How To Balance The Federal Budget------Some Real Options With Honest Math

By Chris Edwards at The Cato Institute

Federal spending is rising, deficits are chronic, and government debt is piling up. Deficits are expected to begin soaring after 2017, and official projections show endless rivers of red ink over the long term unless policymakers enact major budget reforms.

Policymakers should downsize every federal department by eliminating the most harmful programs. This essay proposes specific cuts that would balance the budget by 2020 and bring spending down to 17 percent of gross domestic product (GDP) by 2025.

Spending cuts would make sense whether or not the government was running deficits. Cuts would spur economic growth by shifting resources from lower-valued government activities to higher-valued private activities. Cuts would also expand freedom by giving people more control over their lives and reducing the regulations that come with federal programs.

In recent decades, the federal government has expanded into hundreds of areas that should be left to state and local governments, businesses, charities, and individuals. That expansion is sucking the life out of the private economy and creating a top-down bureaucratic society that is alien to American traditions. Cutting federal spending would enhance civil liberties by dispersing power from Washington.

The Congressional Budget Office (CBO) projects that federal spending will rise from 20.4 percent of GDP this year to 22.1 percent by 2025 under current law.1 Over the same period, tax revenues are expected to rise from 17.7 percent of GDP to 18.3 percent. Despite growing revenues, the government is expected to run increasingly large deficits because of the rapid growth in spending.

Policymakers should change course. They should cut spending, eliminate deficits, and reform the tax code. The plan presented here would roughly balance the budget by 2020 and generate growing surpluses after that. Spending would be reduced to 17.0 percent of GDP by 2025, almost one-quarter less than the CBO projection for that year. Spending cuts would create budget room to repeal the tax increases from the 2010 health care law and to pursue other tax reforms.

Some economists claim that cutting government spending would hurt the economy, but that idea is based on faulty Keynesian theories. In fact, spending cuts would shift resources from often mismanaged and damaging government programs to more productive private activities, thus increasing overall GDP.

Consider Canada's experience. In the mid-1990s, the federal government faced a debt crisis caused by overspending, which is similar to America's current situation. But the Canadian government reversed course and slashed spending from 23 percent of GDP in 1993, to 17 percent by 2000, to just 14.5 percent today.2 The Canadian economy did not sink into a recession from the cuts as Keynesians would have expected, but instead has grown strongly over the past two decades.

Policymakers should not think of spending cuts as a necessary evil needed to reduce deficits. Rather, the U.S. government's fiscal mess is an opportunity to make reforms that would spur growth and expand individual freedom. The plan proposed here includes a menu of spending cuts for policymakers to consider. These and other reforms are discussed further at

Spending Cut Overview

This section describes how cutting spending could eliminate the federal deficit in five years and generate growing surpluses after that. The starting point for the plan is the CBO's baseline projection from March 2015.3 Figure 1 shows CBO projections for revenues (black line) and spending (red line) as a percent of GDP. The gap between the two lines is the federal deficit, which is expected to grow after 2017 without reforms.

Figure 1. Projected Federal Revenues and Spending Percent of GDP

The green line shows projected spending under the reform plan proposed here. Under the plan, spending would decline from 20.4 percent of GDP today to 17.0 percent by 2025. The deficit would be roughly eliminated by 2020 and growing surpluses would be generated after that. Under the plan, spending cuts would be phased in over 10 years and would total $1.15 trillion annually by 2025. Those cuts would generate interest savings of $251 billion annually by 2025.4

Under the CBO baseline, federal revenues rise to 18.3 percent of GDP by 2025, which would be 1.3 percentage points higher than spending would be under the proposal. That would allow room for tax reforms. One reform would be to repeal the tax increases under the 2010 Affordable Care Act.5 Another reform would be to slash the federal corporate tax rate from 35 percent to 20 percent or less. Such a cut would spur stronger economic growth and would lose little if any revenue over the long term.6

In sum, the best fiscal approach would be to cut spending while reforming the most damaging parts of the tax code. That would end the harmful build-up of debt, expand personal freedom, and generate benefits for all Americans from a growing economy.

Spending Cut Details

Tables 1 and 2 below list proposed cuts to reduce federal spending to 17.0 percent of GDP by 2025. Table 1 shows the cuts for health care and Social Security. These reforms would be implemented right away, and the value of savings would grow larger over time. The figures shown are the estimated annual savings by 2025, generally based on CBO projections.7

Table 2 shows cuts to discretionary programs and entitlements other than health care and Social Security. 8 These cuts would be valued at $492 billion in 2015, but the plan assumes that they would be phased in one-tenth each year over the next decade.9

The reforms listed in Tables 1 and 2 are deeper than the savings from "duplication" and "waste" often discussed by federal policymakers. We should cut hundreds of billions of dollars of "meat" from federal departments, not just the obvious "fat." If the activities cut are useful to society, then state governments or private groups should fund them, and those entities would be more efficient at doing so.

The proposed cuts are illustrative of how to start getting the federal budget under control. Further reforms are needed in addition to these cuts, such as major structural changes to Medicare. The important thing is to start cutting as soon as possible because the longer we wait, the deeper will be the debt hole that is dug.

