Finding the Responsible Party

Some gentlemen count circumstances as nothing, but in fact they are what give to every political principle its distinguishing colour and discriminating effect. The circumstances are what make very civil and political scheme beneficial or harmful to mankind. Abstractly speaking, government is good and so is liberty . . .

— Edmund Burke, Reflections on the Revolution in France (1790)

In what passes for serious commentary, pundits sagely lament and consultants expensively advise that politicians will always spend irresponsibly, deliver unaffordable tax cuts, and kick the fiscal can down the road. That’s what people vote for. What are you gonna do? Just look where we are today, with budget deficits forecasted to routinely top $2 trillion and interest payments on the national debt already exceeding defense spending annually.

Yet for its first two centuries as a democratic republic, the United States of America spent within its means. From 1789 to 1849, the federal government ran a small surplus. It entered World War I with less than $1 billion in total debt and then, after borrowing billions for the fight in Europe, ran surpluses throughout the 1920s. The Great Depression and World War II generated far more debt, but thereafter revenues and spending were held in balance until 1960. By 1979, debt held by the public had fallen back from 106% to 25% of GDP. In 2000, after the Reagan-era defense build-up and victory in the Cold War, with global hegemony and unlimited borrowing capacity, debt was still below 33% of GDP and the federal budget was in its third consecutive year of surplus. Politicians, elected by American voters, can do this.

The puzzle, and the problem, is that for the past two decades they have refused. Republicans and Democrats alike have increased spending at every turn: on foolish foreign policy misadventures, new healthcare benefits and major expansions of anti-poverty programs, and massive subsidies for higher education and green energy. Republicans have repeatedly cut taxes and refused to countenance any increases, ever. Democrats have refused to acknowledge, let alone pursue, the broad-based tax increases that their spending plans require.

The Left’s failure is predictable, and perhaps inevitable. Fiscal responsibility has never been a progressive priority, or even of much interest. President Joe Biden’s most recent budget proposal dispenses with any pretense of concern for the deficit, instead proposing further increases to current spending levels still elevated from the pandemic. His rote calls to raise taxes on the rich, meanwhile, make hardly a dent, leaving deficits at the period’s end as high as at its start. Debt held by the public would increase by 60% over ten years, to $45 trillion.

The Right can, should, and must do better. A democracy holds taxes and spending at low and sustainable levels only if the forces of fiscal conservatism counteract those of liberal profligacy. Fortunately, that role is not some dour and thankless duty; to the contrary, it anchors the case for limited government and aligns well with the preferences of most Americans. Committing to voters that new spending will also mean new taxes is the surest check on the growth in government. Taking reasonable and responsible steps to secure the nation’s future is, it turns out, quite popular. New American Compass polling shows that people at all points on the political spectrum overwhelmingly agree that “the nation must be willing to take even painful steps” to address the budget deficit and that this would ideally include both tax increases and spending cuts.

Yet, over the past generation, the Republican Party abandoned its post on what fiscal restraint requires. Back in the 1980s, President Ronald Reagan signed five tax increases after his initial tax cut proved more costly than expected. But by 2011, Republican presidential candidates were all raising their hands in opposition to a hypothetical budget deal that would lower spending by $10 for every $1 of new revenue. They might have insisted on structuring and sequencing any deal to ensure the promised spending reductions occurred. The outright obstinance, however, served merely to confirm that a “pledge” they had signed never to raise taxes had replaced the national interest as their north star. The true cause of limited-government conservatism, which not only restrains spending, but also pays for the spending that does occur, had transmogrified into a half-witted anti-tax zealotry that offered the voters bread and circuses and sent the bill to their children.

The zealots have sold their strategy as somehow conservative under the banner of “starving the beast,” a theory that holds depriving the government of revenue is the best way to accomplish reductions in spending. Cut taxes far enough, send the car hurtling close enough to the cliff, and eventually all will accept that steering away from disaster with spending cuts is the only option. The corollary is that raising taxes is not only painful, but also counterproductive: It merely supplies more resources to be absorbed into yet more spending. This has proved not only wrong but precisely backward. Tax cuts have repeatedly coincided with more rapid growth in government, conservative credibility has collapsed, and progressives find themselves freer than ever to advocate for continual spending increases.

