Tuesday, October 15, 2013

The Federal Budget Process 101

The federal budget process, and the debt ceiling, explained in relatively simple terms.

The Independent Report strives to be independent and apolitical in reporting on the U.S. economy. The focus is typically on the Federal Reserve's monetary policy, inflation, interest rates, unemployment, the housing market and the energy markets.

But another area of focus is fiscal policy: federal spending, revenues and deficits. It is impossible, inconceivable or, at the least, irresponsible to ignore the nearly $17 trillion national debt.

The level of dysfunction in Washington has angered most Americans and it has dismayed other governments around the world, particularly our trading partners and the holders of our debt. With the current melodrama playing out in DC, a review the federal budget process is in order. Think of it as "Federal Budget Process 101."

There is a lot of finger-pointing going on right now, but many Americans do not understand how the budget process works. Thanks to the Center on Budget and Policy Priorities for laying out the broad strokes.

The Congressional Budget Act of 1974 is the template for Congressional tax and spending legislation. Under the Budget Act, each year Congress is required to develop a "budget resolution" that sets aggregate limits on spending and targets for federal revenue.

The President's annual budget request kicks off the budget process. On or before the first Monday in February, the President submits to Congress a detailed budget request for the coming federal fiscal year, which begins on October 1. This budget request is developed by the President's Office of Management and Budget (OMB).

The President's proposed budget provides Congress with a recommendation for overall federal fiscal policy, including: total federal spending, how much revenue the government should collect, and how much of a deficit (or surplus) the federal government should run — which is simply the difference between spending and revenue. Cumulative, yearly deficits add to the overall national debt.

The President's budget is very specific, laying out recommended funding levels for all individual federal programs. The proposed budget typically outlines fiscal policy and budget priorities not only for the coming year, but for the next five years, or more. It is also accompanied by historical tables that illustrate past budget figures.

Nearly all of the federal tax code is set in permanent law and does not expire. Similarly, more than one-half of federal spending — including the three largest entitlement programs (Medicare, Medicaid and Social Security) — is also permanently enacted. Additionally, interest paid on the national debt is also paid automatically, with no need for specific legislation.

Funding for "discretionary" or "appropriated" programs falls under the jurisdiction of the House and Senate Appropriations Committees. Discretionary programs make up about one-third of all federal spending. Almost all defense spending is discretionary, as are the budgets for education, health research, housing, science, technology and transportation, to name just a few examples.

The next step in the federal budget process is the Congressional Budget Resolution. After Congress receives the President's budget request, the House and Senate Budget Committees generally hold hearings to question Administration officials about their requests and then develop their own budget resolutions. These resolutions then go to the House and Senate floors, where they can be amended by a majority vote. A House-Senate conference then resolves any differences in the resolutions and a conference report is passed by both houses.

The budget resolution requires only a majority vote to pass, and its consideration is one of the few actions that cannot be filibustered in the Senate. The budget resolution is supposed to be passed by April 15, but it often takes longer. If Congress does not pass a budget resolution, the previous year's resolution, which is a multi-year plan, stays in effect.

With all of the above in mind, hearing certain members of Congress complain — after the fact — about a budget that they approved and voted for rings hollow and sounds empty. All federal budgets, which typically include deficit spending, are approved by Congress before being signed into law by the President.

Which brings us to the current fiscal year.

The 2014 United States federal budget was issued by President Obama on April 10, 2013. As in any year, the actual appropriations for fiscal year 2014 must be enacted by both houses of Congress before they can take effect. The President's budget was submitted two months past the February 4 legal deadline due to negotiations over the fiscal cliff and implementation of the sequester cuts mandated by the Budget Control Act of 2011 (which was the result of the last debt crisis).

This means Congress still had nearly six months to review and counter the President's proposal before the new fiscal year commenced. The onset of the new fiscal year nearly coincides with the arrival of the "debt ceiling" on October 17, a date that has been looming for months. Waiting this long was clearly a tactic — a means of exacting negotiating leverage for a budget that should have been resolved months earlier.

The House Budget Bill was introduced on March 15, 2013 and passed the House with a simple majority, 221-207, on March 21, 2013. All 221 votes in favor of passage were from Republicans. Of those voting, every Democrat voted against passage, along with 10 Republicans.

The Senate rejected the House budget on March 21, 2013 with a vote of 59-40 and continued working on its own budget bill, which was introduced on March 15, 2013. On March 23, 2013 the Senate passed the resolution, 50-49, with 48 Democrats, 0 Republicans, and 2 Independents voting in favor of passage. Four Democrats and 45 Republicans voted against, with one Democrat not voting.

