rid of all
domestic discretionary spending, and you have still got a $1
trillion deficit this year. You really do have to do a
comprehensive look at it. And I think you have to look at both
revenue and spending in order to really solve the problem we
face.
Senator Enzi. I think we do have to do all of them, but I
still think we will have to do them kind of one at a time with
agreement to do all of them so that we can get the trust of the
American people. They do not think we are going to do anything.
My time has expired.
Mr. Simpson. But, Mike, with your skills at bipartisan
work--and I saw how you worked with Ted Kennedy. You two did
about 35 or 40 pieces of legislation. Nobody realized that. You
always worked with the other side. Your gifts will be heavily
called upon.
Senator Enzi. Thank you.
Chairman Conrad. I thank the Senator. I first thank Senator
Enzi because he has been a key ally in trying to advance a
Commission approach. So, too, has Senator Nelson. In fact,
after Judd and I lost the vote on our proposal--we got 53
votes, but we needed 60, and I was called to the Vice
President's residence to negotiate the Executive Order
Commission. Bill, Senator Nelson, volunteered to go with me,
and I readily accepted. And I just want to say we would not
haveten the Executive Order Commission without Bill Nelson's
hanging in there and being tough. Also, I will forever be
grateful for his assistance in negotiating the Executive Order
Commission because that was a pretty tough negotiation as well.
Senator Nelson.
Senator Nelson. Well, thank you, Mr. Chairman.
Senator Enzi, the problem is that if we try to do these
things one at a time, we will not get it done. You have to take
that comprehensive approach. And I do not know how bad it has
to get before we can get everybody to the point of being all
willing to pull up and hitch up their belts to do a
comprehensive approach.
Now, let me give you an example. You mentioned the six
things, the six major components. Well, you know, one of them
was health care cost containment. Well, you know, why should
Medicare be paying the premium price for drugs instead of the
discounts that the U.S. Government gets in the drugs for
Medicaid? Well, we know why.
Why are there royalty payments that are not being paid for
the extraction of oil from the Gulf of Mexico? That is a tax
expenditure. Well, we know why.
So if you try to take individually items on, you are not
going to be able to get--you are going to get beat because the
powerful interests are there that can always beat you on an
individual basis.
Now I want to ask a question. You all have put Social
Security as part of this overall reform, and I agree that it
has to be. But you also are quick to point out that nothing in
the way of Social Security savings here goes to help the
deficit. So other than the symbolic value of tackling Social
Security for the long term, which is a notable goal--and which,
by the way, was one of the finest achievements of the U.S.
Government back in 1983 when Social Security was down to about
6 months before going into cardiac arrest. Everybody came
together in a bipartisan way, and two old Irishmen, one named
Reagan and one named O'Neill, got it done.
My question is: Other than Social Security, why does that
have to be so much a part of it since it is not actually
helping the deficit--which is what we are trying to get to
right here--other than the symbolic value?
Mr. Bowles. I think it is a lot more than symbolic. First
of all, we had no choice. If you look at the President's two-
part mandate, the second part of that mandate required us to
look at the long-term entitlements and the effects they have on
the country.
In addition, we really felt like we had a moral obligation
to face up to Social Security. You know, we are not making this
up. Social Security really does--the trust fund is exhausted--
all of the interest earned on the trust fund for the funds that
are lent to the general fund are exhausted in 2037--probably
before that now because of what we did at the end of last year.
And benefits will have to be cut by 22 percent. That is under
current law. That is not something that we made up. It happens.
In addition, it is a fact that--I think I will just leave
it at that. You know, we have made promises as a country that
we cannot meet, and what we tried to do was to restore the
solvency of Social Security for 75 years while protecting the
most disadvantaged and, in fact, giving them a higher benefit
so they could have some kind of quality of life.
Mr. Simpson. I think, too, that we have seen--at least I
saw in my 18 years here--sometimes for budgetary purposes or,
you know, gimmick figures, they will use the $2.5 trillion of
Social Security as not counting it against the budget. And then
sometimes they will count it. And when you have a figure of
$2.5 trillion in surplus and people are saying that you stole
it and all the drama that goes with that, it just seemed to us
to let people know that if you do nothing and the howling and
shrieking by these interest groups--and do not think we did not
believe we would be savaged--savaged--in this country by what
we propose by groups, and I will name only one. I was not the
only living person that ever had a hearing on the AARP. They
are still looking for me. But you cannot play games with it
unless you just want to go up to all these toughies on the
other side who are saying, ``You rotten finks, you are going to
touch my precious Social Security.'' Great, pal. Waddle up to
the window. Your relatives in the year 2037 get 22 percent less
and downhill the rest of the way. And there is no way to avoid
that--you can appeal, you can pull out the Constitution--
because it pays only payable benefits. It will not pay
scheduled benefits. And if everybody can wake up and figure
that the thing they get from the Social Security, when you are
65, here is your scheduled benefit, it will not be there
because you did nothing.
Chairman Conrad. I thank the Senator.
Senator Graham.
Senator Graham. Thank you both. I really do appreciate what
you have done for the country, and if we are wise, we will take
some parts of what you have done, add it with some of our
wisdom, if we can muster any, and do something. And if we are
politicians who are not wise, we will all get beat. I think
America really, really wants us to do something.
Can you imagine a budget being generated by a Republican or
Democrat that does not have meaningful entitlement reform and
that would be a serious effort to solve our financial
difficulties?
Mr. Bowles. No.
Senator Graham. Can you imagine any scenario where we can
save Social Security from impending massive cuts, 30 percent in
2037 or maybe more, or any entitlement program without
adjusting the age for eligibility? Is there any sensible way to
do it without adjusting the age?
Mr. Bowles. You can do it without adjusting the age
mathematically, so yes. But we thought you should adjust the
age.
As you know, you are not eligible for Social Security at 65
today. You are eligible at 66. And under current law it goes to
67 in 2027.
Senator Graham. Senator Simpson, can you imagine any
scenario of saving Social Security and Medicare or getting our
debt situation in better standing without adjusting the age of
eligibility?
Mr. Simpson. Well, I think it is impossible. The average
age is 77. It is going to go to 80. As I say, 63 was the life
expectancy and 65 was the retirement. Now you can retire at--
you used to be able to retire on Social Security and you might
live 3 or 4 years. Now you retire on Social Security and you
may live 20. So how is that supposed to be when there were 16
people paying in and now there are only two people paying in,
in 10 years.
I tell people, read the trustees' report on Social
Security. It has been done by Democrats and Republicans for
years.
Senator Graham. Now let us build on this. Can you imagine a
scenario of saving Social Security from bankruptcy or major
cuts without some forms of means-testing of benefits?
Mr. Bowles. Again, arithmetically, you can do it, but it is
not what we would recommend.
Senator Graham. Now, both of you talk about sacrifice. The
one thing we like around here is patting ourselves on the back,
how brave we all are. I would argue that nobody in this room,
including both of you all, is doing anything near like going to
Afghanistan. So let us put this in perspective.
All we are asking people to do is to do things that make
sense. The sooner you do it, the better off we all are, because
if you do it sooner, that means the solutions are not as
draconian. So let us talk about means-testing and sacrifice.
If you took an idea that said that if you make $50,000 or
less in income, including Social Security, you would not have
your benefits adjusted, what would that mean for the people
that make over $50,000? You would have to have your benefits
reduce somewhat. Is that correct, Mr. Bowles?
Mr. Bowles. You would probably have to slow the rate of
growth win the benefit.
Senator Graham. Right. For a guy like me----
Mr. Bowles. You really would not have to have the benefits
reduced.
Senator Graham. You know, when I was 21 my mom died, when I
was 22 my dad died. My sister was 13. Social Security Survivor
benefits came to my sister. It made the world of difference. I
am 55. I do not have any kids. I am making 170,000 bucks a
year. I am going to have a military retirement, hopefully a
congressional retirement. What would it mean for someone in my
income level in actual--the difference between what is being
promised and what would be paid? Do you have any idea how much
it would affect my benefits if we did a means test for people
in my income level?
Mr. Bowles. I do not know exactly.
Senator Graham. Would it be $100 a month, $200 a month?
Mr. Bowles. I cannot tell you exactly.
Senator Graham. Could you get me that number?
Mr. Bowles. Sure.
Senator Graham. Because I believe it is going to be very
small.
Mr. Bowles. And one of the things I can tell you is that
your benefit actually would not be cut. The rate of growth in
your benefit would be at a slower rate.
Senator Graham. So means-testing is not cutting anything.
It is paying people what you actually can afford.
Mr. Bowles. Yes. What it does, it grows it at the rate of
inflation rather than at a higher rate.
Senator Graham. So you have a progressive price indexing.
Mr. Bowles. Yes.
Senator Graham. Senator Simpson, do you think that is a
smart idea for us to embrace?
Mr. Simpson. Well, I think anything--what I tell people is
this: I am 79, and so I see these people in the room, you know,
with their signs and all sorts of activity. I say, ``Wait a
minute, pal.'' I put $5 bucks in it when I was 15 and worked at
the Cody Bakery. I was in the army, and you did put it in when
you were in the army. Not now. And for the most productive
years of my life practicing law in Cody, I never put in over
874 bucks a year and neither did any other guy in the United
States. This is fakery. Then I got stuck for $1,200, $1,400,
$2,000, $4,000, $5,000, finally on up. But let me tell you, you
are going to get it all back. In 1983, we found that the guy
who got out got everything back plus 6 percent interest in 3-1/
2 years.
Senator Graham. Would both of you urge the Congress to take
up Social Security reform as part of this effort to bring about
fiscal sanity?
Mr. Simpson. Without question.
Mr. Bowles. Absolutely, unequivocally, yes.
Mr. Simpson. Got to.
Senator Graham. Thank you.
Chairman Conrad. I thank the Senator. I thank him for
respecting the time as well. I appreciate that very much.
Senator Cardin.
Senator Cardin. Well, thank you, Mr. Chairman, and let me
thank both of you for your work.
I think you have the right formula, and each element will
be controversial. We understand that. So let me deal, in the
limited time that I have, with the one dealing with the
revenues. And I know that you have already had some discussion
in regards to consumption taxes, but I want to carry it to--
make a point here.
We get around to tax reform, if we are lucky, about every
25 years, so it is important we get this right and that we have
a goal in your report to have revenues equal to about 21
percent of our economy. That is a revenue goal that could be
achieved through the reforms in the income tax that you have
outlined, or it could be by using some consumption taxes as
well as using our income tax. But the revenues would be the
same.
Now, I mention that because since we passed the last major
tax reform in 1986, our Chairman frequently points out that
there are now 140 provisions in the Tax Code that have been
added, that have been added temporarily and need to be reviewed
for extensions on a regular basis.
My concern is that if we were to pass the recommendations
of the Commission, it is unlikely that that would stand for
very long before Congress would once again, for reasons of
political expediency, us the Tax Code rather than the revenue
code in order to carry out some policy. I think we are safer if
we use less income tax revenues and we have more consumption
revenues to equal the dollars that we want to bring in.
And I also point out the realities of competitiveness and
the fact that during the best of times this Nation did not save
enough, and our policies need to reward savings. Senator
Portman and I worked together in the House to try to encourage
more savings for Americans, and our Tax Code certainly has not
been terribly helpful in rewarding savings.
And, last, we know that the income taxes, the corporate
income taxes are not border-adjusted, whereas the consumption
taxes are border-adjusted in international trade, which puts
American manufacturers and producers at a disadvantage.
The argument I hear the most against consumption taxes is
progressivity, but we can make a consumption tax progressive,
and we have ways of doing it. One of my goals is to make sure
that at the end of the day we bring in revenues in a more
progressive way, not a less progressive way, than we currently
bring in the revenues of this Nation.
So having said all that and knowing full well that you all
really did your best to put forward the policy objectives that
this Nation needs, we are certainly realistic to know that your
proposals are going to be politically controversial wherever
you went.
Could you just share with me why we should not be
considering as a matter of policy less reliance on income and
more on consumption, knowing full well the history of Congress
in changing the Tax Code?
Mr. Bowles. I will be glad to do that. Let me tell you why
it is not in our plan. It is pretty simple. About a week before
we started, the U.S. Senate voted I think 85-14 and it did not
look to me like the odds were too great we were going to have a
consumption tax.
Second----
Senator Cardin. Well, you know, I am going to stop you on
that because a lot of us were tempted to put in similar
resolutions on Social Security, similar resolutions on every
one of your proposals, and I daresay we could haveten 85 votes
on the floor of the Senate on each one of those individual
recommendations. I think it was terribly irresponsible for the
Senate to take up that resolution.
Mr. Bowles. I am just telling you why we did not do it.
Senator Cardin. I understand.
Mr. Bowles. There was no opposition on the Commission, as
near as I could tell, to a VAT tax or a consumption tax in
theory. In theory. Most people believe that it is much better
to tax consumption if you can do it on a progressive basis than
it is to tax wages or investments or savings. You have to make
it progressive, but there was not a lot of opposition in theory
on either side of the aisle.
Where there was enormous concern was that we would end up
with two engines of revenue. We would end up with an income tax
that would be escalated, and we would end up with a consumption
tax, and you would have two engines out there fueling revenue
and fueling the tax rate. And that is why there was not support
for it in our Commission. It was not the theory that it is
better to take consumption.
Senator Cardin. Well, I feel better getting that
explanation because--and I would just conclude on this point.
We want the best policy objectives. Future Congresses are going
to act regardless of what we do in this Congress on these
recommendations. I just think we are safer having a Tax Code
that is less likely to be changed in the future for social
reasons than we currently do under the income tax.
Mr. Simpson. I think take a good look at the Domenici-
Rivlin report because they had the courage to put that out
there. And we talked together, we visited with them, but we
felt because of that resolution in the Senate we were just
ramming our heads into the wall.
Chairman Conrad. Let me just say on this point, exercise
the privilege of the Chair for a minute. I argued strenuously
for a VAT tax or a consumption tax in whatever form to be part
of the package. And I do so in part based on the
recommendations the Commission received. We brought in the best
tax experts in the country, Republicans and Democrats,
progressives and conservatives. Their recommendation to us was
to go to a hybrid system--part income tax, part consumption
tax--not layer one on top of the other in the sense of adding
additional revenue as a result, but displacing part of the
income tax system so that we could lower rates, especially
corporate rates, to help America be more competitive. And we
had the proposal from Mr. Graetz to adopt a hybrid system with
part of it being consumption tax and to take 100 million
Americans off of income tax rolls completely. A hundred million
people no longer would have to file income tax returns at all,
and you would achieve the same amount of revenue that is in the
Commission plan, but you would do it with a hybrid system.
So, look, we understand the politics of it, but I did want
to take this moment to explain the position that at least I
took.
Senator Portman.
Senator Portman. Thank you, Mr. Chairman, and I want to
thank both of you for your service on behalf of the people I
represent in Ohio and on behalf of our country. You know, most
Commission reports end up collecting dust on a shelf somewhere,
and there is an opportunity here for this to be a seminal
report, to really change the direction of our country. It
depends on what Congress does. And you have given us the
opportunity to make these necessary changes.
To Alan Simpson, he mentioned that I worked for him at one
point. He inspired me to take a shot at elected office, which
means you are going to be blamed for even something additional
now.
Mr. Simpson. Both of you now.
Senator Portman. That witness protection program will have
to be even better. And, Erskine, thank you for your service.
When you were Chief of Staff at the White House, we worked
closely together. Ben Cardin and I did some work on increasing
savings and helping in retirement, and I do not think it ever
would have been enacted into law without your intervention. I
recall that and your willingness to step out of the
partisanship and into solutions. And that is what you have done
in this report, so thank you.
Because you always spent so much time on this, I have three
quick questions for you, just to get your thinking on it. Two
we have already discussed briefly--tax reform and Social
Security--but just on tax reform quickly, do you think from all
the testimony you heard that the proposals that you have will
not just have the impact that CBO and the Joint Committee on
Taxation would indicate from the scoring but also will make our
economy competitive?
Mr. Bowles. Yes, no question.
Senator Portman. So that is an intangible that is really
not represented in the numbers that you are providing which can
help to grow the economy and, therefore, to grow revenues.
On Social Security, we will hear later today, I am sure,
and we have heard all along that Social Security is not adding
a dime to the deficit and it is in good financial condition. Do
you agree with that?
Mr. Bowles. Well, it is $45 billion cash negative today,
and it is expected to stay cash negative for the foreseeable
future.
Senator Portman. That is based on the Congressional Budget
Office report recently?
Mr. Bowles. Yes, sir. What people sometimes forget is that
when somebody my age goes to collect on their Social Security,
I want money, cash. And I go to present that obligation to the
Social Security Trust Fund, and it does not have cash. What it
has is the Government IOUs there, which are as good as gold.
But the Government has to go out into the marketplace and
borrow the money.
Senator Portman. Borrow the money.
Mr. Bowles. And so it increases the national debt. So, in
essence, what we are doing, since half the money is borrowed
from foreign countries, at least half the money I am getting is
coming from some foreign country to pay my Social Security.
Senator Portman. That is a very good way to put it. I think
that is the reality. I am glad you addressed the issue in the
report and also talked about it today because it is adding to
our debt.
The final one is the toughest one of all, which is: What is
the economic impact of all this? There are some folks out
there, as you know, who study this who have said recently that
if we reduce discretionary spending it will result in job loss.
It is called a Keynesian model where Government spending being
reduced equals a certain amount of less economic activity,
therefore job losses. These are the same folks, you will
recall, who looked at the stimulus package and said that
roughly $800 billion--over $1 trillion when you add interest on
the debt that had to be paid for because we had to borrow money
for it. But those folks said that our unemployment would be 8
percent last year and would be 7 percent this year. Now, that
has not happened, but now they are saying that if we reduce
spending by the 1.6 percent that you mentioned earlier,
Erskine, there would be a great loss of jobs.
You have looked at this carefully, and earlier you talked
about the potential of financial crisis. You talked about small
businesses being starved for capital if we do not do something.
What do you think the economic impact would be of reducing
spending along the lines that you have recommended?
Mr. Bowles. I am not an economist and do not want to
pretend that I am. What I am is a pretty decent business guy,
and what I can tell you from a career as a business person and
from heading the Small Business Administration, small
businesses cannot grow and cannot create jobs without money.
And if we do not tackle this fiscal mess that we have today,
then small businesses will be crowded out of the marketplace,
and there will be fewer jobs, not more jobs.
If you are really concerned about jobs, then we have to
tackle this fiscal problem at home.
Mr. Simpson. And we did realize throughout the fragile
nature of an emerging economy which seems to be happening,
except, of course, the jobs do not meet the expectations. But
people, I do not think, when you are all through with what we
have done, will say that this was a failed Commission like all
Commissions, because you, Senator Portman, were involved deeply
with the Select Commission on Immigration and Refugee Policy,
and we did two major pieces of legislation--legal immigration
and illegal immigration--and with that bill brought 2.9 million
people out of the dark to obtain legal status in America.
I was on the Iraq Study Group. That was not a failure. This
last administration did not accept maybe four or five but 50-
some of those 79 recommendations have been adopted. These are
not feckless things. And this one ain't going away. This is a
stink bomb in the garden party.
Senator Portman. Thanks for your good work.
Chairman Conrad. Senator Merkley.
Senator Merkley. Thank you very much, Mr. Chair, and thank
you all for your work on the Commission.
I wanted to ask some questions about an area I do not think
anyone has touched on. If they have, I apologize. But
addressing really the health care provisions and the steady
elimination of the deductibility for businesses of the costs
they spend on health care. I believe the way you have laid it
out is that the deductibility be limited to the 75th percentile
in 2014, stay steady for 4 years, and then be phased out over
the following 20 years.
The first concern I have is that I can imagine immediate
response in which employers say, Well, we are going to reduce
the size of our package down to the area that is tax
deductible, and to do that we are going to have employees pick
up a lot higher co-pays, a lot higher share of their insurance
and so forth, which sounds an awful lot like an immediate, very
regressive tax on working Americans. And so I just wondered if
you all could touch on that for a moment.
Mr. Bowles. I do not think that is the case. What I think
you will see is, first of all, every business in the world,
whether it is a small or large business, has raised the
deductible, raised the co-pay, reduce the benefits in order to
offset the increased costs. And that is a fact of life that we
have all had to live with during the last--you know, at least
as long as I have been in the business world. And I do not know
any business that has wanted to do it but it has been forced to
do it. So I think if we do nothing and we take the ostrich
theory, then I think you will see that continue into the
future.
Health care is the biggest single problem that we face from
a fiscal viewpoint. If you just look at Medicare and Medicaid
and the CHIP program, it is about 6 percent of GDP today, and
it is going to go to 10 percent before you know it. And that
does not even count the $276 billion it takes to do the doc fix
or the $76 billion to fix the CLASS Act.
We think we are going to have to stand up to that, and we
have proposed some pretty aggressive proposals as it relates to
Medicare, Medicaid, to the tax deductibility, as you mentioned,
that we felt were responsible in order to meet the fiscal
challenges that the Nation faces. The problem is we have made
promises we just cannot deliver on.
Senator Merkley. Well, I am not sure you have really made
me feel any better about this, because I think what I have
described is kind of the reaction of a normal business. If you
increase the cost of providing that particular benefit to their
workers, they are likely to decrease it. And the way that they
have done that is to increase the co-pays and the share that is
being picked up by the employees.
But the other reason I am very concerned about this is
that, in the context of health care reform, there was a premise
of companies continuing to provide health care. And if indeed
you set up a situation where employers say, hey, without the
tax deductibility of these benefits, we are simply going to
shut that down; we will provide benefits to our employees in
other ways, that results in a huge cost shift from the private
sector to the public sector, actually increasing the size of
the deficit.
So I am wondering if you have modeled this out into the
future, because it sure looks like something that is going to
increase public deficits and public debt into the future rather
than reducing them.
Mr. Simpson. Senator, let me wade in. This was a monster,
and we could not even wrap our arms around it. That is where
health care is. All you have to do is think of things in your
own family or in the family down the street where, in the last
10 years of life, there is air flight, there is hospice, and
maybe in 2 weeks you can run up a bill for $400,000. That is
just Cody, Wyoming.
There is a way to do this. You cut providers and you reduce
physicians' fees, you increase co-pays for patients, and you
begin to affluence test those. And you get one set of books in
a hospital instead of tow, and you do tort reform by the use of
health courts. And we have recommended all those things. Now,
is that tough. You will not want any of that. But let me tell
you, leave it like it is and it will eat a hole through
everything you love in the discretionary budget.
Senator Merkley. My time is up, but I will just mention
that there are a number of concepts, including the House-passed
bill, to get rid of the exemption from antitrust that health
care currently employs. There was a lot of discussion of a
public option. A public option in Oregon in workers' comp
decreased the costs by half, and my colleague from Rhode Island
said that when they adopted it in Rhode Island it had the same
impact. The ability to negotiate the prices of drugs in
Medicare on the same rhythm that we do in veterans would save
$60 billion over 10 years. So there are many, many approaches
other than a short-term transfer onto the working Americans of
health care costs.
Thanks.
Chairman Conrad. I thank the Senator.
Senator Thune.
Senator Thune. Thank you, Mr. Chairman, and I want to thank
you, Mr. Bowles, and, Senator Simpson, welcome back. You did a
terrific service with your work, and although I did not agree
with every piece of it, the body of work I think was
exceptional, and I think you gave us, if we want to follow it,
at least a pathway to start to get this fiscal situation under
control. And because you were attacked by both the right and
the left, I assume you were trying to find the spot right there
in the middle that might be able to attract a level of support
that would be necessary to actually enact something around
here.
I do want to ask a couple of questions--and I think it has
been talked about a little bit already, but maybe get you to
elaborate a little bit on it. If we were to adopt--the
President's budget this year did not address what many of us
thought it should have, and that is, some of these issues of
entitlement reform. If we were to adopt the President's budget,
how does that address the long-term structural issues and
problems that you have identified in your work and seem to be--
some of the recommendations that were included in your work
seem to be absent from the President's proposals?
Mr. Bowles. I can answer that pretty straightforwardly.
First of all, I do not think anybody on our Commission agreed
with every part of the Commission report. I sure did not; Al
did not. I know that the Chairman did not. So we all kind of
held our nose and swallowed some of the things that are in the
Commission report for the good of the country.
The President's budget, again, as I said earlier, I think
does a relatively good job of dealing with the domestic
discretionary spending cuts, but it does not step up to, nearly
to the extent I believe it should, the defense cuts that are
necessary or the cuts that are needed in health care or
reforming Social Security so it is solvent for the next 75
years.
Mr. Simpson. I think, Senator Thune, it is much like the
Republican response, which both of them are just light budget
efforts.
Senator Thune. I do not know if this has been mentioned,
but former Fed Reserve Chairman Greenspan recently said the
U.S. could face a bond market crisis if politicians do not act
soon to start cutting the Nation's debt. And he remarked that
the probability of that happening in the U.S. in the next 2 to
3 years is 50 percent. Do you agree with that assessment?
Mr. Bowles. I do not know what the percent is, but let me
just tell you how crazy our situation is today. We have this
treaty where we are supposed to--if China were to attack
Taiwan, we are supposed to support Taiwan. The only problem is
we would have to borrow the money from China in order to do it.
You know, this is a real mess we are in today, and we can
either take the ostrich theory and put our heads in the sand,
or we can decide we are going to step up and do something
about. But I can tell you, bankers are not going to continue to
finance something that they are not sure they are going to get
paid back. And the less sure they are, the more they are going
to charge you at first, and then they are going to cut you off.
And we are borrowing half of our money from foreign countries.
Senator Thune. How do we translate that--and a lot of times
when we talk about these things here, we talk about it sort of
in the abstract. How do we translate that, the American people
personalize it so that they in their personal lives or family
lives understand what the implications and impacts of our not
acting are? Because I think in many cases they respond to the
attacks that are made that this program is going to be cut or
this program is going to be cut, and it is hard, once you focus
on the specifics, to get the kind of support that you might get
when you are talking in the general term about the need to
reduce spending and debt.
How do we translate this into terms? What does this mean to
the average American family if we do not take steps to fix this
mess?
Mr. Simpson. Senator Thune, they have already got it,
because here on this level we or you or I used to talk and say,
How are the people handling this at the kitchen table. Well, I
will tell you how they are handling it. They do not need any
charts, nothing. They just say if you spend more than you earn,
you lose your butt; and if you spend a buck and borrow 40 cents
of it, you must be stupid. And that is what they know, and that
is why they are with us.
When we travel this country, they understand this because
that is all you have to say. You are borrowing 40 cents for
every buck you spend. And they know that if they did that in
their own home, they are out, you know, in the bow wows. It is
over. I do not know. They get it.
Senator Thune. All right. My time has expired, Mr.
Chairman. Thank you.
Chairman Conrad. Thank you, Senator Thune, and thanks for
respecting the time.
Senator Whitehouse.
Senator Whitehouse. Thank you, Chairman. Thank you,
gentlemen.
Back to health care for a minute, health care consumes
about 18 percent of America's GDP right now, and the closest
country is at about 12 percent, the worst. So we are half again
as bad as the worst country in terms of the efficiency with
which we deliver health care. We do not get better outcomes for
it. The rate of increase is--it is not just going up. The rate
is accelerating. So it strikes me that we have a real problem
on our hands in health care, and it is not just an entitlement
problem. It is a health care system problem, because the cost
increases in our health care system are clobbering the private
sector just as strenuously as they are clobbering the public
programs.
And so I do not think we can entirely fix the health care
system just by trying to cut benefits in the health care
programs that Government supports. There is an underlying cost
problem in our health care system that I think has a lot to do
with our sort of Rube Goldberg design of the health care
system, although it is worse because Rube Goldberg's was kind
of accidental. In this Rube Goldberg diagram, every party has a
motive.
So I think there is a lot of work being done to try to
correct and reform the system as it goes. The areas that are
obvious are the quality improvement movement that is out there.
We spend $2.5 billion a year treating what should be completely
avoidable hospital-acquired infections. You could zero that out
if you could get rid of those. If we could figure out which
prevention methods actually save money, we could invest in
those and that would save costs overall. A really robust
information technology platform can make a huge difference and,
frankly, generate new private industries. We can start paying
doctors better for results instead of just for amassing as many
procedures as possible. And the overhead can be driven down a
lot. There is a great deal of overhead that goes into the
totally unproductive warfare between insurers and doctors over
getting paid. They now have armies of consultants and staffers
who fight with each other over getting paid. That is all on the
health care system, and it does not provide a nickel's worth of
health care value.