The United States cannot afford for this to continue. It cannot afford further tax cuts. It cannot afford higher spending. And it cannot afford political parties clinging to absolutist positions that preclude any prospect of progress. Fortunately, there is no prisoner’s dilemma here—only an opportunity for conservatives to advance their most important priorities and gain political ground by returning to their traditional principles.

The Crisis Is Here

The reasons for caring about the budget deficit and pursuing fiscal balance merit enumeration, to underscore both how dire the situation has become and how solving the problem delivers immediate rather than merely distant benefits. There are, after all, situations when deficit spending may be entirely warranted: to counteract a recession, to address an emergency, to make investments that will pay future dividends. As a preliminary matter, it is worth noting that none of these circumstances characterizes the present.

To the contrary, the American economy is currently at the peak of a business cycle, with unemployment holding near record-low levels and inflation running above target. Economists are wondering not how to get the economy going, but when the next recession will strike. If ever there were a time for a fiscally sound nation to be running a surplus and retiring existing debt, this should be it. Instead, having emerged recently from an emergency and refusing to return spending to normal levels, we are sapping the political will and fiscal capacity to respond as needed when future emergencies do arise. Our deficit is driven not by meaningful public investments but rather by transfer payments, converting investable savings into immediate consumption.

The long-term problem with deficits of the current magnitude, which contribute to a national debt already larger than GDP and growing faster, is that they burden the nation with unsustainable debt-service costs. The bill is already coming due for the extraordinary deficits of the past two decades, with $28 trillion in debt necessitating $870 billion in interest payments this year. Those payments represent resources being transferred from today’s taxpayers to the savers who financed past deficits, including roughly $200 billion sent to foreign holders of U.S treasuries; resources that otherwise could fulfill wish-lists for both tax cuts and new programs. The deficits slated for just the next ten years are so large that, according to the Congressional Budget Office (CBO), they will cause interest payments by 2034 to nearly double to $1,628 billion. Whatever one’s policy priorities, they will be stymied by that burden.

The trajectory is not sustainable. In the best case, it will produce a slow downward spiral of rising interest payments generating rising deficits and thus accelerating debt. Rising deficits drive real interest rates higher by increasing the demand for lending, rising debt by increasing the risk of lending to the United States. With higher interest rates come slower economic growth and yet higher interest payments that gradually restrict spending on the nation’s priorities.

Further, a debt crisis tends to develop slowly, and then all at once. At some point, investors will conclude that lending to the United States is not a wise use of their capital and that lending at higher rates, insofar as it makes the fiscal picture even less sustainable, is no more attractive. Policymakers have left the nation beholden to the whims of financial markets and an effective veto by market actors, as the United Kingdom experienced under the disastrous Liz Truss government last year. U.S. borrowing has been the lynchpin of bailouts from other recent financial crises. If U.S. borrowing is the cause of the next one, there will be a very long way to fall.

All that may sound speculative and indeterminate, at least sufficiently so to push any reckoning beyond the horizon for many voters and their elected leaders. So it is important to recognize that the budget deficit also harms economic performance today. This would be most obvious in a “closed” economy (i.e., one with no trade or financial flows across borders), where any deficit would have to be financed entirely by domestic savers and investors, leaving the government in competition with a private sector also trying to attract and deploy investment.

In an “open” economy, while this constraint is to some extent removed, a much larger problem replaces it. Budget deficits don’t have to “crowd out” private investment, the argument goes, because excess savings from around the world can (and do) flow into the United States to fill the gap. Foreigners are eager to buy U.S. treasury bonds, which might appear to make the deficit almost “free” to Americans, at least in the short run. But how does the rest of the world come by its U.S. dollars? By selling goods and services to Americans, but not turning around and buying other American goods and services in return. The flow of foreign “investment” into the United States to fund the budget deficit is the flip side of the trade deficit that sees American industry hollowed out as foreign producers sell into the U.S. market, but foreign consumers do not commensurately buy from it. (For more on this topic, listen to the American Compass Podcast episode on Dollar Dominance with Michael Pettis.)

