The Near-Term Outlook for States: A Period Full of Downside

Risks

Barry AndersonDeputy Director

National Governors Associationbba@nga.org February 2013 1

Some Views on Our Fiscal Future

• Near Term– The next fiscal cliff, and what it means over

the next few months.

• Medium Term– Next year, and the years right after that.

• Long Term– The major fiscal problem that the US faces

is long term fiscal sustainability.2

About Me—Experience • 30+ Years in Federal Budgeting

– GAO– OMB: Senior Career Civil Servant– CBO: Acting & Deputy Director

• FASAB

• IMF in Washington• OECD in Paris• Independent Consultant• National Governors Ass’n

33

About Me—Personal Not an ‘R’ or a ‘D’, but an SOB! A “Middle of the Roader”

44

The Near Term Fiscal Future: The Next Fiscal Cliff

• March 1: Sequester I (the Supercommittee sequester)– A lower nominal rate, but over 7

months instead of 9• Defense: was 9.4%; now 7.9%• Non-defense: was 8.2%; now 5.3%

• March 27: Continuing Resolution – TANF Reauthorization– Sequester II (the BCA sequester)

• April 15: House & Senate Budget Resolutions– Needed for Members to get paid– Entitlement & Tax Reform (?)

• May 19/Late Summer: Debt Limit5

Impact of FY2013 Sequesters*(Budget Authority, in billions of dollars)

BCACaps

Revised Caps

Revised Caps w/

Adjustments

CR March 27Sequester

CR AfterMarch 27 Sequester

March 1 Sequester

CR After Both

Sequesters

Security 686 684 803 810 -7 803 -51 751**

Non-Security

361 359 394 395 -1 394 -21 389**

Total 1,047 1,043 1,197 1,205 -8 1,197 -71 1,140**

6

Source: CBO Budget & Economic Outlook: FYs 2013-2023, February, 2013.*Total appropriations for FY2012 were $1,180B, including $137B of adjustments for Overseas Contingency Operations, disasters, & program integrity.**Includes additional CBO adjustments, mainly $20B in mandatory savings in the CR that were reclassified to mandatory accounts, and a re-estimate of an additional $4B in FHA receipts.

The Major Fiscal Issue Is Long-Term Sustainability: How Do We Cut the Debt &

at What Level of Government?

7

What Level of Government?

(% of GDP, CBO Projections as of dates shown)

1987-2011 Average

2012Actual

20222/13

20378/12

Spending Medicare 2.5 3.5 4.1 6.7 Medicaid 1.2 1.6 2.2 3.7 Social Security 4.4 5.0 5.4 6.2 Nondefense 3.7 4.1 2.6 } Defense 4.2 4.2 3.0 } 9.6 Other 2.4 3.0 2.4 } Interest 2.4 1.4 3.2 9.5 Total Spending 20.8 22.8 22.9 35.7Revenues 17.9 15.8 19.0 18.5Deficits -2.9 -7.0 -3.9 -17.2Debt 44 73 76 199

8

We Can’t Grow Our Way Out(Percentage change in real GDP; year to year)

2012Actual

2013 2014 2015-2018

2019-2023

2023-2037

2.3 1.4 2.6 3.7 2.3 2.5

Sources of projections: for 2012-2023, CBO’s Budget & Economic Outlook: FYs 2013 to 2023, February, 2013; for 2023-2037, CBO’s 2012 Long-Term Budget Outlook, June, 2012.

9

Debt Projections Before & After the January Fiscal Cliff Deal (Percent of GDP)

Source: CBO. The Alternative Fiscal Scenario assumes that the sequester is waived, “doc fixes” are enacted, & expiring tax breaks are extended. 10

How Much More Do We Need To Do To Stabilize the Debt?