You stack all of those up, there is quite a lot going on.
And there are some very big outfits that are pursuing this
stuff and have a lot of confidence in it--Kaiser, Geisinger,
Intermountain, Gundersen Lutheran, Mayo--and they are seeing
real cost reductions, and they are seeing real quality
improvements.
If you look at the President's Council on Economic Advisers
report, they have calculated that the savings available from
this is about $700 billion a year. New England Health Care
Institute puts it at $850 billion a year. Secretary O'Neill,
working with the Lewin Group, has calculated it at $1 trillion
a year. Do we know the exact number? But it looks like it is a
really, really big number.
So if you agree with that, I would urge you, as you are
discussing this issue, to really focus on this question of
delivery system reform and the win-win that is possible from
improved care, improved efficiency, and improved experience of
care, all lowering costs. It has one big flaw, and that is that
CBO and OMB cannot predict it because it is a process of
learning and experimentation, as Dr. Gawande has said. We know
there is good stuff to be done out there. We can have
confidence in our ability to get there, but we cannot predict
the dollars.
So when you get down to a budget discussion, my fear is
that this incredibly significant opportunity gets shoved off
the table because nobody says, ah, I can put this dollar figure
at it, and you all in generating your reports need to be able
to put a dollar figure on it.
So I guess my appeal is do not give up on that just because
it is not cost-able. It is probably the biggest and the best
thing that we can do for our worst and most severe long-term
budget problem, which is the health care piece of the system.
And, unfortunately, I do not see as much as I would like to
about that in your report. Even if you put it in as a footnote
saying, look, we cannot measure this, we understand why we
cannot measure this, but it has a huge potential, and we should
focus on that potential, because it worries me we are not
getting that.
Probably one of the best people in the world on this is act
Don Berwick, and yet he is under constant attack right now
because he did not come here and get confirmed properly. Well,
fine, but we have a national emergency in this area. We have
the chance for a huge win-win by reducing the costs in these
big numbers. Let us not throw that baby out with the bath water
just because we do not have a number. And the more you ignore
it, the more things like attacking Don Berwick begin to seem
like an OK idea instead of a really suicidal step. So I urge
you to consider that as you go forward.
I am sorry to speechify during the question time, but I
just think it is so important and so frequently overlooked, and
it is a constant frustration, and I hope, if you agree, you
will give it a little bit more air time.
Mr. Bowles. I actually do agree, and I have actually done
it.
Mr. Simpson. I do, too.
Mr. Bowles. I was vice chairman of Carolinas Medical
Center, the seventh largest publicly held hospital company in
the country. After that, I headed the University of North
Carolina's public health care system, the largest provider.
What you are saying is exactly right. It is not, unfortunately,
scorable, and that is why it is not in our report.
Senator Whitehouse. Thank you.
Mr. Simpson. And when I was here, Senator, we had a
bipartisan group of John Chafee and John Breaux and Nancy
Kassebaum and Dave Pryor, and we worked for months, and the
problem was--and it is a terrible thing to say, but nobody ever
understood it. And that is why it is like this. You go to the
floor, and you do an amendment, and it is something good.
Somebody sticks it on and nobody understands the impact. But I
agree with what you are saying. You have gone to the core of
it. I think those figures are correct, 4800 billion. But, wow,
we--there are people who use terms hoping that you will feel
inferior enough not to ask any questions.
Chairman Conrad. Senator Johnson.
Senator Johnson. Thank you, Mr. Chairman, and I would like
to thank both of you for putting forward a serious proposal. I
think it is absolutely essential that we mobilize the American
public so they understand how urgent the problem is. And I
think one of the ways we do that is--and we hear this term
``debt crisis'' all the time. Can you describe in layman's
terms what a debt crisis is going to feel like? How is it going
to affect a family, an individual? Not just in theory but in
layman's terms, what is that going to do to a family?
Mr. Bowles. Their interest costs in every single thing they
have are going to rise and rise relatively rapidly. The quality
of education that they can provide their schools is going to
erode. Their university systems are going to--the research they
do is going to evaporate, and, therefore, the likelihood of
that creativity creating the next new thing here rather than
somewhere overseas is less, so, therefore, less likelihood that
there will be a new job, even if you are trained for that new
job down the road, less likelihood that the training funds will
be there to train them. Their roads, their bridges, their
highways will be less. There will be fewer cops on the street.
It will affect them in every way possible.
Senator Johnson. It is not going to be pretty.
Mr. Simpson. And, excuse me, Senator, the guy who gets hurt
the worst will be the little guy that everybody always talks
about. That is who is going to get hammered when that happens.
Senator Johnson. I do not think we can make that point
loudly enough.
You touched on one question I wanted to ask in terms of how
do we redeem these Social Security bonds. I mean, we talk about
the system is solvent to 2037, but that is by redeeming these
bonds. In your fix, did you fix that on a cash-flow basis? Or
how is the $2.5 trillion that we are either going to have to
tax the American people again for or borrow from China, how is
that accounted for?
Mr. Bowles. We did a couple of things. On the revenue side,
we raised the minimum payment that somebody would be taxed
upon. Today it is capped at $106,800. Naturally it will grow to
$168,000 by 2020. We took it to $190,000 by 2020. So you would
pay that tax on the differential, on $22,000. And we reduced
the rate of growth in benefits being paid to people at the
higher levels because we changed what is called the BIN rate,
and we changed the eligibility age, and we also changed the
rate of inflation to what is called chained CPI, which is a
slightly lower rate of inflation than the regular CPI.
Senator Johnson. So, again, you did account for the fact
that $2.5 trillion needs to be raised in some way, shape, or
form, and you have accounted for that dollar amount?
Mr. Bowles. Yes. It has to be.
Senator Johnson. OK. You know, you are projecting or you
are proposing that we increase revenue to 21 percent of GDP. In
the President's 2012 budget, we have only--we have never hit 21
percent of GDP in terms of revenue. We have hit it close three
times: in 1944, in 1945, and I think the year 2000. I kind of
subscribe to Hauser's Law that says no matter what the tax
rates are, we are going to get about 18.8 percent of GDP in
terms of revenue. How do you overcome that? Again, I am kind of
a reality-based guy. You know, I am one who looks at real
factors and figure.
Mr. Bowles. Me, too. I looked at the forecast. I saw that
revenue was forecast in 2020, I think, to be approximately 19
percent of GDP. Spending was about 25 percent of GDP. That was
6-percent gap. I have had to figure out how in the world are we
going to close this gap. I wanted to close the vast majority of
it on the spending side, so we took somewhere between two-
thirds and three quarters out of spending. Therefore, we had
to--I wanted to get to a balanced budget. I had to do some on
the revenue side. Historically, we have balanced the budget
always, you know, as you said, at a level below 21 percent of
GDP. And so I thought that was the maximum level we could get
to, and I also thought it was probably one of the lowest levels
we could get spending down to.
Senator Johnson. But no matter what the rates we have taxed
people at, we have never raised on average more than about--
well, never raised 21 percent.
Mr. Bowles. Right. That is why we said that ought to be the
maximum level, I think is what our report says.
Senator Johnson. OK. I guess one final question. I do not
subscribe to the theory that it has to be comprehensive reform.
I mean, I think the American people want single-issue bills.
They want to be able to understand what we are trying to do
here. So with that in mind, did you make any attempt to
prioritize the components of this in terms--you know, obviously
Social Security is No. 1, I think, in your book. But did you
prioritize the other recommendations if we did this in a
piecemeal fashion?
Mr. Bowles. We did Social Security separately because we
thought we were doing that not for deficit reduction but for
75-year solvency to save Social Security. We did not prioritize
the others. We looked at it in a comprehensive basis, because I
believe you have to do all of it, you know, not just one little
bit of it, if, in fact, you are going to deal with this $1.6
trillion deficit in a fiscally responsible manner.
Senator Johnson. Thank you.
Chairman Conrad. Thank you. Senator Coons.
Senator Coons. Thank you, Mr. Chairman, and I just want to
start, as has every other member of this panel, by thanking you
for your service to the country in previous administrations and
in the Senate and for your willingness to take on this
thankless task, but one that, as you said at the outset, you
took on for your grandchildren, for your communities, for our
country. I think all of us agree that we are in a debt and
deficit crisis and one that I would welcome your elucidating a
little bit further just what the consequences would be for, as
you put it, Senator, the little guy, because I am convinced
that if we do not tackle this in the next 2 years, the
consequences for the American economy, for our competitiveness,
and for our long-term future are drastic.
I want to commend you for tackling six different
significant areas and for your core principles, with which I
agree. And Tax Code reform is the piece that I am going to
focus on and that I am interested in. It is my hope that part
of your assumption is that if we made this significant changes,
the zero-based budgeting approach to sort of scraping clean all
the tax expenditures, lower the rates, that there would be
greater growth and some possibility of higher receipts than the
18.8 percent referenced by Senator Johnson.
Please tell me, if you would, three things. First, give us
a picture in a little more detail about how it might unfold if
we fail to take these steps. How would it unwind that rates
would go through the roof and the consequences for the average
folks of America would be felt? And how do we stay on top of a
sense of when that is going to happen? Because my sense is it
may happen very suddenly and without a great deal of warning.
First.
Second, we talked earlier about the need for a long-term
mechanism to restrict not just growth in spending but to also
prevent the re-emergence of a lot of tax expenditures, doing
all the hard work of fixing the Tax Code, some mechanism that
would prevent it from then being undone. Any suggestions in
that field would be welcome.
And then if we have a minute or two left, something about
the health reform ideas. You have a significant amount of cuts
here, more than $430 billion, that have not been touched on in
the two previous senators who have asked specifically about the
health portion of it, if you would.
Mr. Simpson. Well, Senator, let me just address the tipping
point, because your colleague, our colleague--I think it was a
colleague, he was of ours--in the Commission, Senator Durbin--
kept asking, Where is the tipping point? And we kept saying, We
do not know. But some say 2 years, some say three.
I happen to say it all depends on how far the Congress goes
in getting to the meat of reducing a $14 trillion, which will
be $300 billion, $14 trillion $300 billion debt, and the
deficit of $1.6 trillion or $1.7 trillion. It depends on that,
because the people who hold our paper are not going to be
patient and they are going to say, You did not have the guts to
do anything, you romanced the stone again, you did not do what
you are supposed to do, and we want some money for our paper.
It is my experience that big guys take care of themselves
and they will take care of themselves. That is how we got in
this huge slosh of a recession. The fat cats took care of
themselves, and the little guy will get stung. That is all I
know and that is what I keep talking about. It does not make
any sense to anybody when you talk about getting the paper for
the money, but that is what it is, and the bondholders are not
just gentle people.
Senator Coons. And what kind----
Mr. Simpson. And he can handle the tough question.
Senator Coons. What kind of mechanism might we put in place
to keep tax expenditures from ballooning once again?
Mr. Bowles. We did a couple things. We put a fail-safe in
there on the tax side that said if Congress does not act by
2012, then you have an automatic, across-the-board reduction in
tax expenditures. I think that would get you to move.
We also had another fail-safe in there that if the deficit
to GDP was greater than what is called primary balance, which
is 3 percent, that the President had to submit a proposal to
get it to 3 percent. This was by 2015. That was his date he
picked, so that is why we went with that. Or if the debt became
unstabilized, after that it began to grow again, then the
President would have to act.
On health care cuts, we have, in our plan--we did not just
willy nilly say that there ought to be cuts in health care. We
have every single cut absolutely spelled out for and paid for.
Again, I had to gore my own opportunities to do this. I did cut
the funds that go to hospital for medical education, but again,
I thought it was one of the areas we could.
We took away some of the trickery and gaming that goes on
in Medicaid. One of the things you can see that some of the
states do is they will raise the cost of a tax that they have
on providers, and then the providers will then be allowed by
the state to raise their fees.
So it is kind of a wash for the provider. But, oh, by the
way, when the providers can raise their fees, then the feds
have to match it, the taxpayers, two to one. It ends up costing
us, over that same time period, about $44 billion. We cut out
that kind of gaming.
Senator Coons. I see I am over my time. I just want to
close by thanking you again for your very hard work, and I am
hopeful, with the leadership of the Chairman and Ranking
Minority Member, that this Committee will step up to the task.
Thank you.
Chairman Conrad. Senator Sanders.
Senator Sanders. Thank you very much, Mr. Chairman, and
thank you, Senator Simpson and Mr. Bowles for being with us.
Five minutes is not a whole lot of time, so I just want to make
a few points and then maybe ask a few questions.
I think one of the problems that we have when we just focus
on deficit reduction, as significant an issue as it is, we lose
the broad context of what is happening in this country, which
is not just deficit reduction. The other reality that is
happening in this country is that for many years the middle
class has been collapsing. Poverty has been increasing.
We now have, by far, the most unequal distribution of
wealth and income of any major country. So while the middle
class shrinks and poverty increases, the wealthiest people for
many years have become much wealthier. So that you now have a
situation, if you can believe it, where the top 400 families in
America own more wealth than half of the families in America.
Where you have the top 1 percent earning more income than the
bottom 50 percent.
So when you talk about moving toward deficit reduction,
which we all appreciate is an important issue, the question is,
well, on whom should that burden fall? Should we really, as our
Republican friends have recently suggested, throw 200,000
children off of Headstart? Should we cut back on the Social
Security Administration? Should we cut back on Pell grants with
middle class families finding it harder and harder to be able
to afford college? How do you deal with that?
So to my mind, the first question that I would ask, and I
am going to have to request very brief answers because I want
to get to Social Security, I want to get to health care as
well. At a time when we have such a grotesquely unequal
distribution of income and wealth, where over a recent 25-year
period, 80 percent of all income in this country went to the
top 1 percent, why, in your proposal, did you suggest that
three-quarters of the movement toward deficit reduction come
from spending cuts, only 25 percent from revenue?
Why didn't you ask the wealthiest people in this country to
start paying--I know you did some of it--but in a much more
significant way their fair share of taxes?
Mr. Bowles. First of all, I think we have a significant
spending problem in this country. Second, I think we did
exactly what you said. In every single case, we tried to
protect the truly disadvantaged. If you look at all of our cuts
in the other mandatory category, which is about 20 percent of
the other mandatory category, we did not touch a single one of
those.
Senator Sanders. I would respectfully disagree with that.
Mr. Bowles. It is a fact we did not touch food stamps, we
did not touch unemployment, we did not touch SSI. We left them
all alone. If you look at----
Senator Sanders. But answer my question. Answer my
question. If you are earning----
Mr. Bowles. I am answering your question and I will
continue to.
Senator Sanders. We do not have a lot of time.
Mr. Bowles. Well----
Senator Sanders. How 400 people in this----
Mr. Simpson. We will take some more time.
Mr. Bowles. That is because the tax expenditures actually
go to those people. Those are the people who benefit from this.
The top 400 people pay an average tax of about 16 percent.
Senator Sanders. That is correct.
Mr. Bowles. Why do they do that? Because they have all
these tax expenditures. We got rid of tax expenditures. That is
why of a rate of increase the taxes of the top 1 percent or the
top 1/10th of 1 percent is about 155 times what it is for
somebody at the bottom. That is the right thing to do.
Senator Sanders. But Mr. Chairman, at the end of the day,
in your movement toward deficit reduction, three- quarters of
your plan talks about cutting spending. And I ticked off, how
do you feel about throwing 200,000 kids off of Headstart? That
is a cut in spending. Good idea?
Mr. Bowles. I do not think we recommended that, sir, so I
do not believe----
Senator Sanders. I know, but this is the result. When you
talk about cuts in spending, Pell grants and so on--all right.
Let me go on. We do not have a whole lot of time and I
apologize.
Mr. Simpson. What about your President offering to cover
LIHEAP at 50 percent?
Senator Sanders. Terrible idea.
Mr. Simpson. I did not do that.
Senator Sanders. And it was a terrible idea, no question
about it. But let me go to Social Security. Social Security, to
my mind, has been an enormously successful program for the past
75 years, taken a whole lot of elderly people out of poverty,
people with disabilities, widows and orphans, paid out every
nickle owed to every eligible American.
Now, I found it interesting. You just made a point, which I
think is right, Mr. Bowles. You said, When we dealt with Social
Security, we did not do it from a deficit reduction
perspective. We did it to try to strengthen Social Security.
President Obama, during his campaign, also had an idea. His
idea was to raise the taxable income level at $250,000.
Remember that? People earning more than $250,000, that cap
would be removed. I thought that was a pretty sensible idea.
What do you think about it?
Mr. Bowles. I am on the record. I have said many, many
times that I did not think that people in my income bracket
needed a tax cut.
Mr. Simpson. I was part of a group of Dave Pryor and Jack
Danforth that met years ago with Paul Simon and agreed to take
that lid completely off. That is me--
Senator Sanders. Is that your view today?
Mr. Simpson. You can do anything you want. I am not----
Senator Sanders. No, not what I could do, but do your
recommend to the Congress that we----
Mr. Simpson. I do not know. You are the guy----
Senator Sanders. Well, I agree with President Obama, that
at $250,000 or more that cap be removed. Do you agree with that
proposal from the President? Any comments? You guys just did a
long report.
Mr. Bowles. I have already said, you know, I did not
believe that the top 2 percent of taxpayers need a tax cut.
Senator Sanders. I asked a fairly simple question. Do you
agree with President Obama, that above $250,000 we should
remove the cap? Yes or no?
Mr. Bowles. Should remove what cap?
Senator Sanders. The cap on taxable income for Social
Security.
Mr. Bowles. Well, actually----
Senator Sanders. Right now it is at $106,000.
Mr. Bowles. $106,800. We actually did raise that.
Senator Sanders. I know you did, I know you did. But the
President went a lot further than you did.
Mr. Bowles. No. I believe what we recommended, we took it
to 90 percent, which was what it originally was.
Senator Sanders. But you are not----
Mr. Bowles. Which means when, in 2020, instead of going to
$168,000, it goes to $190,000.
Senator Sanders. The President said----
Mr. Bowles. Or you will pay taxes on an additional 22
percent.
Senator Sanders. But the President said we should start
very shortly by removing the cap for people over $250,000. I am
not hearing your opinion on that.
Mr. Bowles. No, no, I am happy to give you my opinion. My
opinion is what we would recommend.
Senator Sanders. So you do not agree with the President?
Mr. Bowles. I do not.
Senator Sanders. OK, that is fine, that is fine. In terms
of health care----
Mr. Simpson. I do not think you would ever agree with us
either, so it does not make much difference.
Senator Sanders. In terms of health care, at the end of the
day, the United States spends almost twice as much per capita
on health care as any other nation. We are the only nation in
the industrialized world that allows private insurance
companies to play a significant role in health care. Other
countries have national health care programs without private
insurance companies. Would you suggest that one way to get
below the cost of health care is to----
Chairman Conrad. Senator, Senator, in fairness to
colleagues, you have now gone over----
Senator Sanders. You are right.
Chairman Conrad [continuing]. Well over, so I think we have
to end it there, in fairness to colleagues.
Senator Sanders. All right.
Chairman Conrad. When there is a flow of a conversation, I
have permitted both sides to go up to a minute over, but now we
are at 2 minutes. So honestly, I do not think it is fair.
Let me go to a point that Senator Johnson raised, because I
think it is a critically important point and we discussed this
in the Commission. If we just use the historical average for
revenues, at no time in the last 40 years would we have
balanced the budget, not one time.
So I do not think that is going to work. If we look at the
five times the budget has been in surplus, what has been the
revenue? And there you can see, every time we have actually
balanced the budget, revenue has been nearly 20 percent of GDP.
In 1969, 19.7. 1998, 19.9. 1999, 19.8. 2000, 20.6. 2001, 19.5.
And we have a different circumstance we are dealing with
and the different circumstance we are dealing with is the baby
boom generation, which is going to double the number of people
that are eligible for these programs.
So when we looked at that, and we are at 25 percent of GDP
on spending now, we decided, and I wish Senator Sanders was
still here, that we had to do more on the spending cuts side of
the ledger, substantially more, but that we also had to do
something on the revenue side if we are going to bell this cat
in some kind of fair way, because we are borrowing 40 cents of
every dollar we spend.
If we did that all on the spending side, we would have to
cut every single thing. The Federal Government spends 40
percent across the board. Social Security, 40 percent.
Medicare, 40 percent. Defense, 40 percent. I do not think that
is reasonable. There has to be some revenue in this equation.
Now, some will say, Well, revenue is going to return to the
norm. Right now revenue is about 15 percent of GDP, the lowest
it has been in 60 years. In fact, very close to being the
lowest it has been in 80 years. Now, as the economy recovers,
we will get back to close to the average, because we know that
in economics, there is a return to the mean. We see it in the
markets all the time, a return to the mean.
We can expect that here, too. But the reality is, a return
to the mean is not going to balance this budget. It is not
going to balance this budget. And so, we concluded we have to
have some revenue, although much more of it has to be done on
the spending side of the equation.
I want to just end my questioning without a question, to
again say thank you. I know that, Alan, you could have been out
there with Ann in Wyoming, and for those that do not know, Alan
married up. His wife is spectacular. Of course, she is tough on
him, too. She does not cut him a wide swath. You took on a
tough assignment and we appreciate it.
Erskine, I will tell you, there are very few people I have
more confidence in to deal with something like this than I have
confidence in you. And, boy, you proved it in spades, the two
of you working together on this Commission, because I think the
result--look, there are all kinds of things in here I dislike
intensely. If I were going to do this, I would do this very
differently.
Dick Durbin called me the night before the vote. He said,
Kent, what are you going to do? I said, I am voting yes. He
said, Well, why? I said, The only thing worse than being for
this is being against it, because the country is in deep, deep
trouble. I do not know what could be more clear. This thing is
headed for the cliff.
And we say, Well, we do not know when we are going to hit
the cliff. That is true. There is not a single person that can
honestly tell you they know with certainty when we are going to
hit the cliff. The one thing we know for sure is we are
hurdling toward it. That is one thing we know with certainty.
So I would say to colleagues, please, whatever your
ideology, whatever your philosophy--I will tell you, I put mine
on the back burner because I deeply believe we have to do
something like this, and the only plan out there I see that has
bipartisan support is this one, as much as I dislike it, and I
do dislike it. I would do this very differently.
But hey, what matters to the country is getting a result,
because failure is not an option. Senator Sessions.
Senator Sessions. Thank you. We appreciate your work and we
will continue to pursue bringing this Government to fiscal
sanity. I have no doubt that we need to start cutting this
year. I do not think $61 billion out of $3.7 billion is going
to put us in an economic slowdown. I know politically the
Administration is opposing any of those kind of cuts, but I
think that they can be done and can be done wisely and will add
up to over $800 billion if we were to execute it.
So I am saying, let's get busy now. And I do not shut the
door on entitlement reform because obviously they are
unsustainable. There are on an actuarially unsound basis and
when you have that, you have just got to face up to it. It goes
without saying, I think the world financial markets and our own
economy would respond if we put ourselves on a sound course
rather than an unsound course.
You have given us good suggestions. Many of them, I think,
are within the realm of achievability and let's see if we can't
make some progress, Mr. Chairman. I look forward to working
with you and thank you for your leadership.
Chairman Conrad. Thank you. I thank all of the colleagues
who participated here today, and special thanks to the
witnesses. Thanks for your contribution. You have done
something very important. I hope the country is paying close
attention. I especially hope my colleagues are.
Mr. Simpson. Mr. Chairman, let me just say thank you for
your consistency. You came here when I was here, you stuck
right with your guns on the budget all the way. I thank Mike
Enzi and Senator Sessions, and if we can just remember one
thing, one thing. We are Americans first, not Republicans or
Democrats, and if we cannot get out of that rut, we will never
get out of the rut.
Chairman Conrad. Amen. Thank you both.
[Whereupon, the committee was adjourned at 12:20 p.m.]
DISTRIBUTION AND EFFICIENCY OF SPENDING IN THE TAX CODE
----------
WEDNESDAY, MARCH 9, 2011
U.S. Senate,
Committee on the Budget,
Washington, DC.
The Committee met, pursuant to notice, at 10:01 a.m., in
room SD-608, Dirksen Senate Office Building, Hon. Kent Conrad,
Chairman of the Committee, presiding.
Present: Senators Conrad, Wyden, Sanders, Whitehouse,
Begich, Sessions, Thune, Portman and Johnson.
Staff present: Mary Ann Naylor, Majority Staff Director;
and Marcus Peacock, Minority Staff Director.
OPENING STATEMENT OF CHAIRMAN CONRAD
Chairman Conrad. The hearing will come to order.
I want to welcome everyone to the Senate Budget Committee
today. Today we are going to focus on spending in the Tax Code,
or tax expenditures, as they are known. These are the countless
credits, deductions, and exclusions that riddle and complicate
the Tax Code. Specifically, we will examine the distribution of
benefits and the efficiency of tax expenditures.
Our distinguished witnesses today are: Robert Greenstein,
the president of the Center on Budget and Policy Priorities;
Robert McIntyre, the director of Citizens for Tax Justice; and
Scott Hodge, the president of the Tax Foundation. Thank you all
for being here. We look forward to your testimony.
Our Nation is at a critical juncture. We are borrowing
about 40 cents of every dollar that we spend. Spending is at
the highest level as a share of our economy in more than 60
years. Revenue is the lowest it has been in 60 years as a share
of the economy. Both sides of the ledger are part of the
problem, I believe, and both have to be part of the solution.
Looking at revenues in isolation has led some to argue that
revenues should be held to the historical level over the past
40 years, about 18 percent of GDP. But revenues at that level
would not have produced a single balanced budget in 40 years.
In fact, on the five occasions when the budget has been
balanced or in surplus since 1969, revenues have ranged between
19.5 percent and 20.6 percent of GDP. It is this higher level
of revenue that provides, I believe, a more useful guidepost
for what is needed if we hope to dig ourselves out of this
fiscal hole and set the budget on a sustainable path.
Unlike in previous years, the country now faces an
unprecedented demographic challenge which will put a tremendous
added strain on the budget going forward. I believe that tax
reform has to be part of the solution to addressing our fiscal
problems coupled with spending cuts. The current state of the
Tax Code is simply indefensible. Our Tax Code is out of date
and hurting U.S. competitiveness. It is hemorrhaging revenue to
offshore tax havens and abusive tax shelters. The Tax Code is
riddled with expiring provisions. This creates enormous
uncertainty for citizens and businesses alike, making it very
difficult for them to plan ahead.
If we took steps to simplify and reform the Tax Code, we
could reduce tax rates below where they are today, and tax
reform would also allow us to raise more revenue to help
address the very serious debt threat hanging over America.
Eliminating or scaling back tax expenditures should be at
the heart of any tax reform we consider. This year, we will
spend $1.1 trillion on tax expenditure. That is as much as all
of domestic spending, including defense. That is roughly
equivalent to the size of our deficit. The deficit this year is
going to be $1.5 trillion; the tax expenditures are $1.1
trillion. It is a staggering sum by any measure, and these tax
expenditures receive far too little scrutiny. I am a member of
the Finance Committee, and I can tell you, as a member of that
Committee, the tax expenditures have not received the attention
that they deserve.
Here is how well-known conservative economist Martin
Feldstein described tax expenditures in a recent op-ed in the
Wall Street Journal. He said, and I quote: ``Cutting tax
expenditures is really the best way to reduce government
spending.''
Let me repeat that: ``Cutting tax expenditures,'' according
to Martin Feldstein, ``is really the best way to reduce
government spending. Eliminating tax expenditures does not
increase marginal tax rates or reduce the reward for saving,
investment, or risk taking. It would also increase overall
economic efficiency by removing incentives that distort private
investing and spending decisions. And eliminating or
consolidating the large number of overlapping tax-based
subsidies would also greatly simplify tax filing. In short,
cutting tax expenditures is not at all like other ways of
raising revenue.'' That is from an economic perspective and
from a conservative economist.
As we consider ways to reform the Tax Code, it is important
to keep in mind who is benefiting from the status quo. In
recent years, the effective tax rate for the wealthiest in this
country, the rate actually paid after factoring in exclusions,
deductions, credits, and other preferential treatment, has
fallen dramatically. In fact, the effective tax rate for the
400 wealthiest taxpayers fell from almost 30 percent in 1995 to
16.6 percent in 2007.
