S+B: Can’t we maintain our current level of defense spending?
HORMATS: It’s a difficult but manageable challenge. The budget deficit is only US$150 billion, which is small by historical comparisons. The war itself is not difficult to finance. It’s a relatively small portion of GDP. Other parts of the budget, particularly in entitlements, will pose a financial problem. They will become so large that they will put a squeeze on discretionary spending, which includes the military. You have to find a way to ensure that entitlements such as Social Security and Medicare don’t encroach so much on the rest of the budget that they limit national security spending, education spending, and all other aspects of domestic spending.
S+B: Among entitlement reform, taxation reform, dealing with the war, and addressing the deficit, which comes first?
HORMATS: To start, we need to reign in tax subsidies, just like Ronald Reagan did in the 1980s. At that time, the tax code was rife with corporate subsidies, and Reagan pared them out of the system. Unfortunately, many have come back. Cutting corporate subsidies could bring in revenue without having a negative impact on growth.
Another issue that needs to be addressed is the imbalance of funds available for Social Security and Medicare. Without reform, these systems will develop increasing gaps between money coming in and money going out to beneficiaries. You simply can’t allow outlays to rise and inflows to barely increase. It just widens the imbalance.
Finally, adjustments have to be made to the national security budget to deal with terrorism and other new threats. This means phasing out old programs that are unnecessary in the current environment and doing more in intelligence and in homeland security and maybe a little less in conventional military spending.
S+B: Given what we’ve seen of entitlement reform over the past 25 years, what realistic expectation could there be that policies will be changed?
HORMATS: That’s what worries me. If you go back to earlier situations when the country faced crisis, leaders were able to institute wrenching changes. For instance, both an income tax and the greenback currency were established during the Civil War, ideas that were inconceivable in 1850. And during World War II, taxes were raised to levels that were unimaginable in 1940. The point is that with strong leadership we’re capable of making very dramatic changes to the system.
In fact, Bush did take leadership on the Social Security issue. But he didn’t present the problem before he presented his proposed solution. If he had taken six months to have a robust national dialogue on the need for reform and then presented his fix, he would have had a far better chance of acceptance.
Roosevelt spent a large portion of time during the war explaining to Americans why they had to make these sacrifices. That’s what the Fireside Chats were about. He explained what was going on, why people were called on to participate in rationing, why they should buy war bonds, and why they should have their mother or their aunt or their daughter work in the war factories. There was an education process that Roosevelt understood.
S+B: Almost every problem you’ve highlighted is visible to the American public – and other countries have their counterparts. What do people need to understand to be a part of the solution?
HORMATS: The political system produces chronic short-term thinkers. We need to build incentives into the system to encourage long-term thinking. You don’t hear political leaders talking or thinking long-term because the bad things may not happen on their watch.
If you project what happens if our energy dependence goes from 60 percent, as it is today, to 80 percent, the vulnerabilities are enormous. People also need to understand the consequences of a budget deficit that rises dramatically because entitlements mushroom, and other programs get squeezed, or taxes are raised, or borrowing goes up — which pushes interest rates up. They need to see what happens if you don’t make adjustments.