Defenders of globalization often criticize efforts at reducing trade deficits by noting that those deficits are in large part caused by underlying imbalances in the appetite of countries to save or borrow. While the observation has some truth, the typical conclusion that nothing can be done about trade deficits, or that they are somehow a natural feature of private economic choices or even national cultures, is exactly wrong. The proper conclusion should be that closing fiscal deficits must be a higher priority than ever.

The Starved Beast Looks Awfully Fat

Republicans have professed, throughout the period of exploding deficits that began in 2001, to be the party of “fiscal discipline.” At no time has this been the case. President George W. Bush, inheriting a surplus, quickly slashed taxes to their lowest level as a share of GDP since 1950 while rapidly increasing spending. By 2003, the surplus had collapsed into a deficit of more than 3% of GDP—a higher level than President Barack Obama would leave behind at the end of his second term. During Obama’s time in office, House Budget Committee chairman Paul Ryan made a name for himself championing Medicare and Social Security reforms that would lower their long-term cost. But the dates for those reforms were always pushed far into the future, and none became law.

When President Donald Trump came into office in 2017, the GOP held not only the White House, but also both houses of Congress. Ryan was now Speaker of the House. But rather than reduce the deficit or implement any long-term reforms, the signature legislative achievement of those two years was the massive, deficit-expanding Tax Cuts and Jobs Act (TCJA). By 2019, spending as a share of GDP was also higher than at any point in Obama’s second term.

If there was an argument for TCJA more coherent than the addict’s pathetic plea for another hit of the good stuff, it was that “the plan will pay for itself with growth,” in the words of Secretary of the Treasury Steve Mnuchin. “We are totally confident this is a revenue-neutral bill and probably a revenue producer,” said Senate Majority Leader Mitch McConnell. Suffice to say this was not true. One might construct a hypothetical scenario in which tax rates are so high that reductions generate more revenue than they lose. Perhaps that was even the case in the late 1970s, with the top individual rate at 70% and rates on corporate income and capital gains between 40% and 50%. It is not the case today. “Tax cuts pay for themselves” is one of the “10 Common Tax Myths, Debunked” by the conservative Tax Foundation.

As I explained in “The Curse of Voodoo Economics,” my essay for American Compass’s A Walk on the Supply Side collection:

Current tax rates and the nature of current economic challenges leave little scope or justification for yet another supply-side tax cut. Conservatives should not abandon the supply side—to the contrary, the U.S. economy has severe supply-side problems that recent tax cuts have done nothing to address but that a supply-side economics properly understood would be far better positioned to solve. But the time has long since passed for abandoning the rhetoric and reasoning of tax cuts that “pay for themselves” or “unleash growth.” Recitation of those dogmas in the 2020s, divorced from evidence of their plausibility, is the opposite of conservative.

Still, conservative think tanks insist on repeating this error, to make their own budget proposals balance. In 2023, the Center for Renewing America (CRA), led by Trump administration budget guru Russ Vought, released its own ten-year budget proposal that reached balance in 2032. The document is an impressive, important marker for anyone serious about limited government. But the comprehensive set of proposed cuts does not bring spending down to current revenue levels. And yet, rather than contemplate tax increases, the proposal makes permanent the expiring TCJA cuts at an annual cost of nearly $400 billion by the last year.

So how does the CRA budget balance? It features an extra line-item titled “revenue increase from economic assumptions,” crediting the government with an extra $774 billion in tax revenue delivered without any new taxes at all. This estimate derives from the assumptions that productivity growth rises 0.5% faster than the CBO baseline each year and labor-force growth rises 0.75% percent faster. Conveniently, though perhaps not entirely coincidentally, these happen to be the largest values that CBO allows a user to put into its revenue-estimating model.