• President Obama: $1.5 Trillion• Center for Budget Policy & Priorities: $1.4

Trillion• Columnist Paul Krugman: “a problem that is

already, to a large degree, solved.”• Committee for A Responsible Federal Budget:

at least $2.2 Trillion

11

Most of the deficit reductions so far have come from discretionary spending--& the sequester will only add to that

(Deficit reduction from FY2013-22, dollars in billions)

Appropriations 2011

Budget Control Act

2011

American Taxpayer Relief Act

2012*

Sequester March 1

Total

Discretionary Spending

615 850 25 790 2,280

Mandatory Spending, net

-- -- -5 169 164

Revenue, net -- -- 545 -- 545

Interest 105 135 85 169 494

Total: $ $720 $985 $650 $1,128 $3,483

Total: %/GDP .4% .5% .3% .6% 1.7%

12

Sources: CBO; Committee for A Responsible Federal Budget; The Economist.*Includes $75B in tax cuts & $30B in extended unemployment benefits that added to deficits.

Public Debt Projections With and Without Prior Savings* (Percent of GDP)

Source: Committee for a Responsible Federal Budget*”Prior Savings” include those enacted in the Budget Control Act of 2011, the American Taxpayers Reduction Act of 2012, and in appropriations since CBO’s August 2010 baseline.

13

Reasons to Support Reducing the Debt Below 80%/GDP in 2023

• Encourages higher economic growth as the economy moves towards full capacity

• Addresses sustainability beyond 10 years, especially given the certainty of higher boomer retirement costs

• Provides a margin for error in case of lower-than-forecasted growth or higher interest rates

• Provides for fiscal flexibility for unknowns, such as natural disasters or national security threats

14

Health is by Far Our Biggest Problem!Health Expenditures, 2010

(% GDP)

Country Public Total

US 8.1 17.4

France 9.2 11.8

Germany 8.8 11.6

Denmark 9.8 11.5

Switzerland 6.8 11.4

United Kingdom 8.2 9.8

Australia 6.0 8.7

OECD Average 7.0 8.6

Japan 7.0 8.5Source: OECD Health Data 2012

15

US National Health Expenditures (% of GDP)

CY 2010 Projection Before ACA

2011 ProjectionAfter ACA

2012 ProjectionAfter ACA

2007 15.9 -- --2008 16.2 16.6 --2009 17.3 17.6 17.92010 17.3 17.6 17.92011 -- 17.7 17.92012 -- 17.6 17.92013 -- 17.6 17.82014 17.4 18.1 18.22019 19.3 -- --2020 -- 19.8 --2021 -- -- 19.6

16Source: Sean Keehan (CMS), et al., “National Health Expenditure Projections”, Health Affairs, 2010-2012

Life Expectancy & Health Expenditures

AUS

AUTBEL

CAN

CHL

CZE

DNK

EST

FIN

FRADEU

GRC

HUN

ISL

IRL

ISRITA

JPN

KORLUX

MEX

NLDNZL NOR

POL

PRT

SVK

SVN

ESP SWE

CHE

TUR

GBR

USA

72

74

76

78

80

82

84

0 1 000 2 000 3 000 4 000 5 000 6 000 7 000 8 000

Life e

xpec

tanc

y at b

irth

(yea

rs)

Total health spending per person (2008 USD PPP)

Source: OECD Government at a Glance, 2011.Source: OECD Government at a Glance, 2011. 17

Where Does the Money Go?Higher Prices!

(Procedure prices as a % of US prices, 2009)

