Congressional Budget Office
Director's Blog

In 1995, the Unfunded Mandates Reform Act (UMRA) was enacted to ensure that the Congress receives information, during the legislative process, about proposed federal requirements on state, local, and tribal governments and on various entities in the private sector. As required by UMRA, CBO prepares “mandate statements” for bills that are approved by authorizing committees. In those statements, CBO identifies requirements that would meet UMRA’s definition of a federal mandate and estimates whether the costs of such mandates would exceed annual dollar thresholds specified in that law.

Today CBO released its annual report on UMRA, part of a series begun in 1997, which summarizes mandates in legislation considered by the Congress in 2010 and in public laws passed by the Congress in that year (whether or not the mandates were reviewed by CBO at some earlier point). UMRA defines a legislative provision as a mandate if that provision, when enacted, would:

• Impose an enforceable duty on state, local, or tribal governments or on private-sector entities;
• Reduce or eliminate funding authorized to cover the costs of complying with existing mandates; or
• Increase the stringency of conditions that apply to the distribution of funds through certain mandatory programs or make cuts in federal funding for those programs.

Most of the legislation that the Congress considered in 2010 did not contain federal mandates as defined in UMRA. In 2010, CBO reviewed 474 bills and other legislative proposals, of which 64 (about 14 percent) contained intergovernmental mandates and 85 (about 18 percent) contained private-sector mandates.  By comparison, the averages for the 2006-2009 period were 15 percent (intergovernmental) and 20 percent (private sector).

As in previous years, few laws enacted in 2010 contained mandates whose costs, in CBO’s estimation, would exceed UMRA’s thresholds. In 2010, those thresholds, which are adjusted annually for inflation, were $70 million for intergovernmental mandates and $141 million for private-sector mandates. Two laws contained intergovernmental mandates with costs estimated to exceed the threshold, and 11 laws contained private-sector mandates with such costs. Historically, CBO has identified intergovernmental mandates with costs estimated to exceed the threshold in less than 1 percent of public laws and private-sector mandates with such costs in less than 5 percent of public laws.

In total, laws enacted in 2010 contained 14 intergovernmental mandates and 46 private-sector mandates with costs that CBO estimated will exceed—or could not determine whether they will or will not exceed—the respective thresholds. The majority of those mandates were in two laws: the Patient Protection and Affordable Care Act (Public Law 111-148) and the Dodd–Frank Wall Street Reform and Consumer Protection Act (Public Law 111-203).

This report was prepared by Leo Lex, Chief of CBO’s State and Local Government Cost Estimates Unit, and Amy Petz, of CBO’s Microeconomic Studies Division, with assistance from CBO’s mandate analysts.
 

This afternoon, I testified before the House Financial Services Subcommittee on Oversight and Regulation about CBO’s cost estimate for the Dodd-Frank Wall Street Reform and Consumer Protection Act. My statement summarizes CBO’s estimate for the legislation as enacted last July.

What Did the Legislation Do?

The Dodd-Frank Act made significant changes to the regulatory environment for banking and thrift institutions as well as for financial markets and their participants. The act expanded existing regulatory powers, granted new regulatory powers, and reallocated regulatory authority among several federal agencies—with the aim of reducing the likelihood and severity of future financial crises. The act also established new agencies and programs and provided grants to help communities address high foreclosure rates and subsidies to assist homeowners facing foreclosure.

The Budget Effects in Brief

The figure below summarizes CBO’s estimate of the budgetary effects of the legislation during the 2010-2020 period. CBO estimated that the act would increase both direct spending and revenues between 2010 and 2020, reducing deficits, on net, by $3.2 billion. (Direct spending is that which is not governed by appropriation acts.) In addition, CBO estimates that the Dodd-Frank Act will lead to an increase of $2.6 billion in discretionary spending over the five-year period ending in fiscal year 2015 (and additional sums in subsequent years), assuming that lawmakers provide the necessary appropriations in the future.

Certain provisions of the act were estimated to increase direct—or mandatory—spending by $37.8 billion over that period. Most of those costs, $26.3 billion, would result from a new program created to resolve insolvent or soon-to-be insolvent financial entities, which would be financed through an Orderly Liquidation Fund, or OLF. Other provisions would increase spending by an additional $11.5 billion, we expected. At the same time, different provisions of the act were estimated to reduce direct spending by $27.6 billion during the coming decade. The biggest share of those savings, $16.6 billion, would result from changes to federal deposit insurance programs. The remainder of the savings, $11.0 billion, would arise from a decrease in authority for the Troubled Asset Relief Program, or TARP.

CBO’s Estimate of the Effects on Direct Spending and Revenues of the Dodd-Frank Wall Street Reform and Consumer Protection Act Over the 2010–2020 Period

In addition, we estimated that the legislation would increase revenues during the 2010–2020 period by $13.4 billion. The extra revenues would stem primarily from fees assessed on various financial institutions and market participants.