The political divide in both chambers is clearly evident.

By law, the two chambers of Congress were supposed to reconcile the two bills. Under regular procedures, the Senate and House were to appoint representatives to a joint budget conference committee to negotiate a compromise. However, the House balked.

Democratic Party members of the House Appropriations Committee wrote a letter on April 17, 2013 urging Speaker Boehner to appoint House members to the budget conference committee. Yet, the House majority refused to engage in a conference to reconcile total 2014 discretionary spending levels. Despite its refusal, the House was adamant that it would not raise revenues in any way, or by any amount.

Ultimately, there was no unified congressional budget. The House and Senate each moved forward with appropriations bills, but none passed. With fiscal 2014 approaching, Congress debated a Continuing Appropriations Resolution to temporarily fund the government. However, it failed to pass before the beginning of the new fiscal year (Oct. 1), leading to the current government shutdown.

While the House Republicans initially stated that their intention was to negotiate a budget that defunded the Affordable Care Act (aka, "Obamacare"), their strategy soon shifted to refusing to increase the debt ceiling, which is supposed to signify their opposition to government spending levels.

However, every federal budget, every year, has been approved by both houses of Congress before being signed into law by the President. It is ludicrous for Congress to now complain about spending that it previously approved. The time for dissent and negotiation has long since passed. A new fiscal year has already begun. Previously incurred debts are now due.

Spending was twice reduced in recent years; under the Budget Control Act of 2011 and through the sequester cuts. More cuts are needed. But those should have been negotiated in April or May, not October.

Republicans in Congress are now taking the position that the only way to control future spending is by refusing to raise the debt ceiling. It's a tacit admission that they cannot control themselves and lack the ability to stop spending money the nation doesn't have.

However, the debate over the debt limit is a false argument; the debt ceiling and current spending levels are not correlated. While many Americans may not understand how the debt limit works, members of Congress surely do. Yet, they are playing on the public's lack of understanding to score political points.

The "debt ceiling," or debt limit, is a legislative restriction on the amount of national debt that can be issued by the Treasury. However, since expenditures are authorized by separate Congressional legislation, the debt ceiling does not actually restrict deficits. In effect, it can only restrain the Treasury from paying for expenditures that have already been incurred by Congress.

In other words, the debt ceiling only limits how much the Treasury can borrow to pay for past expenditures approved by Congress. The debt ceiling is raised as necessary through separate legislation.

A 2011 Government Accountability Office study found "the debt limit does not control or limit the ability of the federal government to run deficits or incur obligations. Rather, it is a limit on the ability to pay obligations already incurred."

A January, 2013 poll of a panel of highly regarded economists found that 84% agreed or strongly agreed that, since Congress already approves spending and taxation, "a separate debt ceiling that has to be increased periodically creates unneeded uncertainty and can potentially lead to worse fiscal outcomes."

The United States and Denmark are the only democratic countries to have legislative restrictions on issuing debt.

The U.S. has had some sort of legislative restriction on debt since 1917. However, since 1960, Congress has acted 78 separate times to permanently raise, temporarily extend or revise the definition of the debt limit — 49 times under Republican presidents and 29 times under Democratic presidents.

The United States has never reached the point of default where the Treasury was unable to pay its obligations. However, in 2011 the U.S. reached a point of near default. The delay in raising the debt ceiling resulted in the first downgrade in the United States' credit rating, a sharp drop in the stock market and an increase in borrowing costs.

Here's the important question: if the debt limit is so useless in restraining Congress' deficit spending and the issuance of new debt, why have a limit? Why the charade? Congress has continually voted to raise the ceiling anyway. Congress approves all expenditures, so it just needs to show some restraint in spending (or increase its revenues, or both). However, that restraint is due long before it's time to pay our bills for already incurred debt.

If Congress wants to place limits on the amount it can borrow to pay its debts, it must also place limits on the amount it first spends. The time for such decisions is in the spring or early summer, not October.

The U.S. is in quandary. Not raising the debt ceiling would be economic suicide. The U.S. government would default for the first time in our nation's history — and it would be by choice. That would be insane. World markets would be rocked and the cost of borrowing would skyrocket.

As it stands, three-month Treasury bills today sold at a high rate of 0.13%, well above the 0.035% paid to sell the notes a week ago. That's a nearly 400% increase, and the nation hasn't defaulted... yet.

However, the U.S. is facing a genuine fiscal dilemma: It must borrow even more money, and go further into debt, in order to service its already massive debts. In essence, we're continually borrowing new money just to pay off old debts.