The Budget Deal Loosens Austerity’s Grip on the Labor Market—But by Just a Bit

Beginning in 2011, policymakers—particularly Republicans in the House of Representatives— embraced the idea that austerity somehow fosters economic growth. They used the leverage provided by the need to raise the statutory debt ceiling to force steep cuts in spending under the Budget Control Act (BCA). Since then, discretionary spending has been falling, even before inflation adjustments. This austerity has been the primary drag on economic recovery, and has also squeezed spending on education, infrastructure investment, scientific research, and the federal workforce, which will lead to slower future growth and less efficient government. And there appears to be no end in sight even though it has been shown that austerity does not increase economic growth.

The Budget Conference agreement announced earlier this week by Sen. Patty Murray (D-Wash.) and Rep. Paul Ryan (R-Wis.), which the House overwhelmingly passed last night, sets discretionary budget authority limits for fiscal years 2014 and 2015. In the press release announcing the deal, the two co-chairs pointed out that the bipartisan deal for fiscal year 2014—at $1.012 trillion—is midway between the House budget level of $967 billion and the Senate budget level of $1.058 trillion. The agreed upon level is 8 percent less than the fiscal year 2010 discretionary budget authority and 5 percent less than the fiscal year 2011 level (all in nominal terms).

One key question is just how much relief this deal actually provides from austerity’s grip, and what could have happened if there was bipartisan support for active policies to get the economy and labor market back on track? I examine three scenarios.

The first is the cancelation of the sequester for fiscal year 2014 and continuation of the original pre-sequester discretionary budget caps (pre-sequester) enacted in the BCA: discretionary budget authority would be $1,066 billion. The second is the inflation-adjusted fiscal year 2011 budget authority level: $1,125 billion (this is pre-BCA baseline spending). The last is the Obama administration fiscal year 2014 projection from its first budget submission in 2009: $1,203 billion.

Scenario one: If the sequester were completely lifted, fiscal year 2014 budget authority would be $54 billion higher than under the budget deal. Since one quarter of the fiscal year has already gone by, this increase is actually about $40 billion in additional budget authority. With no budget offsets, this additional spending could yield an additional 334,000 jobs in the economy by next October (see chart).*

Scenario two: Instead of the original BCA budget cap, fiscal year 2014 budget authority would be set to the FY2011 inflation-adjusted level of $1,125 billion. This would increase government spending by about $85 billion over the next nine months and 700,000 additional jobs in the economy compared to the budget deal.

Scenario three: Suppose that discretionary budget authority were set at the level assumed in the Obama administration’s first budget submission—$1,203 billion. This would boost discretionary spending by an additional $143 billion over the next nine months and could increase the number of jobs in the economy by almost 1.2 million and bring the unemployment rate down to less than 6.5 percent (from its current level of 7 percent).

The Obama administration’s proposed FY2014 budget authority is equivalent to 7 percent of GDP, which is not far from what it was in 2005 (6.8 percent of GDP) when the unemployment rate was 5.1 percent (and when, it bears noting, there were very few claims that the budget deficit constituted some clear and present danger to American living standards). The inflation-adjusted FY2011 level is equivalent to 6.5 percent of GDP, which is more on par with what it was throughout the 2000s and when the unemployment rate was lower.

What should we take from these thought experiments? While the budget deal does provide some very mild relief from the sequester’s drag on recovery, it sets discretionary budget authority at a level that is below recent historic levels, and as a result, limits jobs growth at a time when the labor market is still struggling. The budget deal could have been a whole lot better if the bipartisan mindset was focused on jobs. It does beat another government shutdown or the House budget level of $967 billion (the full sequester), but it is weak medicine indeed relative to what the economy needs.

* The jobs number calculation assumes a spending multiplier of 1.4 and 1 million additional jobs annually for each percentage point increase in GDP. Both assumptions are on the low side of what most macroeconomists incorporate into their models of the economy.


Follow EPI

Track us on Twitter