Major Provisions and their Budgetary Effects

A different way to tote up these same figures is to group the budgetary effects by the provisions of the legislation that generate them. Those provisions:

• Created new federal organizations to regulate financial matters, including the Consumer Financial Protection Bureau, the Financial Stability Oversight Council, the Office of Financial Research, and the Office of National Insurance. CBO estimated that those new organizations would widen deficits by $6.3 billion over the 2010-2020 period.
• Restructured the authority of existing financial regulators, including the Commodity Futures Trading Commission, the Federal Deposit Insurance Corporation (FDIC), the Federal Reserve, the Office of the Comptroller of the Currency, the Securities and Exchange Commission, and others. Together, those provisions were estimated to add $0.1 billion to deficits, on net, through changes in direct spending and revenues over that period.
• Provided additional funding for existing programs that provide mortgage relief, neighborhood revitalization, and grants to encourage individuals to move from nonbank financial services to traditional banks. Those provisions were estimated to have a cost of $1.5 billion.
• Modified federal deposit insurance programs, including increasing the maximum amount of deposits in an individual account that can be insured, and directing the FDIC to increase the size of its insurance fund by 2020. Those changes would reduce deficits by $16.6 billion during the 2010-2020 period.
• Created the Orderly Liquidation Fund and authorized the FDIC to resolve systemically important financial firms under certain conditions. CBO’s estimate of the net cost of those provisions—$20.3 billion over the period—represents the difference between the expected values of the net costs to resolve insolvent firms and the additional assessments collected to cover those costs. Those expected values represent weighted averages of the outcomes of various scenarios regarding the frequency and magnitude of systemic financial problems, taking into account an estimated probability of each scenario.
• Reduced the spending authority of the TARP, which we estimated to save $11.0 billion in 2010. And it made a number of other changes to current law that would reduce deficits, on net, by $3.8 billion.

Two Final Points

Once legislation is enacted, the agency’s involvement with that legislation is quite limited. New statutes join with the whole body of existing law to form the basis for CBO’s baseline projections. Those projections are prepared for programs as a whole, so the effects of individual statutes cannot usually be identified separately. However, we have learned nothing so far, through our review of the President’s 2012 Budget, about the implementation of the Dodd-Frank Act that would cause us to significantly change the cost estimate we provided last year.

Second, depending on the effectiveness of the new regulatory initiatives and new authorities to resolve and support a broad variety of financial institutions, implementing the Dodd-Frank Act could change the timing, severity, and federal cost of averting and resolving future financial crises. However, CBO did not analyze the regulatory impact of the legislation nor did it attempt to determine whether the estimated costs under the act would be smaller or larger than the costs of alternative approaches to addressing such crises.

This morning I testified before the House Energy and Commerce’s Subcommittee on Health on CBO’s analysis of the Patient Protection and Affordable Care Act (PPACA) and the health care provisions of last year’s Reconciliation Act. With the staff of the Joint Committee on Taxation (JCT), we have provided the Congress with extensive analyses of the legislation, and my written statement summarizes that work.

Effects of the Legislation on Insurance Coverage and on the Federal Budget

• Number of People with Insurance Coverage: We estimate that the legislation will increase the number of nonelderly Americans with health insurance by roughly 34 million in 2021. About 95 percent of legal nonelderly residents will have insurance coverage in that year, compared with a projected share of 82 percent in the absence of that legislation and 83 percent currently. The legislation will generate this increase through a combination of a mandate for nearly all legal residents to obtain health insurance; the creation of insurance exchanges through which certain people will receive federal subsidies; and a significant expansion of Medicaid.
• Costs of Expanded Insurance Coverage: According to our latest estimate, the provisions of the laws related to health insurance coverage will have a net cost to the Treasury from changes in direct spending and revenues of $1.1 trillion during the 2012-2021 decade. (Direct spending is that which is not controlled by annual appropriation acts.) That amount is larger than CBO’s original estimate of the cost of those provisions during the 2010-2019 decade that represented the 10-year budget window when the original estimate was produced. The increase owes almost entirely to the shift in the budget window; as you can see in the figure below, the revisions in any single year are quite small. Over the eight-year period (2012-2019) that is common to our original analysis and the most recent one, the net cost of the coverage provisions is now 2 percent higher than CBO and JCT estimated in March 2010.