After the tables, proposed cuts to subsidies, aid to the states, military expenses, and entitlement programs are discussed. The final section discusses the privatization of federal activities. Further analyses of the cuts listed here are available at

Table 1. Proposed Federal Budget Cuts
Health Care and Social Security
Agency and Activity
Annual Savings
$Billions, 2025
Health Care
 Repeal ACA exchange subsidies 107.0
 Repeal ACA Medicaid expansion 105.0
 Block grant Medicaid and grow at 2% 110.0
 Increase Medicare premiums 60.0
 Increase Medicare cost sharing 19.0
 Cut HHS non-Medicaid state grants by 50% 43.5
 Total cuts 444.5
Social Security Administration
 Price index initial Social Security benefits 39.1
 Raise the normal retirement age for Social Security 10.4
 Cut Social Security Disability Insurance by 25% 54.0
 Cut Supplemental Security Income by 25% 18.0
 Total cuts 121.5
Total annual spending cuts in 2025 $566.0


Table 2. Proposed Federal Budget Cuts
Discretionary Programs and Other Entitlements
Agency and Activity
Annual Savings
$Billions, 2015
Department of Agriculture
 End farm subsidies 24.8
 Cut food subsidies by 50% 53.2
 End rural subsidies 4.2
 Total cuts 82.2
Department of Commerce
 End telecom subsidies 0.8
 End economic development subsidies 0.5
 Total cuts 1.3
Department of Defense
 End overseas contingency operations 74.0
 Total cuts 74.0
Department of Education
 End K-12 education subsidies 26.3
 End all other programs 77.0
 Total cuts (terminate the department) 103.3
Department of Energy
 End subsidies for energy efficiency 2.4
 End loan programs 0.2
 End fossil/nuclear/electricity subsidies 3.5
 Privatize the power marketing administrations 0.4
 Total cuts 6.5
Department of Homeland Security
 Privatize TSA airport screening 5.1
 Devolve FEMA activities to the states 14.2
 Total cuts 19.3
Department of Housing and Urban Development
 End rental assistance 30.4
 End community development subsidies 11.2
 End public housing subsidies 6.4
 Total cuts (terminate the department) 48.0
Department of the Interior
 Cut net outlays by 50% through spending
 cuts, privatization, and user charges 6.5
Department of Justice
 End state/local grants 5.4
Department of Labor
 End employment and training services 3.5
 End Job Corps 1.6
 End Community Service for Seniors 0.4
 End trade adjustment assistance 0.3
 Total cuts 5.8
Department of Transportation
 Cut highway/transit grants to balance trust fund 13.0
 Privatize air traffic control (federal fund savings) 1.3
 Privatize Amtrak and end rail subsidies 3.3
 Total cuts 17.6
Department of the Treasury
 Cut earned income tax credit by 50% 30.1
 End refundable part of child tax credit 21.5
 End refundable part of AOTC 4.3
 Total cuts 55.9
Other Savings
 Cut foreign aid by 50% 12.0
 Cut federal civilian compensation costs by 10% 32.9
 Privatize the Corps of Engineers (Civil Works) 7.5
Privatize the Tennessee Valley Authority 1.0
 Repeal Davis-Bacon labor rules 9.0
 End EPA state/local grants 4.1
 Total cuts 66.5
Total annual spending cuts $492.2.0


Subsidies to Individuals and Businesses

The federal government runs more than 2,300 subsidy programs, more than twice as many as in the 1980s.10 The scope of federal activities has expanded in recent decades along with the size of the federal budget. The federal government subsidizes farming, health care, school lunches, rural utilities, the energy industry, rental housing, aviation, passenger rail, public broadcasting, job training, foreign aid, urban transit, and many other activities.

Each subsidy causes damage to the economy through the required taxation. And each subsidy generates a bureaucracy, spawns lobby groups, and encourages more people to demand hand-outs. Individuals, businesses, and nonprofit groups that become hooked on federal subsidies essentially become tools of the state. They lose their independence, have less incentive to innovate, and will likely shy away from criticizing the government and its failures.

Table 2 includes cuts to subsidies in agriculture, commerce, energy, housing, foreign aid, and other activities. Those cuts would not eliminate all of the unjustified subsidies in the budget, but they would be a good start. Government subsidies are like an addictive drug, undermining America's traditions of individual reliance, voluntary charity, and entrepreneurialism.

Aid to the States

Under the Constitution, the federal government was assigned specific limited powers, and most government functions were left to the states. To ensure that people understood the limits on federal power, the Framers added the Constitution's Tenth Amendment: "The powers not delegated to the United States by the Constitution, nor prohibited by it to the States, are reserved to the States respectively, or to the people." The amendment embodies federalism, the idea that federal and state governments have separate areas of activity and that federal responsibilities are "few and defined," as James Madison noted.

