THE CONGRESSIONAL Budget Office is about to raise its estimate of the likely budget surplus over the next 10 years by close to $1 trillion. The new estimate will be seized upon as proof that it is safe to ease the fiscal discipline of recent years--grant an election-year tax cut and no doubt sprinkle some sugar on the spending side as well. But to ease by more than a modest amount would be a mistake. The future is less rosy than these numbers make it seem. The large tax cut that many continue to advocate would do particular harm, not least to the very prosperity on which the new surplus estimate is based.
This would be a surplus in other than Social Security funds. CBO last year projected a 10-year, $1 trillion surplus in such monies, but that was an illusory forecast in that it depended on promised domestic spending cuts from which the president and Congress were even then retreating--with good reason, in our view. Largely because the economy seems stronger, the agency this year is preparing to project a surplus of comparable size without such cuts--$1 trillion, more or less, if the government merely stays the same size in real terms, meaning the budget goes up each year but only by the rate of inflation.
If a surplus as large as that is in the offing, why not either give a tax cut or vote some extra spending? The answer is in part that the money doesn't exist, except on paper; the projection is an elaborate guess. Even if the guess is right, CBO can also be expected to report, as it does every year, that the long-term fiscal prospect is bleak, not bright. As the baby boomers retire, the surplus reverts to deep deficit unless Social Security, Medicare and the nursing home side of Medicaid are reformed. The president staved off a tax cut last year by rightly insisting that Congress "save Social Security first." That should still be the motto, only not limited to Social Security. The Medicare problem is even more daunting, the more so if the parties rightly add the costly prescription drug benefit the program currently lacks.
Some benefit cuts will almost surely be required to put these programs on a firm financial footing, but benefit cuts won't do it all; additional revenues will also have to be set aside. Nor are these the only areas of the budget likely to require such infusions. In the not-so-long run, Congress confronts a choice in defense: more money or less capability. It must likewise decide whether to create a modern air traffic control system, whether to extend health insurance to those currently uninsured, whether to take further steps to reduce child poverty, etc. A deep tax cut means forgoing some of these possibilities. Which will it be?
No one believes that either party is of a mind or in a position to make such politically difficult and fundamental decisions this year. The right use of most of the budget surplus until they face up to the Social Security, Medicare and other readily foreseeable problems ahead is to pay down debt. That would not be just a temporizing move. By definition it would constitute an increase in national savings that should stimulate investment, economic growth and future ability to pay. It would help to hold down interest rates and make it easier for the government to borrow again in the future, when the boomers retire and likely costs increase. In the meantime, the government's own interest costs of more than $200 billion a year--an eighth of the budget--would be reduced, freeing money for other purposes.
There are cyclical and social reasons for limiting any tax cut as well. The economy is currently so robust that the Federal Reserve Board is considering raising interest rates. That's hardly the time to apply the stimulus of a tax cut. The right time for an easing of fiscal policy will be when the economy turns weak. Likewise, the rationale for at least some tax cuts is the need to stimulate investment. But the great fear in the current economy is the opposite--that a stock bubble may be about to burst. A second worry has to do with a continuing increase in income inequality--poverty in the presence of plenty. Most tax cuts are likely to have the first-order effect of making that phenomenon worse, since it is the wealthy who pay most taxes.
The new surplus projections may be a little too rosy. They nonetheless create the basis for a legitimate policy debate; how, if it materializes, should the extra money be spent. The first principle ought to be to cover the cost of obligations the government already has. A second should be not to stimulate a cooking economy that doesn't need the help. A third should be to use policy to ease rather than to exacerbate income inequality. If there is to be a tax cut, those rules require that it be a limited one.