Comparison of CBO’s 2010 and 2011 Estimates for PPACA and the Health Care Provisions of the Reconciliation Act

(Billions of dollars, by fiscal year)

• Net Budgetary Impact of the Legislation: PPACA and the Reconciliation Act also reduced the growth of Medicare’s payment rates for most services; imposed certain taxes on people with relatively high income; and made various other changes to the tax code, Medicare, Medicaid, and other programs. As you can see in the figure below, those provisions will reduce direct spending and increase revenues, providing an offset to the cost of the coverage provisions. According to our latest comprehensive estimate of the legislation, the net effect of changes in direct spending and revenues is a reduction in budget deficits of $210 billion over the 2012-2021period. In addition to those budgetary effects, the legislation will affect spending that is subject to future appropriation action. CBO has estimated that the Internal Revenue Service and the Department of Health and Human Services will each incur costs of between $5 billion and $10 billion over the next 10 years to implement the legislation. The laws also authorized other appropriations, most of which were for activities that were already being carried out under prior law or that had been previously authorized.

 Estimated Effects of PPACA and the Health Care Provisions of the Reconciliation Act on the Federal Budget

(Billions of dollars, by fiscal year)

My written statement describes this estimate in more detail and touches on other effects that we have estimated—including the budgetary impact in the second decade and the laws’ impact on health insurance premiums and employment.

Critiques of CBO’s Analysis

Observers have raised a number of challenges to our estimates. At the hearing, I discussed the three most common areas of concern that I’ve heard expressed:

First, some analysts have asserted that we have misestimated the effects of the changes in law. These concerns run in different directions: Some analysts believe that the subsidies will be more expensive than we project, while others maintain that the Medicare reforms will save more money than we project.

Certainly, projections of the effects of this legislation are quite uncertain, and no one understands this better than the analysts at CBO and JCT. Our estimates depend on myriad projections of economic and technical factors, as well as on assumptions about the behavioral responses to federal policies by families, businesses, and other levels of government. All of those projections and assumptions represent our objective and impartial judgment, based on our detailed understanding of federal programs, careful reading of the research literature, and consultation with outside experts. In addition, our estimates depend on our line-by-line reading of the specific legislative language. Our goal is always to develop estimates that are in the middle of the distribution of possible outcomes, and we believe that our estimates achieve that goal.

A second type of critique of our estimates is that budget conventions hide or misrepresent certain effects of the legislation. As one example, the numbers most often cited involve changes in direct spending and revenues because that is what is relevant for pay-as-you-go procedures and because those changes will occur without any additional legislative action. However, PPACA and the Reconciliation Act will also affect discretionary spending that is subject to future appropriation action. We noted many times the costs that we expect the Department of Health and Human Services and the Internal Revenue Service to incur in implementing the legislation. PPACA also includes authorizations for future appropriations. Those referring to specific amounts total about $100 billion over the decade, with most of that funding applied to activities that were being carried out under prior law, such as programs of the Indian Health Service.

Another example of concern about budget conventions involves the Hospital Insurance trust fund, which covers Medicare Part A. The legislation will improve the cash flow in that trust fund by hundreds of billions of dollars over the next decade. Higher balances in the fund will give the government legal authority to pay Medicare benefits longer, but most of the money will pay for new programs rather than reduce future budget deficits and therefore will not enhance the government’s economic ability to pay Medicare benefits in future years. We wrote about those issues as the legislation was being considered.

A third type of critique is that PPACA and the Reconciliation Act will be changed in the future in ways that will make deficits worse. As with all of CBO’s cost estimates, the ones for this legislation reflect an assumption that the legislation will be implemented in its current form. We do not attempt to predict the intent of future Congresses that might choose to enact different legislation. At the same time, we have emphasized that the budgetary impact of this legislation could be quite different if key provisions of the legislation were changed, and we have highlighted certain provisions that we expect might be difficult to sustain for a long period of time.

Many of CBO’s publications related to the health reform legislation can be found here. 
 

Today CBO released the fifth of its statutory reports on transactions undertaken as part of the Troubled Asset Relief Program (TARP)—the program established in October 2008 to enable the Department of the Treasury to promote stability in financial markets through the purchase and guarantee of “troubled assets.” The estimate of the cost of the TARP’s transactions provided in this report is the same as that provided in CBO’s most recent baseline budget projections issued on March 18.

CBO’s Estimate of the Cost of the TARP’s Transactions: $19 Billion

CBO’s analysis reflects transactions completed, outstanding, and anticipated under the TARP as of March 3, 2011. In sum:

• CBO estimates that the cost to the federal government of the TARP’s transactions (also referred to in the report as the subsidy cost), including grants for mortgage programs that have not been made yet, will amount to $19 billion.  
• That cost stems largely from assistance to American International Group, aid to the automotive industry, and grant programs aimed at avoiding foreclosures: CBO estimates a cost of $41 billion for providing those three types of assistance. Other transactions with financial institutions will, taken together, yield a net gain of $22 billion to the federal government, CBO estimates. 
• CBO’s current estimate of the cost of the TARP’s transactions is $6 billion less than the $25 billion estimate shown in the agency’s November 2010 report on the TARP and in its January 2011 baseline projections. The reduction in the estimated cost results primarily from a lower assessment of losses from assistance provided to the automotive industry.
• CBO’s estimate is well below OMB’s latest estimate of $64 billion, largely because of different assessments of the cost of the Treasury’s housing programs under the TARP.