The Heritage Foundation has taken a different approach in its own ten-year Budget Blueprint for Fiscal Year 2023. Proposing new tax cuts, the blueprint accepts that tax revenue will be lower as a result. To make up the gap, it proposes outlandish cuts—for instance, reducing Medicare spending by 45% within ten years—that have no support among Republican policymakers or voters and no chance of becoming law. Put another way, the efforts at “fiscal discipline” from conservative think tanks tend to be marketing exercises that prove they can balance the budget, albeit in worlds very different from our own.

What is going on here? While none of these efforts, either in or out of government, make sense as fiscal discipline, they all fit comfortably within the so-called “starve the beast” strategy. The problem with this strategy is that it does not work, in practice or in theory. As William Niskanen, economic adviser to Reagan and long-time chairman of the libertarian Cato Institute, observed in a 2004 “Chairman’s Message” for the Cato Policy Report:

This position is not consistent with the evidence, at least beginning in 1981. In a professional paper published in 2002, I presented evidence that the relative level of federal spending over the period 1981 through 2000 was coincident with the relative level of the federal tax burden in the opposite direction; in other words, there was a strong negative relation between the relative level of federal spending and tax revenues.

The pattern appears to have held since. In the years after the 2001 and 2003 tax cuts, spending rose from 17.7% to 21.9% of GDP. After some of those tax cuts were allowed to expire at the end of 2012, spending fell from 21.9% to 20.1%. After TCJA took effect in 2018, spending rose again to 20.9% on the eve of the pandemic.

This should not be surprising. Tax policy unmoored from spending makes the spending free to voters and thus more popular with them. When spending has to be paid for, its cost is taken much more seriously. Niskanen, again:

The demand for federal spending by current voters declines with the amount of this spending that is financed by current taxes. Future voters will bear the burden of any resulting deficit but are not effectively represented by those making the current fiscal choices. One implication of this relation is that a tax increase may be the most effective policy to reduce the relative level of federal spending (emphasis in original).

A public promised lower taxes and higher spending simultaneously has understandably little interest in fiscal discipline. A Democratic Party that believes any spending cuts will simply be channeled into further tax cuts has no interest in checking its own ambitions for bigger government. A Republican Party that will in fact channel any spending cut into yet another tax cut has no credibility asserting that any sacrifice is required from anyone. As the Manhattan Institute’s Brian Riedl observed recently in City Journal:

The 2001 Bush tax cuts were immediately followed with new war spending, annual nondefense discretionary spending hikes as high as 13 percent, a massive new Medicare drug entitlement, and a doubling of farm subsidies. Republicans had no credible argument against this spending after Vice President Dick Cheney declared “deficits don’t matter” during the 2001 tax cuts debate.

And I’ll reiterate that the 2008–2016 GOP deficit-hawk era (under a Democratic president) ended abruptly after President Trump and Republicans cut taxes in 2017. Shortly after these reductions, a unified GOP government abandoned the Budget Control Act spending limits and hiked discretionary appropriations by 13 percent in one year (2018) and then abandoned all Tea Party–era spending-cut proposals. I had worked in the Senate and continued to speak with lawmakers after 2017. Several GOP lawmakers told me that they could no longer bring up deficits at voter town halls without voters screaming “fine, start with repealing your tax cuts.”

The more coherent and conservative approach is to put the horse back in front of the cart. Rather than cut taxes first and pursue spending cuts later, at which point the short-sighted voter will see all pain and no gain, tax cuts should be conditioned on spending cuts. If we get back to pre-pandemic levels generally, or cap and block-grant safety net programs, or stop paying off everyone’s student loans for them, or undertake serious entitlement reform, then we will be able to reduce taxes by this or that amount. Conversely, if we accept current spending levels as the new normal, then past tax cuts will have to be reversed and no new ones will be on the table.