This trend was highlighted in a recent article in Tax Notes
by tax expert Martin Sullivan. The article uses IRS data to
compare the average effective tax rates for the residents of
one Park Avenue building in New York City where the average
income is more than $1.1 million. They compared that to the
average effective tax rate for a typical New York City janitor,
someone who might work in that very building, with an average
income of $33,000. The data show that the average effective tax
rate for the building residents was 14.7 percent--those are the
people with an average income of $1.1 million--while the rate
for the janitor was 24.9 percent; his income, $33,000.
I do not know how anybody can defend or justify that kind
of tax burden. It is not right.
The reason for this disparity, of course, is that almost
all of the janitor's income comes from wages, which are taxed
at the regular income and payroll tax rates. The Park Avenue
building residents, however, receive almost two-thirds of their
income from investments, which are taxed at lower capital gains
and dividends rates. In addition, the Park Avenue building
residents receive a greater benefit from tax breaks because
they itemize their deductions.
Tax expenditures are clearly worsening the disparity
between how the wealthy are taxed compared to everyone else. If
we look at the increase in after-tax income from tax
expenditures, we can see the top 1 percent received more than
$142,000 from tax expenditures in 2009. The middle quintile
received less than $2,800.
The President's Fiscal Commission included the kind of tax
reform I believe will be needed. It demonstrated that by
eliminating or scaling back tax expenditures, we can simplify
the Tax Code, actually lower rates, and still raise more
revenue. Here are the key elements of tax reform that were
included in the Commission's plan:
One, it eliminates or scales back tax expenditures and
lowers tax rates. It promotes economic growth and improves
America's competitive position. It makes the Tax Code more
progressive. Under the Commission's illustrative tax reform
plan, instead of six tax brackets there are three: 12 percent,
22 percent, and 28 percent. The corporate rate would be reduced
from 35 to 28. Capital gains and dividends would be taxed as
ordinary income. That would raise the effective tax rate of
those people in the Park Avenue building because they are
paying an effective tax rate of 16 percent. They would go up to
28 percent.
The mortgage interest and charitable deductions would be
reformed, better targeting their benefits. The child tax credit
and the EITC would be preserved to help working families. And
the alternative minimum tax would be repealed. The Commission's
plan also increases revenue to 21 percent of GDP by 2022.
We simply will not be able to solve our Nation's long-term
fiscal and economic problems without fundamental tax reform--
tax reform that improves our economic efficiency while also
bringing in more revenue. And addressing tax expenditures has
to be the heart of that tax reform.
With that, we will turn to Senator Sessions, my able
colleague, for his opening comments, and then we will turn to
our excellent panel, really outstanding panel, for their
comments. And then we will open it to questions from our
colleagues.
Senator Sessions.
OPENING STATEMENT OF SENATOR SESSIONS
Senator Sessions. Mr. Chairman, I do think the Commission's
report on tax reform is very valuable, and it has a lot of
suggestions that are critical that we could make and take and
make our economy more productive and make the tax system more
effective in producing a fair source of revenue. I would note
that one reason, I assume, that the top 400 taxpayers have seen
a major drop in their income, one reason is--in their taxes
that they pay is because they are making less money. We have
skewed the tax rate to very high income taxpayers whose incomes
are volatile. They are not certain. And when you depend on that
for your income, that is how, I think, we are down to 14.9
percent of GDP in income, is because the profits are not there,
and if you do not make profits, you do not pay taxes. If you
sell your stock or your real estate properties for a loss, you
take losses instead of show incomes. And I do think that is a
factor in the problem we have with having a steady source of
income.
Mr. McIntyre thinks that is funny. Maybe I am wrong on
that. Maybe upper-income people are making as much in the last
2 years as they were during the boom period. I do not think so.
I will just note this with regard to the actual share of
wealth being paid in taxes: The top 20 percent pay 70 percent
of the taxes in America, all taxes--payroll, excise, corporate,
income taxes. According to CBO, between 1979 and 2007, the
average tax rate for Federal taxes combined declined for all
interest groups. The average rate declined for all. The average
income tax rate also declined over those years. The largest
decrease occurred for the fifth of the population with the
lowest income. They got the biggest reduction. Those taxpayers
in the top income quintile, the top 20 percent, in 2007 paid an
average tax rate of 25 percent, a rate 6 times higher than
those in the bottom quintile. The top 1 percent earned 19
percent of the Nation's income but paid nearly 30 percent of
the Nation's Federal taxes.
According to CBO, in 2007 households in the highest
quintile earned 55 percent before-tax income--they earned 55
percent, the top 20 percent, before-tax income and paid almost
70 percent of the Federal taxes. For all other quintiles, the
share of Federal taxes was less than their share of the
national income.
In comparison to the tax rates in effect under President
Clinton, low-income earners pay a smaller share under the
current income tax structure while higher-income earners pay a
larger share. In President Clinton's last year in office, those
in the bottom income quintile paid a negative 1.6 percent share
of all income tax--a negative share results from their
receiving tax credits--while those at the top paid 81 percent.
In 2007, the last year available, the share of income taxes
paid by the bottom 20 percent became even more negative, while
the share paid by the top 10 percent increased to 86 percent.
The Tax Code is already highly progressive. An effort to
eliminate credits, deductions, and exclusions without
corresponding reductions in marginal rates will sacrifice
economic growth. An average wealthy person, let us say, making
$400,000 a year, they would pay under President Obama's plan to
increase taxes 39.6 percent. The health care bill added an
almost 1.9 percent payroll tax increase to them. We have added
another 3.8 percent for our investment income. Alabama has a 5-
percent income tax, State tax. Other States have lower and many
have higher. So you are around 50 percent of a person's upper-
income people subject to tax, a marginal rate. I mean, how much
more do you do without damaging the economy? I think it is a
dangerous trend to think we can just continue to drive up the
tax rates and there will be no consequences. There will be
consequences for it, and it is not all good.
With regard to tax expenditures, the way I understand that,
your charitable deductions count as tax expenditures. Every
deduction virtually is scored as a tax expenditure. I am not
sure every deduction is bad. I am not sure every deduction
should be scored in that fashion. If you gave a $10,000
contribution to some charitable enterprise and you only pay
taxes on--you get to deduct that and you do not pay taxes on
it. It saves you some of that money. But most of it is the
contribution that went to the charitable enterprise; 40 percent
or whatever for the upper-income people would be saved, but 60
percent is out of their pocket of the charitable contribution.
So I think we just need to simplify the Tax Code. I look
forward to hearing these witnesses discuss it. You are exactly
right, Mr. Chairman. You and the Commission raised this
question of taxes. Are they serving our national interest? I do
not think so. I do not know how to fix it. We need to get our
arms around it, and if we--because we have to work with the
Finance Committee and all. I know they are looking at this. But
more than the deficit, getting your arms around the tax policy
in America is exceedingly hard. I know there are a lot of
suggestions, and I am open to them, and I am open to reform,
that is for sure.
Thank you.
Chairman Conrad. Thank you, Senator Sessions, and I agree
entirely with your last comment. Look, tax reform is essential.
We do have a circumstance in which if you--what I was referring
to in terms of the effective top rate dropping for the
wealthiest 400 referred to actual income received. Clearly,
many of those people have had a reduction. Some have not. Some
have had huge increases even though there was an economic
downturn. But the effective tax rate I was referencing was
based on what they pay on their actual income, and that
effective tax rate has dropped, and it has dropped because we
have changed the tax law. We have made capital gains and
dividends preferentially treated in a way that Warren Buffett
says he pays an effective tax rate of 16 percent. The woman who
is his executive assistant pays a much higher effective tax
rate. And that is really the disparity that I was referencing,
that the difference between the people who live in that Park
Avenue building that we know exactly what their tax
responsibility is because IRS reports it--we do not know who
the individuals are; we now what their effective income is; we
know what their effective tax rate it. They are paying a tax
rate of 16 percent, and yet the janitor who may work in that
same building, a much lower income, is paying a much higher
effective tax rate.
So the message from the Commission on tax expenditures was
much as what Martin Feldstein said, a conservative economist,
that the tax expenditures are really in many of the elements--
not all. I would say to the Senator charitable contributions,
that is something we have to think very carefully about. But
what we have done in Congress--and I am on the Finance
Committee, so, you know, I am part of the process. I have a
responsibility here, too. You know, it is becoming----
Senator Sessions. You are a real master of the universe.
[Laughter.]
Chairman Conrad. It has become a back-door way of spending
money, of spending Federal money.
Senator Sessions. Mr. Feldstein made that point in the
article, and he was critical of some of the Democratic
criticisms that ignore the fact that one way to spend money is
to do it through the Tax Code, on certain lower-income groups
also through the earned income tax credit, which is one of our
largest expenditures. But you are correct. Let us look at this.
We have a good panel, and I look forward to hearing their
comments.
Chairman Conrad. I appreciate that.
We will start with Mr. Greenstein, who has testified before
this Committee on many occasions, has as high level of
credibility here as president of the Center on Budget and
Policy Priorities. Welcome. Please proceed with your testimony.
STATEMENT OF ROBERT GREENSTEIN, EXECUTIVE DIRECTOR, CENTER ON
BUDGET AND POLICY PRIORITIES
Mr. Greenstein. Thank you, Mr. Chairman. As you know,
bipartisan majorities on all of the major deficit reduction
panels have agreed that to reduce the deficit, we need a
balanced approach that consists of both program and tax
reforms, both contributing to deficit reduction. Both taxes and
programs are implicated in the fiscal problems we face, and
both need to be part of the solution.
Tax expenditures offer a particular target of opportunity.
I still recall the moment in 1994 when Alan Greenspan was
testifying before the Kerrey-Danforth Deficit Commission, on
which I had the honor of serving, and Greenspan told us that we
needed to look at what he called--these were his words--``tax
entitlements.'' And indeed a number of tax expenditures are
essentially spending entitlements delivered through the Tax
Code.
Take child care as an example. If you are a low- or
moderate-income person, you may get a subsidy to help cover
your child care costs through a spending program. But if you
are higher on the income scale, you still get a Government
subsidy that reduces your child care costs, but it is delivered
through the Tax Code via a credit. Moreover, if you are a low-
or moderate-income parent with child care costs, you might miss
out because the spending programs that provide child care
subsidies are not open-ended. They are capped, and when you
reach the cap, people have to go on waiting lists. But if you
are a higher-income household, your child care subsidy is
guaranteed because the tax subsidy operates as an open-ended
entitlement.
As the Chairman noted, tax expenditures now total nearly
$1.1 trillion a year. This substantially exceeds the cost of
Medicare and Medicaid combined (a little over $700 billion),
Social Security (about $70 billion), and non-security
discretionary programs, (less than $600 billion).
Both the Bowles-Simpson and Rivlin-Domenici Commissions
contained a focus on tax expenditures, and as you noted, Martin
Feldstein--I have a different quote from the same article. He
said, ``If Congress is serious about cutting government
spending, it has to go after many of these tax expenditures.''
You might also note that in the GAO report that just came
out on overlap and duplication, there is a whole section in
that report on tax expenditures where the GAO says improving
tax expenditure performance could reduce revenue loss
potentially by billions of dollars.
Now, a particular issue here is that tax expenditures are
not just costly; they are often--not always, but often--
economically inefficient. Many tax expenditures are incentives
designed to subsidized and encourage certain desired
activities, but they often do so in inefficient ways. They do
so often by distorting investment or other economic decisions,
as Feldstein has noted, and adding to the inefficiency is the
fact that many tax expenditures--principally those that are
deductions, exemptions, and exclusions--tie the tax subsidies,
the tax incentives they provide to the marginal tax rate of the
beneficiary so that the amount of the tax subsidy increases
with income and the wealthiest households get the largest
subsidies.
Now, from an economic perspective, such a structure does
make sense if but only if higher-income people need a
substantially greater monetary incentive to take the desired
action and would not take it in the absence of the tax
incentive. But the reality is often the reverse. High-income
households would generally send their children to college, make
sure they have enough assets for retirement, and buy a home
with or without the current costly tax incentives, and that is
why a number of liberal, conservative, and centrist experts
alike have characterized key parts of our tax incentive
structure as being upside down. We spend money providing the
largest incentives to people in the top brackets despite the
fact that the incentives generally have a smaller effect on
whether they will send their children to college, become
homebuyers, and put aside money for retirement than those
incentives have for people lower down on the income scale.
In fact, in that regard, tax credits differ significantly
from deductions and exclusions. They reduce the price of the
desired activity by an equal percentage for most households.
Reformers view them in many of these areas as increasing
economic efficiency, and both Bowles-Simpson and Rivlin-
Domenici propose to convert some of the tax deductions into
credits.
Now, my point here is that the economic efficiency
weaknesses in the structure of various tax incentives offer you
an opportunity. By converting various deductions into flat-
percentage tax credits, policymakers can improve economic
efficiency by increasing the effectiveness of the tax
incentives in boosting things like national saving, college
attendance, and the like, even as you achieve deficit reduction
and improve the progressivity of the Tax Code.
Let me talk for a moment about progressivity. There was a
fascinating recent article by economist Kenneth Rogoff. In this
article, Rogoff warned of the consequences of widening a
historic levels and historic levels of inequality in income,
wealth, and opportunity throughout a number of countries. He
cautioned that the ability of countries to address inequality
could be the key factor that, and I am quoting Rogoff, ``could
separate the winners and losers in the next round of
globalization'' and could emerge as, his words ``the big
wildcard in the next decade of global growth.''
And the Bowles-Simpson report sets forth a basic principle
here. It states, and I am quoting, ``Though reducing the
deficit will require shared sacrifice, those of us who are best
off will need to contribute the most. Tax reform must continue
to protect those who are most vulnerable and eliminate tax
loopholes favoring those who need help least.''
Which brings me to my final point. Bowles and Simpson, as
you noted, Mr. Chairman, on one of your slides, called for
deficit reduction that protects low-income families and
indicated it should protect the earned income credit and the
child tax credit. These credits are vital to the standard of
living of low-income working families, to ``making work pay,''
and to promoting work over welfare.
Furthermore, those credits lower marginal tax rates for
many low-income workers who otherwise face some of the highest
marginal tax rates of any group of Americans, because they
receive other means-tested benefits that phase down as their
income rises. This is why, in calling for various tax
expenditures to be curbed, Martin Feldstein wrote that he was
not including the EITC in this list, which, Feldstein explained
and I am quoting from Feldstein, ``acts largely as a tax rate
reduction.'' And numerous academic studies have shown that the
EITC has a powerful effect in increasing work, reducing welfare
use, particularly among single parents with children.
There has been a longstanding bipartisan principle in this
town that people, parents who work full time should not have to
raise their children in poverty. The only reason we comply with
that principle and policy today is because of the earned income
credit and the child tax credit.
Finally, all past deficit reduction measures of recent
decades--1990, 1993, 1997, the Gramm-Rudman-Hollings Act in
1985--all reflected a commitment to protecting low-income
households in general and the EITC in particular.
Thank you.
[The prepared statement of Mr. Greenstein follows:]
Chairman Conrad. Thank you.
Next we will hear from Mr. McIntyre. Robert McIntyre is the
director of the Citizens for Tax Justice and has also testified
on many occasions before this Committee. Welcome back.
STATEMENT OF ROBERT S. McINTYRE, DIRECTOR, CITIZENS FOR TAX
JUSTICE
Mr. McIntyre. Thank you, Mr. Chairman. Well, today is the
first day of Lent. It is an opportunity to take a resolution
and maybe give up, not just until Easter but maybe even longer,
what has become a great deal of enthusiasm in the Congress
among both parties for providing subsidies to American
businesses, and foreign businesses sometimes, in programs that
are administered by Congress's favorite agency, loved beyond
any other, the Internal Revenue Service. I do not know why you
like it so much, but you do.
You know, a quarter of a century ago, President Reagan took
on these business subsidies that had grown into the tax code--
some of them he actually had put in there--but he took them on
in 1986 and he passed a big tax reform bill that, among other
things, raised corporate tax payments by more than a third, and
the money was used to help fund individual tax reductions. But
President Reagan was not afraid to do that, to raise taxes on
corporations in the sense of taking away subsidies that they
did not deserve. He did not think there was anything wrong with
that at all. That may not be the current thinking here, but I
am going to try to talk you out of the current thinking.
In our view, as you know, the lobbyists have been back.
They have worked their magic and the corporate and personal
business side of the tax code is a mess again. We have three
complaints. One is about what the current system does to hurt
us. These subsidies, $365 billion in this fiscal year alone for
business income, tax subsidies for business income, both
corporate and personal, they cost that much money. It would
make a huge step toward deficit reduction if we could recover
some or all of that, and we strongly disagree with President
Obama on his idea that corporate tax reform should be revenue
neutral. That would defeat one of the main points of reform,
and that point is that we need to deal with our deficit over
the long term.
And, you know, if there is one thing the public likes in
terms of deficit reduction, it is asking American corporations
to pay their taxes again. They do not like Social Security
cuts. They do not like Medicare cuts. They do not like cuts in
any program they have actually ever heard of. But they do like
making American companies pay at least as much taxes as they
are, which is not true now.
Now, you get bonuses out of corporate tax reform done right
because the current subsidies, as any economist will tell you,
are designed to make companies do things that do not make any
sense economically. That is the program. We want them to not
invest in what is the highest rate of return or what the
customers want to buy. We want them to do things that you very,
very smart Senators and the smart people over in the House of
Representatives think are better, sort of Soviet-style
socialism, you could call it if you were a mean person. Not me.
Well, if you tell companies to do things that are
uneconomical, mostly, they will not because that is not where
the money is. In fact, that is not what they lobby for. I mean,
think about this for a minute. I am a steel company. I come in.
Senator Conrad, I would like a tax break to make aluminum. No.
I am asking for a tax break to make steel, because that is what
I do. That is what I will do. But if you want to pay me to do
it, so much the better.
So that is the good news about the tax breaks, is most of
them are a complete and utter useless waste. But sometimes they
make a difference. We have a system where the aerospace
industry pays 1 percent in taxes and the retail industry pays
27 percent, and in between the rates are all over the place,
too. I mean, that has to have some effect in getting investors
to move to one place or another and that distorts behavior.
Some effect.
I will tell you where the real effect is, though, the real
worst effect, and that is our international system, which right
now we pay our companies to either artificially shift their
profits offshore or, in some cases, move things offshore and
really do business offshore instead of here in the United
States. We have tilted the playing field with tax breaks so
that you can make more money after tax in China than you can in
the United States, even if before tax you make the same thing,
and that seems to me to be nuts. So very economically harmful.
The third point that I worry about is that, as you have
pointed out, Senator Conrad, the disparity between taxes on
capital income and taxes on wages has grown larger and larger.
And if you look at what we could do about that, well, yes,
capital gains and dividends breaks are part of it. But most
capital gains are not over-taxed and neither are most
dividends.
The one place we could do something about this inequality
in taxes and lack of progressivity compared to the olden days
in the tax system is on the corporate side, where the income is
earned. If we can get some taxes out of the capital income at
the source, which is what the corporate income tax is supposed
to do, because we all know most dividends are not taxed, most
capital gains are not, then we would have a more progressive
and a fairer tax system and that would be a good thing, I
think. Now, we can argue about whether it is good, but I think
it is good.
So in conclusion, you on this committee are going to play a
major role in trying to design a plan to reduce the long-term
budget deficits and you do not want to do it in a way that
endangers our very fragile economy, so you are going to do it
gradually, I hope, and you are going to do it well and you are
going to make great choices.
We urge you to make reduction or elimination of business
tax subsidies your highest priority here, because doing so, you
can not just cut the deficit and therefore retain some
important programs. You can make the economy more efficient.
You can add jobs. And you can make America a better society.
Thank you.
[The prepared statement of Mr. McIntyre follows:]
Chairman Conrad. Thank you, Mr. McIntyre.
Next, we will hear from Mr. Hodge, the President of the Tax
Foundation. Welcome. Good to have you before the committee.
Please proceed with your testimony.
STATEMENT OF SCOTT HODGE, PRESIDENT, TAX FOUNDATION
Mr. Hodge. Thank you, Mr. Chairman and members of the
committee. The immutable principles of economically sound tax
policy tell us that taxes should be neutral to economic
decisionmaking, they should be simple, transparent, stable, and
they should promote economic growth. In other words, an ideal
tax system should only do one thing and do it well, and that is
just raise a sufficient amount of money for the government
activities while doing the least amount of harm to the economy,
and I think everyone on this committee will agree that the U.S.
tax system is far from that ideal.
Over the past two decades, we have asked the tax code to
direct all manner of social and economic behavior, such as
buying hybrid vehicles, turning corn into gasoline, encouraging
people to save more for retirement, purchase health care, buy a
home, replace the windows in that home, adopt children, put
them in day care, take care of grandma, buy bonds, spend more
on research, purchase school supplies, go to college, invest in
historic buildings, and on and on and on. In too many respects,
the IRS has become a substitute for every other cabinet agency,
from Energy to Education to HHS and HUD.
And thanks to the generosity of the credits and deductions
in the tax code, a record 52 million taxpayers, or 36 percent
of all filers, pay no income taxes at all and are now off the
tax rolls. In other words, they have no skin in the game. And
indeed, many of these people now look to the IRS as a source of
income, thanks to more than $100 billion worth of refundable
tax credits paid out to people who have no income tax liability
at all.
You know, the OECD reports that the U.S. has the most
progressive income tax system of any industrialized country.
Indeed, the top 1 percent of U.S. taxpayers now pays a greater
share of the income tax burden than the bottom 90 percent
combined.
But the entire Federal fiscal system is progressive, not
just the tax code. Tax Foundation economists have estimated
that the majority of American families now receive more in
government spending benefits than they pay in taxes. And
overall, the Federal fiscal system, between taxes and spending,
combine to redistribute more than $824 billion from the top 40
percent of families to the bottom 60 percent.
Unfortunately, many companies and industries, as Bob has
mentioned, are now looking to the IRS as a source of income,
too. In fact, a recent case, one-third of the profits of a
major appliance company came from the Energy Production
Credits, and I doubt that when Members of Congress enacted that
program that they thought that it would be to this appliance
company what the EITC is to poor people, an income subsidy.
And today, the biggest crises facing working families and
the economy are health care, housing, and local government
finances. And ironically, these are the areas in which the
government and the tax code are most involved. So the cure to
what ails these industries is that we wean them off the tax
code, not give them more subsidies.
The tax preference for employer-provided health insurance
has undermined in health care the market forces that deliver
quality goods and services to everything from bread to
computers. Housing suffers a similar problem because of the
plethora of tax and spending subsidies intended to promote home
ownership. One study determined that the MID is an ineffective
policy to promote home ownership and to improve social welfare.
And it should be noted----
Chairman Conrad. Can I just stop you on that?
Mr. Hodge. Yes.
Chairman Conrad. You were referencing there the Mortgage
Interest Deduction?
Mr. Hodge. I apologize for using the acronym.
Chairman Conrad. Yes. You know, any time, because we have
people watching this----
Mr. Hodge. Geek-speak.
Chairman Conrad. Yes. So I know in the Washington community
and Congress, everybody knows what that is, but if you will use
the words so that people listening know what it means, as well.
Mr. Hodge. My apologies. It should be no surprise that
State and local debt has soared from $1.5 trillion in 2000 to
$2.4 trillion today because local governments can pass off some
of that cost to Uncle Sam through State and local tax
deductions and subsidized municipal bonds.
And we have, because, I think, in part, the rising local
taxes, more and more Americans are finding themselves trapped
by the AMT.
But Washington can actually do more for the American people
by doing less. The solution lies in fundamental tax reform,
which means lowering tax rates while eliminating many of the
preferences in the tax code. And a good starting point could be
the Zero Plan by Erskine Bowles and Alan Simpson. And it is
certainly not a perfect plan, but it does demonstrate that
Americans could enjoy lower tax rates and the government could
raise as much money if some, if not all, of the tax
expenditures were eliminated.
That said, with $1.5 trillion deficits, it is tempting to
look at closing loopholes as a honey pot for deficit reduction,
but I believe that would be a mistake. The primary goal of
fundamental tax reform should not be raising more money for the
government. It should be to improve the nation's long-term
economic growth and lift the living standards of every
American.
Economists at the OECD in Paris, the Organization for
Economic Cooperation and Development, have determined that high
corporate and high personal income tax rates are the most
harmful taxes for long-term economic growth. Unfortunately, of
course, as many of you know, the U.S. has one of the highest
corporate tax rates in the industrialized world, and as I
mentioned, we have one of the most progressive personal income
tax systems in the industrialized world.
Fundamental tax reform can restore the nation's
competitiveness and put us on a growth path for the future. And
not only will this improve the living standards of all
Americans, but it will improve the nation's fiscal health, as
well, and that is a win-win for everyone.
Thank you very much, Mr. Chairman. I welcome any questions
that you may have.
[The prepared statement of Mr. Hodge follows:]
Chairman Conrad. Yes. Very good testimony, all three. Thank
you very much. You made a real contribution to the committee. I
appreciate your taking the time to be here and share your
thoughts with the committee.
I would like to go to something that has been a pet peeve
of mine for many years. I used to be a tax administrator. I
used to be Chairman of the Multi-State Tax Commission. And one
of the things that jumped out at me in those years was the rise
of offshore tax havens and the, what I think is the
extraordinary rip-off that is occurring to average taxpayers
and, frankly, to other businesses that do not avail themselves
of the opportunity to use these offshore tax havens.
Many times, I have shown the picture of Ugland House down
in the Cayman Islands that claims to be the home to 18,000
companies, a little five-story building, and all of them claim
to be doing business out of little Ugland House down in the
Cayman Islands. I would say it is the most efficient building
in the world to be the home of 18,000 companies. Of course,
there is no business being conducted out of there. The only
thing that is being conducted is monkey business, because what
they are doing is they are avoiding taxes in the United States
and other jurisdictions.
The estimate by the Subcommittee on Investigations is we
are losing $100 billion a year to offshore tax havens. If
anybody doubts that this is a big problem, I would invite you
to go Google ``offshore tax havens.'' See what you get. I think
you will be amazed at what you get. I certainly was.
No. 2, abusive tax shelters. We now have the spectacle in
this country of some companies buying European sewer systems
and writing them off on their U.S. books to reduce their tax
obligation here, not because they are in the sewer business. It
would be legitimate if they are in the sewer business. But
these are companies that are simply looking for a tax cover and
buying European sewer systems, deducting them on their books
for U.S. tax purposes, leasing them back to the European cities
that built them in the first place.
And it does not only apply to European sewer systems. They
are doing the same thing with European transit systems. They
have even gone so far as to buy European city halls and then
deduct them on their books for U.S. tax purposes, lease them
back to the European cities that built them in the first place.
I mean, really, how can anybody justify this? That, the
Subcommittee on Investigations, say is costing us $50 billion a
year.
Mr. Greenstein, have you looked into the abuses of offshore
tax havens, abuse of tax shelters, and if so, what have you
found?
Mr. Greenstein. I think this is probably more an issue for
Bob McIntyre. We have not looked at offshore tax havens
ourselves, but I think he has probably done a lot of that.
Chairman Conrad. Mr. McIntyre?
Mr. McIntyre. Well, I think you put your finger on probably
the most serious problem in our tax code today and our subsidy
system today, on the corporate side in particular, because
there are individual issues of hiding income and there are
corporate issues of artificially shifting profits, and I think
the second is your major focus there.
The reason that happens, that we let it happen, is two.
First, we have this extraordinarily complicated system of how
companies allocate their expenses and their revenues. They have
to pretend when they are dealing with their wholly owned
subsidiaries offshore that they are dealing with an unrelated
third party and they just make stuff up and the IRS cannot
police it.
Chairman Conrad. Let me just----
Mr. McIntyre. But that problem, by the way, would be
trivial, absolutely trivial. This arm's length of pretending
you are negotiating with yourself would be a trivial and almost
nonexistent problem were it not for the fact that if they can
shift that profit to the Cayman Islands or wherever, then the
tax that ought to be paid on the income is indefinitely
deferred. If we got rid of that deferral, then it would not do
them any good to move it to the Cayman Islands and the problem
would be solved.
Now, there are some people in the Congress, I know many
business lobbyists, I am sure, who are calling for Congress to
make this problem worse by saying that not only can you defer
what you shift to the Cayman Islands, you can be exempt forever
on it. It is called the territorial system, or as one of my
assistants called it, a territorialism system, because it would
make--it is like a terroristic attack on the Internal Revenue
Code.