The Costs Are Much Lower Than Originally Anticipated

When the TARP was created, the U.S. financial system was in a precarious condition, and the transactions envisioned and ultimately undertaken engendered substantial financial risk for the federal government. The costs directly associated with the TARP, when taken in isolation, have come out toward the low end of the range of possible outcomes anticipated when the program was launched; however, funds invested, loaned, or granted to participating institutions through the Federal Reserve and other government entities helped limit those costs. About 60 percent of the amounts disbursed to date has been repaid. Overall, the outcomes of most transactions made through the TARP were favorable for the federal government.

Activities of the Troubled Asset Relief Program

This report was prepared by Avi Lerner of CBO’s Budget Analysis Division.
 

Last Friday CBO released its preliminary analysis of the President’s budget for 2012. That analysis included an update to CBO’s baseline budget projections, which largely reflect the assumption that current tax and spending laws will remain unchanged.

As we explained in Friday’s analysis, updating baseline projections of federal spending on health care programs does not automatically result in a complete reestimate of the budgetary impact of last year’s major health care legislation—the Patient Protection and Affordable Care Act (PPACA) and the Health Care and Education Reconciliation Act of 2010—under the assumptions of the new baseline. However, the costs or savings from some aspects of that legislation can be separately identified in the baseline projections. In particular, the provisions related to expanding health insurance coverage were projected to increase the deficit between 2012 and 2021 by $1.04 trillion, on net, in CBO’s January baseline; they are now projected to increase the deficit by $1.13 trillion over that period.

Those effects are only a part of the total budgetary impact of the legislation. The previous estimate by CBO and the staff of the Joint Committee on Taxation (JCT) showed that the effects of the other provisions on mandatory spending and revenues, taken together, will reduce the deficit by roughly $1.25 trillion over the 2012–2021 period—meaning that the legislation, as a whole, was projected to reduce the deficit over 10 years. The budgetary effects of all of those other provisions cannot be separately identified in the new baseline.

The following table compares the current estimates with previous ones by CBO and JCT. The first pair of columns with numbers shows the estimates CBO published just prior to enactment of the legislation. The second pair of columns comes from the estimated cost of repeal of that legislation that CBO published in February and is based on the projections included in CBO’s January baseline. The third pair of columns comes from CBO’s March baseline.

Effects on the Federal Deficit of the Insurance Coverage Provisions in PPACA and the Provisions of the Reconciliation Act Related to Health Care

(Billions of Dollars; Estimates from CBO and the staff of the Joint Committee on Taxation)

How does the current estimate of the cost of expanding health insurance coverage under this legislation compare with the previous projections?  The estimated cost of the coverage provisions, which is shown in the first two lines of the table, is a good deal larger over the 2012-2021 period than over the 2010-2019 period. (The estimated savings from the other provisions affecting direct spending and revenues are also a good deal larger over the later period, as is the estimated net reduction in the budget deficit.)  The difference is primarily attributable to the different time periods the estimates cover, and not to substantial changes in the year-by-year estimates. Over the eight-year period that is common to all three analyses (2012 through 2019), the latest estimate of the net cost of the coverage provisions ($794 billion) differs by only about 2 percent from the original estimate ($778 billion); the projected gross costs (which do not include the effects of penalty payments, receipts from the new excise tax on high-premium health insurance plans, and certain other receipts or savings) differ by only about 4 percent over that period.

In its ongoing monitoring of developments, CBO has seen no evidence to date that the steps that will be taken to implement the legislation—or the ways in which participants in the health care and health financing systems will respond to the legislation—will yield overall budgetary effects that differ significantly from the ones projected earlier. Therefore, the evolution of the estimates does not reflect any substantial change in the estimation of the overall effects of PPACA and the Reconciliation Act from what was projected in March 2010.

As we have noted repeatedly, our projections of the budgetary impact of last year’s major health legislation are quite uncertain because assessing the effects of making broad changes in the nation’s health care and health insurance systems requires assumptions about a broad array of technical, behavioral, and economic factors. The relatively small difference in the estimated cost of the coverage provisions for the 2012-2019 period reflects the net effect of using updated projections of economic conditions, health care costs, and other factors; some technical changes in modeling; and the effects of subsequent legislation. CBO’s estimates of the budgetary effects of last year’s major health legislation will probably change again in the future for all of those same reasons. More generally, we will continue to evaluate incoming information about the probable effects of the legislation, and we will adjust our estimates as needed.

