Reconciliation Criticisms Are Off Base

As possible elements of a deficit-reducing reconciliation agreement have emerged, critics have attacked the plan for increasing recession risk, overstating savings, and double-counting new revenue. While not enough details of the plan have been agreed to or released to fully evaluate these claims, none of these criticisms are likely to be true.

In this piece, we explain:

  • Revenue Increases Won’t Cause a Recession. The best thing Congress can do to help avoid a recession is assist the Federal Reserve in its fight against inflation, which is surging at its fastest rate in four decades. Policies to close tax loopholes, reduce tax breaks, improve compliance, and raise revenue will help mitigate inflationary pressures.
  • Higher Inflation Is Unlikely to Worsen the Plan’s Fiscal Impact. A possible reconciliation bill will apparently be scored against the Congressional Budget Office's (CBO) July 2021 baseline, which assumed much lower inflation than has since emerged. Under newer economic assumptions, spending in the plan will cost more but offsets will also raise more revenue. The net result is unknown but will likely mean greater deficit reduction.
  • Solvency Measures Are Not Double Counted. Based on press reports, a reconciliation bill may raise roughly $200 billion of revenue for the Medicare trust fund. This would be part of roughly $500 billion of deficit reduction, and would not also be used to pay for new spending.

Revenue Increases Won’t Cause a Recession. They’ll Help to Avoid One.

Although employment and household balance sheets remain strong, Americans are currently experiencing surging inflation and real economic output has been shrinking. As the Federal Reserve continues to raise interest rates to combat inflation, the risk of a recession continues to rise. Counter to some claims, a deficit-reduction reconciliation bill is likely to reduce, not increase, that recession risk.

The most important thing Congress and the President can do to prevent a recession is to help the Federal Reserve fight inflation. By containing excess demand, boosting supply, and directly lowering prices, fiscal policy can assist the Fed in reducing inflation with fewer interest rates hikes. This in turn would reduce the risk of financial market turmoil or recession.

Based on press reports, a reconciliation bill is likely to raise new revenue by closing tax loopholes and breaks and improving tax compliance, as well as lowering drug prices. These policies would help tamp down excessive demand and lower overall prices.

Higher Inflation Is Unlikely to Worsen the Plan’s Fiscal Impact And Will Probably Improve It

Policymakers are apparently working to identify roughly $1 trillion worth of budget offsets along with $500 billion of new spending and tax breaks through 2031. However, these estimates are being generated relative to CBO’s July 2021 baseline. A lot has changed since that baseline – and inflation in particular has been much higher – leading some to suggest the bill would cost more or generate less in savings under a newer baseline.

While we agree on the benefits of learning the fiscal impact of any agreement relative to the latest baseline, we don’t expect dramatic changes to the score, and higher net savings is more likely than lower savings.

While climate tax credits and expanded Affordable Care Act (ACA) subsidies are likely to cost more in light of high inflation, most revenue-increasing proposals will also raise more. The effects on drug pricing is unclear, since the inflation cap should save less but negotiations should save more.

The below table reflects a possible outline of a plan based on press reports, along with how an updated baseline might change each element. 

Policy Rough Deficit Reduction/Increase (-) Likely Impact of New Baseline
Increased Climate Spending -$300 billion Little Change
Clean Energy Tax Credits Higher Costs
Health Care Spending -$200 billion Higher Costs
Spending and Tax Cuts -$500 billion Higher Costs
Inflation Cap on Drug Prices $100 billion Lower Savings
Other Prescription Drug Policies $190 billion Higher Savings
Expand NIIT/SECA Tax $200 billion Higher Revenue
IRS Funding to Reduce Tax Gap $120 billion Little Change
Reduced Tax Loopholes and Breaks $500 billion Higher Revenue
Offsets and Deficit Reduction $1 trillion Higher Revenue
Net Deficit Reduction $500 billion Ambiguous, Likely Higher Savings

Sources: Committee for a Responsible Federal Budget, media reports. 

Solvency Measures Are Not Double-Counted if They Go To Deficit Reduction

By expanding the 3.8 percent Self Employment Contributions Act (SECA) tax or the Net Investment Income Tax (NIIT), policymakers are apparently planning to generate roughly $200 billion to support the Medicare trust fund. We’ve estimated this proposal would extend Medicare hospital insurance solvency by three to four years. However, some have criticized the plans for “double counting” this revenue.

Double counting occurs when policymakers use the same revenue or budgetary savings to both strengthen trust fund solvency and pay for new spending outside of the trust fund. We’ve written about the double-counting gimmick in detail in our 2018 paper, Playing by the (Budget) Rules.

This new Medicare revenue, however, would be used for deficit reduction rather than new spending. Improvements to solvency are effectively a form of deficit reduction that would improve the nation’s fiscal outlook. The reconciliation plan – if structured as press reports suggest – could be described as generating $300 billion of deficit reduction and $200 billion of Medicare deficit reduction, or it could be described as generating $500 billion of deficit reduction, of which $200 billion is for Medicare. These are semantic differences that make little difference in the substantive impact of the bill. As long as the same resources are not being claimed for new spending or tax cuts and for solvency, there is no double-counting issue.1 

* * *

Based on the reported details of the deficit-reducing reconciliation bill, criticisms of the bill are misguided. It would reduce rather than increase inflation, would likely save more after accounting for higher inflation than in the July 2021 baseline, and would still reduce deficits even excluding revenue going to the Medicare trust fund.

1 Under a strict interpretation of current law where benefits and spending are assumed to be cut upon trust fund insolvency, any measures to improve solvency today would increase spending in the future. Compared to such a baseline, the $200 billion of revenue to shore up Medicare would not be considered deficit reduction. However, under this type of baseline, the country would no longer face an unsustainable rise in debt, since all trust funds would already be assumed to be solvent, and appropriations would end on September 30th of this year.