So as you go on on this, and it will come up for you in the
Finance Committee, there is going to be a lot of talk. What
should we do with our current system? Should we try to do what
John Kennedy wanted to do back in the early 1960s and get rid
of deferral, or should we go to what the Europeans have done,
which is go to this territorial system which has turned out to
be a disaster for them and would be a disaster for us and would
make your building down in the Cayman Islands have to add a
very large annex.
Chairman Conrad. Let me ask you this question. Have you
done any analysis on how big the revenue hemorrhage is from
offshore tax havens?
Mr. McIntyre. Well, on the corporate side, the Treasury
Department has been doing a somewhat better job of putting a
number out. A lot of the estimates have been bootstrapped. You
know, some reporter will ask me how much, and I say, I do not
know, $70 billion. Then somebody reads that and says, well, I
am going to raise you.
But Treasury has made a serious effort. They peg it right
now at about $50 billion, but I think they are leaving
something out. So the numbers you gave, could it be 75, could
it be 100 a year, I think it could. But they are at least
getting it up there, because--and if you look in their latest
tax expenditure book, you will see it, and that is a big piece
of that $365 billion in corporate subsidies.
Chairman Conrad. Let me just say, when I was a tax
commissioner, I one time found a company that was doing
business in the United States and I found out through
involvement with the IRS, this company just kept--they had a
series of transactions within the United States between wholly
owned subsidiaries here showing no profits at any point in the
United States. They got to the Cayman Islands. They showed $20
million in profit with one employee working half-time. I always
said that was the most efficient guy in the world, to produce
$20 million in profit half-time. And, you know, the Cayman
Islands gave them the opportunity to defer it indefinitely.
So, you know, this is the kind of thing that is really
going on in the real world and it is, I think, patently unfair
to people who have all of their income exposed to taxation at
whatever level of income, to have some who are avoiding
everything that they owe through these kinds of tax dodges.
My time has expired. Senator Sessions.
Senator Sessions. Well, it is very complex. I am aware of a
businessman who sold a profitable asset in another country and
his comment to me was, well, I will tell you, the United States
Treasury is going to receive a lot less money because this is a
foreign company and they probably will not even incorporate in
their country. They will probably incorporate in the Islands
and not going to have any income. But the income tax he was
paying was a significant factor in his decision to cease to
sell the business.
I guess, Mr. Hodge, we have had a good bit of talk about
the corporate tax rate, simplification, and the rest of the
world is going to the territorial system. None of them are
going back from it, I do not think, Mr. McIntyre. They must be
reasonably happy with it. And we are ending up with the highest
rate in the world. When Japan reduces theirs, I believe we will
be the highest developed corporate tax rate in the world. And
within that structure, as the Commission said and the Chairman
has noted, we have great disparities between health care--
industry is paying 5 percent, the trucking company is paying 30
percent, and it is a hodgepodge--no pun intended--of a tax
situation.
Is there any way we could--what are the principles here
that we ought to consider as we seek to do something about the
difficult challenge of corporate tax rates that is making the
United States less competitive, costing jobs in America. There
is no doubt about that.
Mr. Hodge. Well, Senator, I think we first have to
understand that the United States has a Neiman Marcus corporate
income tax system where the rest of the world is moving toward
Walmart tax prices. We have everyday high taxes every day while
the rest of the world has everyday low taxes every day. Every
other country on earth looks like a tax haven compared to the
United States. As you mentioned, the United States has a
combined corporate tax rate of nearly 40 percent. Only Japan
has a higher rate. And in 3 weeks, they are about to lower
their rate to below 35 percent, which will make the U.S. the
highest in the nation.
But we cannot also forget that Canada has already cut their
corporate tax rate again as of January 1, from 18 percent to
16.5 percent at the Federal level, and they are on their way to
reduce their rate to 15 percent in a few years. The U.K. in 3
weeks, as of April 1, will reduce their corporate rate from 28
percent to 27 percent on a long-term path to reduce their
overall corporate rate to 24 percent. And they, along with
Japan, were the two most recent countries to move to a
territorial system and for very different reasons.
Japan did it because Japanese companies were not
repatriating profits from largely U.S. income back to Japan
because their tax rate was so high and they had a worldwide
system. So they had to move to more of an exemption-based
system to encourage those companies to repatriate those profits
back to Japan, which has been in about a 20-year recession.
Great Britain moved toward a territorial system because it
was losing companies to other countries who were redomiciling
in Ireland or Switzerland or the Netherlands, and so they had
to move toward a territorial system in order to prevent those
companies or discourage companies from leaving the country. And
so they have had to make corrective actions to make themselves
more competitive in a global environment.
Let us not forget, when we talk about companies that are--
--
Senator Sessions. I would just say, in this time when jobs
are just a critical factor for us, what would you say to a
working individual in the country who thinks that corporations
ought to pay more, that they are having a hard time getting by.
They read about corporate assets, their wealth they are sitting
on and not spending. How do you explain in simple language your
view that tax increases can be damaging?
Mr. Hodge. Well, first of all, understand that every
multinational company in the United States has IRS agents
permanently staffed in their offices auditing their books.
Imagine if you had to give up your guest bedroom to an IRS
agent and they were constantly looking over your shoulder----
Senator Sessions. One company said, I had to provide free
coffee. I am still irritable about that.
[Laughter.]
Mr. Hodge. But to get to your point, what the economic
research is telling us is that the real economic burden of the
corporate tax is now falling more and more on workers and
labor, and that is because in a global environment where
capital is very mobile but workers are not, the real economic
burden of the corporate tax falls on workers through lower
wages and productivity. And so if we want to encourage higher
wage growth, higher productivity, we need to cut that corporate
income tax and those benefits will eventually fall onto workers
or benefit workers.
And I think that if we really care about the long-term
living standards of Americans and workers, we need to cut our
corporate tax to be more competitive and to reduce the
incentives for other countries----
Senator Sessions. And that will create jobs----
Mr. Hodge. It will create jobs----
Senator Sessions [continuing]. Make the companies healthier
and be able to probably drive up wage rates----
Mr. Hodge. Exactly.
Senator Sessions [continuing]. Which I would like to see
happen. Well, so on the Canadian border, and a company is
deciding where to locate a plant, would this corporate tax rate
induce them--I am sure that is Canada's goal, to induce
corporations to expand in Canada rather than expand in the
United States. Is that realistic?
Mr. Hodge. The Canadian government has an explicit policy,
and it is on their website if you go there, that they want to
become--they want to have the lowest corporate tax of all of
the G-7 nations, the major G-7 nations, and to make themselves
as competitive as possible and as attractive as possible, not
only to U.S. companies, but to all inbound investment.
So I think that there--we often look at Ireland as being
sort of the model for low corporate taxes, but we ought to be
most concerned about Canada. As they are driving to be more and
more competitive, it is going to become a much more attractive
place for U.S. businesses to grow and expand and we risk
falling behind the longer we delay doing something about our
high corporate tax.
Senator Sessions. And the haven problem is exacerbated by
higher rates, would you agree?
Mr. Hodge. Absolutely. I think, and as the Chairman
understands, being former Revenue Director, when you have
States such as South Dakota and Wyoming or Nevada that do not
have personal and corporate income taxes, those look like
pretty attractive places for high net worth individuals or
businesses to expand and grow. So tax competition is real, not
only in the States, but also globally, and the more we
understand that we need to bring down our tax rates to be more
competitive, the shorter time we will risk falling behind.
Senator Sessions. Well, we face a lot of challenges. We do
have a revenue shortfall and we cannot tax ourselves out of
competitive world markets.
Thank you, Mr. Chairman.
Chairman Conrad. Thank you.
Senator Whitehouse.
Senator Whitehouse. Thank you, Chairman. I appreciate you
having this hearing.
As I think both the Chairman and the Ranking Member are
aware, it has been calculated that we spend, as Americans,
about six billion hours every year in tax compliance. So
clearly----
Senator Sessions. Does that include looking for lost
documents?
Senator Whitehouse. Six billion hours. Think what you could
build and design and invent and create with six billion hours
of human economic activity.
Anyway, one of the things that interests me is to sort of
look back and try to put some historical perspective on where
we are right now. And if you go back to 1935, there was
essentially parity between what individuals in America
contributed in the revenues of the country and what
corporations contributed in the revenues of the country. It was
one-to-one.
And then in 1948, we broke through to two-to-one, with
individuals contributing two dollars to the revenue of the
country for every one dollar that corporations contributed. In
1971, we broke through three-to-one, three individual dollars
to our national revenues for every one dollar that corporations
contributed. In 1981, we broke through four-to-one. And in
2009, we hit close to a high-water mark at six-to-one, six
dollars out of America's individual pockets into our revenues
for every one dollar that corporations contributed to our
national revenues.
I understand the competitive advantage from lower corporate
tax rates, but are we condemned to a race to the bottom in
which corporations end up paying essentially no share of our
national revenues and the entire burden is on individuals? That
is a big change from a history during which America was a
pretty strong power and that has lasted 75 years.
Mr. McIntyre?
Mr. McIntyre. Well, you are absolutely right that the race
to the bottom is what is going on in the world today, and if it
is going to be stopped, it is going to take some leadership
from the United States.
The other countries are not happy about it either. They are
losing revenues that they could use to pay for the public
programs that they are cutting instead that would help their
economies a lot more. But we have been the instigator of this
for a long time. They blame us for the race. And if we were to
lower our corporate rate, they will just lower theirs more. It
is one of those things that we have to get together, just like
the States need to do, get together to stop profits moving into
the low-tax States. And you worked on that for years, Senator
Conrad.
But, yet, it is absolutely a critical problem, and the
answer is not to give up, which I think is Scott's advice, but
rather to take the steps that we need to do to get with our
trading partners and work out a way that we can all collect
some money from the owners of capital.
Senator Whitehouse. Mr. Greenstein, I was struck by the
Chairman's remarks about the top 400. I have seen that as well,
and I did a comparison between the rate that the top 400 paid,
on an average $344 million each in annual income, with what
that would connect to in Rhode Island. And the Bureau of Labor
Statistics says that a hospital orderly on average makes about
$29,100, and at that point they are paying about 16.7 percent.
That is about where the crossover is as you climb the ordinary
income wage scale if you a single person.
So you have this sort of peculiar effect of the hospital
orderly, you know, pushing his cart down the halls of a Rhode
Island hospital at 2 in the morning paying the same share in
total Federal tax, combining the income with payroll taxes, as
the person who is making more than a third of a billion dollars
a year, and that just does not seem right. The Chairman's Park
Avenue example, you know, similar effect.
If you take a look at H.R. 1, clearly there are going to be
substantial burdens for people, and we often hear how we all
have to share in this. For the hypothetical person making more
than a third of a billion dollars in income and paying that
16.7 percent tax rate, how does H.R. 1 affect their lives
compared to, say, a family that needs Head Start to take care
of the kids because both parents are working in the morning or
a family that has kids in public school? What is in there that
would change anything for that person?
Mr. Greenstein. Well, I think there are fundamental things
the Government does that benefit people at all income levels
from making sure that the food supply is safe or funding
research into diseases that affect you wherever you are on the
income scale.
Senator Whitehouse. But those would apply equally to all
people, in theory.
Mr. Greenstein. Yes.
Senator Whitehouse. Those are common goods.
Mr. Greenstein. Those are common goods.
Senator Whitehouse. Is there anything that does not qualify
as a common good that would apply to the person making $344
million in a year?
Mr. Greenstein. Well, as a general rule, if we are looking
at various sorts of services, spending, subsidies, for lower-
income people they primarily come--not exclusively--on the
spending side of the ledger, and for higher-income people they
primarily come through tax expenditures on the tax side of the
ledger. And the example I gave----
Senator Whitehouse. H.R. 1 does not do anything in that
regard, does it?
Mr. Greenstein. Well, H.R. 1 by virtue of just focusing on
non-security discretionary programs necessarily has a larger
adverse impact on people lower on the income scale.
Senator Whitehouse. The last quick question as my time runs
out. Mr. Hodge, I just want to clarify one thing. I doubt you
meant to suggest that there was a defense for tax dodges in the
Cayman Islands that allow people to defer all taxation on their
income indefinitely if they have been able to hide it there
successfully by justifying the rate--justifying that by virtue
of the corporate tax rate we have here. If we cut the corporate
tax rate in half, you still cannot beat deferring taxes
indefinitely by hiding them down in the Cayman Islands, can
you? I mean, that is a real race to the bottom if we have to
compete with the Cayman Islands and the tax dodge itself as our
corporate tax baseline.
Mr. Hodge. Well, the basic point is that--I am not going to
defend tax dodges, obviously. But the fact is that the United
States' high corporate tax rate is anticompetitive, and the
rest of the world looks extremely competitive by comparison. It
looks like a tax haven, because the average OECD rate is around
26 percent while the U.S. rate is nearly 40 percent. And so
that----
Senator Whitehouse. Nominal rate.
Mr. Hodge. Nominal rate and the effective rates. There are
also great disparities between the U.S. effective rate and the
effective rates of the rest of the world as well.
Chairman Conrad. I thank the Senator.
Senator Thune.
Senator Thune. Thank you, Mr. Chairman.
Mr. Hodge, you rightly pointed out that the goal of our Tax
Code is not to raise ever-increasing amounts of revenue but
instead to spur economic growth. With that in mind, what do you
think is the most important pro-growth tax reform that we could
undertake here?
Mr. Hodge. Well, following the guide and the research of
economists as the OECD who have looked at the relationship
between different types of taxes----
Senator Sessions. OECD, would you explain that?
Mr. Hodge. Excuse me, sir. The Organization for Economic
Cooperation and Development, and their job is to look at how
Government policies affect long-term economic growth, and when
they look at the relationship between different types of taxes
and growth, as I mentioned, they find that the corporate income
tax is the most harmful tax for long-term economic growth
followed by high personal income taxes, and then consumption
and property taxes are found to be least harmful.
So I would address first our high corporate and personal
income tax systems and try to bring down the rates, and while
doing so we can certainly broaden the base by eliminating many
of the provisions that are currently in the Code. But by doing
so we will not only make ourselves more competitive, but I
think that we will super charge the economy, get us back going
again, and that will be good for everyone in terms of higher
wages and living standards, which ought to be the primary
objective of any tax reform.
Senator Thune. You had mentioned that a typical family of
four earning $50,000 now does not pay any taxes. Historically,
what has been that break-even point? Do you know what that sort
of historical average would be?
Mr. Hodge. It has been climbing over time. There was a time
where perhaps it was around, you know, $20,000, $25,000 a year,
and over time, as we have included such things as the earned
income tax credit, the child credit, and then making those
refundable--meaning even if you did not have an income tax
liability you would still get a refund check--the income
threshold for those not paying income taxes has grown, as you
mentioned, now to around $50,000 a year.
Senator Thune. You had mentioned in your testimony, I
think, that 36 percent of the people in the country now do not
pay taxes. There was some reporting here awhile back that it
was like 47 percent. Are you including payroll and income?
Mr. Hodge. No. The 36 percent refers only to people who
file an income tax return, and then there is a great group of
Americans who earn some income but not enough to break the
threshold of actually filing a tax return.
When you add those two groups together, that comes out to
close to 47 percent of all American households are essentially
outside the income tax system.
Senator Thune. What would be the distributional impact of a
VAT tax, in your opinion?
Mr. Hodge. By and large, economists believe that the value-
added tax is regressive, much like sales taxes. It tends to
disproportionately harm low-income people over high-income
people.
Senator Thune. Could you discuss further the exclusion of
the employer-provided health insurance and its effect on labor
markets and health care costs? Because that is something that
was debated during health care. There was a limitation,
although a small, modest one, placed on so-called Cadillac
plans. Do you believe that changes made in the health care bill
are going to be effective in addressing these problems of
distortions in the labor market and health care costs,
increased health care costs?
Mr. Hodge. The tax exemption for employer-provided health
care really creates what we call a third-party payer problem,
and that is, the real consumer or patient is disconnected from
the real transaction. The real people paying the bills, the
real ones that doctors pay attention to, are the employers and
the insurance companies, not the patient. But the patient wants
as much health care as possible because they are not paying the
bills. So it breaks up the market system and creates an
imbalance there. And so the closer we can get to really putting
consumers and patients in the driver's seat, I think the better
off we will be. Moving toward things like health savings
accounts is an important step. I do not think that the health
care reform bill that recently passed is going to solve this
problem. In fact, it could exacerbate it by creating a larger
third-party payer problem, and people will just simply demand
more and more health care because they are simply not paying
enough of the cost.
Senator Thune. In his opening statement, the Chairman
pointed out the discrepancy between the top 400 and someone at
the lower-income level might be paying as a percentage less of
their income. And one of the suggestions or explanations for
that was that they had unearned income that was taxable at
lower rates, capital gains and dividend rates. I am just
curious, though, what your thoughts are on the impact of
raising those rates. One of the reasons, I think, that the
rates have been lower is that we have tried to encourage
investment that is considered to be a pro- growth type policy
to not tax investment, cap gains, and dividends at the ordinary
income rates.
So what would that do just in terms of economic growth, in
your opinion?
Mr. Hodge. Well, first of all, a lot of these individuals
get some of their income through tax-free municipal bonds, and
so essentially the Federal Government is subsidizing that to
some degree, and so I think we ought to be concerned about
that.
But to get to your point, we do tend to forget that capital
gains and dividends are really a second layer of taxation on
corporate income. And when the OECD looks at the rates on
dividend income, the U.S. has one of the highest combined rates
on dividend income among industrialized nations. I think we are
fourth of the 30 major industrialized countries in terms of our
combined corporate and personal tax rates on dividend income.
So I think that the more we can reduce that second layer of
tax or reduce those dividend rates, I think that we will have
more economic growth and we will have a better economy overall.
Senator Thune. All right. Thank you.
Mr. Chairman, just, as a final closing point, I would like
to see the rates on everybody come down and broaden the base.
You talked a lot about tax expenditures, which I happen to
agree. I think we have way too many preferences in the Tax Code
today and lots of distortions as a result of that. But rather
than raising rates to the higher level, I would like to see the
rate that, you know, the lower-income person is paying come
down. Let us get everybody down to where we are lowering rates
and hopefully broadening the base. So thank you. Thank you, Mr.
Chairman.
Chairman Conrad. That was really the approach of the Fiscal
Commission: broaden the base, bring down rates.
Senator Sanders.
Senator Sanders. Mr. Chairman, thank you very much for
assembling this excellent panel. You know, sometimes we wish we
could have 2 days just to go over this stuff. This is very,
very important stuff. It is a little bit complicated, and we
have some different perspectives--not only perspectives but
different facts coming out.
For example, I would say to Mr. Hodge, my understanding is
that a 2007 study by the Bush Treasury Department concluded
that the effective--not nominal--U.S. corporate tax rate is
lower than the average corporate effective tax rate imposed by
our major competitors.
But, Mr. Chairman, I think most of us understand that we
have a serious deficit problem, that we also have major
problems in our economy, that we want a fair tax system, and we
want a tax system that enables us to improve the standard of
living of ordinary Americans.
Mr. McIntyre made the point that I would reiterate, that
each and every year large and profitable corporations all over
this country are able to avoid paying billions of dollars in
Federal income taxes through loopholes in the Tax Code and
generous tax breaks. In my view, this is simply unacceptable
when we have a $14 trillion national debt.
According to an August 2008 GAO report, two out of every
three corporations in the United States paid no Federal income
taxes between 1998 and 2005. Amazingly, these corporations had
a combined $2.5 trillion in sales but paid no income taxes to
the IRS. That is according to the GAO.
Further, as Mr. McIntyre mentioned in his statement, a
report from Citizens for Tax Justice on corporate tax abuses,
what I found astonishing, is that 82 Fortune 500 companies in
America paid ``zero or less in Federal income taxes in at least
1 year from 2001 to 2003.'' And when you have record-breaking
deficits and a huge national debt, I find that just
inexplicable.
Mr. Chairman, let me also mention that--and you made the
points--I am sorry. Mr. Sessions made the point that the top 20
percent pay 70 percent of all Federal taxes. That is what Mr.
Sessions said. But that has to be put within the context of the
fact that the top 20 percent earned 52 percent of all income
more than the bottom 80 percent.
So one of the realities when you talk about who is paying
taxes, you have to also remember that median family income has
gone down. Most of the new jobs that are being created are,
unfortunately, low-wage jobs, and you cannot get blood from a
stone.
So I think all of our panelists have talked about the fact
that millions of Americans are paying nothing in income taxes.
That is true. You know why? Because they do not have any money
to pay. If you are making $25,000 a year and you have a few
kids and you have a house and you have a car, you have to get
some health insurance, you maybe have some child care, there is
no money to pay income taxes.
Now, Mr. Hodge mentioned the OECD, the Organization for
Economic Cooperation and Development. I will get to you, Mr.
Hodge. I do not want to leave you out. But, Mr. Greenstein or
Mr. McIntyre, of all of the countries in the OECD, is there any
that does not provide health care to all of their people as a
right of citizenship?
Mr. McIntyre. They all do.
Senator Sanders. They all do.
Mr. McIntyre. And they give it to them for free.
Senator Sanders. Oh, my word.
Mr. McIntyre. And yet those people, despite the fact that
they could spend every day of their lives in the doctor's
office should they so choose do not.
Senator Sanders. I do not want to get into health care
right now, but the point is when we talk about OECD nations,
let us look at the whole picture. The United States has 50
million people without any health insurance. We are the only
country in the industrialized world that does not provide
health care to all people.
To send a kid to Harvard University today costs what, would
you guess? Fifty, sixty thousand a year? How much does it cost
to send to the best universities in Europe? Mr. Greenstein, Mr.
McIntyre, Mr. Hodge, do you have any guess on that? Not much.
In fact, I think in Germany tuition there is probably free. Not
a magical thing. That government there believes it is important
to invest in education for the well-being of their country. We
charge very high prices, and a lot of our kids cannot afford to
go to college or they come out deeply in debt. When we talk
about OECD countries, how do we compare, Mr. Greenstein and Mr.
McIntyre, in terms of child care? I have a daughter in
Burlington having a hard time paying for child care. What do
you think? Do the governments in Europe do a little bit better
job? Of course they do.
Mr. Greenstein. Yes.
Senator Sanders. All right, et cetera, et cetera. So, Mr.
Chairman, my first point is you have to look at the entire
picture.
In terms of income inequality, Mr. Hodge, which major
country on Earth has the most unequal distribution of income
and wealth?
Mr. Hodge. According to the latest OECD countries, the
United States was, I think, fourth on the list.
Senator Sanders. Compared to what? What countries were
ahead of us? Major countries.
Mr. Hodge. On the list, I think it was Portugal, Turkey,
and Italy or something.
Senator Sanders. Mexico, I suspect.
Mr. Hodge. Mexico.
Senator Sanders. Turkey. Well, there it is. We have a more
progressive distribution of income than Turkey does. But of any
major countries on Earth, what would be the answer? Major
economy.
Mr. Hodge. Well, I think I just answered that----
Senator Sanders. The United States of America, right.
Mr. Hodge. We also have the highest overall average per
capita income, ironically.
Senator Sanders. Average.
Mr. Hodge. Yes.
Senator Sanders. Meaning that if you have somebody who is
making a billion dollars and somebody who is broke, average
income is half a billion a year. We understand that. But you
are also--I do not want to get into the average. We have dealt
with the average issue here a whole lot. It does not mean a
whole lot when the median family income of the average American
has gone down by $2,500 in the last 10 years.
My point, Mr. Chairman, is this is a fascinating
discussion, and we need a lot more of this. Clearly we want tax
policies which generate good-paying jobs. We want to deal with
the huge trade deficit of some $500 billion a year where
company after company is shutting down here and going to China.
I would argue that taxes are not the only factor. I think
wages, the incentives offered by the Chinese Government are
also important.
But my main point is that when we talk about who is paying
taxes in this country, we also have to talk about the kinds of
incomes that our people are experiencing. And the sad reality
is that for millions and millions of Americans, their real
incomes are going down. So it should not be shocking that they
pay less in taxes.
I would also add, when Senator Sessions talked about the
top 20 percent pay 70 percent of all Federal taxes, while that
is true, if you add to that, Senator Sessions, State taxes and
you add local taxes, which are, by and large, regressive--
right? A billionaire and a working person fill up a gallon--
fill up their gas tank in a car, right? So if you are making
$25,000 a year, that is a heavier burden on you than if you
have a whole lot of money. Property taxes, by and large, are
regressive. So when you add the Federal income tax and State
taxes and local taxes, you probably end up with a situation
where, for millions of people, working people, their effective
total tax rate is a hell of a lot higher than it is for some of
the richest people in this country.
Thank you, Mr. Chairman.
Chairman Conrad. Thank you, Senator.
Senator Johnson.
Senator Johnson. Thank you, Chairman. Thank you for
appearing.
I would like to start out with Mr. McIntyre. I really like
looking at the reality of the situation. Who in effect pays the
corporate income tax? When corporations view the tax as a cost,
just like in my business I view resin prices as a cost, who in
effect pays that corporate tax?
Mr. McIntyre. The shareholders, in my view.
Senator Johnson. You do not think it is the consumers of
the product?
Mr. McIntyre. Absolutely not.
Senator Johnson. Mr. Hodge, what would you say----
Mr. McIntyre. I can prove that to you, if you want. There
are many, many companies in this country that argue for
replacing the corporate income tax with a tax on consumers. It
would seem to me a waste of time if it was already a tax on
consumers. So why wouldn't--I cannot understand why they would
make the effort.
Senator Johnson. Mr. Hodge, I would like your thoughts on
that.
Mr. Hodge. Economists are pretty well agreed that there are
three parties that pay the corporate income tax. It is either
consumers through higher prices, shareholders through lower
share returns and lower share prices, and workers through lower
wages. But what we are finding in a global economy is that
workers are paying the lion's share of the corporate income tax
through lower wages and productivity. And so we need to really
understand this in a global context where capital is extremely
mobile but workers are not, that it is workers that are bearing
that lion's share of the corporate tax.
Senator Johnson. You know, oftentimes when I listen to
these discussions, it is like we have an option not to compete.
The U.S. as a country has to compete for global capital,
correct? We do not have that option. We have to compete. So how
do we compete when the CEO from Intel says in his
decisionmaking factor, in order to produce--or build a
semiconductor plant, it costs $4 billion in Asia and $5 billion
in the U.S., and he largely attributes that to the tax regimen.
I am sure regulations play a part in that.
If you are a corporation manager, let us say, from a
different country, if you are looking at investment decisions,
why would you spend an extra billion to invest in the U.S.?
Mr. McIntyre. Well, there is no doubt that some companies
have advantages in low wages or that they provide other
benefits that make it cheaper to do things abroad, and there is
not too much we can do about that.
My point is that we probably should not be paying our
companies to go there. So if there is a tax advantage in
China--I will take your word for it--we could solve that
problem by getting rid of deferral so that the Chinese profits
would be taxed at the same rate as if those profits were earned
in the United States. So, yes, if that is a problem, my
solution solves it.
Senator Johnson. Mr. Hodge?
Mr. Hodge. The corporate tax rate in China is 25 percent,
which is just slightly below the average of the major
industrialized countries. It is 15 percentage points lower than
the Federal corporate tax rate. So, by definition, it is a much
more competitive place, a cheaper, at least from a tax
perspective, place to do business. And by ending deferral, as
Bob has suggested, you would instantly make U.S. companies less
competitive while doing business there and give a distinct
advantage to German firms, Swiss firms, French firms, all the
other firms that are doing business there. We want U.S.
companies to do business in China. We want them to succeed in
the global marketplace. And by hamstringing them by eliminating
deferral or keeping the U.S. tax rate where it is, we are
making the U.S. less competitive, we are making U.S. companies
less competitive, and ultimately we are making U.S. workers
less competitive. And that is a recipe for slow economic
growth.
Senator Johnson. Isn't it also true that when a U.S.
company invests overseas, that also provides an awful lot of
jobs in the U.S. supplying and servicing those overseas
operations?
Mr. Hodge. Yes, the research of Matt Slaughter from
Dartmouth University has shown that it is what they call in the
military the ``tooth-to-tail ratio,'' and that is, you need a
certain number of people back home to service those people who
are on the front lines. And it is that way in corporate
America, too. So if we are doing business in China, we need
researchers and designers and computer experts and financial
people and all these people back here who do a lot of the brain
work to support that work that is going on overseas. And so as
we are growing abroad, U.S. companies are also growing
domestically, and Mr. Slaughter has shown that pretty
convincingly in his economic research.