About 25 percent of the nation’s highways, which carry about 85 percent of all road traffic, are paid for in part by the federal government. Federal spending on highways comes primarily from taxes on gasoline and diesel fuel, but those and other taxes paid by highway users do not yield enough revenue to support either current federal spending on highways or the higher levels of spending that have been proposed by some observers. Although raising fuel taxes would increase revenue, those taxes alone cannot provide a strong incentive for highway users to take into account all of the costs their road use imposes on others. A CBO study, prepared at the request of the Senate Budget Committee, examines broad alternatives for federal funding of highways, focusing on fuel taxes and on other taxes that could be assessed on the basis of the number of miles that vehicles travel.

Highway users impose costs not only on the highway infrastructure in the form of pavement damage, but also on other users, nearby nonusers, the environment, and the economy in the form of congestion, risk of accidents, noise, pollution, and dependence on foreign oil. Passenger vehicles are responsible for the greater share of the total costs of highway travel, because they account for more than 90 percent of all miles traveled. In particular, urban travel by passenger vehicles represents about two-thirds of total vehicle miles and is the primary source of congestion, the largest category of social costs. Heavy trucks account for less than 10 percent of miles traveled, but their costs per mile are greater and they are responsible for most pavement damage.

Estimates from several sources indicate that most highway users currently pay much less than the full cost of their travel. Given current fuel efficiency, federal and state fuel taxes combined produce revenue of roughly 2 cents per mile for automobiles. The Federal Highway Administration estimates that automobile travel has a national average cost for congestion alone of about 10 cents per mile—much more in large metropolitan areas and much less in rural communities.

Most of the costs of using a highway are tied more closely to the number of miles traveled than to the amount of fuel consumed. Fuel consumption depends not only on the number of miles traveled but also on fuel efficiency, which can differ from one vehicle to another and can change with driving conditions. Therefore, charging highway users for the full costs of their use would require a combination of fuel taxes and per-mile charges, sometimes called vehicle-miles traveled (VMT) taxes.

Fuel Taxes

Viewed according to different conceptions of equity, fuel taxes offer a mix of positive and negative characteristics. They satisfy a “user-pays” criterion, but they also can impose a larger burden, relative to income, on people who live in low-income or rural households.

Fuel taxes have two desirable characteristics for efficiency: They cost relatively little to implement, and they offer users some incentive to curtail fuel use, thus reducing some of the social costs of travel. At best, however, the strength of that incentive can only be right as a rough average, discouraging some travel too much and other travel too little, because it does not reflect the large differences in cost for use of crowded roads compared with uncrowded roads or for travel by trucks that have similar fuel efficiency but cause different amounts of pavement damage. Moreover, for a given tax rate on fuels, the incentive to reduce mileage-related costs diminishes over time as more driving is done in fuel-efficient vehicles.

Potential Taxes on Vehicle-Miles Traveled

VMT taxes are qualitatively similar to fuel taxes in their implications for equity. Like fuel taxes, they satisfy the user-pays principle, but they impose larger burdens relative to income on people in low-income or rural households. However, to the extent that members of such households tend to drive vehicles that are less fuel-efficient, such as pickup trucks or older automobiles, those highway users would pay a smaller share of VMT taxes than of fuel taxes.

VMT taxes that are aligned with the costs imposed by users would provide a better incentive for efficient highway use than fuel taxes do because the majority of those costs are related to miles driven. However, VMT taxes’ effect on overall efficiency also would depend on how much it costs to put the taxes in place and to collect the money. Estimates of what it would cost to establish and operate a nationwide program are rough, with one source of uncertainty being the cost to install metering equipment in all of the nation’s cars and trucks.

A system of VMT taxes need not apply to all vehicles on every road. There are already less comprehensive systems of direct charges for road use: Toll roads, lanes, and bridges are common in the United States, and several states and foreign countries levy weight-and-distance charges on trucks.

This study was prepared by Perry Beider of CBO’s Microeconomic Studies Division.
 

Each year CBO examines many developments that could have short- or longer-term consequences for the budget and the economy. During the decades to come, one such development is expected to be a slower rate of growth of the labor force relative to the average growth rate of the past few decades. That slowdown is anticipated to occur primarily because of the aging and retirement of large numbers of baby boomers and because women’s participation in the labor force has leveled off since the late 1990s after having risen substantially throughout the three decades before that. A background paper released today describes the methods CBO uses to project such trends through 2021.

The labor force has increased by about 0.8 percent per year, on average, over the past decade. That rate of growth is less than the annual rate of 1.2 percent in the 1990s and much lower than the 2.1 percent rate exhibited over the three decades before that (see figure below). Although the U.S. population has grown by about 1.1 percent per year over the past 10 years, the labor force participation rate (the percentage of the civilian noninstitutional population age 16 years or older who are either working or actively seeking work) has declined, reversing a long-term upward trend.

Long-Run Growth in the Labor Force (Percentage Change from Ten Years Earlier at an Annual Rate)

CBO anticipates that during the next decade the U.S. labor force will grow at about the same rate, on average, as it did during the past decade. The labor force is projected to increase from 153.9 million people in 2010 to 168.7 million in 2021. The aggregate rate of participation in the labor force is projected to fall from 64.7 percent in 2010 to 63.0 percent in 2021.

