Growth Can Solve the Debt Dilemma

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Growth Can Solve the Debt Dilemma

Hitting a 3% target would result in an economy that’s nearly $13 trillion larger in 30 years.

By Stephen Moore

April 25, 2017

The Congressional Budget Office’s latest report on the nation’s fiscal future is full of doom and gloom. The national debt will double in the next 30 years to 150% of gross domestic product—which is Greece territory. Interest payments may become the largest budget line, eclipsing national defense. Federal spending is expected to soar over 20 years from 22% of GDP to 28%. Never outside of wartime has Washington’s burden been so heavy on the economy.

But the report’s most troubling forecast, by far, is for decades of sluggish economic growth. The CBO projects that America will limp along at an average 1.9% annual growth over the next 30 years. This is a sharp downgrade from historical performance. Between 1974 and 2001, average growth was 3.3%. An extra percentage point makes a world of difference. If weak growth persists, there is almost no combination of plausible spending cuts and tax increases that will get Washington anywhere near a balanced budget.

But consider what happens to the CBO’s numbers assuming 3% annual growth. By 2040 the economy would expand not to $29.9 trillion, but to $38.3 trillion, according to an analysis by Research Affiliates, a California investment firm. That’s an additional output of $8.4 trillion—roughly the entire annual production today of every state west of the Mississippi River.

By 2047, the economy would grow to $47.1 trillion, almost $13 trillion more than the CBO’s baseline estimate. That would spin off new tax revenue to Washington of about $2.5 trillion each year.‎That money ought to be more than enough to pay all the bills and cover most of the unfunded costs of Social Security and Medicare. The old saying is right: The most powerful force in the universe is compound interest.

Growth of 3% would stop the debt-to-GDP ratio from skyrocketing. Instead it would start to fall almost immediately, eventually to about 50%, because the economy would be so much larger. Congress and the White House ought to understand that what matters most for heading off a fiscal crisis is making sure that the economy grows faster than the government. No other debt-reduction policy—certainly not a tax increase—comes close to having the fiscal effect that sustained prosperity does.

A good example is the late 1990s, the only time in recent years that Washington balanced its budget. Surpluses were the result of good policy: A 16-year economic surge allowed revenues to catch up to expenditures. A booming stock market, aided by a cut in the capital-gains tax, brought in unexpected revenue. Spending was restrained under President Clinton and a Republican Congress.

Many blue-chip economists agree with the CBO that a growth rate of about 2% is the best that America can achieve. They believe that growth in productivity and the country’s workforce is too slow to recapture the glory days.

But the right policies can counter these trends. Productivity should surge with improvements in robotics, artificial intelligence and automation. Self-driving cars could cut transportation costs dramatically in coming years. Washington could facilitate this renaissance by giving companies an incentive to invest. The Tax Foundation predicted last year that the House Republican tax reform alone would raise wages by 8%, GDP by 9% and capital investment by 28%. If this is even close to being right, pass the tax cut now and stop obsessing about whether it is paid for within the short-term budget window.

The demographic problem is a greater challenge, with the baby boomers retiring. But according to my calculations at least seven million Americans in their prime working years—18 to 65—would be on the job today if labor-force participation had not dropped since 2000. A strong economy, paired with welfare reforms, could draw millions back to work. And immigration is America’s natural demographic safety valve. Letting in more legal immigrants—especially those with skills and special talents—may not happen under President Trump, but it can and should eventually.

This isn’t a call for budget complacency. Congress should cap spending and flatten the payout formulas for entitlement programs But there’s simply no way to fix the long-term fiscal problems with 1.9% growth, no matter how sharp the budget knife. What America needs is real and sustained growth.

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