Senator Johnson. Overall, the U.S. economy has never really
generated much more than about 18.8 percent of GDP in terms of
revenue. Professor Hauser calls that ``Hauser's Law.'' I would
like you to speak to that basic fact. As much as we would like
to believe we could raise 21 percent of GDP in revenue by a
different tax regimen, how realistic is that to actually occur?
Mr. McIntyre. Well, we have done it before. In fact, the
only time we have ever balanced the budget in the last 50 years
is when we did it.
Senator Johnson. In the 2012 budget, President Obama's
budget, there are only 3 years where we actually collect
revenue greater than 20 percent of GDP.
Mr. McIntyre. Right. I am saying the last time we balanced
the budget was in the Clinton administration when revenues went
up to almost 21 percent of the GDP. Back in the 1960s, we
balanced the budget briefly when it was about 20 percent of the
GDP. All the other years in between those balanced budgets in
Clinton and Johnson--a different Johnson--were places where we
had lower revenues and unbalanced budgets.
Senator Johnson. But don't you acknowledge the fact that
taxpayers simply cannot reorganize their affairs quickly enough
when you increase tax rates? It just takes a little while. You
are able to snare a higher percentage of GDP when you increase
taxes, but eventually that benefit falls off.
Mr. McIntyre. No, I do not think that is true. I think what
happened--and it is very clear what happened to the corporate
income tax--is that Members of Congress are either cajoled or
threatened by the corporate lobbyists to give them back their
loopholes, and then every once in a while, we have to clean up
the Tax Code again. It used to be on a 15-year cycle. We missed
out on the 2001 one due to a difficult election decision, but
we are overdue to clean it up again. Yes, it is kind of like
the Medicare rules with the doctors. If you do not change them
often enough, they will understand them.
Senator Johnson. Well, first, I am totally supportive of
slim-lining this Tax Code. It is absurd, 70,000 pages----
Mr. McIntyre. Yes, and I am not talking about raising tax
rates, you know. I am talking about probably cutting tax rates
a bit to make it more palatable. But all these subsidies we
have in the Code, don't we believe in free markets at all
anymore? And, gee willikers, the companies come in with the
same story, and you guys fall for it every time. The 2004
American Jobs Creation Act, they came in and said look what is
going to happen when you give us this thing. General Electric
said give us all this stuff--they wrote half the bill--and we
will create jobs in the United States. What did they do? Since
then, 32,000 fewer jobs at GE in America, and jobs are up
overseas.
So, yes, I mean, you can fall for it or not, but----
Senator Johnson. You have no argument with me on the
special tax rates.
Mr. McIntyre. Good. I appreciate that, Senator. We are
friends now.
Chairman Conrad. I would like to go back to one thing I
heard, that 47 percent of the people in this country pay no
taxes. I do not think that is an accurate statement. They may
not pay income taxes, but they pay payroll taxes. In fact, I
think two-thirds of the people in this country pay more in
payroll taxes than they pay in income taxes. But I would just
like the panel to respond to that.
Mr. Greenstein. Well, actually the 47-percent figure is
incorrect for the percentage of people that do not pay income
taxes as well. It was a correct figure for 2009 and 2010 for
two reasons. We were in a deep recession, and a lot of people
lost their jobs and did not have income. And Congress passed a
temporary making-work-pay tax credit that took more people off
of the income tax roll. So, for starters, we want to look at
the underlying figure without the make-work-pay tax credit and
without 9 or 10 percent unemployment.
So the figure before the recession was 37 percent. However,
that is just income tax. When you take into account payroll tax
and to a minor degree excise tax, the best estimates are that
about 10 percent of families do not pay any Federal tax; about
90 percent do. But that is a 1-year figure. Income is very
volatile. People lose their jobs, they gain their jobs.
If you said over a 5- or a 10-year period what percentage
of people do not pay any tax year after year after year, any
Federal tax, it would be very, very tiny.
The other thing that--you know, we have a figure from CBO
that if we take the bottom quintile, the whole bottom 20
percent of Americans, for 2007--the last year we have--yes,
their income tax was negative because of things like the earned
income credit, but their total average Federal tax rates was 4
percent. They paid 4 percent of their total income in Federal
taxes of one sort or another, even though the income alone was
negative.
I guess the last point I would make on this is that you
made a conscious and I think the right decision here in
Congress on a bipartisan basis over the years that if you
wanted to make sure that parents working full time did not
raise their children in poverty, you could have not had an
earned income credit or had a much smaller credit and had a
dramatically higher minimum wage. Now, business would have
complained mightily about the job and employment effects of
having a much higher minimum wage. So you ended up doing
somewhat less on the minimum wage and putting place a robust
earned income credit, and my recollection--I remember in 1989
or 1990 there was a debate over how much to raise the minimum
wage, and the single biggest EITC expansion bill introduced
that year was by Mr. Armey, now active with the Tea Party,
because he felt it would be bad for business to raise the
minimum wage a lot and that the alternative was to do a very
large increase in the earned income credit.
So we really need to take all these factors into account.
But the idea that nearly half of Americans have no skin in the
game is really not borne out by the facts.
Chairman Conrad. Isn't it true that the vast majority of
people in the country pay more in payroll tax than they pay in
income tax?
Mr. Greenstein. Yes, they do, and also nearly everyone pays
State and local taxes because a very large share of State
taxation is the sales tax. And regardless of how low your
income is, you pay that. So most people at the bottom, Federal
and State together, they pay tax liability, often a fairly
significant amount, because in many States--and Bob McIntyre's
group has done the key work on this--in many States the
percentage of income you pay in tax at the State and local
level is higher for people in the bottom quintile than people
in the top quintile because of the regressivity of sales taxes.
Chairman Conrad. Mr. Hodge, were you seeking recognition?
Mr. Hodge. Yes, Mr. Chairman. In my written testimony, I
point out a Joint Committee on Taxation report looking at
refundable credits against--and how that not only eliminates
people's income tax burden but also how much it erases of their
payroll tax burden. And for 2009, these refundable credits
exceeded the employee's share of payroll taxes for 23 million
tax filers and exceeded the employer's share of payroll taxes
for 15.5 million filers.
So in addition to erasing their personal income tax burden,
these refundable credits have become so generous they are now
erasing their payroll tax burden as well. But we often forget
we are just looking at the tax side of things, and we have to
look into what also is being given to these people in various
Government benefits. And when we look at both sides of the
equation, we find that low-income people get as much as $10 in
Government benefits overall for every dollar that they pay in
taxes. And so we have to look at both sides of the equation,
not just the tax side.
Chairman Conrad. OK. I want to just in my remaining time go
off the subject of this hearing because Mr. Greenstein is here.
We had Mr. Bowles and Mr. Simpson here yesterday. I wanted to
just have a moment to talk about Social Security with you, Mr.
Greenstein. In the Bowles-Simpson Commission, as we looked at
Social Security, we saw that in 2037 Social Security faces a
22-percent cut, or thereabouts. It depends on a lot of factors.
But in 2037, there is an across-the-board cut because Social
Security cannot make all the payments that are scheduled.
And so the question is: What does one do about that? The
Commission concluded that it is important to address that
sooner rather than later, made a series of changes, and one of
the things that was done was to try to have a set-aside for
people who need to retire early because they are in hard
physical labor positions.
On restring solvency, there were a series of other steps
taken, going to chained CPI, which economists tell us is a more
accurate measure of inflation; changing the bend points; and
also raising the income level which Social Security taxes apply
to because the traditional 90 percent of income being subjected
to Social Security has fallen away.
There is a technical problem with what the Commission
reported, which I have been repeatedly assured will be fixed--
it has not yet been fixed--so that the lowest quintile would be
protected. As it turns out, because of a technical flaw in what
the Commission did, the lowest quintile have not been fully
protected, but it is clearly the intention that they be.
What would be your assessment of the Social Security
provisions?
Mr. Greenstein. I do think there are some serious problems
with the Social Security provisions in the Bowles-Simpson plan.
I fully agree with sooner rather than later and the chained CPI
applied to everything, tax code, other benefit programs.
Chairman Conrad. Which the Commission did.
Mr. Greenstein. But the problem, for starters, the problem
at the bottom really is not just a technical problem. So the
Commission did--it intended, no question, fully intended to
protect people in the bottom quintile through a hardship
exemption. But now that the actuaries have looked at it more
closely, only 20 percent of people with very low lifetime
earnings would qualify for the hardship exemption.
There is not an easy technical fix. If you redesign the
hardship exemption to make sure you get all or nearly all of
the bottom quintile, it is hard to do it without sweeping in
large numbers of people in higher quintiles, as well, and
costing a lot of money.
I am also concerned about the next----
Chairman Conrad. Can I stop you just on that? So is it your
view that there is not a way to protect that lower quintile?
Mr. Greenstein. There is a--here is where I am heading. I
see two problems, and they sound like they are in conflict.
They did not do an adequate job for the bottom or the next-to-
the-bottom, you know, elderly widows at $15,000 a year. Under
the plan, they both have higher Medicare copays and lower
Social Security benefits.
The second problem is while I fully agree that we should be
hitting people at the top more than the bottom, I worry about
how far Bowles-Simpson went. Today, the higher earner pays 5.6
times as much in payroll tax over a career, gets 2.5 times as
large a benefit. Under Bowles-Simpson, ultimately, you pay
eight times as much in payroll tax and maybe get less than
twice as much benefit.
To me, the bottom line is it is very hard to solve all
these problems if you have two-thirds of the solvency coming on
the benefits side. I think Rivlin-Domenici, which is about 50-
50, really--you know, you can quibble with it, but it largely
addresses these problems. Changes could be made to ease the
problem on the bottom quintile. It is going to be very hard to
fully solve it unless there are some larger changes in the mix.
Chairman Conrad. Can I just ask, outside of this, for your
recommendations on what we would do----
Mr. Greenstein. Yes.
Chairman Conrad [continuing]. In your view, to fix, that at
least is partially a technical issue, not intended effect, and
in a larger view, what you think needs to be done.
Mr. Greenstein. I would be happy to do it, and without
going into details now, I would note that I think in order to
do this in a cost efficient way, one needs to bring the SSI
program, which is highly targeted on the bottom, into the mix.
There is more one can do in a cost effective way if we look at
Social Security and SSI----
Chairman Conrad. Well, I would very much--you know, we are
at a critical moment here, and as soon as you could provide
recommendations--I should have called you before this, but I
think as we haveten into it, we have understood better, and
frankly, the thought piece that you put out, I think it was
last week----
Mr. Greenstein. Yes.
Chairman Conrad [continuing]. That I saw, helped us
understand better that there are problems here and we certainly
want to address them.
Senator Portman.
Senator Portman. Thank you, Mr. Chairman, and I really
appreciate the panel being here. I have so many questions and
so little time, but I just have to touch on a couple of things
quickly.
One is on the issue of tax reform and as it relates to the
EITC. I came in when you were discussing some of the history of
this and the fact that some people view this as an alternative
to minimum wage. My point on the EITC is really a very simple
one, which is there are better ways to do it. If you look at
what the IRS is asked to do today, it is really kind of the
opposite of what the IRS is good at. I mean, they are asked to
find out how much income we all have and question whether we
are showing all of our income, and then for EITC, it is the
opposite.
And it is also, frankly, not their expertise to be able to
deal with these kinds of issues, which are better sometimes
dealt with by social service agencies, and the IRS is not the
most gentle organization sometimes. So I think it is tough for
them to do it and that is why you see 23 to 28 percent improper
payments, according to the IRS Inspector General. You know,
that is $11 to $13 billion a year in improper payments.
One way to deal with it, obviously, is to use the payroll
tax system. Offset payroll taxes. Now, as Mr. Hodge has said,
because our system is increasingly progressive, it is difficult
to cover everybody with payroll tax, but most people would be
covered and then you would not have the IRS asking people,
again, to do something that the IRS is not good at and you
would not have the IRS in a position, again, more like social
service agencies would be, looking at people's incomes at that
level.
So I think it is a call for reform, and part of the tax
reform ought to include looking at EITC. These kinds of
improper payments in the context of our budget crisis just
cannot continue, just as we have talked about today.
I would say, Bob, to your point on Social Security, it is a
whole different environment on that, too. I mean, I understand
what you are saying on looking at the benefit side versus more
taxes, but we are looking at a very different scenario than we
were in 1983 and certainly than we were even 5 years ago.
On tax reform generally, I would love to get the views of
the panelists. I know there are some differences of opinion
that I heard expressed earlier. But let me quote Bob Greenstein
before the Fiscal Commission. ``With sensible base broadening,
we can reduce the inequities and inefficiencies in the
corporate income tax, lower the top corporate rate, boost
competitiveness, and raise somewhat more revenue.''
Mr. McIntyre today says, ``We want corporations to do
things that are not economical in the tax code. It distorts
markets.'' I agree with him. I agree with you.
Mr. Hodge, of course, has talked about the fact that our
corporate rate is not competitive, and we may wish that the
world were different, but the world is increasingly competitive
and other countries have lowered their rates precisely because
they want jobs in their economies and it is working.
So I guess I would just throw out to the group, do we at
least have a consensus here, although differences in terms of
how to do it, that we do need, at a minimum, to lower the rate,
reduce the number of preferences, and therefore have a more
competitive tax system on the individual and the corporate
side? I throw it out. Bob?
Mr. McIntyre. Well, I think we should reduce the rate a
little just so we can get some political support from the high-
tax companies to pass it. But if we get back into the race to
the bottom with Europe rather than moving to a system where we
protect jobs in the United States by getting rid of deferral,
this will not stop. It started a number of years ago and it is
a problem for everyone in the world and we need to stand up and
say to the other countries, let us talk about this. It is not
working for us. Get a system where we can get some tax on
income from capital, and we are not getting it now and that is
bad for the fairness of our society.
Senator Portman. Well, it would surprise a lot of folks to
hear we are not getting any. It is not a race just with Europe,
as you know. It is a race with Asia, certainly Canada, as Mr.
Hodge has pointed out. They are all very aggressive on this
notion of taxing capital or capital taxes. There is pretty much
a consensus among economists, most of that cost is borne by
labor and a lot of it is passed along to us as consumers,
obviously. So it is a different sort of tax.
But, Bob, go ahead. Sorry.
Mr. Greenstein. The concept of broadening the base and
lowering rates has very broad support, but I think there are a
couple of key things that have to go with it. No. 1, given our
fiscal situation, unlike 1986, it cannot be revenue neutral----
Mr. McIntyre. It was not revenue neutral in 1986, Bob. It
raised corporate taxes by one-third.
Mr. Greenstein. No, no, I am talking about----
Senator Portman. Overall.
Mr. Greenstein [continuing]. Corporate and individual
combined, overall. It cannot be revenue neutral.
Second, on the individual as opposed to the corporate side,
1986 lowered rates, but it eliminated lower rates for capital
gains and dividends. I think one should not be talking about
lowering top rates in the income tax unless one is going to tax
capital gains and dividends as ordinary income.
Last key point, I just want to say quickly on the Earned
Income Credit, the research literature is now overwhelming on
the degree to which the credit has been successful in promoting
work, reducing welfare. It has very low administrative costs. I
do not think doing it through the social service side would be
anywhere near as----
Senator Portman. Well, remember, I talked about offsetting
payroll taxes, because most of these people have payroll tax
liability----
Mr. Greenstein. If you offset it through payroll tax----
Senator Portman [continuing]. And you would avoid a lot of
the improper payments through that.
Mr. Greenstein. Let me suggest an alternative route. If you
try to offset it through the payroll tax and you want to do as
much to promote work and reduce poverty at the bottom, you will
have to spend a lot more money, because in the payroll tax, you
do not know families' total income. You do not know who is a
one-earner family or a two-earner family.
I think the alternative route is, No. 1, to simplify the
EITC, which has more pages of instructions than the Alternative
Minimum Tax. And No. 2, gets to the question of IRS
enforcement. We are now getting to the point where we have more
data bases that could be used to, both in the EITC and the
general code, find more questionable claims and followup on
them. The problem is that we have not invested enough money in
either updating IRS computer systems or, frankly, in enough IRS
staff. So when the IRS looks, they can do more EITC
examinations and save, I forget, four dollars for every dollar
they spend. But if they use that money on small business or
corporate noncompliance, the ROI is higher.
Senator Portman. Yes. Listen, I----
Mr. Greenstein. They just do not have enough resources to
do it.
Senator Portman. I agree with you on the data base, of
course, and simplification, you are absolutely right on the
EITC. But my point is, this is all about reform, and Mr. Hodge,
do you have any comments on reform quickly? I have just got 1
second left, literally.
Mr. Hodge. Well, very quickly, the National Taxpayer
Advocate says that while 63 percent of Americans pay someone
else to do their taxes, for EITC recipients, it is around 75
percent. I think it is a shame that poor people have to pay an
expert in order to be able to get the EITC benefit.
But more broadly, I think we need fundamental tax reform
across the board to remain competitive and to--it sort of
sounds like shouting into wind to say that, well, we can only
lower our rates a little bit, but we are not going to go as far
as the Europeans or the Asians. The world is changing and we
have to change with it, and if we do not, we are going to
continue to fall further and further behind in this very, very
competitive global economy.
Senator Portman. Thank you, Mr. Chairman.
Chairman Conrad. Thank you, Senator.
Senator Wyden.
Senator Wyden. Thank you, Mr. Chairman. I want to thank all
three of your organizations. We have worked with you on these
issues for quite some time.
And I want to start by talking to you a little bit about
the urgency of all of this. My concern is that if a fire is not
put together for significant bipartisan comprehensive tax
reform, in all probability, the lame duck session of Congress
in 2012 will look much like the lame duck session of Congress
in 2010. There will be a debate once again about how damaging
it would be to raise taxes on middle-class folks, something I
happen to agree with and I think all of you do. And once again,
people will go into this kind of automatic kind of pilot
routine where you say, let us just extend this extraordinarily
broken system for a while longer, something that is not
creating jobs, is just riddled with all of these loopholes and
exemptions and the Swiss cheese nature of the system. And, of
course, by that time, we will probably have a bunch more
loopholes.
So I would like to get a sense from all of you about your
judgment, whether you agree with me that it is urgent that
Congress move. I think it is urgent just from the jobs
standpoint. As all of you know, I just saw a debate between Bob
McIntyre and Bob Greenstein, two Bobs I admire very much. The
one thing that is not in dispute about 1986 is in the 2-years
after that bill was signed, our country created 6.3 million
non-farm jobs, according to the Bureau of Labor Statistics.
That is enormous in its implications, and boy, it sure looks
good compared to 2001 and 2008, when we created three million
new jobs. In 2 years after tax reform was enacted, we created
6.3 million new jobs.
So your judgment, before I get into some of the details,
that this is really urgent, both from the standpoint of job
creation, most important, and second, so we are not staring
down the road here in the lame duck session of 2012 at
repeating exactly what I think all three of your organizations
are against. So this is just a question about whether this is
urgent. Mr. Greenstein?
Mr. Greenstein. Let me first say, Bob McIntyre are in
agreement, not disagreement. He was saying 1986 raised revenue
on the corporate side and I was saying it was neutral overall.
I think we are----
Mr. McIntyre. Right. It was just a dangling antecedent, not
a disagreement.
Mr. Greenstein. So do I think this is urgent? Yes, but.
What I think would be a step, unfortunately would not be the
wise thing to do, and you and I may have a disagreement on
this, I worry that if we do tax reform, comprehensive tax
reform in a way that is deficit neutral, that that will be a
long-term negative because it will make it almost impossible to
get a comprehensive deficit reduction agreement. The low-
hanging fruit on the tax expenditure side will be gone, and in
the absence of having revenues on the table, we will not get a
big agreement.
Senator Wyden. Fair, fair----
Mr. Greenstein. However, I do think it would be urgent to
do comprehensive changes that give us long-term deficit
reduction, do not take effect on the deficit reduction side
until the economy is back, and include as part of them tax
reform that both makes the system more competitive and raises
significant revenue at the same time.
Senator Wyden. Well, fair enough. As you know, Mr.
Greenstein, there are definitions about revenue neutrality. The
legislation I had with Senator Gregg, the Joint Tax Commission
said it was more than revenue neutral and all the analyses that
were done said it would produce revenue because of the extra
benefits from job creation.
I just think, having read a lot of the excellent work you
have done, you share my view that not repeating in the lame
duck session of 2012 what we had in 2010----
Mr. Greenstein. That is correct.
Senator Wyden. Thank you.
Mr. McIntyre, same point, not repeating the lame duck drill
of 2010.
Mr. McIntyre. Oh, well I hate lame ducks, but you asked the
question whether it is urgent to do tax reform as soon as
possible. I would worry about that, because I cannot imagine a
bill that could pass the House of Representatives that you and
I would not hate. If you can persuade me that you can persuade
them, then my urgency level goes way up. But right now, it is
not there.
Senator Wyden. Fair enough. Chairman Tiberi, who has done
some very good work on this, put out a statement with me early
on that could have been written by you because it talked about
the benefits of 1986. So I tell you, I think there are a lot of
Democrats and Republicans, who if we can just coalesce here
fairly quickly and not write this thing off for another couple
of years, which is what concerns me, I think a lot of what
thoughtful people like our witnesses have been doing is still
quite, quite doable, and take a look at Chairman Tiberi's
statement about 1986. And he, of course, is the Chairman of a
Ways and Means subcommittee who is very involved with the House
leadership, and that was an extremely encouraging statement.
Let us ask for your colleague from the Tax Foundation, Mr.
Hodge, who we have worked with, too, how important it is to
move on this.
Mr. Hodge. It is critically important, Senator, to move as
quickly as possible. Uncertainty in the tax code is one of the
enemies of economic growth, and we have great uncertainty in
the tax code through all of these temporary measures, short-
term, 2-year or 1-year, or in some cases with certain things,
like the R&D tax credit, companies never know whether they can
use it up until December 31. That is an enemy of economic
growth, and the quicker we can move to fundamental long-term
tax reform that broadens the base and brings down rates and
adds certainty to the tax system, I think the better off we are
going to be, and more importantly, the better off the economy
will be over the long term.
We are losing ground globally, as I have mentioned
repeatedly, and I worry that the longer we wait to solve this
problem and be more competitive, the more we are going to lose
basically jobs and growth to other, more competitive countries.
Senator Wyden. Mr. Chairman, I had one other area,
deferral, that I wanted to get into, but it takes a little
time.
Chairman Conrad. No, take some extra time, because I think
it is very important we do get into it. You and Senator Gregg
had, I think, a very, very important proposal and dealt with
that issue and I think we should take the time, because we are
not going to have another opportunity.
Senator Wyden. Thank you, Mr. Chairman.
Let me start with you, Mr. McIntyre, and kind of walk it
through in terms of how somebody in a supermarket sees it. If
you go and see somebody in a supermarket and talk about what
you are doing on the Senate Finance Committee on which I serve,
the first thing they say is, take away those tax breaks for
those guys shipping the jobs overseas. That is outrageous. I
want red, white, and blue jobs.
And then, of course, you go to the companies and the
companies say, yes, you know, we want jobs in the United
States, too, but our tax rates are higher than just about
anybody in the Western industrialized world. You have heard
their position, as well. And they will make the case that they
have to have tax deferral in order to have jobs in the United
States because of the relationship between jobs offshore and
jobs here.
So what I have said is, let us see if we can find our way
out of this and say that we are going to roll back in a
substantial way some of these breaks that are going overseas--
there is deferral and there are foreign credits--by
dramatically lowering the rate for people who manufacture and
do business in the United States. I call them red, white, and
blue jobs, and when I bring it up with American businesses and
I bring it up with labor folks, who, as we know, have not
exactly seen eye to eye on it, conceptually, they think that
this is something that they can proceed with.
What is your take in terms of how we work our way through
this question that starts in the supermarket or the coffee shop
when our citizens are understandably furious about tax laws
rewarding doing business overseas, and at the same time being
competitive in a tough global market? What is your sense about
how we might--because it was a lot of your creativity that
brought people together in 1986--what might unlock an agreement
in the future on this issue, starting with the person in the
supermarket all the way to American business that has been
concerned about competitiveness and how you might bring a new
consensus together.
Mr. McIntyre. Well, I mean, what is important to understand
is that your proposal to get rid of deferral and tax worldwide
income of corporations addresses the problem of subsidizing
foreign investment, because wherever you move your money,
whether you artificially shift it to the Cayman Islands or you
really build a factory in China, you will still be subject to
U.S. tax, and if you pay taxes to a foreign country, of course,
we will not tax you twice. That addresses that problem.
The companies' retort is that, well, yes, but you want us
to go to China. Now, I do not understand why we want them to go
to China very well. They have this argument that for every
10,000 jobs they create in China, 300 are created in the United
States to manage the business in China. But I would much prefer
to have the whole 10,000 here, personally. And so their idea
that they have to be competitive with the Germany company in
China, eh, trivial at most, although that is what they make as
the argument.
So if we are talking to the person in the supermarket who
wants to know why we are paying companies to go offshore, I
would say, well, yes, Ron Wyden is going to solve that. Now, he
has another thing he wants to do, too. He thinks that we should
have a lower rate if you do business here in the United States,
and he and I have an argument about that, because I think it is
more important for American business to get the benefit of the
public services that they need, the roads and the schools and
everything else. That will make them more competitive with the
rest of the world by doing business here in the United States
and giving them a few points off their corporate rate.
And you say, well, Mr. McIntyre, why do you not just tax
the poor people to pay for these things for the businesses and
give the businesses lower taxes? And I say, well, that makes
things unfair, plus, I do not think the public would tolerate
it. So this is the discussion you and I have had a lot.
But the No. 1 thing that I admire so much about your plan
is you take away the incentive to move things offshore, which
just automatically says, now you have more of an incentive to
do it here. And so if you want to provide a little bit bigger
one on top of that, OK, but remember, that comes at a price.
Senator Wyden. I want to hear from Mr. Greenstein and Mr.
Hodge, and again, just before I leave you, colleagues, when you
look back at the history of how it came together in 1986, Bob
McIntyre did as much as anybody to, in effect, thread that
needle, and we are going to be calling on you often. And this
is, as I have talked about with both colleagues, this is an
inexact science.
Mr. Greenstein, you wanted to add something. We are talking
about how we can find a way in a bipartisan fashion- -I mean,
part of what the companies have said with respect to deferral,
I think, is just understandable, because, oh, somebody is
talking about making an abrupt change in a major economic
policy that relates to competitiveness and I have said I am
interested in working in a bipartisan way with good people like
here and Chairman Tiberi and others so we can have transition
rules, which Mr. McIntyre knows a lot about and would allow us
to start making our way to a new system. But in terms of the
principles of how we would wrestle with the corporate rate and
deferral and going forward in a bipartisan way, your thoughts,
Mr. Greenstein.
Mr. Greenstein. I have not studied your specific proposal
here to the degree that Bob McIntyre has. His comments make a
lot of sense to me.
The point I wanted to add was to contrast your proposal
with something that I think would be very unwise and might soon
come before you, which is the idea to, in the absence of
reform, simply allow a big repatriation at a 5-percent rate.
You know, we tried that in 2004. It did not create the number
of jobs it was supposed to. But the more important point is
that when it was done in 2004, it was said, this is one time
only. And if we do it again now, it will create a sense, I
think, among companies that they should actually shift more
investment and jobs overseas because all they have to do is
wait until the next recession or whatever and they will get
another holiday where they can bring everything back at only a
5-percent rate.
So I think, unlike what you are trying to do, I think if
you simply do a repatriation, in the long run, you are actually
going to lose jobs. You are going to have exactly the opposite
incentive to what you are trying to have.
Senator Wyden. One of the opportunities, again, for common
ground for this table to ponder is that I think that there may
be an opportunity to look at repatriation if it was part of tax
reform. In other words, if it was part of a tax reform proposal
that adhered--and I saw the little skirmish we had on 1986, but
1986 was progressive. It got rid of preferences and it held
rates down, something I think all three of you have in common,
and I think if repatriation is discussed, as I have heard
Senators and House members talk about it in the context of tax
reform, we may be able to get some more common ground.
Mr. Hodge, and I am just very appreciative of you, Chairman
Conrad. I just think this is a big issue that does not get
talked about much. Mr. Hodge, your way out of this conundrum
involving international tax policy and the person who is our
constituent in the supermarket.