CBO’s projections combine analysis of demographic and labor market trends:

• Population projections. CBO develops projections for specific groups in the adult civilian noninstitutional population, categorized by age and sex, by applying growth rates developed by the Social Security Administration (SSA) to population estimates for 2010. Those projections are adjusted for differences between CBO’s projections for net immigration and those incorporated in SSA’s population projections. On that basis, CBO estimates that the civilian noninstitutional population age 16 or older will reach 267.6 million in 2021, up from 237.8 million in 2010.
• Labor force projections. CBO projects the overall participation rate by combining its projections for various demographic groups weighted by their share of the population. That rate is adjusted to account for the effects of changes in marginal tax rates that are scheduled under current law and is then applied to population projections to estimate the potential size of the labor force if the economy were at full employment. Further adjustments for the effects of short-run economic fluctuations (or business cycles) are made to project the actual participation rate and the size of the labor force. CBO projects that the labor force will grow by about 15 million people (or about 10 percent) over the next decade. Because of a decline in the rate of labor force participation, however, growth in the labor force is expected to be less than the increase in the population, which is expected to grow by 12½ percent during the next 10 years.  

Two factors are especially important to the current projections of participation in the labor force. The first is near-term economic conditions. Because of the weakened state of the economy, the labor force is currently well below its potential size; consequently, CBO expects it to grow faster than its long-term trend between now and 2016. By that time, CBO projects, the output gap will have closed (that is, the economy will be operating at its full potential), and the actual labor force will be about equal to the potential labor force. After 2016, CBO expects the growth of the labor force to equal, on average, the growth of the potential labor force, and it does not attempt to forecast the timing of subsequent business cycles. The second factor is the impending retirement of the baby-boom generation (people who were born between 1946 and 1964), which will cause the potential labor force participation rate to decline throughout the next decade. In CBO’s estimates, the effect of the second factor outweighs the first, pushing down the labor force participation rate, on balance, over the next decade.

This background paper was prepared by David Brauer of CBO’s Macroeconomic Analysis Division.
 

Today CBO released a preliminary analysis of the proposals contained in the President’s budget for fiscal year 2012 and their estimated effects on federal revenues, outlays, and budget deficits. This analysis does not include an assessment of the macroeconomic effects of the President’s proposals, which will be addressed in a more comprehensive report that CBO will release in April.

The Key Points

• Under the President’s proposals, the federal budget deficit would total $1.2 trillion in 2012 and smaller amounts in later years, averaging 4.8 percent of gross domestic product (GDP) over the 2012–2021 period.
• Deficits would total $9.5 trillion between 2012 and 2021 under the President’s budget, $2.7 trillion more than the amounts projected in CBO’s March baseline. Debt held by the public would rise from 69 percent of GDP in 2011 to 87 percent of GDP in 2021.
• The President’s policy proposals, on net, mostly affect the revenue side of the budget: Relative to CBO’s baseline, revenues would be lower in every year of the coming decade—for a total reduction of about 6 percent over the 2012–2021 period. Most of the revenue changes would result from extending tax policies that are currently in effect or were in effect in the recent past.
• Outlays (other than net spending for interest costs) would be slightly lower under the President’s budget than in CBO’s baseline over the next 10 years.

The Details

CBO’s Updated Baseline Projections. As a basis for analyzing the President’s budget, CBO updated its baseline budget projections, which were last issued in January 2011. Unlike its estimates of the President’s budget, CBO’s baseline projections largely reflect the assumption that current tax and spending laws will remain unchanged. Under that assumption, CBO estimates that the deficit will total $1.40 trillion in 2011—$81 billion less than the agency estimated in January. For the 2012–2021 period, CBO now projects a cumulative deficit of $6.7 trillion—$234 billion less than the amount in the previous baseline. CBO has not modified its economic forecast since January, so the updated baseline projections largely reflect new information that the agency has obtained about various aspects of the federal budget.

CBO’s Analysis of the President’s Proposals. CBO analyzes the President’s budget using its own economic assumptions and estimating techniques (rather than the Administration’s) and incorporates estimates prepared by the staff of the Joint Committee on Taxation (JCT) for tax provisions. According to CBO’s projections, if all of the President’s budgetary proposals were enacted, they would add $26 billion to the baseline deficit for 2011. The 2011 deficit would total $1.43 trillion, or 9.5 percent of gross domestic product.

