Here's a Fair Way to Balance the U.S. Budget

President Barack Obama releases his proposed $3.8 trillion federal budget for fiscal year 2011 and immediately the hue and cry is one of "$1 trillion structural deficits," "a nation going broke" and "an unserviceable debt."One trillion dollar structural deficits? How's that again? A nation going broke? Are we talking about Argentina in the 1970s here? Or cash-strapped Russia in the early 1990s? Or the United States in the digital age? Has the United States really outstripped its resources? And is the federal budget -- including defense spending -- an immutable document whose priorities represent an ever-lasting, ultimate and objective moral norm, from a fiscal standpoint?

Federal Budget Is A Political Act

Well, as anyone who's worked inside the beltway knows, most of the budget -- including the U.S. Defense Department's budget -- is a political document. Hence, analysis of it can contain more than an ounce of subjectivity, rhetoric and hyperbolic posturing, to put it diplomatically. In other words, some interest groups will never look at the budget in an even light -- and will focus only on ways to keep their "cut of the pie." And their skewed analysis often reflects it.

But for those citizens who are willing to look at the budget in a fair and balanced way, here's the fiscal low-down. Most of the projected $1.6 trillion fiscal 2011 deficit stems from:

1. Irregular expenses, or things that don't normally occur
2. The revenue lost as a result of the Bush 2001 income tax cut and another tax cut in 2003 and
3. The recession/economic downturn, which has decreased federal receipts. Those irregular expenses are the Iraq and Afghanistan wars, support from mortgage lenders Fannie and Freddie support, the bailout and the 2009 fiscal stimulus package

Quick Budget Reduction Possible

Take all those irregular expenses out of the budget and add back the revenue from the 2001 Bush income tax cut only -- not the 2003 tax cut -- and the deficit totals about $500 billion to $550 billion.

To give you an idea how quickly the budget deficit can be reduced, the 2001 Bush income tax cut alone increased the annual deficit by about $400 billion. The New York Times (NYT) offered an excellent chart of the Bush administration's red ink. When President Bill Clinton left office in 2001, the federal budget was in surplus. That's correct, a surplus.

Now, due to the recession, letting the 2001 tax cuts expire on upper income groups, but not the middle class, would not generate 100% of the $400 billion lost annually as a result of the Bush income tax cut. But it would generate most of it. Perhaps as much as $300 billion would be retrieved. Budget deficit after the change: $1.3 trillion.

Winding Down The Iraq War

Next, the end of the TARP (Troubled Asset Relief Program) would produce a $210 billion savings and a wind-down of the Iraq War would result in a $60 billion savings. Combine that with the end of 2009 fiscal stimulus package spending ($100 billion) and that would altogether subtract another $370 billion in irregular spending. Budget deficit after the change: $930 billion $930.

Next, add back federal tax revenue that's likely to increase, assuming a normal, minimum, 3.0% U.S. GDP growth rate per year economic expansion. Estimated increase in federal revenue (conservative estimate): $100 billion per year.

Also, subtract about $50 billion per year from the deficit as a result of reduced interest payments on the debt, as the financial markets realize the U.S. is serious about deficit elimination, and interest rates decline. Budget deficit after the changes: $780 billion.

Health Reform Is a Balanced-Budget Requirement

That leaves a $780 billion deficit to be eliminated via cuts in discretionary civilian programs and cuts in entitlements Social Security, Medicare, Medicaid and the roughly $700 billion U.S. Department of Defense budget, assuming the end of the Iraq war.

To be sure, there is a problem with Medicare and Medicaid health-care costs: As the health-care reform debate demonstrated, they spiral out of control beginning in about 2015 to 2016. But that's why President Obama and many congressional Democrats, among others, pushed so hard for health care reform.

True, the health care reform debate is largely over. But the need for health-care reform is not. If you doubt this, check out the CBO's evaluation of health care costs. However, if health care reform is passed, subtract conservatively another $50 billion per year via reduced federal health care outlays. Budget deficit after the change: $730 billion.

Finding Big Savings

Then, much like the bipartisan commission that successfully closed unneeded military bases in a fair, nonpartisan way, a bipartisan fiscal commission, already proposed by President Obama, would have the task of finding the aforementioned cuts in Social Security, the Pentagon and other federal programs. It would also have the task of recommending tax increases that are fair, to close the remaining budget gap.

With any luck, the commission, assuming $300 billion in spending cuts and $300 billion in tax increases, should be able to get the deficit by 2020 down to $130 billion.

The federal government would then be left with a $130 billion budget deficit in a projected roughly $4.8 trillion to $4.9 trillion budget 2020.

And as most investors know, a few years of "Roaring '90s" style U.S. GDP growth can take care of that remaining $130 billion deficit, pronto.

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Financial Editor Joseph Lazzaro is writing a book on the U.S. presidency and the U.S. economy.
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