Mr. Hodge. Well, Senator, I agree with your plan to lower
the rate. I think reducing the rate to at least 24 percent is
the absolute way to go. Preferably, I would like to see the
Federal rate be around 20 percent so that when you add back the
average of State rates, we are at about 25 percent overall,
which would equal us to China and roughly the OECD average.
But I disagree with remaining with the worldwide system and
I would prefer to move toward a territorial-type system. That
is the trend among our major competitors. The United Kingdom
and Japan were the two latest countries to move toward more or
less of a territorial-type system. And to remain with a
worldwide system would simply hamstring American companies as
they are trying to compete in an incredibly competitive global
marketplace.
I do not think that we want to concede China or Asia or
Europe or any of these other emerging markets to our foreign
competitors, and I think to remain with this worldwide system
would absolutely do that. I think if somebody is going to make
tractors in China, I want it to be Caterpillar. I want it to be
John Deere. I do not want it to be a Germany company or a Swiss
company or someone else. I want U.S. companies to be as
competitive as possible in this global economy.
And the benefit principle of taxation says that taxes
should at least be linked to the benefits, and U.S. companies
are paying taxes on those profits earned abroad. They are
paying them to the host country where those profits were
earned. And I think it is unfortunate the U.S. system penalizes
U.S. companies for trying to bring those profits back and
reinvest in the United States. And that is why I would like to
see a permanent territorial system so there is no penalty for
reinvesting, not one of these one-off. I agree that that was
bad tax policy. And any of these holidays tend to produce
unintended results. Permanence is the way to go.
Senator Wyden. My Chairman has his gavel in his hand. Let
me just kind of close with what our challenge is, and I would
welcome your ideas, the three of you.
Senator Gregg and I spent an enormous amount of time
debating just this, and I will keep my public posture as being
open to this and a variety of other things you will hear. Mr.
McIntyre made very good intellectual arguments against it. What
I have to tell you is we are going to need some proposals
quickly on how people at this table might come together behind
it, because issues like transfer pricing, which are sure to be
compounded by anything in this area, have to be addressed in
order to go forward.
So I am open. A lot of Senators on both sides are
interested in this. The Commission was interested in it. But we
are going to have to have, quickly, some very creative kind of
work done by people like the three of you in order to give this
a pulse and I am going to stay open.
Thank you, Mr. Chairman.
Chairman Conrad. Thank you so much. It was very important
we have this discussion because we really are at critical
moments of decisionmaking.
With that in mind, I would ask both Mr. McIntyre and Mr.
Hodge if you could provide to me and this committee a summary
of the arguments that you believe are most important to keep in
mind on the question of territorial versus worldwide. It would
be very important that we get that because we are at a critical
moment in discussions and it would be very helpful to have the
information that you have and the knowledge that you have
brought to bear as this decision is made. So could you do that?
Mr. Hodge. Sure, absolutely.
Chairman Conrad. All right. Senator Portman would like an
additional moment, as well.
Senator Portman. Well, just to follow on with the
Chairman's request, this is a critical time because I think
when you look at the economic growth possibilities as part of
looking at our fiscal situation, tax reform is high on the list
and it happens to be bipartisan. It is something the President
is talking about, we are talking about on our side of the
aisle, and we need to move and move quickly, in my view. We
cannot wait another 18 months or 2 years, and because the
election is coming up, it needs to move particularly quickly.
I have a very different point of view, Mr. McIntyre, on
what we ought to be encouraging U.S. companies to do, so our
policy proposals may not be that different, because I am
strongly supportive of what my colleague is talking about in
terms of lowering the corporate rate, and Ron Wyden has done
terrific work on this, because it solves a lot of those
problems.
But let me just give you a quick example, because we did
this analysis in Ohio. There is a study recently done by an
economist at Kenyon showing 17,000 jobs would be lost in Ohio
just by extrapolating from some of the national data on
deferral. So if you would eliminate deferral, you would lose
jobs in Ohio.
In the case of my hometown of Cincinnati, Proctor and
Gamble Company, as you know, is a global company. They do a lot
of business overseas. They do not export Tide, they make Tide
elsewhere. You cannot export it and be competitive. Forty
percent of the jobs in Cincinnati, and they are the largest
private sector employer in our area, so over 5,000 jobs are
there because of their international sales. So it is not just a
couple hundred jobs for a couple thousand because they do all
their research in Mason, Ohio, and they do their back office
accounting and legal and marketing and so on. It is a U.S.
company. We want them to stay in the United States.
Their incentive right now, not speaking for them but
speaking for international companies generally, if you are to
keep the relatively high corporate rate relative to other
countries and keep this notion in place that we should not
allow them to defer prior to them bringing their profits back,
would make it advantageous for them either not to be a U.S.
company, first, and we have seen some companies make that
decision.
I remember when Daimler Chrysler testified before the Ways
and Means Committee and told us why it was Daimler Chrysler and
not Chrysler Daimler, but also, it obviously incentivizes them
to sell their foreign subsidiaries and to allow those companies
to be purchased by companies from other countries that have
better tax advantages. They can pay a premium, the Italians,
the Germans, the Japanese, the Chinese. That is what is going
on in the real world right now.
So I would say we need to be very careful. Ninety-five
percent of the consumers live outside of our borders. We want
to access those consumers. We want to create jobs here in
America by accessing those consumers. If we do not, our
standard of living will go down in this country. We will lose
employment. And if we keep the corporate rate relatively high,
and even 25 percent is relatively high if these other
countries, as Japan, continue to lower their rates, and if we
are the only country of our major competitors that has a
territorial, or a worldwide tax system rather than a
territorial system.
So we, I think, are right on the edge here. If the rate is
low enough, some of this can be looked at. But if it is not low
enough, then we will continue to lose jobs here in this
country. So I wanted to get that on the record and again
appreciate all three of you today. I have enjoyed working with
you in the past and look forward to your help on trying to come
up with a bipartisan approach to tax reform that does create
jobs and opportunity. Thank you.
Chairman Conrad. Thank you, and I would like to turn to one
other matter just quickly, because this really is a critical
time, and that is the question of consumption tax as an
increased part of the tax base of the United States.
Virtually every expert from every philosophical background
who came before the Commission, the tax group of the
Commission--Congressman Camp and I were given the
responsibility to lead the discussion in that area--told us we
should have more of a hybrid system, that consumption should be
more of a part of the tax base of the United States, that it
should be done progressively, which is challenging, but there
are ideas for how you do that. Professor Graetz, as many of you
know, has a proposal to take 100 million people off the income
tax rolls and have a consumption tax. The man has some ideas
for how it be made progressive. Others who came before the
Commission from a more progressive viewpoint had other ideas
for how it could be made progressive.
What are your thoughts with respect to having a system that
has a consumption tax component as part of the base?
Mr. McIntyre. Well, we already have one, of course. The
States have sales taxes, which these days run around almost 7
percent. So we have consumption tax as part of our mix. It is,
in some ways, unfortunate because those taxes are so
regressive, and every plan I have ever seen to try to deal with
that regressivity is a failure because it is so hard to do.
Mike Graetz's plan--he does not take 100 million people off
the tax rolls. He just has 100 million people filing for tax
rebates against their consumption tax. But they have to file
their same income tax return they do now, pretty much.
But anyway, no, I think people say, well, you know--I do
not understand. Let us suppose that we are talking about a
value-added tax, and some people say that would be a great
idea, and I say, I look at them and I say, why? If you want to
make the income tax less progressive, you could do it if that
is your goal, to have a more regressive tax system. But why
would you set up a new bureaucracy that estimates say would
have to double the size of the IRS to collect this tax just to
get a more regressive system?
Now, they may have other arguments besides the fact that
they may want more regressivity, but the ones I have heard do
not hold water. So I am strongly and probably irrevocably
opposed to adding a Federal consumption tax.
Chairman Conrad. All right.
Mr. Greenstein. Well, on this one, it may be the only thing
we have discussed today I am in a different place than Bob
McIntyre. I think over the coming decades, we are going to have
no alternative but to get revenue to a somewhat higher share of
GDP, given the aging of the population, increases in health
care costs, and whatever other international challenges we may
face. And whether it would be my preference or not, I do not
see politically that happening on the income tax side alone.
I think we will need a supplementary consumption tax. Were
we able to do it, my first choice would not be a VAT but a
carbon tax because of the growing concerns of the impact not
only on well-being, but on the world economy of global warming.
But I am not sure that a carbon tax is not even politically
more difficult than a value-added tax. Interestingly, the last
conversation I had on this with Michael Graetz, I think Michael
privately probably would prefer a carbon tax, as well.
Now, having said that, particularly for a VAT, there are
two huge challenges. One you noted, progressivity/regressivity,
easier on paper to make it progressive than in the real world.
You can offset the adverse effect on the bottom. As you may
know, we helped design a provision that would have done that in
the cap and trade bill that passed the House, and we were
working with Senators Kerry, Graham, and Lieberman when they
were moving forward on an energy-type bill before it collapsed.
But the farther you want to go up the income scale into the
middle class with the kind of mechanism we developed, it gets
harder.
The other big challenge, particularly for a VAT, is--and it
is really complicated--is figuring out how to design it so it
does not interfere with State and local tax collection, and the
local is actually harder, because a lot of localities have
sales taxes than the State.
One last point. I am not sure, you will have to ask
Michael, but I think in my last conversation with him on this,
he had me actually do a session for this VAT group that he has
on how to offset the impacts on the bottom in December. I
thought by the end of it, he was kind of convinced that his
idea of taking 100,000 people off and having no income tax,
that he was moving away from that, and there were two problems
with that.
Michael fully agrees that we need to make people whole with
regard to the Earned Income Credit and the Child Credit and the
like, but neither he nor anybody else has really figured out a
good way to do that that works in the real world in the absence
of any income tax at all.
The second is health care. Whether you favor the Affordable
Care Act, as I do, or you favor the kinds of approaches that
Republicans offered when George Bush was President, in both
cases, they rely on marketplaces where people get subsidies--
people who are low and modest income get subsidies to make
coverage affordable and the subsidies are delivered as tax
credits through the tax system. And the people that get the
subsidies are all in the income group that under the Graetz
plan no longer files a tax return. And when I mentioned this to
Michael, he said, oh, that is a really good point. I designed
my plan before we went in that direction in health care.
Chairman Conrad. All right. Mr. Hodge, any comment?
Mr. Hodge. Very quickly, Mr. Chairman. I once had a very
senior British tax official tell me that if you want a perfect
tool for funding big government, the value-added tax is the
perfect tool. It is hidden from view and you can always dial up
the rate if you want more revenues, and that is exactly what
the British government has done recently to solve their
problems.
I do not believe that we need an imperfect tax on top of a
tax system that we already have. The value-added tax has many
of the same problems in Europe and elsewhere that we see with
sales taxes here in the United States. They have various carve-
outs for groceries and medicines and children's clothing and
other things and that creates as many problems as you have seen
at the State level.
I do believe we can move toward more of a consumption base
by moving toward what you might call the traditional flat tax,
as advocated by Professors Hall and Rabushka at Stanford or
Steve Forbes or even a plan like what Congressman Paul Ryan has
put forward, where you have a flat tax for individuals, a flat
tax for corporations, you do not tax savings on the individual
side, you allow full expensing at the corporate side, and you
essentially have more of a consumption base, but you do it
within kind of an existing system as we have, rather than
adding something on top of what we already have. I would prefer
that.
Chairman Conrad. Let me just say, my reaction to that is
what you do is you would either raise a lot less revenue- -
every flat tax proposal I have seen does--or you would
dramatically make more regressive the tax system, because our
system now is progressive. If you have a flat tax that
generates the same amount of revenue, it is a mathematical
certainty that people at the top pay less and people at the
bottom are going to pay more.
Let me just thank you. We have really gone well past what
we intended and what we had asked you to prepare for. I deeply
appreciate the contributions you have made. This is a very
timely hearing and important to the work of the committee and
the work of other groups who are having discussions right now.
I thank you all.
The committee will be adjourned.
[Whereupon, at 12:18 p.m., the committee was adjourned.]
THE PRESIDENT'S FISCAL YEAR 2012 DEFENSE AND INTERNATIONAL AFFAIRS
BUDGET
----------
THURSDAY, MARCH 10, 2011
U.S. Senate,
Committee on the Budget,
Washington, DC.
The Committee met, pursuant to notice, at 10:01 a.m., in
room SD-608, Dirksen Senate Office Building, Hon. Kent Conrad,
Chairman of the Committee, presiding.
Present: Senators Conrad, Wyden, Cardin, Warner, Begich,
Sessions, and Thune.
Staff present: Mary Ann Naylor, Majority Staff Director;
and Marcus Peacock, Minority Staff Director.
OPENING STATEMENT OF CHAIRMAN CONRAD
Chairman Conrad. The hearing will come to order.
I want to welcome everyone to the Senate Budget Committee
today. Today's hearing will examine the President's budget
request for defense and international affairs. Our witnesses
today are the Deputy Secretary of Defense Bill Lynn and Deputy
Secretary of State Tom Nides. We appreciate them being here and
look forward to their testimony.
For a number of years, many people have stressed that our
national security relies not just on the Defense Department but
also on the State Department through its diplomatic missions.
So I am glad this hearing will provide a chance to look at our
national security with both agencies represented.
Our country is at a critical juncture. We are borrowing
about 40 cents of every dollar that we spend. Deficits have
exceed $1 trillion for 3 years in a row. Federal debt is
soaring. The long-term outlook is even more sobering. We are
clearly on an unsustainable course.
Our budget situation is not just a fiscal and economic
threat. It is also a threat to our national security. We simply
will not be able to remain a global superpower if we fail to
stop the explosion of Federal debt. And I would note the story
this morning that the PIMCO Total Return Fund has indicated
they have dumped all U.S. debt.
Now, let me repeat that. The PIMCO Total Return Fund has
made public today they have dumped all U.S. debt.
Here is what Admiral Mullen said about the debt threat:
``Our national debt is our biggest national security threat.''
That is coming from the Chairman of the Joint Chiefs of Staff.
This year, for the first time since World War II, gross
Federal debt will exceed 100 percent of GDP, well above the 90-
percent threshold that many economists regard as the danger
zone. That has to be a wake-up call for all of us.
I have always been a strong supporter of defense spending
because I believe providing for the national defense is the
Government's single most important responsibility. And make no
mistake, Congress will continue to provide our troops what they
need for their mission and to keep them safe. But given the
fiscal crisis, every area of the budget is going to have to
come under scrutiny, is going to have to find savings,
including defense. That was the conclusion of every bipartisan
Commission that has examined the long-term fiscal imbalances,
including the President's own Fiscal Commission and the
Domenici-Rivlin group that we will hear from next week.
The examples of inefficiencies in the Defense Department
that have come to light are particularly troubling. We need to
root out wasteful spending everywhere we find it, including
defense. The reality is that defense spending has grown
dramatically in recent years and has contributed to the climb
in deficits. In 1997, we spent $258 billion on the Department
of Defense. This year, when we include war costs, we will spend
about $685 billion on the Department. To put that in a
historical perspective, this will be the fifth year in a row we
will be spending more on defense than we did at the height of
the Korean War in real terms.
The President's budget proposes to continue to increase the
defense budget. In 2012, the administration requests $553
billion for the regular defense budget, representing a $27
billion increase over the 2011 continuing resolution level. The
administration has said its defense request would save $78
billion over 5 years by implementing savings proposed by the
Secretary of Defense, Mr. Gates. While I welcome those savings
proposals, that estimate compares the President's current
budget request with the President's request last year, which
was never implemented or agreed to. Compared to CBO's baseline
for defense spending, the administration's current request
actually represents a $128 billion increase over the 5 years.
That is over the baseline, $128 billion.
This chart shows a similar rise in our international
affairs funding, although on a considerably smaller scale. In
2001, we spent $24 billion on international affairs; in 2004,
we saw a notable spike in war-related international affairs
funding from Iraq reconstruction. This year, we are spending a
total of $58 billion on international affairs when war-related
funding is factored in.
For 2012, the administration proposes to keep the base
international affairs budget at $53 billion, the same level as
in the 2011 continuing resolution. However, when war-related
international affairs funding is added in, the administration
is requesting a total of $61 billion for international affairs,
representing a $3 billion increase over the total for 2011. I
would be the first to acknowledge that is modest.
The requested increase in international affairs war-related
funding is explained in part by the transition in Iraq where
the State Department is scheduled to take over responsibility
for U.S. operations there.
For overall war funding, including both defense and
international affairs, the administration is requesting $127
billion in 2012. That is $40 billion less than the average war
funding provided from 2007 through 2011. In those previous
years, this administration and the previous administration made
two or three war funding requests each year. Although I give
this administration substantial credit for being much more
accurate and realistic with its initial request each year, I do
hope our witnesses will be able to comment on whether this $127
billion war funding request will be it for the year or whether
we should anticipate another request later on.
Again, I want to emphasize we will provide our troops with
whatever they need to complete their missions and to be safe.
But the days of an open checkbook here are ending for everyone.
I want to make that very clear. This Committee--I think I can
speak for both sides--recognizes the debt threat hanging over
this country. It must be addressed. There is not an option.
And, again, I would go back to the story this morning--the
PIMCO Total Return Fund advising us they have dumped all U.S.
Government debt. If that is not a wake-up call for where we are
headed, I do not know what would be.
With that, we will turn to Senator Sessions for his opening
remarks. Senator Sessions.
OPENING STATEMENT OF SENATOR SESSIONS
Senator Sessions. Thank you, Mr. Chairman, and I want to
welcome our guests. They represent two of the great historic
Departments of the U.S. Government, and we value your insight
and your testimony.
The Chairman of the Joint Chiefs of Staff, Admiral Mullen,
spoke the plain truth when he declared that our national debt
was our greatest long-term national security threat. I believe
that Secretary Clinton has said the same thing, that it
represents the greatest threat to American security.
The DOD's annual budget compared to the projected growth of
the Nation's interest payment on our surging debt turns out to
be in the years to come less spent on defense than we spend on
interest on our debt. Right now we are spending about 3 times
as much on defense as we spend on interest. It just shows, I
think, the perspective that we are facing.
Mr. Chairman, I share with you the urgency that we have
with regard to spending. I do not believe there is an
opportunity for us to delay any longer. Moody's told the
Government in December that if things do not change, they could
downgrade our debt in less than 2 years. Alan Greenspan said in
January that, in his view, there is a 50-50 chance, a little
better than 50-50 chance, but not much better, that we would
have a debt crisis in 2 to 3 years. This is the former Federal
Reserve Chairman. And Mr. Geithner told this Committee last
week that he agreed with the Rogoff study showing that debt at
the levels we are now, 90-plus percent of GDP, pulls down
economic growth and puts us in danger of a crisis. He
volunteered that. And he agreed with the Rogoff studies.
Then we have Mr. Simpson, Alan Simpson, and Mr. Bowles, who
chaired the Debt Commission, appointed by President Obama, and
they said to us the day before yesterday that a debt crisis
could actually happen. In fact, Mr. Bowles suggested 2 years.
He said it could be a little sooner, it could be a little
later. And Mr. Simpson said in his view it would be a year or
less.
So I suggest that the message is clear. We need to do some
things now, and the Defense Department cannot be absolved from
those challenges.
I so much admire and love the men and women who serve our
country. We have the finest military, Mr. Lynn, the world has
ever known, the finest I believe this Nation has ever fielded
in terms of being trained, being disciplined, being courageous,
willing to go into combat, and also being equipped and trained
on how to use their equipment, and the coordination among the
branches and services is at a level never before achieved, and
it is critical, Mr. Chairman, as we ask the Defense Department
to constrain spending, that we do so in a way that does not
damage what we have been blessed to have created over the last
number of years.
When the cold war ended, we had too much reduction in
forces. Army divisions were cut from 18 to 10. The 600-ship
navy went to 300. The Air Force fighter wing equivalent fell by
half. We ended up with a high proportion of muscle and fat, I
am afraid, during that situation. So we will have to watch it.
We have to be careful.
I am concerned about some of the surging increases
requested by the State Department. We are going to have to look
at that carefully. I also, frankly, am concerned that the role
we are calling on the State Department to fill in Iraq may be
beyond the capabilities of any State Department to fulfill, and
I worry about that both as to cost and to the capability of
achieving that mission.
So, Mr. Chairman, thank you for the hearing. This
represents a huge, substantial portion of the discretionary
budget. We have to ask our Defense Department to do more with
less. But at the same time, we want to do it in a way that does
not call for bad decisionmaking. Driving up the cost of
procurement per item, that would be unnecessary. We need to do
it in the right way.
Thank you for your leadership.
Chairman Conrad. Thank you, and thank you for your
partnership, Senator. I think we have had a series of hearings
here that have been very important. My staff tells me we have
now done more hearings on this budget cycle than have been done
in previous budget cycles for a very long time. And I think we
have done a pretty good job of outlining for those who are
paying attention the dimensions of the problem, the challenge
that we confront, the need to take action now. And we have had
a chance to hear from the President's Fiscal Commission. Next
week we will hear from the other bipartisan Commission, the
Domenici-Rivlin Commission. And then we will go to work on the
budget resolution, and I hope to be able to work closely with
you on that because, frankly, I do not think there is time to
waste.
Reading this story about PIMCO making the decision to dump
all of their U.S. Government debt, this is a long article from
Bloomberg this morning, five pages, six pages. Anybody that
reads this, pretty sobering stuff in here about people--Jim
Rogers of Rogers Holdings deciding to short U.S. Government
debt because of the debt overhang in this country. You know, it
is what we have been talking about for a number of years on
this Committee, that no one can predict when this day comes.
The one thing we can say with certainty is we are moving very
rapidly toward the fiscal cliff. We do not know when we will
get there, if we get there this year or next year or the year
thereafter. What we know with certainty is when we are adding
$1 trillion of debt every year, gross debt every year, we are
putting this country in an extremely vulnerable position. It
cannot continue.
With that, Mr. Lynn, Mr. Nides, thank you for being here.
Who would like to go first? Tom, if you would like to go first.
Let me just say that Mr. Nides, of course, helped run
Morgan Stanley before being convinced to come into the
Government. We very much appreciate the sacrifice that you have
made, the personal sacrifice that you have made and that your
family has made to serve the Nation at this difficult time.
Welcome to the Budget Committee.
STATEMENT OF THE HONORABLE THOMAS R. NIDES, DEPUTY SECRETARY OF
STATE FOR MANAGEMENT AND RESOURCES, U.S. DEPARTMENT OF STATE
Mr. Nides. Thank you very much, Chairman Conrad and Ranking
Member Sessions. I began my career on Capitol Hill as Assistant
to Majority Whip Tony Coelho and then to Speaker Tom Foley, so
I very much appreciate the pressure you all are under to
justify every dollar that is spent.
Today I want to explain how with just 1 percent of the
Federal budget, the State Department and USAID prevents
conflicts abroad, promotes prosperity at home, and, most
importantly, protects the American people. From countering
extremism in Yemen to serving alongside our troops in Iraq and
Afghanistan, to train Mexico's police force to help ensure our
southern border, we do every day--what we do is for our
national security.
I appreciate you inviting me to speak alongside Deputy
Secretary of Defense Bill Lynn. The fact that we are presenting
our budgets together is a very important first. It speaks to
the sense of shared mission that begins with the President, the
Secretary of Defense, and the Secretary of State, and extends
all the way to the civilians and troops working shoulder to
shoulder in Iraq, Afghanistan, and Pakistan. Cooperation
between State and the Department of Defense has never been
better.
Today I want to walk you through the investments that allow
us to combine diplomacy, development, and defense to advance
our national security.
This year, for the first time, our request is divided into
two parts. The first part is our core budget, our foreign
assistance and operations in just about every Nation in the
world. Our 2012 request is $47 billion, essentially flat from
the 2010 levels.
The second part is our extraordinary temporary war costs in
Iraq, Afghanistan, and Pakistan. This year, for the first time,
the President's budget presents our war funding in the same way
it funds the Pentagon's--in a separate account called the
Overseas Contingency Operation Account, or OCO for short. This
more transparent approach distinguishes between the temporary
war costs and our enduring budget and reflects a shared effort
on the ground. The State Department and USAID's share of the
President's OCO account of $126 billion in 2012 is $8.7
billion, which I will come back to in a moment.
Let me start with our core 2012 budget request of $47
billion. It represents a 1-percent increase over the comparable
levels in 2010, less than the rate of inflation. And make no
mistake, even without the extraordinary war costs, the core
budget should be considered part of the U.S. Government's
national security budget. It stabilizes conflict zones and
reduces the threat of nuclear weapons; it restores old
alliances; it supports democratic transitions; it counters
extremism; it opens global markets; and it protects American
citizens abroad. And where we are not actively working with the
military today, State and USAID are deploying diplomats and
development specialists so that the Department of Defense does
not have to deploy our troops tomorrow.
We are investing in four principal areas:
First, we devote $11 billion of our $47 billion core budget
to prevent conflict and support fragile states. For example,
this budget supports humanitarian and security assistance for
the likes of Yemen, crisis diplomacy in Sudan, and rebuilding
Haiti.
Second, we invest $7.4 billion of our $47 billion core
budget to support key allies and partners. This includes over
$3 billion for Israel and strong support for our partners on
every continent. It also includes military-to-military
partnerships in 130 countries across the world, administered by
State and implemented by DOD.
Third, we invest $14.6 billion of our core budget to
advance human security. We have targeted drivers of future
conflict: disease, hunger, and climate change. Our largest
single investment is $8.7 billion in global health programs,
including the continued support for PEPFAR, the program to
treat and prevent HIV and AIDS started under George W. Bush.
We are also investing $1 billion in food security, $650
million to address climate change, and over $4 billion in
emergency humanitarian assistance for victims of war, survivors
of natural disasters, and refugees, like the hundreds of
thousands who have fled Libya in the last few weeks.
Fourth, we invest $14 billion to strengthen and sustain our
presence across the world. This is an investment of a
remarkable group of public servants, and it delivers
significant returns to the American people. Our political
officers build relationships and promote democracy. Our
economic officers fight every day for American companies and
jobs. Our development officers spread opportunity and stabilize
societies, while our public diplomacy officers tell our story
across the world. And our consular officers help average
Americans every day.
Finally, we have our temporary extraordinary war costs in
the front-line states. I am glad to have Deputy Secretary Lynn
here with me because when you consider our two OCO requests
together, you come away with a much clearer picture. The
Pentagon is saving $45 billion this year on its overall OCO
request from the 2010 levels, largely due to the transition
from military to civilian leadership in Iraq.
Chairman Conrad. Tom, if I can just stop you on that point,
because we have people listening and sometimes we use terms
here that are not familiar to the viewing audience. If you
would describe what OCO stands for, because it is going to be
continually referenced during this hearing, I think it would
help who might be listening. If you could describe what OCO
stands for.
Mr. Nides. Certainly, sir. OCO is basically an ability for
us to be able to show the costs of our war funding, which is
defined as temporary and extraordinary. As you know certainly
from the State Department and somewhat from DOD, much of our
war funding in Afghanistan, Iraq, and Pakistan has been funded
by supplementals. And so this year in 2012, we want to have a
fuller picture of what we believe we need to fund the front-
line states. So we are separating our core budget from our war
costs budget for you all to be able to understand exactly what
we define as temporary and extraordinary.
Chairman Conrad. And OCO stands for Overseas Contingency
Operations.
Mr. Nides. Yes, sir.
Chairman Conrad. So when people hear this reference, OCO,
that stands for Overseas Contingency Operations. It relates to
war funding and conflict funding globally.
Mr. Nides. Yes, sir. So as I was saying, as the Pentagon is
saving $45 billion this year on its overall OCO request for
2010, largely due to the transition from military to civilian
leadership in Iraq, ours--that being the State Department--is
increasing by $4 billion. And as Secretary Clinton likes to
say, every business owner she knows would gladly invest $4 to
save $41.
In Afghanistan and Pakistan, alongside our military
offensive, we are engaged in a major civilian effort to
strengthen our partners, undercut the Taliban, and take on al
Qaeda. We are also working to deepen our partnership with the
Pakistani people and empower the governments who act on our
shared interest in taking on violent extremists. Our OCO
request for Afghanistan and Pakistan is $3.5 billion.
A few weeks ago I visited Iraq, and as soldiers pass on the
responsibility to civilians, the State Department is ready to
lead. But we need the support and the resources to do the job.
We have lost too many lives and spent too much money not to see
this through. The Iraq portion of our OCO request for State and
USAID totals $5.2 billion.