Unfortunately, policymakers and the courts have mainly discarded federalism in recent decades. Through "grants-in-aid" Congress has undertaken many activities that were traditionally reserved to state and local governments. Grant programs are subsidies that are combined with federal regulatory controls to micromanage state and local activities. Federal aid to the states totals more than $600 billion a year, and is distributed through more than 1,100 separate programs.11

The theory behind grants-in-aid is that the federal government can operate programs in the national interest to efficiently solve local problems. However, the aid system does not work that way in practice. Most federal politicians are preoccupied by the competitive scramble to maximize subsidies for their states, regardless of program efficiency or an appreciation of overall budget limitations.

Furthermore, federal aid stimulates overspending by state governments and creates a web of complex federal regulations that undermine state innovation. At all levels of the aid system, the focus is on regulatory compliance and spending, not on delivering quality public services. The aid system destroys government accountability because each level of government blames the other levels when programs fail. It is a triumph of expenditure without responsibility.

Federal aid is a roundabout funding system for state and local activities. It serves no important economic purpose. By federalizing state and local activities, we are asking Congress to do the impossible—to efficiently plan for the competing needs of a diverse country of 320 million people.

The grant-in-aid system should be eliminated. Policymakers should revive federalism and begin to terminate grant programs. Tables 1 and 2 include cuts to grants for education, health care, highways, justice, transit, and other activities. There is no reason why such activities should not be funded at the state and local levels.

Military Expenses

Cato Institute defense experts Chris Preble and Ben Friedman have proposed numerous cuts to U.S. military spending.12 They argue that the United States would be better off taking a wait-and-see approach to distant threats, while letting friendly nations bear more of the costs of their own defenses. They note that U.S. policymakers support extraneous missions for the military aside from the basic role of defending the nation.

As such, the military budget should be cut in a prudent fashion as part of an overall plan to downsize the government and balance the budget. The current plan assumes that spending on overseas contingency operations—which will be $74 billion in 2015—would be reduced to zero over the decade.13

Medicare, Medicaid, and Social Security

The projected growth in Medicare, Medicaid, and Social Security is the main cause of America's looming fiscal crisis. Budget experts and most policymakers understand the need to restructure these programs. The reforms listed in Table 1 include cuts to Medicare, Medicaid, and Social Security.

Policymakers should repeal the 2010 Affordable Care Act (ACA). That would reduce spending on Medicaid and end spending on the exchange subsidies.14 In addition, policymakers should convert Medicaid from an open-ended matching grant to a block grant, while giving the states more program flexibility. That was the successful approach used for welfare reform in 1996, which encouraged state innovation. Creating a block grant and capping annual spending growth at 2 percent would save about $110 billion annually by 2025.15

Table 1 includes modest Medicare changes based on CBO estimates.16 Reforms include increasing deductibles and increasing premiums for Part B to cover 35 percent of the program's costs. However, larger Medicare reforms are needed than just these cuts. Cato scholars have proposed moving to a system based on individual vouchers, personal savings, and consumer choice for elderly health care.17Such a reform would create strong incentives for providers and patients to improve system quality and reduce costs.

For Social Security, the growth in initial benefits should be indexed to prices rather than wages to slow the program's growth. That reform would save about $39 billion annually by 2025 and growing amounts after that.18 The plan also includes a CBO option to modestly raise the normal retirement age.19 In addition, the fast-growing Social Security Disability Insurance and Supplemental Security Income programs would be trimmed 25 percent compared to the current growth path.


In recent decades, governments around the world have sold state-owned businesses and assets to private investors.20 Airports, railroads, electric utilities, post offices, and other items have been privatized. Privatization generally leads to reduced costs, higher quality services, and increased innovation.

In the United States, there are many federal activities that should be privatized. Table 2 includes the privatization of Amtrak, the air traffic control system, airport screening, electric utilities, and the Army Corps of Engineers. Such reforms would reduce budget deficits, improve management, spur quality improvements, and generate economic growth. The savings listed stem from the elimination of annual subsidies to the activities.

Consider the nation's air traffic control (ATC) system, which is run by the Federal Aviation Administration. The FAA's modernization efforts have often fallen behind schedule and gone over budget.21 The ATC system needs major improvements to meet rising travel demands, but the FAA is not up to the challenge.

The solution is to privatize the ATC system and separate it from the government. Canada privatized its ATC in 1996, setting up a private, nonprofit corporation, Nav Canada.22 The company is self-supporting from charges on aviation users. It is one of the safest systems in the world, and has won international awards for its efficient and innovative management.23 Britain also privatized its ATC system in the form of a nonprofit corporation.


Without major reforms, official projections show that federal spending will soar to more than 30 percent of GDP by the mid-2030s.24 State and local government spending of more than 11 percent of GDP would come on top of that.

It seems inconceivable that American voters would let the government grow that large. It is also unlikely that the government would be able to raise taxes much above current levels to support higher spending because of our increasingly globalized economy.25

Policymakers will have to make large spending cuts sooner or later, and the sooner the better to avoid accumulating more debt. They should begin reforms with the menu of cuts presented here. Leaders of other nations have pursued vigorous cost cutting when their debt started getting out of control, and there is no reason why our political leaders cannot do the same.

Source: A Plan to Cut Federal Spending | Downsizing the Federal Government

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