In 2012, the deficit under the President’s budget would decline to $1.2 trillion, or 7.4 percent of GDP, CBO estimates. That shortfall is $83 billion greater than the deficit that CBO projects for 2012 in its current baseline. Deficits in succeeding years under the President’s proposals would be smaller than the deficit in 2012, although they would still add significantly to federal debt. The deficit would shrink to 4.1 percent of GDP by 2015 but then widen in later years, reaching 4.9 percent of GDP in 2021. Federal debt held by the public would double under the President’s budget, growing from $10.4 trillion at the end of 2011 to $20.8 trillion at the end of 2021.
 

The President’s policy proposals, on net, would have the largest effect on the revenue side of the budget. Those proposals would reduce revenues, relative to CBO’s baseline projections, in every year of the coming decade. Nevertheless, revenues would rise relative to GDP: from 16.2 percent in 2012 to 19.3 percent in 2021. That figure is below CBO’s baseline projection for 2021 (20.8 percent) but higher than the average ratio of revenues to GDP seen over the past 40 years (18.0 percent).

Most of the revenue changes would result from extending tax policies that are currently in effect or were in effect in the recent past. The tax package enacted late last year extended through December 2012 many of the tax reductions originally enacted in 2001 and 2003. The President proposes to extend those reductions permanently, with some modifications, and to permanently index for inflation the amounts of income exempt from the alternative minimum tax, starting at their 2011 levels. In addition, the President proposes that, beginning in January 2013, estate and gift taxes return permanently to the rates and exemption levels that were in effect in calendar year 2009. Those policies would reduce tax revenues and boost outlays for refundable tax credits by a total of more than $3.0 trillion over the next 10 years relative to the amounts projected in CBO’s baseline.
 
Outlays would be greater under the President’s budget than in CBO’s baseline in each of the next 10 years, largely because the proposed reduction in revenues would boost deficits and thus the costs of paying interest on the additional debt that would accumulate. In particular, net interest payments would nearly quadruple in nominal dollars (without an adjustment for inflation) over the 2012–2021 period and would increase from 1.7 percent of GDP to 3.9 percent. Total outlays under the President’s budget would equal 23.6 percent of GDP in 2012, decline slightly as a share of GDP over the following two years, and then rise for the rest of the 10-year projection period. They would equal 24.2 percent of GDP in 2021—about 0.3 percentage points above CBO’s baseline projection for that year and well above the 40-year average for total outlays, 20.8 percent.

Spending proposals with the largest budgetary impact over 10 years include the following: 

• Medicare: The President proposes to freeze Medicare’s payment rates for physicians at the current level throughout the 2012–2021 period. That policy would boost outlays by $0.3 trillion relative to the amount under current law (which calls for sharp reductions in payments to physicians). 
• Transportation: Higher spending on surface transportation programs would add another $0.2 trillion to the total deficit between 2012 and 2021. 
• Defense: The President’s budget includes a total of $0.9 trillion less in spending for defense over the 2012–2021 period than the amount projected in CBO’s baseline. The main reason for the difference is that the baseline incorporates the assumption that funding for war-related activities will continue at $159 billion a year (the amount provided so far for 2011, annualized) with adjustments for inflation, whereas the President’s budget includes a request for appropriations of $127 billion for such activities for 2012 and a placeholder of $50 billion a year thereafter.

Differences Between CBO’s Estimates and the Administration’s Estimates. Compared with the Administration’s estimates, CBO’s estimates of the deficit under the President’s budget are lower for 2011 (by $220 billion) but higher for each year thereafter (by a total of $2.3 trillion over the 2012–2021 period). That disparity stems from differences in the underlying projections of what would happen under current law ($1.3 trillion) as well as from differing assessments of the effects of the President’s proposals ($1.0 trillion).
 

The choices facing the 112th Congress come at a time when the federal government’s debt has increased dramatically in the past few years and when large annual budget deficits are projected to continue indefinitely under current laws or policies. Federal budget deficits will total $7 trillion over the next decade if current laws remain unchanged, CBO projects. If certain policies that are scheduled to expire under current law are extended instead, deficits may be much larger.

Today CBO released Reducing the Deficit: Spending and Revenue Options, which presents more than 100 options for altering federal spending and revenues. As in past reports of this type, the options cover an array of policy areas—from defense to energy to entitlement programs to provisions of the tax code. They come from legislative proposals, various Administrations’ budget proposals, Congressional staff, other government entities, and private groups, among others. The options are intended to reflect a range of possibilities, not a ranking of priorities, and the inclusion or exclusion of a particular policy does not represent an endorsement or a rejection of that policy by CBO.

In recent months, a number of groups and individuals have released plans focused on reducing the deficit. The plans reflect widely varying priorities, with some emphasizing spending cuts and others emphasizing tax increases. The budget options presented in this volume do not constitute a comprehensive plan (although many of the options could be combined into broader plans) but rather a set of discrete policy actions that illustrate ways in which lawmakers could decrease federal spending or increase revenues. The options are grouped into three major budget categories: discretionary spending, mandatory spending, and revenues.

