Alan Greenspan: Budget process reforms
Testimony by Mr Alan Greenspan, Chairman of the Board of Governors of the US Federal Reserve
System, before the Budget Committee, US Senate, Washington DC, 21 April 2005.
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Mr. Chairman, Senator Conrad, and members of the Committee, I am pleased to be here today to
offer my views on the federal budget and related issues. I want to emphasize that I speak for myself
and not necessarily for the Federal Reserve.
The U.S. economy delivered a solid performance in 2004, and thus far this year, activity appears to be
expanding at a reasonably good pace. However, the positive short-term economic outlook is playing
out against a backdrop of concern about the prospects for the federal budget, especially over the
longer run. Indeed, the unified budget ran a deficit equal to about 3-1/2 percent of gross domestic
product in fiscal 2004, and federal debt held by the public as a percent of GDP has risen noticeably
since it bottomed out in 2001. To be sure, the cyclical component of the deficit should narrow as the
economic expansion proceeds and incomes rise. And the recent pace of the ramp-up in spending on
defense and homeland security is not expected to continue indefinitely. But, as the latest projections
from the Administration and the Congressional Budget Office suggest, our budget position is unlikely
to improve substantially in the coming years unless major deficit-reducing actions are taken.
In my judgment, the necessary choices will be especially difficult to implement without the restoration
of a set of procedural restraints on the budget-making process. For about a decade, the rules laid out
in the Budget Enforcement Act of 1990 and in the later modifications and extensions of the act
provided a framework that helped the Congress establish a better fiscal balance. However, the brief
emergence of surpluses in the late 1990s eroded the will to adhere to these rules, which were aimed
specifically at promoting deficit reduction rather than at the broader goal of setting out a commonly
agreed-upon standard for determining whether the nation was living within its fiscal means. Many of
the provisions that helped restrain budgetary decisionmaking in the 1990s - in particular, the limits on
discretionary spending and the PAYGO requirements - were violated ever more frequently; finally, in
2002, they were allowed to expire.
Reinstating a structure like the one provided by the Budget Enforcement Act would signal a renewed
commitment to fiscal restraint and help restore discipline to the annual budgeting process. Such a step
would be even more meaningful if it were coupled with the adoption of a set of provisions for dealing
with unanticipated budgetary outcomes over time. As you are well aware, budget outcomes in the past
have deviated from projections - in some cases, significantly - and they will continue to do so.
Accordingly, a well-designed set of mechanisms that facilitate midcourse corrections would ease the
task of bringing the budget back into line when it goes off track. In particular, you might want to require
that existing programs be assessed regularly to verify that they continue to meet their stated purposes
and cost projections. Measures that automatically take effect when costs for a particular spending
program or tax provision exceed a specified threshold may prove useful as well. The original design of
the Budget Enforcement Act could also be enhanced by addressing how the strictures might evolve if
and when reasonable fiscal balance came into view.
I do not mean to suggest that the nation's budget problems will be solved simply by adopting a new
set of rules. The fundamental fiscal issue is the need to make difficult choices among budget priorities,
and this need is becoming ever more pressing in light of the unprecedented number of individuals
approaching retirement age. For example, future Congresses and Presidents will, over time, have to
weigh the benefits of continued access, on current terms, to advances in medical technology against
other spending priorities as well as against tax initiatives that foster increases in economic growth and
the revenue base.
Because the baby boomers have not yet started to retire in force, we have been in a demographic lull.
But this state of relative stability will soon end. In 2008 - just three years from now - the leading edge
of the baby-boom generation will reach 62, the earliest age at which Social Security retirement
benefits can be drawn and the age at which about half of those eligible to claim benefits have been
doing so in recent years. Just three years after that, in 2011, the oldest baby boomers will reach
65 and will thus be eligible for Medicare. Currently, 3-1/4 workers contribute to the Social Security
system for each beneficiary. Under the intermediate assumptions of the program's trustees, the
number of beneficiaries will have roughly doubled by 2030, and the ratio of covered workers to
beneficiaries will be down to about 2. The pressures on the budget from this dramatic demographic
change will be exacerbated by those stemming from the anticipated steep upward trend in spending
per Medicare beneficiary.