Finally, sir, I would like to address our funding for the
rest of 2011. The 16-percent cut for State and USAID that
passed the House last month would put our missions severely at
risk. In the front-line states, our efforts would be hollowed
out. In the Middle East, we would be forced to scale back
exactly at the wrong moment. And, finally, we would turn our
backs on millions of HIV/AIDS patients, mothers, and children.
The American people are right to be concerned about our
national debt, and so are we. But they still expect us to make
smart investments in the future. And when a crisis erupts--and
they always do--they expect us to be ready. This is a moment
when America needs to lean forward and not pull back. I look
forward to working with you to do what is necessary to keep
America safe, strong, and competitive in a changing and
dangerous world.
Thank you.
[The prepared statement of Mr. Nides follows:]
Chairman Conrad. Thank you, Mr. Nides.
Now we will go to Deputy Secretary Lynn. Let me just
indicate that Secretary Lynn enjoys credibility on both sides
of the aisle here because he has a reputation as a very strong
manager and somebody who has been dedicated to public service
for a long time and somebody that we respect.
Welcome, and please proceed with your testimony. And before
you do that, I should also indicate this hearing, which is for
the first time a joint appearance by Defense Department and
State Department, was actually requested of us by the Secretary
of Defense, Mr. Gates, and the Secretary of State, Ms. Clinton.
They made this request of us, and we have accommodated that
request because they felt it was important given how their
operations are closely linked.
Secretary Lynn.
STATEMENT OF THE HONORABLE WILLIAM J. LYNN, III, DEPUTY
SECRETARY OF DEFENSE, U.S. DEPARTMENT OF DEFENSE
Mr. Lynn. Thank you. Thank you very much, Mr. Chairman. If
it pleases the Committee, I would like to have my full written
statement included in the record, and what I would like to do
is just summarize the main points for you.
Chairman Conrad. That will be done.
Mr. Lynn. As you indicated and as Secretary Nides
indicated, this is, I think, the first time or at least the
first time in recent memory that the two Departments have been
before this Committee together, and it does represent, as you
said, the desire of Secretary Gates and Secretary Clinton to
represent the strong partnership that they have established and
the two Departments have established to jointly address our
national security challenges. It is really two sides of the
same coin. We at the Department of Defense strongly believe
that a full and robust funding of our foreign policy operations
is a very effective means of meeting our national security and
that, indeed, if we promote stability and responsible
governance as crises are brewing, we will be able to avoid
later in the crisis deployment of armed forces, of U.S.
military forces. And so we fully want to support that
partnership. We believe that the mix of competencies between
the State Department, the Department of Defense, as well as
USAID is what is needed to address the kinds of security
crises, the kinds of instabilities, the kinds of regional
conflicts that spark up around the world and to do those at the
earliest possible point.
We think that the budgets that we are putting forward
today, both the State Department and Defense Department budgets
for fiscal year 2012, well represents that partnership. In
Afghanistan, State, DOD, and USAID are working together on
counternarcotics programs, on the training of Afghanistan law
enforcement. We have proposed with congressional concurrence an
Afghan infrastructure program that will meld the DOD
responsibilities for counterinsurgency and the AID and State
responsibilities for development in a way that is, I think,
more integrated than in the past, integrated with both the
long-term development plans in Afghanistan as well as the more
immediate needs of the military campaign plans.
At the same time, we are working together with the State
Department to ensure the joint delivery of security assistance
wherever U.S. interests are at stake. We have developed over
the past several years some joint authorities, some dual key
cooperative authorities, such as the Pakistan Counterinsurgency
Capability Fund, the Section 1206 authority to train and equip
partner nations in the counterterrorism fight. Similarly, this
year we are requesting funding for an Office of Security
Cooperation in Iraq. This would be a remaining DOD presence as
we transition to a State Department lead in Iraq. We think
there is still some need for a DOD presence in terms of
security assistance. We think that is yet another key joint
mission.
In Mexico, we have jointly addressed surveillance,
interdiction, air and maritime operations and planning through
a variety of initiatives.
We continue to work together to train partner militaries in
over 100 countries through programs such as the International
Military Education and Training program, as well as the newly
proposed Global Peace Operations Initiative.
For fiscal year 2012, we are also requesting a new and I
think path-breaking program which would involve pooled funding
where State and DOD would both contribute to a fund in which we
would seek to anticipate security issues, whether they are in
Africa or Latin America or Asia, and to jointly target
assistance for development funding, for economic assistance,
and for security assistance in an integrated way in an effort
to anticipate brewing crises and reduce them before they get
started.
I also want to endorse what you and Secretary Nides were
talking about that the State Department is proposing, that its
funding for the conflicts that we are in, particularly
Afghanistan and Pakistan, be funded through the Overseas
Contingency Operations fund, to identify those funds which are
essentially the marginal costs above the base budget of
addressing those contingencies, that that is appropriately done
in a separate fund that Congress can consider fully and
transparently in that manner.
As the partnership between State and DOD indicates,
concepts of security assistance are changing. We at DOD view
the security assistance activity as a vital instrument that can
prevent or attenuate instabilities that might otherwise draw
the United States into armed conflicts. If properly applied in
a timely manner, security assistance is likely to be more
decisive and less costly than direct military intervention
after a problem has become a crisis.
Our cooperation with the State Department is, therefore, an
important component of our national defense, and so I would
urge, as Secretary Gates has, that you fully fund the State
Department request.
With regard to our request for fiscal year 2012, we are
seeking a total of $671 billion. That is divided between a base
budget of approximately $553 billion and an OCO, or Overseas
Contingency Operations, budget of nearly $118 billion. In our
judgment, this budget is both reasonable in that it meets our
national security needs and prudent in that it supports the
administration's plan to hold down the deficit. The proposed
budget will take care of our people. It will continue to
rebalance the U.S. defense posture. It will provide deployed
forces with what they need to carry out their very important
missions, and it continues the reform agenda that Secretary
Gates has been embarked on for the past 2 years in terms of
streamlining our business operations.
As we built this budget, the military departments found
approximately $100 billion in savings from business operations
and lower-priority programs. They reinvested that $100 billion
into higher-priority programs: intelligence surveillance and
reconnaissance, unmanned aerial vehicles, cyber defense, and
other programs.
At the same time, outside the military departments, the
Secretary and his staff were able to identify an additional $78
billion in defense-wide efficiencies. That money was reduced
from the Department's top line over 5 years to support the
administration's efforts to reduce the deficit.
Finally, Mr. Chairman, I would close my opening remarks by
mentioning the unfinished business that confronts both the
executive and the legislative branch. We are still operating 5
months into the fiscal year under a continuing resolution. If
Congress is unable to enact an appropriations bill for DOD, DOD
would presumably have to continue to operate under a CR,
continuing resolution, for the entire year. This would have
three very negative effects on the Department's operations.
First, it would not provide in our view enough money to
meet all of our national security needs. It would represent a
$23 billion reduction from the request the President made for
fiscal year 2011.
Second, a year-long CR would leave the dollars that we do
have in the wrong places. For example, it would not provide
enough funding in the personnel accounts to support the
military pay raises that have been approved, and it would not
provide enough funding in the operations accounts, in the
medical accounts to meet medical inflation.
Third, a year-long CR would not provide us with sufficient
management flexibility to address the needs of the Department.
We would not be able to start new weapons, we would not be able
to increase production of existing weapons systems, and we
would be unable to start new military construction projects. We
are already dealing with those problems 5 months now into the
year. If the CR continues for the full year, those problems
will get far more severe.
So, Mr. Chairman, it is our hope that working with the
Committee and the Congress we will be able to find a way to get
approved and signed a full year appropriations bill for the
Department of Defense.
Mr. Chairman, that concludes my prepared remarks, and
Secretary Nides and I, I am sure, would be happy to take your
questions.
[The prepared statement of Mr. Lynn follows:]
Mr. Lynn. Mr. Chairman, that concludes my prepared remarks
and Secretary Nides and I, I am sure, will be happy to take
your questions.
Chairman Conrad. We appreciate that. Thank you both for
your testimony. Let me start by saying, I have supported, in my
24 years on this Committee, every penny that has been requested
by every President for our national defense and our national
security. For 24 years, I have supported every penny requested.
But I have to say to you, we are going to have to change
course. It is as clear as anything can be to me. We have the
Chairman of the Joint Chiefs saying, as I indicated in my
opening statement, the biggest threat to our national security
is our national debt. I believe that to be the case.
I served on the President's Fiscal Commission, 18 of us
did. Eleven of the 18 agreed to a plan that would reduce both
defense and non-defense discretionary spending over the next
decade by $1.7 trillion. We did so not because it was
attractive to do or politically popular to do, but because we
saw a fundamental threat to the economic and national security
interests of the United States if we failed to act.
We also called for an additional trillion dollars of
revenue over that period by reforming the Tax Code, broadening
the base, actually reducing tax rates to help America be more
competitive so we could generate more jobs. And those savings
on spending, and we also save money, some $600 billion in so-
called mandatory accounts over that period, and because of
those savings through spending cuts and additional revenue, we
saved hundreds of billions of dollars in interest, for a total
package of some $4 trillion.
And defense was not exempt. Defense was asked to shoulder
its fair share of savings. I was delighted to see Secretary
Gates propose a package of reductions of some $78 billion in
the defense budget, but he took those savings and put them
elsewhere in the defense budget. So that is not a change in
overall spending.
I just want to share with you things I heard during the
Commission considerations of the defense budget going forward.
Testimony before the Commission by some of the top defense
analysts in the country were that 51 percent of all Federal
employees are at the Department of Defense. 51 percent of all
Federal employees are at the Department of Defense. And that
does not count contractors.
When we asked the contractors--we asked the analysts, How
many contractors does the department have, they said, We cannot
tell you. I pressed the analysts and asked them, Well, can you
give us a range? Yes, we can give you a range, 1 to 9 million.
That was the range provided the Commission, 1 to 9 million
contractors. That is a pretty big range.
When we asked the General Accounting Office for an
auditable record of the Department of Defense, they told us the
books are not auditable. You know, we have a big problem here
and I have concluded, we simply cannot stay this course. And it
is not just the Defense Department, it is every part of
government operations.
We are going to run a deficit this year of $1.5 trillion. I
mean, that is a number so stunning, if 5 years ago anybody
would have told me we were going to ever run a deficit in this
country of $1.5 trillion in 1 year, I would have thought, it is
not possible. But it is not just this year. We are going to add
to the gross debt of this country every year for the next 10
years over a trillion dollars.
We have a gross debt now of 100 percent of our gross
domestic product. At the end of this year, we are going to have
a gross debt of 100 percent of our GDP. We have just had a
study that was done by Carmen Reinhart at the University of
Maryland, Ken Rogoff at Harvard, studied 200 years of fiscal
crises in 44 countries. Their conclusion: When you have a gross
debt of more than 90 percent of GDP, your future economic
growth is sharply reduced. That was the testimony before the
Commission.
When gross debt is 90 percent of your gross domestic
product, your future economic growth is sharply reduced. Our
gross debt, at the end of this year, will not be 90 percent. It
will be 100 percent.
So I just say to you, and my question would be, Secretary
Lynn, can't the Defense Department come up with savings that
are net savings? Not just savings that are redirected so that
the overall spending remains the same? Aren't there savings
that you can find there?
Mr. Lynn. Yes, and I think we have. Let me first say, I
agree with you and your citation of Admiral Mullen that we
should indeed treat the deficit problem, the national debt, as
a national security problem and we need to address it with that
type of urgency.
I think, though, as we look at defense reductions, as every
department, you need to approach it in a balanced way. We need
to ensure that we retain what Senator Sessions talked about, is
that we have the best trained, best equipped, best led military
that the world has ever seen and we do not want to lose that by
taking precipitous or unwise cuts.
In that context, I think we can learn from prior draw
downs, ones that may not have gone as well as we would have
hoped. When we take reductions, we need to take them in a
balanced way. We need to take them not just in one account, but
we need to take them across all accounts. We need to reduce
force structure, investment and operations in a seamless way so
as not to unbalance and hollow out the force.
We need to take tough decisions early. We have tried to do
that with some of the weapons' decisions in the past couple of
budgets, not always popular, but I think important decisions
that we need to take. And we need to be sure that we do not
over-reach, that we do not cut into the true bone of that high
quality military that we have.
Now, with that as a preamble, let me go to your specific
numbers question, Mr. Chairman. The savings that we were able
to identify as we built this budget were actually $178 billion.
You are correct, we reinvested $100 billion of that $178
billion. $78 billion was removed from the top line, and it was
done in a way, I think, that reflects the lessons that I just
said.
It was done in a balanced way in that there are force
reductions, but we tried to do it in a prudent way in that
those force reductions do not occur until 2015 and 2016 when we
hope we will have completed the draw-down in Iraq and that we
will have been able to transfer the bulk of the security
function in Afghanistan to indigenous forces.
That will then allow us to get to the kind of reductions
that you are talking about. But I think we have to step through
this in the process that I have just described.
Chairman Conrad. Let me just say, I think I have great
respect for you, Mr. Lynn. I do not know if we have ever met
except in passing, but I have read about you and I know the
kind of record you have brought to this position. So I want to
say, I have great respect for you.
But, you know, words, I think, that we use in this town can
be very misleading. When we talk about there being $78 billion
in savings here on a net basis, you know, it is from an
inflated baseline that comes off of years where the budget was
just going straight up.
So, if one looks at the year over year spending levels in
this budget, every year the spending goes up. It goes up. It
goes up. It goes up. And honestly, as the Chairman of this
Committee, I am talking to colleagues and there are so many
people who are giving the speeches they gave 20 years ago. The
world has changed.
I salute the Secretary for saying, Hey, we have to take
money out of the baseline plan. I am just saying to you, Then
to take a big chunk of it and put it right back in, it is not
going to work. It might work this year. It might work next
year. These budgets, all of them in all of the Federal
Government, this is not going to work.
Our spending, as a share of the national income, is the
highest it has been in 60 years. Our income, as a share of the
national economy, is the lowest it has been in 60 years. So the
reality is going to come crushing in on us here. It is going to
come crushing in on us. Those who are financing this debt, half
of it now abroad, much of it from the Chinese, if you read the
reactions today of this announcement that Pimco has dumped U.S.
debt, I just urge you, read what the Chinese are saying.
Former Chinese Finance Minister saying, They have to re-
evaluate whether they are going to continue buying U.S. debt. I
will tell you, we are on a crash--we are on a collision course
for a financial crash. It is as clear as it can be. And doing
things the way we have been doing them is not going to cut it.
Senator Sessions.
Senator Sessions. I think that is a bipartisan consensus,
gentlemen, and it is very scary. The reality is upon us and it
is critical that we take some steps to show that we get it and
we are putting the country on the right path. I would just note
that I have to be critical of this Administration, both of
which you are a part.
The Education Secretary was in here the week before last,
last week, and testified in favor of an 11 percent increase
next year in his budget. And the Energy Secretary was here,
testified in favor of a 9.5 percent increase. And the
Transportation Secretary was here and proposed a 62 percent
increase. And the Defense Department, if we do real numbers
based on what the CR is and where you want to go next to, is a
5 percent increase. That puts you in better company, Mr. Lynn,
a little bit.
Mr. Lynn. It is pretty reasonable.
Senator Sessions. Well, it may sound that way, but it is
not in light of the debt we have and the crisis that is
happening in the country. I think we are in a bubble in
Washington. I think people are talking about investments. I
think they are talking about business as usual. We are in
denial about the reality of the threat. I am just saying, I
agree with Senator Conrad, change is upon us and we are going
to have to make it. I do not think our institutions have yet
grasped that.
Some in the Congress have not yet grasped it. The ones who
just ran for election did. They talked to the American people
who, I think, get it. The State Department is proposing a 10.5
percent increase in the State Department total increase in
spending.
So these are not acceptable increases, I do not believe,
and I do not think they are going to be approved, so we have to
work on it. I agree with our Chairman, that language is
important. I mean, I love the Defense Department. I know how
big it is and how hard it is to move this monumental ship of
defense, but DoD has portrayed the 2012 request that you made,
not as an increase, but as a $13 billion cut from last year's
projection of $566 billion.
So one of the things we have to do in Washington is we have
to get our language straight. We have to abandon this idea that
somebody's projection increases are the fact and that a
reduction of increase is a cut in spending. We have to talk
about, what is our current level, the CR level, and how much up
you plan to go from that.
As I calculate it, Mr. Lynn, you are talking about going
from this year a 5 percent increase over the CR level, which
would be a real increase, but not--I think that would be an
accurate way of saying it based on my articulation of an
accurate way of saying it. Would you agree? Is that where you
say you are, about 5 percent?
Mr. Lynn. I think that would be an accurate reflection of
the base budget. Of course, it does not include OCO budget
which represents a $40 billion reduction.
Senator Sessions. You are talking about $158 billion on the
war funding to $118 billion, a saving of $40 billion, which is
very significant.
Mr. Lynn. And that will actually get you a net reduction. I
cannot do the math in my head, but it would be a few percent
net reduction.
Senator Sessions. Well, but we are not going to go down
that road either, because that is the military conflict and one
of the things we hope to achieve by this rapid draw-down--I
hope it is not too rapid--is a financial savings and that to be
separate. We are looking at the base defense budget. So I know
you have done some things.
But let's talk about, when you focus on procurement and
reductions there, you have stretched out, as I see it, the
Joint Strike Fighter. You call that a restructuring, but
basically it just moves the requirement from this 5-year window
out further. Does that have an increased cost for a copy if our
contractor now is making few planes in his assembly line, is
less? Are there any kind of cost increases that occur from that
in addition to the fact you d not get the planes as soon as you
would like them?
Mr. Lynn. There is a modest--I think it is in the 1 or 2
percent range--increase in the unit cost from that move, but we
thought it was prudent. As you are well-aware, Senator, we have
had challenges with this program and we thought it was prudent
to slow that production line down until we were further along
in the development; that we thought that that was, frankly, the
best use of the taxpayer dollars.
You are correct. There is some modest unit costs, but they
are, as I say, relatively modest like 1 or 2 percent.
Senator Sessions. But in general, when you take a
procurement plan and you stretch it out, it tends to drive up
costs as well as delaying you obtaining the system.
Mr. Lynn. It does do that. However, if you buy the planes
too early and then the development is not complete and then you
have to go back and retrofit the planes with the fixes that you
develop later in the development process, that is actually even
more expensive.
Senator Sessions. I got you. I think that may well be
justified in this case. I am just raising the point that as you
make tough choices about trying to save money, sometimes your
savings can actually drive up costs, and we need to be careful
we do not unnecessarily do that.
With regard to the State Department, Mr. Nides, over the
last 10 years, the State Department has more than doubled. It
has gone up about 7.7 percent annually. The rule of 7, your
money doubles in 10 years. And the budget for the State
Department from 1908 to 1910, I guess that period of time, is a
33 percent increase.
So what I want to say is, that is an unsustainable rate.
That is over 10 percent, 11 percent rate, I guess it is on--
well, actually, those 2 years. 1909 and 1910 is a 33 percent
increase, so that is about a 16 percent increase each year. So
I have to tell you, we do not have--we cannot sustain that. My
time is up and I will let you comment on it and we will just
say one more thing.
I am very worried that the State Department, by its nature,
is going to be in a situation where it is asking its State
Department personnel to go in dangerous areas of Iraq and
Afghanistan that the military goes every day. They salute and
they go and they take the risk, as they have sworn to do.
But our State Department people have not taken the same
kind of oath and do not see themselves as combat personnel. I
am really worried as to whether or not we will be able to
handle this massive challenge you seem to be undertaking in
Iraq. But basically, on your budget, I will give you a chance
to respond to my comments.
Mr. Nides. Well, thank you, Senator, and I agree with
Secretary Lynn. We all are quite concerned and certainly very
much focused on making sure each dime we can justify, and
certainly understand the focus that taxpayers have on how we
are spending our money.
I should say, in our 2012 request, as I think you noted,
our base budget, which is base budget over 10, is basically
flat from base to base. The growth in our 2012 budget is
principally and solely in the OCO account, which is principally
the transition, which I will get into in a minute--for
military----
Senator Sessions. It is a 3.6 percent increase on the
regular budget, which is above the inflation rate.
Mr. Nides. Yes, I----
Senator Sessions. It is not flat, to my way of thinking.
Mr. Nides. Well, our budget of--again, this is from where--
the State Department/USAID's perspective and the way we look at
our budget, our budget is $47 billion for our base budget in
the 2012 request, versus basically that same number was in
2010. There is a $6.7 billion OCO request, which then adds to
the total number of our request for the budget.
So between our OCO request and our base budget, we felt
that, at least from our base budget perspective, there was a
substantial justification for the moneys that we were spending
since, obviously, we were basically flat from the 2012 to 2010.
Obviously, the OCO account, as I spoke about earlier, as you
have seen the OCO account being reduced by DoD, ours has gone
up $4 billion and theirs has come down $45 billion.
But again, I think it is, from our perspective, we are
trying to be, and I think Secretary Clinton has spoken not only
to the appropriating committees, but to the public, a very
clear understanding of how we are focused on every dollar that
we are spending for this department.
As it relates to Iraq, if you would like me to comment on
that?
Senator Sessions. According to the numbers I have, the
regular budget is up 3.6. If you break it down to State
operations, that is 2.9; foreign operations, 4.0; war is about
a double increase. Total budget authority goes up 10.5 percent.
Mr. Nides. Senator, I would be more than happy----
Senator Sessions. It is not flat. I do not believe it is
flat.
Mr. Nides. The 150 account, which includes outside of the
State and USAID, and that is the only account I am speaking to,
the 150 account is up 3 percent, the 150 account. But state
operations are base budget, and I would be more than happy to
come back to your Committee and walk through the numbers. Our
base budget of $47 billion for state and USAID, which we
include a variety of items in that, the base of that is flat,
but the increase--and you are right--the increase is our OCO
account for 2012.
Chairman Conrad. Let me just thank the Senator for his
questions and we will go now to Senator Wyden.
Senator Wyden. Thank you very much, Mr. Chairman. I want to
thank two very dedicated and long-time public servants,
Secretary Nides and Secretary Lynn, and we welcome you both.
I want to start with Libya. And last week, Secretary Lynn,
Secretary Gates said, and I am pretty much quoting directly
here, ``We have to think frankly about the military in another
country in the Middle East.'' That was Secretary Gates. Now, I
am of the view that part of the frank thinking is considering
the financial cost to American taxpayers, especially in light
of the trillion dollars plus that has been spent in Iraq and
Afghanistan.
So my first question is, can you provide me with an
estimate of the costs weekly, per day, to taxpayers of
establishing a no-fly zone in Libya?
Mr. Lynn. I cannot at this hearing. I could provide
something for the record, but it would depend on what the
dimensions of that no-fly zone were.
Senator Wyden. Well, walk us through the various options
that I know the Department would be looking at. For example,
the Center for Strategic and Budget Assessments went through
three scenarios that seemed to be getting a wide amount of
debate. They called them the full and the limited and the
standoff approach. So walk us through the analysis that you
have done to date of the various options.
Mr. Lynn. That, Senator, that analysis is still ongoing and
I am not in a position to provide that yet to the Committee,
but I would be happy to come back at an appropriate time and in
an appropriate forum and do that.
Senator Wyden. You feel you need to do it in a classified
manner?
Mr. Lynn. Yes. Yes, I do.
Senator Wyden. Well, I am on the Intelligence Committee as
well. When could you have that at the Committee to the Chair,
Senator Feinstein, Ranking Minority Member, Senator Chambliss,
and myself? When could I have that in the Intelligence
Committee in a classified way?
Mr. Lynn. I am going to have to come back to you because we
are in the middle of the planning and I am not sure when the
planning will be completed and when the President will want to
share what--that planning with the Congress. But whenever that
is ready, we would be prepared to do that.
Senator Wyden. Would it be possible? I mean, as you know,
there is a statute that says Intelligence Committee members
have to be kept informed. Would it be possible to have, within
the next 72 hours, what you have to date, at the Intelligence
Committee?
Mr. Lynn. Again, I have to defer and come back to you with
a specific response on both timing and content.
Senator Wyden. I will ask Secretary Gates this same
question.
Part of what I am concerned about is that we are looking at
a double standard with respect to inefficiency. As Chairman
Conrad correctly pointed out, the Department cannot get its
arms around the number of contractors it has; and yet, we are
cracking down on contractors in other parts of government.
What I want to do is look at a number of the issues that
concern me the most, and I want to start with what seems to be
the continuation of a number of cold war-era programs and
facilities that no longer deal with the most important threats.
I mean, it is puzzling, for example, that the Pentagon
needs five nuclear aircraft carriers to fight the Soviet Union,
but it needs 11 to fight current threats, mostly insurgents and
terrorists. And those 11 carriers cost more than $16 billion a
year to operate. As the Chairman noted, there is also the
question of bases. I am particularly concerned about bases in
Europe that were built to deter an invasion by the Soviet
Union. I think the Europeans ought to do more to defend
themselves in the future.
So my question here is, why has the Department rejected so
many of the Commission's recommendations for defense cuts?
Mr. Lynn. Well, let me come back to the two specific ones
you raised, Senator. With regard to aircraft carriers, the
analysis that you are looking at for war-fighting with the
Soviet Union is a surge capability and a discreet engagement
with the Soviet Union; and indeed, that, as you know, has
disappeared.
The requirement for 11 carriers is not based on that same
kind of analysis. What it is based on is what kind of
engagement around the world for crises such as Libya, what kind
of carriers do you want to have on station and available? That
requires a multiplier.
In other words, to keep two or three carriers forward, you
need 11 carriers. So the judgment there is that we do need
those two or three carriers forward to deal with crises such as
Libya, to deal with potential problems in the Gulf, in the
Persian Gulf, in the Middle East, to deal with Asian
challenges. So the analysis has to do with that rotational base
as opposed to a war-fighting analysis, which I think you have
correctly characterized, is not clearly part of today's world.
With regard to bases in Europe, that happens to be timely.
It is not just bases, but forces in Europe. Secretary Gates is
meeting, as we speak, with his colleagues at NATO talking about
what kinds of reductions in U.S. forces we might be able to
take as a consequence of the changing environment.
And it is not just reductions. We think that in terms of
large ground units, we can take reductions in terms of some
naval units, in terms of missile defense, in terms of some
other units. There may indeed be enhanced capabilities that
might be needed to meet the new challenges that the alliance
faces, and we should have, coming out of his ministerial that
the Secretary is at, some new plans that we would be happy to
share with you.
Senator Wyden. What is your response to my concern that
there is going to be a double standard with respect to
measuring inefficiency? I mean, to taxpayers, waste is waste
wherever it takes place across the Government.
The Chairman issued a very powerful statement in his
opening statement, who has consistently supported defense, that
when the Department cannot get its arms around the number of
contractors, and we are trying to crack down on contractors
elsewhere. I am trying to crack down on contractors in the
intelligence sector. Why shouldn't we ask the Department of
Defense to make a crackdown on contractors within its own
agency?
Mr. Lynn. You should. The--two things there.
Senator Wyden. Well, wait. Well, you prepare--because my
time is out. Will you prepare a specific response to what the
Chairman has said with respect to why we shouldn't, in this
Committee, cut the number of contractors? We are going to have
a budget resolution pretty quickly, and I am going to propose
that we make reductions in those kinds of areas, and I would
much prefer to do it in concert working with you than trying to
go forward myself. So can you get a plan to us with respect to
cutting the number of contractors so we do not have this double
standard?
Mr. Lynn. We have indeed proposed such a plan, particularly
for the contractors that I think you may be focused on, which
are basically augmentees to headquarters' functions. We have a
10 percent per year plan over the next 3 years that we will
share with you. I know we are over time, but the underlying
premise to your question is correct. Our data on contractors is
inadequate and we need to remedy that and we are taking steps
to do that.
Senator Wyden. I would like to work with you on it. If I
cannot work with you so we can come up with an agreed upon plan
to cut the number of contractors, I am going to work with
colleagues here on both sides of the aisle to do it. I would
much prefer to do it with you. Thank you, Mr. Chairman.
Chairman Conrad. I just want to followup and rivet this
point. You know, everybody has to be in on the solution to this
debt matter. Everybody has to be in. And if we do not do this,
it is going to be imposed upon us.
I was just sharing with Senator Sessions some of the
reaction to PIMCO Total Return dumping all U.S. Government
debt. And one of the reactions was in an interview with Mr.
Gross, who says, ``We have not lost faith in the U.S.
