(Archived Content)
Tonight I am not going to try to expand your understanding of the federal government’s financial position. Many of you have spent all day, and some of you distinguished careers, refining our grasp of these issues. There is little I can add. I am, however, going to ask you to turn your attention to practical solutions here in Washington, to help turn your insights into action.
To put the federal government’s finances on a sustainable, long-run path, we need to expand the economy more rapidly than we increase future federal outlays. This is easily said. As everyone here this evening knows, the particular challenge is that outlays are already scheduled to increase rapidly in the coming decades to pay for the collective retirements and health care of my generation.
How to expand our economy is the subject of active political debate. Many of us recommend that we enhance incentives for private savings and investment. After all, we must pay for our collective retirements either by saving and investing more than we now do or by reaching lower standards of living in the future than we could have. Removing the current distortions and biases of the tax code would be a good first step. Others see the matter differently and have their own ideas. But at least the issue is joined.
How to constrain the growth of future federal outlays does not get equal time in our national debate. Many condemn current budget deficits and urge greater fiscal discipline. But we rarely debate practical ideas for how to create incentives to restrain future federal outlays.
Unfortunately, we do not simply need “stronger” or “better” incentives for fiscal discipline; we must overcome the current perverse incentives which impede reforms that could move us toward real fiscal balance.
I have previously tried to illustrate the perversity of the federal government’s reliance on cash accounting in a couple ways. You can think of the federal government as a gigantic insurance company which only does its accounting on a cash basis - only counting premiums and payouts as they go in and out the door and ignoring its accrued liabilities to policy holders. That’s what might be called an accident waiting to happen. Alternatively, one may think of guiding our way to fiscal balance by looking only at debt and deficits as being like driving a car while looking only in the rear-view mirror.
Permit me to try one more illustration of our problem. Imagine a family that thinks only in terms of cash accounting. The family has a checking account with overdraft protection which provides that unpaid balances at the end of the month are swept into a home equity loan. And they have a mortgage. Some months they run no overdrafts but most months they do and these are added to the home equity loan. Our family is at ease because even though the home equity loan tends to grow each month, it is still reasonable compared to their income and the value of their home.
Unfortunately, this picture ignores many of their most important financial commitments: their car lease, the promise to pay for the children’s college education, the expected bills for the orthodontist, a wedding or two, and their commitments to charities. And it overlooks their retirement needs.
If our family ignores the totality of their future financial commitments, and only recognizes them on a cash basis as they drain current monthly income, they cannot understand their real financial position. With this limited knowledge, they may even be tempted to try to improve their monthly cash flow by adding to their future liabilities. Refinancing with a larger mortgage, perhaps with “cash out,” will improve monthly income on a cash basis, but further leverage the family’s real financial position.
Most of us would recognize that this family is in need of serious financial advice. The federal government is not so different. Both need a forward-looking understanding of their financial commitments. Both are caught in a backward looking framework, focusing excessively on their deficit of current income and the debt they incur to finance those deficits. Both ignore the future obligations they have incurred which will eventually become current expenses. Both need a good lesson in accrual accounting and net present value.
Now, in fairness, the federal government is not as badly off because some members of the federal family - and our friends in academia - have been hard at work for many years trying to bring greater insight and discipline to bear.
Over the last twenty years, much has been done to frame demands for future federal outlays with more rationality and foresight, beginning with Gramm-Rudman-Hollings in 1985 and 1987, the Credit Reform Act of 1990, the Budget Enforcement Act of 1990, and the Government Management Reform Act of 1994, which mandated accrual statements for the government, reported in the annual Financial Report of the United States Government. In addition, scholars have made great advances in measuring our true fiscal position - likely revenue sources, the scale of the entitlement liabilities, and generational accounting - as your conference today exemplifies.
Thanks to your work, we do not want for concepts and ideas about how to value and measure the federal government’s financial position. We can all now imagine better ways for the legislative and executive branches to understand the government’s liabilities and likely revenues.
Yet more needs to be done.
In 1862, President Lincoln succinctly articulated the challenge of governance when he wrote Congress: “It is not ‘can any of us imagine better’ but, ‘can we all do better?’”
It is not enough for us to imagine a better way of accounting for the federal government’s liabilities. Accrual accounting, net-present value analysis, and generational accounting are powerful concepts and we must continue to refine them and make more people aware of them. But we now need to find practical ways to inject these concepts into the political, legislative, and administrative process, to re-shape the day-to-day incentives for policymakers - to help us “all do better.”
We need to devise a political process that forces demands for future federal outlays to be prioritized under some measure of forward-looking resource constraints, while rewarding ideas that grow the economy. We need to find ways to provide members of Congress with coherent forward-looking measures of the fiscal impact of legislative proposals - before they have to vote.
Previously, I have suggested that we may need a total liability pay-go even more than we need a budget pay-go. This is a good turn of phrase, but I come up short in suggesting how we might actually do this.
All of us, whether from the academy, the private sector, or the corridors of Washington, are here tonight because we recognize the importance of tackling our fiscal challenge. You have articulated the defects of cash accounting and the promise of forward-looking fiscal measures. Please now help turn these concepts into the tools and incentives for better decision making in Washington