The combination of an aging population and the soaring costs of its medical care is certain to place
enormous demands on our nation's resources and to exert pressure on the budget that economic
growth alone is unlikely to eliminate. To be sure, favorable productivity developments would help to
alleviate the impending budgetary strains. But unless productivity growth far outstrips that embodied in
current budget forecasts, it is unlikely to represent more than part of the answer. Higher productivity
does, of course, buoy revenues. But because initial Social Security benefits are influenced heavily by
economywide wages, faster productivity growth, with a lag, also raises benefits under current law.
Moreover, because the long-range budget assumptions already make reasonable allowance for future
productivity growth, one cannot rule out the possibility that productivity growth will fall short of
projected future averages.
In fiscal year 2004, federal outlays for Social Security, Medicare, and Medicaid totaled about 8 percent
of GDP. The long-run projections from the Office of Management and Budget suggest that the share
will rise to approximately 13 percent by 2030. So long as health-care costs continue to grow faster
than the economy as a whole, the additional resources needed for these programs will exert intense
pressure on the federal budget. Indeed, under existing tax rates and reasonable assumptions about
other spending, these projections make clear that the federal budget is on an unsustainable path, in
which large deficits result in rising interest rates and ever-growing interest payments that augment
deficits in future years. But most important, deficits as a percentage of GDP in these simulations rise
without limit. Unless that trend is reversed, at some point these deficits would cause the economy to
stagnate or worse.
The broad contours of the challenges ahead are clear. But considerable uncertainty remains about the
precise dimensions of the problem and about the extent to which future resources will fall short of our
current statutory obligations to the coming generations of retirees. We already know a good deal about
the size of the adult population in, say, 2030. Almost all have already been born. Thus, forecasting the
number of Social Security and Medicare beneficiaries is fairly straightforward. So too is projecting
future Social Security benefits, which are tied to the wage histories of retirees. However, the
uncertainty about future medical spending is daunting. We know very little about how rapidly medical
technology will continue to advance and how those innovations will translate into future spending.
Consequently, the range of possible outcomes for spending per Medicare beneficiary expands
dramatically as we move into the next decade and beyond. Technological innovations can greatly
improve the quality of medical care and can, in some instances, reduce the costs of existing
treatments. But because technology expands the set of treatment possibilities, it also has the potential
to add to overall spending - in some cases, by a great deal. Other sources of uncertainty - for
example, the extent to which longer life expectancies among the elderly will affect medical spending -
may also turn out to be important. As a result, the range of future possible outlays per recipient is
extremely wide. The actuaries' projections of Medicare costs are, perforce, highly provisional.
These uncertainties - especially our inability to identify the upper bound of future demands for medical
care - counsel significant prudence in policymaking. The critical reason to proceed cautiously is that
new programs quickly develop constituencies willing to fiercely resist any curtailment of spending or
tax benefits. As a consequence, our ability to rein in deficit-expanding initiatives, should they later
prove to have been excessive or misguided, is quite limited. Thus, policymakers need to err on the
side of prudence when considering new budget initiatives. Programs can always be expanded in the
future should the resources for them become available, but they cannot be easily curtailed if resources
later fall short of commitments.
I fear that we may have already committed more physical resources to the baby-boom generation in its
retirement years than our economy has the capacity to deliver. If existing promises need to be
changed, those changes should be made sooner rather than later. We owe future retirees as much
time as possible to adjust their plans for work, saving, and retirement spending. They need to ensure
that their personal resources, along with what they expect to receive from the government, will be
sufficient to meet their retirement goals.
Crafting a budget strategy that meets the nation's longer-run needs will become ever more difficult the
more we delay. The one certainty is that the resolution of the nation's unprecedented demographic
challenge will require hard choices and that the future performance of the economy will depend on
those choices. No changes will be easy. All programs in our budget exist because a majority of the
Congress and the President considered them of value to our society. Adjustments will thus involve
making tradeoffs among valued alternatives. The Congress must choose which alternatives are the
most valued in the context of limited resources. In doing so, you will need to consider not only the
distributional effects of policy changes but also the broader economic effects on labor supply,
retirement behavior, and national saving. The benefits to taking sound, timely action could extend
many decades into the future.