Procedure AUS CAN DEN FIN FRA SWE

Appendectomy 63 63 37 47 57 62

Normal delivery 67 63 40 34 65 58

Caesarean delivery 95 64 50 64 78 90

Coronary angioplasty 50 64 23 39 49 65

Coronary artery bypass 63 66 41 68 67 62

Hip replacement 91 69 51 62 64 66

Knee replacement 98 66 67 66 83 89

18Source: OECD Health at a Glance, 2011

And Higher Spending on Every Category

Category of Health Spending, 2009 Percentage of OECD Average

Public Health & Administration 274

Physicians, Specialists, Dentists 238

Hospitals & Nursing Homes 163

Pharmaceuticals & Medical Goods 152

19Source: OECD Health at a Glance, 2011

And We “Use” More Health Services

Procedure US Use Relative to 30 OECD Countries

MRI Units 2nd

MRI Exams 2nd CT Scanners 5th

CT Exams 2nd

Tonsillectomy 2nd

Coronary Angioplasty 3rd

Knee Replacements 1st

Caesarean Sections 8th 20Source: OECD Health at a Glance, 2011

Quality of US Health Care is Mixed

Measure US OECD Average

Breast cancer, 5-year survival rate 89.3 83.5

Colorectal cancer, 5-year survival rate 68.0 59.9

Asthma hospital admission rates, age 15 & over

120.6 51.8

Chronic obstructive pulmonary disease hospital admission rates, age 15 & over

230.0 198.0

21Source: OECD Health at a Glance, 2011

Factors to Lower Health Care Costs• Eliminate fee-for-service (FFS); replace with systems of care (SoC)

– FFS creates incentives for providers to function as revenue centers & promote unneeded services

– SoC can create incentives for outcomes & not reward either volume or stinting

• Methods can involve partial capitation, episode pricing, shared savings, & high-cost reinsurance

• Create larger provider systems– More patients with comprehensive services permits better

measurement of performance• Rely on competition to set prices

– Administratively-set prices, even if “right”, create lobbying pressures• Reform legal impediments

– Malpractice; product liability; corporate practice of medicine• Review administrative costs• Address data availability, prevention, caps, & everything else

22

How Do We Fix Social Security? First, Its Fundamental Characteristics

IntergenerationalPay as you goObligations definedNot funded by invested taxesZaps higher income earners

23

Fundamental Characteristics - Restated

Pay as you go

Obligations defined

Not funded by invested taxes

Zaps higher income earners

Intergenerational

24

Three Ways To Look At Social Security

METHOD MEASURE GOAL

Accounting Trust Fund Solvency

Budget Balance Sustainability

Economic Growth Higher Standard of Living

25

Spending on the Elderly1 as a Percentage of GDP

1Social Security + all health. Source CBO Long-Term Budget Outlook, June 2012 26

Spending on the Elderly1 as a Percentage of GDP

1Social Security + all health. Source CBO Long-Term Budget Outlook, June 2012 27

SOCIAL SECURITY SOLUTIONS*• Increase Net National Savings

– Run surpluses!• Cut benefits

– Increase retirement age– Index to prices, not wages

• Cut everything else • Increase SS taxes• Convert to private accounts

– DB to DC: uncertainty of returns, of longevity, of annuity– Administrative costs: you get what you pay for

• Borrow• Swap Treasury debt for equities

– Government ownership of means of production* See http://www.esquire.com/blogs/politics/federal-budget-statistics-1110

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2013 Marginal Tax Rates for Selected Provisions

(Married filing jointly; employee only1. Rate changes bolded.)Income2 Federal Income