Discretionary Spending

As show in the figure below, nearly 40 percent of federal outlays are labeled “discretionary,” because they stem from authority provided in annual appropriation acts. Spending on defense programs accounted for half of discretionary outlays in 2010, while spending on nondefense activities, such as law enforcement, homeland security, transportation, national parks, disaster relief, scientific research, and foreign aid, accounted for the other half.

Breakdown of Federal Spending in 2010

Because the Congress sets funding for discretionary programs each year, cutting spending through the regular appropriation process can ensure only short-term savings. An approach that has been used in the past to try to ensure longer-term savings is to set overall limits on discretionary spending for future years. Whether lawmakers opt to reduce spending annually or on a multiyear basis, they could choose blunt, across-the-board mechanisms, or they could prioritize spending decisions and make choices about where limited resources should be directed. Such choices would involve difficult trade-offs. About one-third of the 38 discretionary spending options in this report focus on defense spending, while the remaining two-thirds cover a broad array of nondefense programs.

Mandatory Spending

Also known as direct spending, mandatory spending accounts for more than half of federal outlays. The largest mandatory programs are Social Security, Medicare, and Medicaid, which together accounted for nearly three-quarters of mandatory spending in 2010 (see figure below). The Congress generally determines spending for mandatory programs by setting eligibility rules, benefit formulas, and other parameters rather than by appropriating specific amounts each year. Accordingly, to reduce such spending, policymakers might want to modify the automatic indexation of benefits, the populations entitled to benefits, or the federal government’s share of spending for certain programs. Of the 32 options to reduce mandatory spending, about two-thirds deal with spending for health care programs, Social Security, or other retirement programs.

Breakdown of Mandatory Spending in 2010

Revenues

Federal revenues come from taxes on individual and corporate income, payroll taxes for social insurance programs (such as Social Security and unemployment compensation), excise taxes, estate and gift taxes, remittances from the Federal Reserve System, customs duties, and miscellaneous fees and fines. The two largest sources are individual income taxes and social insurance taxes, which together produce more than 80 percent of the government’s revenues (see figure below). Lawmakers could raise revenues by modifying existing taxes—either by increasing tax rates or by expanding tax bases (the measures on which assessments of tax liabilities are made). Alternatively, they could impose new taxes on income, consumption, or particular activities. All of those approaches—embodied in the 35 options presented in this report—would have consequences not only for the amount of revenue collected but also for economic activity, people’s tax burdens, and the complexity of the tax system.

Breakdown of Revenues in 2010

This volume is the result of work by more than 130 people at CBO. The staff of the Joint Committee on Taxation prepared most of the revenue estimates.
 

Yesterday CBO senior analyst Eric Labs testified before the House Armed Services Committee’s Subcommittee on Seapower and Projections Forces to discuss the challenges that the Navy is facing in its plans for building its future fleet. The testimony focused on the costs and force structure implications of the 30-year shipbuilding plan that the Navy released last year. It did not address in detail the Navy’s 2012 10-year plan, which was released last week. CBO has not yet performed a detailed analysis of the new plan; however, because the differences between the two plans appear to be minor, CBO’s discussion of the long-term affordability of the Navy’s shipbuilding program encompassed some specifics about the 2012 plan: 

• If the Navy receives the same amount of funding for ship construction in the next 30 years that it has over the past 30-years—about $15 billion per year (measured in 2011 dollars)—it will not be able to afford all of the 276 ships in the 2011 plan.
• CBO’s analysis of the 2011 plan showed that the Navy would need $21 billion a year for all necessary activities in the Navy’s shipbuilding accounts. Of that amount, $19 billion a year would be required for new ship construction. Under the 2012 plan, CBO expects the required level of funding to be very similar.
• Under its 2012 plan, the Navy plans to buy 106 ships over the next 10-years, compared with 104 ships for the same period under the 2011 plan. The breakdown between combat ships and support ships is essentially the same in the two plans. Under both plans, the Navy would buy 30 support ships between 2012 and 2021, although the composition of those ships varies slightly. Under the 2012 plan, it would buy 76 combat ships versus 74 under the 2011 plan.
• Over the next five years (2012 to 2016), the Navy plans to spend 9 percent more in real terms on new ship construction than in the last five years (2007-2011). The Navy’s estimate of spending for ship construction over the next five years, however, is in line with the longer-term historical average, which is about $15 billion per year in 2011 dollars.
• There are several reasons to believe that, over the next 30 years, the overall costs of the Navy’s 2012 shipbuilding plan would probably be somewhat lower than the costs of the 2011 shipbuilding plan. Nevertheless, CBO’s preliminary analysis of the 2012 plan indicates that the Navy will continue to have a long-term funding challenge, particularly in the 2020s, when the new class of ballistic missile submarines is expected to be built: Carrying out its plans would cost substantially more than the amounts the Navy has historically spent on shipbuilding.