The anti-tax zealots are of course entitled to their own agenda, and indeed they would be wise to ignore and rebut all this, insofar as their objective is merely to cut taxes as far as possible, consequences be damned. But let’s dispense with the fictions that they are advancing the cause of limited government, that their principles are conservative ones, and that the ends they are pursuing are rationally related to national prosperity or the common good.

The Spending-and-Revenue Problem

The point of departure in most budget discussions, which prevents them from departing at all, is the question of whether we have a “spending problem” or a “revenue problem.” We have cut taxes too far, Democrats say, and therefore we must focus on finding more revenue. Spending is far above historical levels and we could never raise enough revenue to cover it, Republicans say, and therefore we must focus on cutting spending. Four-year-olds fighting over the same ball have more useful discussions. Obviously, the two problems can exist together. Indeed, after an extended period of both sides behaving so irresponsibly, it would be surprising if we did not face both problems at once.

A fair-minded assessment of the data invariably concludes that both problems are indeed very real. Spending, estimated to land at 22.9% of GDP this year and reach 24.1% of GDP by 2034, has reached by far its highest level outside major recessions and national emergencies. Average spending was 20.2% of GDP from 1999 to 2019 and 20.8% from 1979 to 1999. There is no precedent for sustaining spending at current levels and no plausible plan to fund it with tax increases. The Biden White House’s own budget would bring tax revenue only up to 20.3% of GDP by 2034.

Revenue, meanwhile, is estimated by CBO to land at 17.5% of GDP this year and average 17.7% of GDP for the coming decade. That is below the lowest spending level at any point in the last 50 years and nearly three points below average levels over the past 40. The Heritage Foundation’s model manages to bring spending down this far only by, as noted above, gutting the nation’s most popular programs. The CRA budget purports to achieve the same, but does so only by assuming an extra $4 trillion of GDP in its denominator. Apply CRA’s proposed budget cuts to the economy’s size as predicted by CBO, and the remaining spending amounts to 19% of GDP.

This range of 19% to 20% of GDP emerges repeatedly as the plausible site for balance, theoretically and historically. When the budget was in fact balanced, from 1998 to 2001, revenue averaged 19.4% of GDP. The House Budget Committee under Chairman Ryan targeted revenue and spending of 19% by the 2030s in its FY2013 “Path to Prosperity” budget. The budget model that American Compass has published shows that an aggressive scenario built around substantively and politically plausible choices likewise arrives at that destination.

Remarkably, the American people intuitively land there too. Asked “how much of the deficit would you want to close by raising taxes and how much by cutting spending?”, the median American selects 40% tax increases and 60% spending cuts. Mapped on to the CBO’s forecasted 2025 budget gap where spending is 23.1% and revenue is 17.1% of GDP, that 40/60 split implies landing precisely at 19.5%. And unlike the politicians who insist on discussing only one or the other, nearly all Americans believe both taxes and spending should be part of the solution, with 63% believing that at least a quarter of the deficit reduction should come from each. The radical activist view that revenue must never be raised is shared by only a quarter of Republicans.

Acknowledging these realities points budget discussions down a much more constructive path. One implication, which Republicans will not like but will have to face, is that extending TCJA is the wrong fight. The deficit-expanding tax cut was irresponsible the first time around and the fiscal picture is much uglier today. Republicans are entirely correct that spending must come down for the sake of fiscal sanity, but they are entirely unserious if they believe they can achieve that goal while making their number one fiscal priority another deficit-expanding tax cut.

Conversely, if conservatives within the party are willing to assert the needed leadership, the opportunity is enormous. One vital contribution of CRA’s budget is to shift the focus from difficult long-term entitlement cuts to the lower-hanging fruit of immediate cuts where spending has already grown out of control. As Vought convincingly argues:

When families decide to get on a budget, they do not target the largest and immovable items of their spending, like their mortgage, first. They aim to restrain discretionary spending—they eat out less, shop less, and find cheaper ways of entertaining themselves. Then they look at what makes sense for the immovables—how to refinance their debt or make major life changes. Politically, a similar approach is the only way the American people will ever accept major changes to mandatory spending. They are simply not going to buy the notion that their earned entitlements must be tweaked while the federal government is funding Bob Dylan statues in Mozambique or gay pride parades in Prague.

