The document summarizes the challenges facing US fiscal policy, including a troubling short-run fiscal path with high deficits and debt, and a frightening long-run fiscal path where rising healthcare costs and an aging population will drive up spending. While the economy is recovering, long-term reforms are still needed to address the growing budget gaps and reduce the risks of a catastrophic budget failure in the future. Recent bipartisan plans aim to reduce debt, but bolder reforms may be required to balance revenue and spending on a sustainable path.

1. Tax Policy Center|www.taxpolicycenter.org The U.S. Fiscal Trajectory: Causes and Consequences Joseph Rosenberg Urban-Brookings Tax Policy Center ABA Section of Taxation Midyear Meeting January 21, 2011 Boca Raton, FL

2. Short-run Fiscal Path is Troubling… Tax Policy Center|www.taxpolicycenter.org Source: Congressional Budget Office (August 2010), Auerbach & Gale (2010)

3. Short-run Fiscal Path is Troubling… Tax Policy Center|www.taxpolicycenter.org Source: Congressional Budget Office (August 2010), Auerbach & Gale (2010), JCT

4. Short-run Challenges While economy shows signs of recovery, unemployment remains high and… …the economy is still vulnerable: Fiscal condition of state/local governments Housing market International concerns (fiscal & currency) Temporary provisions in U.S. tax code Tax Policy Center|www.taxpolicycenter.org

5. No Easy Choices for Deficit Reduction Tax Policy Center|www.taxpolicycenter.org Outlays, 2011-2020 Revenues & Deficit, 2011-2020 Source: Congressional Budget Office (August 2010)

6. Long-run Fiscal Path is Frightening… Tax Policy Center|www.taxpolicycenter.org Source: Congressional Budget Office, “The Long-Term Budget Outlook” (June 2010).

7. Long-run Fiscal Path (cont.) Fiscal Gaps (Auerbach & Gale, 2010): CBO Baseline: 5.6% of GDP Current Policy: 8.0% of GDP Memo: Auerbach (1994): 5.3% of GDP Sources of long-run spending growth Demographics “Excess cost growth” in health expenditures Tax Policy Center|www.taxpolicycenter.org

8. Effects of Aging and Rising Health Costs on Primary Spending Tax Policy Center|www.taxpolicycenter.org Source: Congressional Budget Office, “The Long-Term Budget Outlook” (June 2010).

9. Risk of Catastrophic Budget Failure(Burman, Rohaly, Rosenberg, Lim, 2010) Policymakers Incentives are short-term (i.e. next election) Irresponsible fiscal policy for strategic reasons e.g. strategic debt accumulation, delayed stabilization Lenders Myopia or “Irrational Exuberance” about the ability of U.S. policymakers to correct policy Ulterior motives Tax Policy Center|www.taxpolicycenter.org

10. Publicly Held U.S. Debt by Maturity Tax Policy Center|www.taxpolicycenter.org Source: U.S. Treasury, Monthly Statement of the Public Debt (as of September 30, 2010)

11. Major Holders of U.S. Debt Tax Policy Center|www.taxpolicycenter.org Source: Federal Reserve Flow of Funds and U.S. Treasury (as of September 30, 2010)

12. Catastrophic Budget Failure (cont.) Bond markets appear unconcerned, but reaction could be sudden and dramatic e.g. multiple equilibria, herd behavior Macroeconomic costs of delay may be minor, but macroeconomic costs of a crisis would be severe U.S. debt crisis likely not imminent (nor requires immediate fiscal consolidation), but fiscal adjustment is needed and delay is costly Tax Policy Center|www.taxpolicycenter.org

13. Recent Fiscal Developments Budget Reform Plans Bowles-Simpson Fiscal Commission Bipartisan Policy Center Debt Reduction Task Force Policymakers “Tax Relief, Unemployment Reauthorization, and Job Creation Act of 2010” Optimist’s take: Provides temporary boost to fragile recovery and buys time for serious budget/tax reform Pessismist’s take: Giveaways traded for more giveaways. Why will 2012 be any different than 2010? Tax Policy Center|www.taxpolicycenter.org

14. Challenges for Tax Policy Going Forward “To spend is to tax” We cannot continue to choose the level of revenue and spending independently More revenue is needed, but how much? The challenge is not simply to design an efficient tax system for a given level of revenue, but also for it to have the flexibility to satisfy a range of revenue needs. Tax Policy Center|www.taxpolicycenter.org U.S. Fiscal Policy, 1970-2013