Government. America is still strong and the economy is growing,
and we have, you know, perhaps $30 to $40 billion worth of U.S.
Treasury bills, but those are shorter maturity obligations.''
The Treasuries from the Total Return Fund, they dumped them all
as of the end of February.
And in an interview, he was asked, ``Well, where should you
invest?'' Here is what he said: ``You should probably go
outside the United States. I mean, the emerging markets, the
developing countries are improving credit. They have better
balance sheets than the United States. You have Brazil, for
instance, has half the debt relative to GDP that the United
States does--as does Mexico.''
You know, you think about this, I think Senator Thune, who
grew up in South Dakota, I grew up in North Dakota. Had anybody
said that Mexico when I was growing up was a safer place to
invest because they have half the debt relative to GDP the
United States has, it would have been such a stunning concept,
nobody could haveten their head around it. Now here we are. It
is the reality. Brazil and Mexico have half the debt to GDP
that we do, and I will bet you we are giving them money. I will
bet you if I asked my staff to go find for me what we are doing
with Brazil and Mexico, I bet we are giving them money.
Senator Thune.
Senator Thune. Thank you, Mr. Chairman.
Secretary Lynn, Secretary Nides, thanks for appearing
before us today. As a follow-on to the Chairman's observations,
you know, the Chairman of the Joint Chiefs, Admiral Mike
Mullen, said a few months back that the greatest threat to
America's national security is our national debt. And Secretary
of State Hillary Clinton called the expected $1.3 trillion U.S.
deficit, I quote, ``a message of weakness internationally,''
and went on to say that ``...it poses a national security
threat in two ways: it undermines our capacity to act in our
own interests, and it does constrain us where constraint may be
undesirable.''
I am just curious about your response to those observations
and whether or not you share the view that--you know, when you
talk about the threats that we face around the world today--and
they are many: potentially nuclear Iran, instability in the
Middle East, nuclear North Korea, China, lots of potential
threats out there to pinpoint the national debt as being the
biggest among those, if that is a view that you share and just
sort of your general observations in response to what both the
Chairman of the Joint Chiefs has said as well as what Secretary
Clinton said.
Mr. Lynn. Senator Thune, I certainly agree with both
Admiral Mullen and Secretary Clinton that the national debt,
the fiscal crisis we face is a true national security problem.
And as we discussed a bit earlier with the Chairman, I think
that DOD does need to be part of the solution to that fiscal
crisis. And Secretary Gates has tried to take a strong step in
that direction by developing $178 billion worth of savings:
$100 billion of that was reinvested in capabilities; $78
billion was removed from the defense top line and put toward
that deficit reduction.
We have tried, though, to do this in a responsible way. We
need to take reductions in a balanced way, and that ultimately
means if you are going to reduce the top line, you really need
to reduce the underlying force structure. If you reduce the top
line without reducing the force structure, what you will do is
hollow out the forces by not giving them adequate training,
adequate equipment. And we have seen that movie. We do not want
to repeat that, so we want a balanced reduction.
Our feeling was that given the fights that were in--Iraq as
we are phasing down, Afghanistan we hope to phase down but not
yet--we think it would be prudent to have those reductions
starting in 2015 but not earlier. And so that is what we have
laid in to the budget proposal that we have presented to the
Committee and the Congress, so that the budget does go down.
The reductions get us to a flat budget by 2015. They do that,
though, with those force reductions in that timing, and that
reflects the conditions we see internationally.
Senator Thune. Anything to add to that, Secretary Nides.
Mr. Nides. As someone who has spent a great deal of his
career in the finance world, I certainly share both your and
Senator Conrad's concern about this debt, and I certainly am
very concerned about the issues as it relates to the bond
market and the reaction to the debt, which is certainly an
enormous problem for all of us.
As we sit at the State Department--and I know you would be
surprised for me to say this--we actually look at our budget as
an ability to avoid conflict, to avoid the cost of my colleague
on the left putting boots on the ground. There is a
misperception that the State Department and foreign assistance
is 10, 15, 25 percent of our national budget, our Federal
budget. It is 1 percent of the Federal budget--1 percent of the
Federal budget--and I think even within that 1 percent,
Secretary Clinton has been very clear that every dollar that we
are spending on conflict resolution and what we are spending in
Afghanistan and Pakistan and Iraq or food security or health
has to be justified. And that is why, as I spoke with Senator
Sessions, we have attempted to be very conservative in our base
budget, and the only increase that you are seeing in 2012 is
those costs in what we refer to as ``the war costs'' or
``extraordinary/temporary costs.'' But I, too, agree very much
about the issues around the debt and the importance of
resolving it, obviously at least reducing it as soon as humanly
possible.
Senator Thune. Let me touch on a current issue, and it
bears on this discussion because, Secretary Lynn, as you know,
many of our key European allies are seeking to substantially
cut their military budgets. For example, the U.K. has de-
commissioned its aircraft carrier, retired its fixed-wing air
component because, according to the U.K.'s Strategic Defense
and Security Review, ``There are few circumstances we can
envisage where the ability to deploy air power from the sea
will be essential.''
Now, ironically, the U.K. is telling the world that a no-
fly zone must be established above Libya and is working to
draft a U.N. resolution to do so. Obviously, establishing a no-
fly zone for Libya will at least partly require the ability to
deploy fixed-wing air power from the sea.
It seems that our European friends are seeking to cut their
military budgets while at the same time pushing us to intervene
in world hot spots where only the United States has the ability
to project power. And so my question is: What effect do these
military cuts by our European allies have in placing even more
of a burden on our defense budget?
Mr. Lynn. We have been watching very closely what our
allies, particularly NATO, have been doing with their defense
budgets. Some of the reductions do concern us. We have worked
particularly closely, though, with the British, and we have
tried to work with them to ensure that as they adjust their
budgets, it is done in the way that best protects our
collective security.
They are facing in many ways the same fiscal challenges
that we are, and so we recognize what is driving this. It is
driving us as well. But as I indicated to you earlier, I think
we need to take reductions that are prudent and wise, although
we do need to address the debt problems, as they do they.
Senator Thune. Can I just followup on that? From what I
have seen, the cost of establishing a no-fly zone over northern
and southern Iraq during the 1990s was over $1 billion a year,
and we flew about 34,000 sorties a year. Do you have any notion
of how much it would cost to establish a no-fly zone over Libya
on an annual basis?
Mr. Lynn. I do not because we do not yet know what the
dimensions of that no-fly zone would be and how it would
compare to the Iraqi operations. It would be really premature
for me to try and estimate the cost.
Senator Thune. My time has expired, Mr. Chairman.
Chairman Conrad. Thank you, Senator Thune. I thank you for
really excellent questions.
Mr. Secretary, both the Ranking Member and I have talked
about the use of language here. And in your response to Senator
Thune, you used language, again, that somebody listening that
does not know how baselines work around here, how budgets are
inflated over time, might conclude that somehow the spending is
going down. And I would just like to ask you for the record,
the base budget for 2011 for defense is $526 billion under the
CR. Is that correct?
Mr. Lynn. The fiscal year 2010 budget would be $526 billion
if you do a nominal extension. That is correct.
Chairman Conrad. OK. So for 2012, what is the request
without war costs?
Mr. Lynn. The request without war costs is $553 billion.
Chairman Conrad. And for the next year?
Mr. Lynn. I would have to look that up, but--$571 billion.
Chairman Conrad. OK. And for the next year? 586 is the
number I have, for the next year 598. And the 553--so the point
I am making every year, people need to understand the spending
is going up, and we are talking about somehow it is going down.
And for fiscal year 2012, the $553 billion does not include the
war costs. With the war costs what would the budget be?
Mr. Lynn. About $671 billion, which I think is actually,
just to continue your line, I think that is down about 3
percent from fiscal year 2011. So when you do the net with the
war costs coming down over $40 billion, the next of the base
budget plus the war costs will come down from fiscal year 2011
to fiscal year 2012.
Chairman Conrad. Can you assure this Committee that there
will not be an additional request for funds in 2012 for war
costs?
Mr. Lynn. I cannot do that. It is possible, but as you
noted at the beginning, we have tried to be conservative with
our estimates of what those war costs would be to prevent
exactly that.
Chairman Conrad. Well, I would just say the history that we
have, not in this administration but previous administrations,
is they were nowhere close in estimating. They would come to
this Committee and tell us that they were going to be $50
billion, and then it would be $120 billion. I understand that
you have changed course here. You are trying to give us a more
accurate reflection, which we appreciate. But the point I am
making here is the language we use I think kind of misleads us.
I am not accusing you of intentionally misleading anyone. You
are using the language that is used with respect to a baseline.
The actual dollars are going up every year.
Senator Cardin.
Senator Cardin. Thank you, Mr. Chairman. Let me thank both
Secretary Nides and Secretary Lynn for your service to our
country and for you being here.
I agree with the Chairman that our current deficits are not
sustainable, and they are huge national security issue that
needs to be dealt with on a bipartisan basis by having a
credible plan to deal with the deficit. We are not going to be
able to do it on the discretionary budget side.
We have already agreed that we are going to have at least a
freeze on discretionary domestic spending, and we have also
agreed that we are going to be reducing our defense spending.
I might say on defense spending--and I am sorry, Chairman,
we do not have charts, but if you look at America versus the
rest of the industrial developed nations of the world and how
much we devote toward national defense issues, we are
shouldering a larger burden than our allies. And at one point
we have to recognize that and do something about it because it
is not fair to the American economy. And I am one who will
always support the necessary budgets for the defense of the
people of this Nation. But we are shouldering an unusual
burden, and it is part of the problem that we have today trying
to figure out a sustainable budget for our growth and for
dealing with the deficit.
Entitlement spending needs to be contained. I think we took
a major step in that direction last year by the Affordable Care
Act, by investing in technology and prevention and managing
people's diseases and setting up clinics rather than the use of
emergency rooms. I think we are going to bring down Medicare
and Medicaid spending and health care spending in this country.
We need to do more. There are more entitlement programs. And we
have talked about revenues. We just had several hearings in the
Finance Committee dealing with looking at tax reform so that we
can equate our revenues with our necessary spending.
Which brings me back to the issue at hand. We are not going
to balance the budget on 12 percent of the budget, on 12 cents
out of every dollar, and that is the discretionary domestic
spending, which our international development assistance
happens to fall under. I happen to think that less than 1
percent of our budget being spent on international development
assistance is a very modest amount of money. As you point out,
both of you point out, these types of expenditures are
critically important for U.S. objectives internationally and
developing capacities in other countries to provide more stable
regimes, putting less stress on the future needs of our
military and developing the type of stability that is important
to the United States, including markets that will buy U.S.
products. All that I think is very true.
And I must tell you, I find the share of the pie that is
devoted toward international development assistance to be a
little bit too modest, and I think we should be making greater
strides. Having said that, we need to have accountability in
every dollar that is spent.
So I want to know what you are doing to make sure that the
dollars that are being appropriated by Congress are spent for
their intended purpose. And what are you doing to make sure
that we are not financing corruption among different regimes?
We are very concerned that dollars that we appropriate may very
well be ending up in foreign bank accounts of deposed leaders.
So what assurances can you give us that you are monitoring the
moneys that are being spent so that we get value for the
dollars that we are appropriating?
Mr. Nides. Would you like me to take the question first?
Thank you very much, Senator. I want to emphasize--and you
pointed out the 1 percent of the Federal budget again. I want
to emphasize that 1 percent is all of the costs for the State
Department and USAID. That includes all of our embassies across
the world, all of our foreign service officers, civil service
officers, our locally engaged, all of our foreign aid, all of
what we do to fight hunger, all we do to fight AIDS and HIV,
and all the things that we are doing to help us in those
individual crisis countries. So as the American people--and you
and I have spoken about this. The American people hear about
how much money is spent on foreign aid, and obviously the views
of it is 15 or 20 percent. It is 1 percent, and it includes all
of what we are doing around the world.
No. 2, to answer your question specifically, the Secretary
announced for the first time the QDDR. Actually we borrowed the
idea from DOD. The QDDR was our attempt to do exactly what you
are looking at. How do we look at ourselves faster, better,
smarter? How do we find the efficiencies? How do we look at
every dollar that we are spending, be it on global health, be
it on how we organize, how our staff is paid, how we as an
organization operate? And in our attempt to try to very much
focus on what you are getting at, as it relates to our issues
around how dollars are sent, we have a very strong IG within
the State Department. We work very closely with them all over
the world, particularly in areas we are spending a lot of
development dollars. So we are as an organization inherently
committed because we know the focus that you have on the money
spent and we know how rare those dollars are.
Senator Cardin. In order to have successful efforts for
increasing capacity of other countries, there needs to be a
priority on gender equality. There is a direct relationship
between how women are treated in countries as to their economic
growth and potential. The Millennium Challenge Corporation has
integrated gender equality into their basic core missions.
What are you doing in the State Department or Defense to
make sure that in our efforts to help other countries on their
development assistance, priority is placed on gender equity,
equality?
Mr. Nides. I will quickly answer the question, and then I
will turn to my colleague. As you probably know, there is
probably not much more that the Secretary cares more about than
this issue. You may have seen her on the cover of the recent
news magazine talking specifically on this topic. It is
inherent in everything we do, with the way we organize and how
we focus, how we put programs together, beyond global health,
what we are doing for women and girls and what we do across the
world. But this is something that certainly is part of our
core, and I assure you that Secretary Gates feels the same way,
but it is a part of our foundation because we believe that
conflicts end at the beginning of what we do on gender and what
we do specifically about women and girls.
Senator Cardin. Secretary Lynn?
Mr. Lynn. Secretary Nides is correct. Secretary Gates
shares the importance and the attention that is needed for
gender equality. It goes to the more general question that we
started the hearing with, that we are trying to create a much
strong partnership between State and Defense so that we are
working together with State and Defense on common goals like
gender equality and that the overall impact for our national
security is that we should be able to anticipate and respond to
brewing crises, with development and security and diplomatic
assistance, before we have any need for any kind of armed
intervention. And we are trying to work a strong partnership
toward those ends.
Senator Cardin. Thank you very much.
Thank you, Mr. Chairman.
Chairman Conrad. Thank you, Senator.
Senator Begich.
Senator Begich. Thank you very much, Mr. Chairman.
Secretary Lynn, let me followup on what Senator Cardin just
started with this conversation in regards to where we have to
balance the budget and deal with the costs of the Federal
Government.
Do you agree with his statement that it has to be spread
among all agencies and discretionary cannot take the load that
it is taking? Do you agree with that statement?
Mr. Lynn. Absolutely.
Senator Begich. OK. I know Senator Wyden asked this
question, and I want to expand on it--he was here earlier--in
regards to the overseas stationing and the bases and the
construction budgets. I have only been here 2 years, but one of
the things we put in the defense authorization bill--and I know
it is in process. You have indicated, I think, that it is
Secretary Gates' hands or a start process of reviewing our
stations overseas, and there will be a report coming soon. Can
you define--and this is what I have learned in my hearings.
What does ``soon'' mean? Define ``soon'' when that report will
come, that we will see some report that tells us our overseas
base operations, what we need to do to create more efficiency,
scale back, or reassign.
Mr. Lynn. I am not sure which report you are referring to,
Senator, but in the earlier discussion what I was referring to
is that there are ongoing consultations with our NATO allies
about what the future force structure in Europe ought to look
like, and we will have the results of that later this spring.
Senator Begich. OK. In expansion of that, I am pretty
sure--and I will confirm this with my staff and maybe your
staff--that is, I think an authorization bill, we also wanted
the Defense Department to look at the overall overseas
operations; in other words, not just Europe but where we have
bases. And, you know, is it the right model for the wars that
we are engaged in today and the security that we are engaged in
today? And how can we examine that and see if there are
opportunities for savings there? We will pull that language. We
will share it with you. It makes me nervous because it is 2-
year-old language, but I will work with your office, because we
have to look at the whole picture. As you are looking at NATO
allies, we have operations worldwide, and we have to re-examine
what is the right approach. And, honestly, we cannot afford
what we are doing. It does not matter if it is in education or
defense, or you pick the subject matter. Based the President's
own conversations, we cannot afford to be on the track we are
on financially for this country because at the end of the day
we will hit a brick wall, and there will be nothing available
for us to operate. So I will get your staff that language.
Mr. Lynn. Terrific.
Senator Begich. Let me ask you also, I know GAO has done a
report that identified issues that are overlap or duplication.
There are about 30-some of these issues. About 10 relate
directly to DOD.
One, have you started to review that report, those
responses of that GAO report?
Two, do you anticipate giving a response to this Committee
and/or to Armed Services or what your actions will be? And I
only say this based on history that I read in 2005 when this
effort was approached in a more narrow focus. The military
started, then they stopped. They did not do anything.
Mr. Lynn. Started what? I am sorry.
Senator Begich. It was a review of efficiencies. I think it
was the medical command, if I remember right, unification of
the medical command, and it just kind of--they started but they
never went any further even though GAO had reported in 2005, I
think it was, that there were some inefficiencies,
opportunities. So what I am worried about--because now we have
another report that talks about ten other areas that are
potential. What is going to be--I should preface this with
saying I think one of the things I have learned here after 2
years, we do not do a good enough job in oversight, to be very
frank with you. And so having this meeting, my intention would
be your response to continue to badger you in this Committee
and the Armed Services Committee to know what we are doing,
because what I find is I keep reading report after report of
stuff that has been done by GAO, and then kind of just brushed
aside, and new administration, new Congress, new people, out of
sight, out of mind. So my objective is to kind of keep my
shopping list and keep pounding.
So have you see that report, the latest one? And what are
your intentions with it?
Mr. Lynn. I have seen the report. Let me say two things,
one broad, one a little narrower.
First, the Secretary developed even before this GAO report
his Efficiencies Initiative and developed, as we have discussed
in the rating agencies, $178 billion worth of savings. These
are business efficiencies, consolidation of headquarters,
elimination of lower-priority programs, reduced use of
contractors, reduced civilian hiring, a whole variety of
measures.
We plan to continue that effort. That was not a one-time
deal to your point. We are looking for all inputs to the next
phase of that effort. We are certainly going to look at that
GAO report you mentioned, and in response to the specific
question on the issue of how should we organize our medical
operations, we are going to look at the issue of should we have
a defense health agency, should we have a unified military
command, should we continue and try and improve the process
that we have now. We will look at all of those options.
Senator Begich. What is your timetable for doing that?
Mr. Lynn. We are looking at--we just started that review,
so I do not have a precise timetable, but I think the next
iteration of this broader efficiencies effort would be we would
have something to submit with the fiscal year 2013 budget.
Senator Begich. Which I appreciate because I know the GAO
report had between $280 and $400 million, give or take. You
know, in this world we live in, a few million here and a few
million there. But it is significant. And so I appreciate your
willingness to take a look at that.
My time is almost up, but I want to followup on one that
is--actually the conversation started in the Armed Services
Committee when I was over there. I think it was earlier this
week or last week. I have kind of lost track of time here a
little bit. But it is on the MEADS air and missile defense
system, and I just want you to help me understand the proof of
concept and how this works, because for a guy who does not deal
with those terms, I see we spend almost $1 billion, but then
wisely the military says, you know, this is not working out,
this program is running--you know, it is delayed. It is not
cost-effective. The list goes on and on. You made a good
decision to cancel it.
The problem is we are going to have to pay $800 million,
give or take a few there, in regards to the proof-of-concept
requirement. How does that--I guess, you know, as a former
mayor, when I had people doing software development for me, for
our technology and so forth, the risk was on them. We gave them
the idea. Their job was to give us a bid with cost ranges, and
then if they could not fulfill that and I canceled the
contract, I did not pay one dime. That was their risk.
One, how do we do this? And do we do this in every
contract? Or I should not say ``every.'' In other contracts?
Mr. Lynn. Well, it depends on the program. We have a
variety of different contracting mechanisms. With this program,
the MEADS program, this is complicated not only by contracting
mechanisms, but it is an international program. We have two
major international partners, the Germans and the Italians. So
we cannot take unilateral decisions. This has to be a joint
decision.
We have, as you correctly cited, decided that we are not
going to pursue production of this program. Partly it is a
narrow need. It can be met by other programs. Partly, as you
said, the costs have grown and the schedule has slipped.
We have to make that decision, though, in consultation and
collaboration with our allies, and what we have decided to do
is to finish the development phase, which takes over the next 2
years, and then if they choose--they may choose to go forward
with production. That is their decision. We will be pulling out
at that point.
You might say, Why not pull out now?
Senator Begich. Right.
Mr. Lynn. Which I think was the thrust of your question.
The nature of the way the contract was signed many, many years
ago is that if one of the three nations pulls out, they pay all
of the termination costs. If we pay all of the termination--you
can question that, but that is the way it is.
Senator Begich. Right.
Mr. Lynn. Decided long ago. If we pay all of the
termination costs, we will pay essentially the same amount and
get nothing. That did not seem to be the wise choice. We
decided we will pay that amount and get the technology that is
developed, which can be used in other systems. But that is the
central reason for that.
Senator Begich. Thank you very much.
Mr. Chairman, I know my time is out. I just have one
question for the record, if I could, and that is, in general--
--
Chairman Conrad. Senator, we are doing well, so if you want
to take a little additional time, you can do it.
Senator Begich. OK. Thank you very much, Mr. Chairman.
I guess on this one, can you prepare--and I know you
probably cannot do it right now, obviously, but what other--
because I would consider that a financial risk to the Federal
Treasury when we have contracts that have these out clauses
that cost us money to get out of a development. Are there other
contracts like this that if that can be estimated, what kind of
these risk costs could be for us if we get out of contracts? I
mean, at this point I know the Defense Department operates
uniquely in their own way, but, honestly, I got to tell you, I
am always surprised--you know, the F-35 was another example. I
think when I first came here 2 years ago, it was, I do not
know, $60 million a copy or whatever it was. I forget what it
is now, 120, 130, whatever. But it almost seems like when we
work with these defense contractors--who actually, we were
shown yesterday, paid 1.6 percent taxes, the lowest of all
corporate entities in this country, but put that aside for a
second. We are their biggest customer. How is it that, you
know, we lay out the parameters, but I see on and on again we
always have these costs that we have to pay the contractor to
get out of the contracts that we have, and the reality is,
without our contracts, they would not be in business? I mean,
we are their platinum customers. When they take this technology
and we allow them to sell it to other countries, our allies--I
mean, I am struggling with this. I know there is some long
explanation for the military infrastructure, but I just do not
get it because--you know, I can talk about the personnel system
when you are trying to change the system on payroll, you spend
half a billion dollars. Cancel the contract because it did not
work like you had anticipated? I mean, if I was in the city as
a mayor, we would sue the contractor and get our money back
because they had sold us a bill of goods, because they came in
and gave us a razzmatazz in the RFP process and it did not
really work. I mean, I do not--I do not understand. Or the
satellite system where we spent, I do not know, $4 or $5
billion and it really did not work out as well as we expected.
How do we get a handle on these contractors that know they
win either way? Because they do come back and contract with us
later, because there is such a limited group. So they know they
have us because there are only so many we do business with. If
they fail to perform, we pay them anyway--not all of it,
obviously, but they build it into the margins. They are smart
business people. That is why they are very profitable and they
pay very little in taxes to the United States. How do we get at
that? I mean, it is billions. I am shocked, just in the 2 years
that I am here, how many contracts we have canceled and we are
just, like, what is half a billion here, what is 5 billion
here, and now today it is another $800 million.
Mr. Lynn. Well, there are a couple of things there,
Senator. One is whenever you take the tough decisions to
eliminate a system--and I think we have taken quite a number--
you are losing your sunk costs. And the judgment there is that
even though you are losing that sunk cost, the marginal cost
going forward is not worth the value or benefit to the
Government of paying even the additional marginal costs. And we
have made that--but you have to acknowledge there is going to
be some cost to that prior decision probably not recapturable.
To your broader question of can we do something about how
we contract, we are trying. In particular, we have focused on
using fixed-price contracts, which I think is more what you are
expecting as mayor and whatever. But we have tried that in the
past, and it has been worked poorly at times, and you have to
be careful about where you used fixed price.
Senator Begich. Sure, I agree.
Mr. Lynn. If you are using fixed-price contracts where you
a developing cutting-edge technology, that is probably not
going to work.
Senator Begich. I agree.
Mr. Lynn. Where you have mature technology, where you have
an established contract, where you have an established
production base, we think you can pursue a fixed-price
development contract. Now, frankly, the Government is probably
going to pay a little bit additional on that contract up front
because you are asking the contractor now to take more risk.
The benefit to the Government is that is the limit of the
Government's risk. At this point now the risk migrates to the
contractor, and they have every incentive to deliver the
contract on that amount of money.
So we have tried--the large example that has been in the
papers recently that you will know about this is the tanker
contract.
Senator Begich. Right.
Mr. Lynn. In the prior iterations, the development contract
was cost-plus. We felt that that met exactly the criteria I
just laid out. It is well-understood technology. Our
requirements are stable, and we had two companies that,
frankly, had very mature production bases. We were able in that
case, therefore, to go to a fixed-price contract as well as not
to exceed contracts for the production. We ended up with a
very, very strong competition, and the result of that is,
frankly, versus the 2008 competition, the American taxpayers
saved billions.
Senator Begich. Thank you, Mr. Chairman, for allowing me.
Can I get for the record--because I know I used a number, but I
do not know if it--you know, it is what I keep hearing is the
amount that our buyout is or our termination costs in the MEADS
contract. Can you put that----
Mr. Lynn. We will get that to you for the record.
Senator Begich. And do all contracts that we negotiate have
subject to appropriation?
Mr. Lynn. Yes, I believe so.
Senator Begich. OK. Honestly, I would just say we are not
going to appropriate to MEADS, so what happens?
Mr. Lynn. Well, there is already--I will get it for the
record. I believe we have already had enough appropriations.
The way we would work is there has already been enough money
appropriated to cover the termination liability. Otherwise----
Senator Begich. Right, but I guess for the legal department
here is the question: If we clawed back and said you do not get
that money, we are not appropriating that money for the purpose
that you have described, the contract then terminates. I am not
a lawyer, but I would be curious what the law department thinks
within your ag.
Mr. Lynn. We will get that.
Senator Begich. It is just a different way to skin the cat.
Senator Begich. I will leave it at that. Thank you, Mr.
Chairman.
Chairman Conrad. I thank the Senator.
I thank both the witnesses. I appreciate very much your
appearance here today, Secretary Nides, Secretary Lynn. I would
ask you to take the message back--and I think you have probably
heard it loud and clear here. There are more cuts coming. I
mean, you can write it down. It is going to happen.
No. 2, those cuts will be more draconian if there is not a
comprehensive long-term deal that involves tax reform and the
entitlement programs. That is as clear to me as it can be. And
I visit with colleagues on these issues every day. The votes
are not there to sustain spending at these levels. There are
more cuts coming--the cuts will be much more draconian--to all
of discretionary spending if there is not a comprehensive long-
term deal that involves tax reform and the entitlements. And it
does not matter whether I am here as Chairman or not. As you
know, I have announced I am not running again. But it is going
to happen. It is just as sure as we all sit here. And it may
happen much sooner than anyone anticipates if we get more news
like the news today that PIMCO dumps all their U.S. Government
debt.
I have been here 24 years. I do not know of anything that
is more clear to me than the cuts that will be imposed on your
agencies could be draconian and could come much quicker than
anybody anticipates if there is not a more comprehensive long-
term deal that involves tax reform and the entitlements. I know
that with certainty, so I would ask you to share it.
Thank you very much, and we stand adjourned.
Mr. Lynn. Thank you very much, Mr. Chairman.
Mr. Nides. Thank you.
[Whereupon, at 11:47 a.m., the Committee was adjourned.]
Questions for the Record from Senator Bill Nelson for Dr.
Till von Wachter
``Challenges for the U.S. Economic Recovery,'' Senate
Budget Committee
Thursday, February 3, 2011
Questions:
Florida's economy largely relies on stability in the
housing market. The Treasury Department and the Department of
Housing and Urban Development are expected to release a plan
for reforming Fanne Mae and Freddie Mac sometime this month. Do
you believe the housing sector would be significantly
encumbered by a quick withdrawl of Gannie and Freddie from the
secondary mortgage market? How would structure Fannie Mae and
Freddie Mac given the past distortion of risk within the
mortgage industry?
Response:
Senator, I do not have specific recommendations in response
to your question, as they fall outside my area of expertise.