Rather than pursue a “grand bargain” or establish a “fiscal commission,” conservatives should choose an initial tranche of CRA’s cuts and put them on the table immediately, indicating that they are prepared to accept some higher revenue as part of a deal. For instance, returning the Supplemental Nutrition Assistance Program (food stamps) to its pre-pandemic scale, eliminating the floor on Medicaid reimbursement that entitles the wealthiest states to higher federal payments, and reforming the Department of Education’s student-loan programs could quickly save more than $100 billion in the first year. As the American Compass budget model highlights, returning run-of-the-mill agency budgets outside of the hotly contested areas like social spending and defense back to their pre-pandemic levels would save another $75 billion.

In part, that kind of negotiation would simply enable the horse-trading necessary to make political progress on an issue where partisans have competing and conflicting priorities. But going through the process would also deliver a more substantive achievement. At the moment, each side rightly distrusts the other—Democrats see that Republicans are looking for spending cuts to finance more tax cuts; Republicans see that Democrats are looking for tax increases to enable more spending. In that context, the first step has to be a credibility-building exercise, signaling that the game is changing to one where both sides acknowledge they are aiming for a goal somewhere between them. Legislation that actually delivered $250 billion in spending cuts and $150 billion in tax increases over the next two years, laying the groundwork for the next round of negotiations, would be worth more than 20 commissions with the bluest of ribbons.

A number of prominent Republicans appear ready to head in this direction. In January, Rep. Chip Roy, policy chair for the House Freedom Caucus, lamented not only that “we have my Democratic colleagues saying we can’t even have a conversation about Social Security and Medicare,” but also that “we have [Americans for Tax Reform] and a bunch of people flipping out on our side saying you can’t even have a conversation about taxes. What in the utter hell is wrong with this body?”

“It’s only fair to have both revenue and expenditures on the table,” Rep. Jodey Arrington, chair of the House Budget Committee, told Semafor in February. Rep. Tom Cole, chair of the House Appropriations Committee, echoed the sentiment in April. “I don’t particularly — as a Republican — like tax increases,” he said. “But the reality is, I think, if you’re going to have a bipartisan deal, revenue and reform, they both have to be on the table.” Politico reported in May that “House Ways and Means Committee Chair Jason Smith said Wednesday that some prominent Republican lawmakers have discussed a corporate tax hike and suggested there could be bipartisan support for one in 2025.”

Conclusion

Of course, the other side may say no. To date, Republicans signaling a willingness to get serious have been met only with silence from Democrats who seem increasingly incapable of contemplating any curbs on their untenable ambitions for bigger government. The effect of political realignment on the progressive coalition and agenda has left it with few places to turn: As the Left has become dependent on absorbing the professional managerial class, President Obama’s promise not to raise taxes on households earning less than $250,000 became President Biden’s promise to protect incomes under $400,000. As the Left has embraced the cause of expansive military commitments around the world, defense cuts—always the rejoinder to the Right’s demand to bring spending lower—have become difficult to advocate for with a straight face.

But from the conservative perspective, the progressive quandary is a feature, not a bug. There is no prisoner’s dilemma here, with a choice to behave responsibly backfiring if the other side defects. What are progressives going to do, attack conservatives for being able to talk about tax increases as part of deficit reduction? That is the progressive position. If progressives will not be reasonable, calling their bluff clears the field for conservatives to advance their own preferred package unilaterally, while standing squarely in the middle of public opinion.

A return to fiscal responsibility is the dominant strategy, as it has always been, in American politics. When conservatives understood this, they were much more successful politically, wielded more power and thus achieved more of their priorities, limited the growth of government more effectively, and as a result better served the nation. When tax cuts became the end unto themselves, we soon forgot why we cared about them to begin with, and then that we cared about anything else. That has gone less well.