Announcing (Actually, Confirming) Our Focus on the CBO’s Dubious Models and Political Bias

One of the things we we’ve taken pride in over the years is being out in front of the curve in reporting on important stories. Some of our better-known examples include our crisis-related coverage; unearthing mortgage and chain of title abuses before the robosigning scandal broke; Lambert’s early call on the Obamacare systems mess and continuing deep dives into faulty program machinery; our private equity coverage; our analysis that reforms touted as answers to the too big to fail problem would not do the job. But we’ve also been early on some topics that turned out much later to be important, such as having a strong focus on income inequality in 2007.

We’ve been writing about abuses of power and process at the Congressional Budget Office and will be ramping up our coverage further now that ranking member Bernie Sanders has a new team at the Budget Committee, which among other things supervises the CBO. And the CBO is going to be the subject of a major political fight over how it prepares its estimates of the economic and fiscal impact of pending legislation. As we’ll discuss below, Republicans plan to mandate that the CBO use something called dynamic scoring, which has the effect of making tax cuts look far more beneficial to the economy than they are, by effectively claiming that tax cuts boost growth, which then boosts tax receipts. It would effectively institutionalize the Laffer curve, which has been widely and repeatedly debunked. For instance, from a 2008 post by Mark Thoma, The New Laffer Curve and the Lack of Evidence for It:

After being shown again and again that tax cuts don’t increase revenues, those who make the Laffer curve argument stopped making the claim generally and shifted the argument to say that while it may not be true across the board, there is evidence that it is true for the very top rates. Now, as Lane Kenworthy discusses below, the argument has shifted again. But even after all of this reformulation of the argument to try and make it work somehow, somewhere, the evidence is still pretty shaky.

The reason that the CBO matters so much is that its estimates are taken as gospel, as unbiased, accurate, fair, and “nonpartisan”. But as we’ve demonstrated in previously posts, the CBO has repeatedly taken what amount to partisan positions and has skewed its analysis in gross violation of its own procedures to produce results that have had enormous impact on policy debates. The CBO is firmly neoliberal, which in and of itself represents a considerable bias. A prime example is how the CBO’s findings on Medicare spending are the source of concern about the trajectory of future spending. But as a pair of long-term fiscal spending experts at the Fed described in a devastating paper, the CBO violated its own forecasting rules and made multiple dubious assumptions, all that would lead to higher Medicare spending projections, to produce their scary-looking conclusions. From a 2012 post:

A remarkably important and persuasive paper that calls into question the need for “reforming” Medicare has not gotten the attention it warrants. “An Examination of Health-Spending Growth In The United States: Past Trends And Future Prospects” (hat tip nathan) by Glenn Follette and Louise Sheiner looks at the model used by the Congressional Budgetary Office to estimate long term health care cost increases. Bear in mind that this model is THE driver of virtually all forecasts of future budget deficits….

The fundamental beef of Follette and Sheiner with the CBO model is that it naively assumes past growth in health care spending as the basis for its long-term projections. The result is that it shows that trees will grow to the sky. One of the things anyone who has built forecasting models will tell you is you come up with assumptions that look reasonable and then sanity check the output (for instance, does your model say in year 10 that your revenues will be 3x what you can produce given your forecast level in plant and investment? If so, you need to make some revisions). The Fed economists point out numerous ways that the model output flies in the face of what amounts to common sense in the world of long term budget forecasting. From the opening of the paper (emphasis ours):

Long-run projections of the U.S. federal budget have played a prominent role in discussions about fiscal policy and the design of major transfer programs for several decades. The projections typically show large fiscal imbalances owing to ramping up of retirement and health care costs relative to GDP. Health care costs are the key factor in these projections for two reasons. First, in current projections they are the prime source of growth of spending as a share of GDP. Second, they are the most uncertain part of the forecast. For example, the Congressional Budget Office’s most recent long run outlook shows spending on Medicare and Medicaid, the governments health programs for the old and poor, respectively, rising from 4.1 per cent of GDP in 2007 to 19.1 per cent of GDP in 2082.1 By contrast, Social Security benefits (the government’s main old-age pension program) increase only 2 percentage points, from 4.3 per cent of GDP in 2007 to 6.4 per cent in 2082. Another analysis by CBO suggests that an 80 per cent confidence band around the Social Security projection would be from 51⁄2 to 91⁄2 per cent of GDP.2 CBO did not present similar calculations for health spending; instead, they projected health spending under three different assumptions about the rate of growth of age-adjusted health care spending in excess of per capita income. Their projections show health spending ranging from 7 to nearly 40 per cent of GDP by 2082.

By comparison, defense spending as a percent of GDP peaked at 42% of GDP in World War II. A model that presents as a possible outcome that the US will devote nearly 40% of GDP to health care spending a long-term, sustained outcome, is ludicrous on its face. The CBO assuming public health care spending will sustain its growth rate of the last 50 years for as long as they do (see further discussion below) with no policy changes is like budget analysts in 1946 assuming that military spending will grow at the same rate it did during World War II without any policy changes. Yet they further assume that, having reached this crushing level, Medicare costs in 2082 will still be growing faster than GDP!

