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Understanding the President’s PAYGO Proposal

Yesterday, President Obama announced his support for enacting statutory pay-as-you-go (PAYGO). Under the President's proposal, OMB would maintain a record of the ten year costs (and savings) from all tax changes and mandatory outlays enacted into law that year. If at the end of the year, enacted legislation subject to PAYGO combines to increase the ten year budget deficit, the President would need to sequester spending from some mandatory programs.

CRFB has long been a big supporter of PAYGO, and continues to believe in it. But we had some concerns about the President's specific proposal.

Most significantly, his proposal exempts three big-ticket items --- AMT patches, updates to physician payments in Medicare (pay patches), and the renewal of the tax cuts enacted mainly in 2001 and 2003, including the estate tax cut. According to the President's Budget, continuing these policies as they are in current law would increase the ten year deficit by roughly $3.5 trillion:

OMB Baseline
AMT Patches                  -$576
Medicare Pay Patches     -$311
2001/2003 Tax Cuts      -$2655
Total                                     -$3542 

However, the President's Budget, like the Congressional Budget Resolution, recommends not renewing the 2001 and 2003 tax cuts which applied to income over $250,000 a year. Because these lower costs cannot be used to offset other spending under the proposed version of PAYGO, this means that a little less than $3 trillion is likely to be exempted: 

OMB Policies
AMT Patches               -$576
Medicare Pay Patches   -$311
2001/2003 Tax Cuts    -$2040
Total                                   -$2927

And if we use CBO numbers, which are based on much newer economic assumptions, the deficit impact of these exemptions would be somewhat higher than $2.5 trillion: 

CBO Policies
AMT Patches                -$447
Medicare Pay Patches    -$285
2001/2003 Tax Cuts     -$1907
Total                                    -$2639

A 2 trillion-plus dollar loophole should be a non-starter in this fiscal environment, and as Maya MacGuineas said recently, enacting PAYGO with these exemptions "is like quitting drinking, but making an exception for beer and hard liquor."

In addition to our concern over these exemptions, we worry about relying exclusively on a ten year window. While legislation shouldn't necessarily have to spend exactly what it raises or saves in every year, it would be troublesome to allow for legislation with high up front costs that are paid for only in the out years. This could invite abuse where politicians rely on future offsets or scale-backs which would be unlikely to occur. 

And finally, we believe that statutory PAYGO needs to be accompanied by other reforms. In the 1990s, caps on discretionary spending - which is not subject to PAYGO - made a big difference in bringing down the deficit; as did specific packages designed for deficit reduction. We support spending caps to accompany PAYGO, with the added understanding that even they won't be enough. Real tax and entitlement reform is the key to long-term fiscal sustainability, and we strongly support any efforts to fix the tax code and address the growth of Social Security, Medicare, and Medicaid, and the rest of the budget.