Thursday, December 1, 2011

Spending Cuts 101

When is a spending cut a real cut in spending? Don’t worry and keep reading as this is neither the latest Dr. Seuss book nor a speech from Donald Rumsfeld.  It is however a very sensitive subject in Washington D.C.  We have heard about all of the deficit reduction plans, commissions, grand bargains, debt ceiling agreements, and gangs of six or more that include a 20% service charge.  They talk about spending cuts, heck even president Obama offered up a grand plan of $4trillion in cuts.  But are they real?
Progressives’ new Lex Luthor/Darth Vader, Grover Norquist himself, in his ever-so-irritating voice, has been whining on every talk show across the alphabet soup of networks that the compromises of the 80’s and 90’s didn’t deliver on the alleged agreed upon cuts.  Most recently he sounded like he got stuck with a sack of magic-free beans:
In 1982, the Democrats said, ‘Gee, if you let us raise taxes, we’ll cut spending $3 for every $1 of tax increase.’ Taxes were raised. Spending didn’t go down, spending went up. The same thing happened in 1990, although George Bush -- Herbert Walker Bush -- was promised $2 in phony spending cuts for every dollar of tax increase. Taxes went up, spending actually increased. It wasn’t cut. Twice the Democrats have said let’s raise taxes and cut spending; twice taxes were increased, spending was not reduced at all.”
Aside from the fact that Grover is misrepresenting the facts, and that the Republican Presidents could have vetoed the funding bills, it does beg the question: When is a spending cut a real cut in spending?  All sorts of spending measures and comparisons that can be woven to tell whatever story you want. Republicans like Jon Kyl (R-AZ), the number two Republican in the Senate, (Kyl = #2…potty humor break), will tell you that tax cuts don’t have to be paid for, in fact they never have to be paid for.  That is, unless you’re a Democrat in the White House and you propose a middle class tax cut.  Digression.
Economists like to present many indicators in terms of GDP.  Politicians and economists love charts and graphs and they love to provide numbers in terms of “X as a percent of GDP”, where ‘X’ can be spending, tax revenues, debt, etc.  The logic does make sense as absolute spending or debt numbers are meaningless without context.  As the economy grows as measured by GDP, one would expect costs (government spending) to go up as more services are required to support the expanding economy.  Likewise, revenues (fees and taxes) should also go up as economic activity (consumer and business spending) increases. 
Then there’s the baseline effect and this is where government is just like big business.  It’s a bloody game.  In the private sector of big business the annual budgeting process is a macabre dance of bluffing and throat cutting.  Right up the hierarchy, supervisors, to managers to directors to executives bake so much spending into their budget submission that when the whole rotten mess gets rolled up, the company will appear to go from profitability to staggering losses in a year.  From the CFO to the CAO to the controllers to the financial analysts they will cry from the parapets “Cut the budget!”  And now we enter the No Limit Texas Hold’em phase where departments try to out bluff one another to secure their new increased funding requests.  And every time one of these department heads reduces his request he will say he is cutting his budget.  Yes it is being cut against the proposed spending levels, not against the current year.  Baseline effect. And government agencies do the exact same thing. 
And just like in business, having a budget does not imply approval to spend on whatever you like.  Committees approve specific projects (Acts in government) and others will appropriate the necessary funds to be spent.  Some appropriations may not be tied to a project and some projects may get approved but not be given any funds (in Government that is what happened to the Volstead Act and it is what Republicans threaten to do Dodd-Frank and the Affordable Care Act).
So everybody, and I mean everybody, games the system by overinflating their needs knowing that the cuts will come and they will end up ahead of the curve for next year.  This is why many spending hawks propose methods such as zero-based budgeting which forces the budget owners to justify spending needs from the bottom up, not based on prior year(s).
So yes, it is possible to claim that spending is being cut when in reality it is still increasing, perhaps at a slower year over year rate, but nonetheless still going up.  Is the president being honest if he submits a budget that eliminates $1trillion of future war spending and calls it a spending cut?  Yes and no.  We are currently spending the money in Iraq and Afghanistan and presumably we will exit those nations so yes, it is a legitimate spending cut.  Is it legitimate to ‘realize’ that same savings year after year as part of total savings?  Probably not, unless you are taking a previous budget or plan that showed that same spending happening every year. 
I could go on about discretionary and mandatory spending but I will save it for another day.
So, be careful when pundits and politicians talk about spending cuts.  Make sure they are talking in real dollars from the current fiscal year spending while eliminating special one off expenditures like the American Recovery and Reinvestment Act.  But also make sure when the opposition talks about how spending increased by the other party, they also acknowledge that the economy grew comparably, and that they acknowledge the special one off expenditures as well. 
Oh, to prove this thesis, watch your children pad their Santa wish list knowing the Christmas Appropriations Committee will cut their requests.
Class dismissed.

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