And this example is far from isolated. As Jeff Madrick explained last February why the CBO can’t be trusted:

The problems with the CBO are bigger than this latest brouhaha. First, they have structural and institutional problems. The pressure to come up with an unambiguous forecast on which to base policy leads to bad, over-simplified economics, no matter how many qualifications are put in the appendices. The qualifications should be emphasized in the primary text; the CBO should teach Congress about the hypothetical nature of economics, not over-simplify economics for legislators. They should provide a range of answers, not one.

Second, the CBO regularly makes ideological assumptions that take neo-classical propositions at face value. For example, in recent years they have assumed that a rising federal budget deficit could avoid or shorten a recession in the short run, but that the higher level of debt would invariably lead to slower growth down the road. More disturbing, they invariably assume weak economies are self-adjusting. It’s Say’s Law, pure and simple. The economy will automatically rise from the ashes in three or four years at the latest. In 2012, the CBO assumed that if the U.S. took a recession in 2013 by failing to increase the deficit, it would have been significantly better off by 2016 or so than if it had increased the deficit, a la Keynes. The economy would have grown more rapidly—it’s as simple as that.

And, frankly, they often make preposterous assumptions. The CBO budget report of mid-2012 included an alternative forecast to account for the unlikelihood that the Bush tax cuts would be eliminated. (As a reminder, they must make forecasts according to current law.) They forecast a debt-to-GDP level of about 200 percent by 2037.

The CBO, much like the Fed, are bastions of hidden power that lie outside democratic accountability. But the CBO’s and OMB’s clout is even less visible than that of the central bank. CBO forecasts are treated by Congress and media as gospel. The CBO is assumed to be above partisan influence. But it is partisan in a manner that is not widely understood. It is deeply neoliberal in its orientation, and often acts as a lobbyist rather than an analyst.

One of the big reasons that the CBO manages to avoid criticism is that, like the private equity industry and the Fed, it shrouds itself in secrecy. It seldom makes its models public, even when it reaches barmy conclusions like finding that shifting derivatives into taxpayer-backstopped entities is a cost-free exercise. The CBO ignores the costs and risks of a large class of subsidies that take the form of guarantees. For the most part, the CBO treats them as free when any private party would have to pay a hefty premium to buy a similar contract on the market.

The CBO also too acts too often an advocate rather than the dispassionate analyst that it is mandated to be via statute. Again from Jeff Madrick, in March 2013 post:

To earn its “non-partisan” label, the CBO makes unrealistic assumptions that for the most part merely project past trends into the future, and sometimes don’t even do that — underscoring the need, in my view, for a “shadow CBO” that exposes the office’s outlandish assumptions and offers us a set of alternative projections based on realistic ones…Their analysis was straight from the playbook of the Austrian economists of the 1930s and 1940s: recessions are good cleansing agents, in a nutshell….The alarmism of the CBO is influencing U.S. budget discussions for the worse, damaging the economy and placing the country’s long-term welfare at risk.

And this bad situation will get worse if dynamic scoring is mandated, since it would give the CBO even more degrees of freedom in its modeling. As law professor and former chief of staff of the Congressional Joint Committee on TaxationEdward Kleinbard wrote in the New York Times earlier this month:

In order to look at the effects across the entire economy, dynamic modeling relies on many simplifying assumptions, like how well people can predict the future or how much they care about their children’s future consumption versus their own.

Economists disagree on the answers, and different models’ predicted feedback effects vary wildly, depending on the values selected for those uncertain assumptions. The resulting estimates are likely to incorporate greater uncertainty about the magnitude of any revenue-estimating errors and greater exposure to the risk of a political thumb on the scale.

Consider the nonpartisan scorekeepers’ estimates of the consequences of a tax-reform bill proposed last year by Representative Dave Camp, Republican of Michigan. Using different models and plausible inputs, the scorekeepers estimated that, under the bill, total gross domestic product might rise between 0.1 percent and 1.6 percent over the next decade — a 16-fold spread in projected outcomes. Which result should be the basis of congressional scorekeeping?…

In practice, these models are political statements…because they assume that, while individuals make productive investments, government does not. In reality, government spending contributes significantly to economic output. Truly dynamic modeling would weigh the forgone economic returns of government investments against the economic gains from lower taxes.

Just like the effort to neuter Dodd Frank by undoing important sections that involve complex terminology, or dressing up an effort to cut Social Security with the My Eyes Glaze Over term “chained CPI,” the dynamic scoring debate is meant to seem too boring to interest the general public. By contrast, the fact that the CBO will be the focus of an key political fight provides an opportunity to subject its questionable workings to far more scrutiny and public accountability. We hope you’ll join us in this important effort.