Social Security

Medicare Base

Medicare Investment3

Pease4 Total

0-$17,8505 10.0 6.2 1.45 0 0 17.65

$17,850-72,500 15.0 6.2 1.45 0 0 22.65

$72,500-113,700 25.0 6.2 1.45 0 0 32.65

$113,700-146,400 25.0 0 1.45 0 0 26.45

$146,400-223,050 28.0 0 1.45 0 0 29.45

$223,050-250,000 33.0 0 1.45 0 0 34.45

$250,000-300,000 33.0 0 2.35 3.8 0 39.15

$300,000-398,350 33.0 0 2.35 3.8 .99 40.34

$398,350-450,000 35.0 0 2.35 3.8 1.05 42.20

$450,000+ 39.6 0 2.35 3.8 1.19 46.941Employers don’t pay the additional .9% Medicare Base or 3.8% Medicare Investment taxes.2Taxable income for Federal Income; earned income for Social Security & Medicare Base; AGI for Medicare Investment & Pease.3This rate applies to the lessor of net investment income or the excess of Modified AGI over $250,000.4Pease reduces itemized deductions (except medical, investment interest, & casualty & theft) by 3% of the amount by which AGI exceeds $300,000, but not more than 80% of the value of itemized deductions. PEP (Personal Exemption Phaseout) is not included; it reduces the $3,900/person exemptions by 2% for the first dollar of each $2,500 increment in exemptions for AGI over $300,000.5Does not include Earned Income Credit and various other credits for low income filers.

Tax Expenditures: How Do We Limit Them?(2013, in billions of dollars)

Rank Tax Expenditure Cost

1 Exclusion of employer payments for health insurance 181

2 Provisions that benefit states 105

Deductibility of state & local income, sales & property taxes (69)

Exclusion of interest on public purpose state & local bonds (36)

3 Deductibility of mortgage interest on owner occupied homes 101

4 Tax treatments of 401(k)-type retirement plans 73

5 Treatment of capital gains 62

6 Tax treatment of employer pension plans 52

7 Exclusion of imputed rental income 51

8 Deductibility of charitable contributions 49

9 Deferral of income from controlled foreign corporations 42

10 Accelerated depreciation of machinery & equipment 3330

Percentage of households paying income or payroll taxes where payroll—including employer’s share— is bigger

Income Quintile 2009

Lowest 99

2nd 96

Middle 86

4th 78

Highest 49

Top 1% 2

All Quintiles 80

31Source: CBO

Average Social Insurance Tax Rates By Quintiles

1979 2009

Lowest 4.9 8.3

2nd 7.6 7.9

Middle 8.5 8.4

4th 8.5 9.1

Highest 5.5 7.2

Top 1% 1.0 2.5

All 6.8 8.0

32Source: CBO

Marginal Federal Income Tax Rates

Next Highest Highest

2000 36.0 39.6

2001 35.5 39.1

2002 35.0 38.6

2003-12 33.0 35.0

2013 35.0 39.6

33

Average Tax Rates & Shares by Quintiles, 2009

Income Rates Rates Shares Shares

Quintile Total Income Total Income

Lowest 1.0 -9.3 0.3 -6.6

2nd 6.8 -2.6 3.8 -3.5

Middle 11.1 1.3 9.4 2.7

4th 15.1 4.6 18.3 13.4

Highest 23.2 13.4 67.9 94.1

Top 1% 28.9 21.0 22.3 38.7

All 17.4 7.2 100.0 100.0

34Source: CBO

Income Average Incomes Shares Shares

Quintile Pre-Tax After-Tax Pre-Tax After-Tax

Lowest $23.5 $23.3 5.1 6.2

2nd 44.4 40.5 9.8 11.1

Middle 64.3 57.1 14.7 15.8

4th 93.8 79.6 21.1 21.6

Highest 223.5 171.6 50.8 47.2

Top 1% 1,219.7 866.7 13.4 11.5

All 88.4 73.1 100.0 100.0

Average Incomes & Shares by Quintiles, 2009

($ in thousands)

35Source: CBO

The Laffer Curve

36

The Neo-Laffer Curve

37

37

Can Another Deal Be Made?Recent Deals and Offers

(10-Year Savings; $ in Billions)Category July 2011

Almost DealDec 14 2012 GOP Offer

Dec 17 2012 WH Offer

Jan 1 2013 Deal

Revenues 800 1,000 1,200 545

Spending

Entitlements

Health 400 -- 400 25

Social Security 75 -- 0 --

Chained CPI 75 (150) 125 --

UI, Farm, & other 250 -- 200 -30

Total Entitlements 800 -- 725 -5

Discretionary, net 1,300 -- 25 25

Total Spending 2,100 1,000 850 20

Interest 300 300 300 85

Total 3,200 2,300 2,250 65038