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  Net from economy: $3.3 trillion.

  Two, Congress cut taxes—repeatedly. The big one was George W. Bush’s 2001 tax cut, enacted at a moment when there was genuine concern about the prospect that government might run such persistent surpluses that it would pay off all its debt, which would have raised such unfamiliar problems as a shortage of Treasury debt for financial markets to trade. The first Bush tax cut reduced revenues by about $1.2 trillion over ten years, according to the CBO. Smaller tax cuts followed over the years, and then came the ones that Obama pushed to fight the deep recession that was afflicting the country when he was sworn in.

  Net from tax cuts: $2.8 trillion.

  Three, the government spent more—a lot more. The cost of the wars in Afghanistan and Iraq came to roughly $1.2 trillion over the decade, and there was extra spending on homeland security after 9/11. The expansion of Medicare to cover prescription drugs cost about $275 billion just through 2011. The much-criticized Troubled Asset Relief Program, which was used to bail out the banks, and the Obama-backed stimulus package added another $500 billion through 2011, but much of that was later recouped as banks paid off their loans.

  Net from spending: $4.3 trillion.

  Four, bigger deficits mean more borrowing. In January 2001, CBO projections anticipated that the entire federal debt would be paid off by now, which would have meant no interest costs. Instead, the debt held by the public—everyone from the Chinese government to the savings bonds in American desk drawers, but excluding the Social Security trust fund—stood at $10 trillion. And more borrowing means an ever-larger interest tab.

  Net increase in the deficit from interest: $1.4 trillion.

  In the late 1990s and early 2000s, chief executives of corporations became celebrity heroes, and politicians seemed increasingly irrelevant amid the centrifugal force of the Internet. The pace of federal spending increases slowed, and the reforms to which Clinton and Gingrich had agreed pushed many from welfare to work as the economy boomed. Then the stock market plunged, chief executives became celebrity crooks, and the September 11, 2001, attacks shattered the notion that with the Cold War over, the market could cope with nearly everything. Despite Clinton’s State of the Union declaration, government grew, again. “The era of big government wasn’t over,” said Allen Schick, the Maryland professor. “Look at what happened with spending. It was hibernating under Clinton and revived under Bush.”

  Once in office, George W. Bush delivered on his campaign promise to cut taxes. His first tax cut, in 2001, was smaller than Reagan’s but was followed by additional tax cuts the following four years that collectively exceeded Reagan’s. Simultaneously, most of the spending restraints written into his father’s 1990 deficit deal expired. Then, at the end of Bush’s first year in office, his presidency was redefined by the 9/11 terror attacks, and so was the federal budget. Two wars and intensified efforts at homeland security increased spending significantly. In 2001, defense spending was 3 percent of GDP, half the Reagan-era peak. In 2011, it was 5 percent. (Each percentage point of GDP is about $150 billion.)

  Bush also signed into law the first significant expansion of Medicare in forty years. When Medicare was designed in the 1960s, prescription drugs weren’t a big part of health care so the program didn’t cover most drugs. By the first decade of the twenty-first century, they accounted for 12 percent of all personal health care spending, and pressure to expand Medicare to cover them was intense. The drug insurance program created in 2003 was built around two elements of lasting consequence to the budget: One, the government would subsidize the purchase of competing private drug insurance policies and wouldn’t negotiate directly with drug companies. And, two, no attempt was made to pay for the bill. The only constraint was an agreement to limit the tab to $400 billion over ten years, even though everyone knew it would cost more in the future. By 2010, the annual tab exceeded $60 billion, about $1 of every $8 in Medicare outlays. Government actuaries projected the cost would climb nearly 10 percent a year in the following decade.

  Obama summed this up in an April 2011 speech at George Washington University: “[A]fter Democrats and Republicans committed to fiscal discipline during the 1990s, we lost our way in the decade that followed. We increased spending dramatically for two wars and an expensive prescription drug program—but we didn’t pay for any of this new spending. Instead, we made the problem worse with trillions of dollars in unpaid-for tax cuts.”

  A year before the 2008 election that would bring Leon Panetta back to Washington—and before the Great Recession had hit—he and a few other veterans of the 1990s deficit wars were called by Kent Conrad to appear before the Senate Budget Committee. Panetta had been out of government for years, building a public policy institute in Monterey. He came to Washington periodically to scold his successors in his role as cochairman of the Committee for a Responsible Federal Budget, a hardy antideficit lobby that brings together aging budget experts from both parties to wring their hands and offer advice, welcomed or not.

  In congressional testimony, Panetta recalled the surpluses that the government had been running when he left Washington. He remembered hoping that his successors “would never again permit runaway deficits to undermine [the nation’s] economic strength.” But, he said sternly, “events, partisanship, and a failure of leadership on all sides have conspired to produce the kind of irresponsible fiscal behavior that again threatens our future.”

  The combination of “exploding” benefit programs, the aging of the population, the “rapid rise” in health care costs, and growing interest payments “places us on an unsustainable path to fiscal chaos.

  “What is even more discouraging,” he said, with a sigh, “is that it ignores virtually everything we have learned the hard way in the past.”

  CHAPTER 3

  WHERE THE MONEY GOES

  The federal budget is as vast as the government itself: the instructions the White House sends agencies for making and keeping track of annual budget requests run 972 pages. The instructions. The four-volume budget that Obama sent to Congress in February 2012 came to 2,238 pages. Then each agency produced thousands of pages of more detail. The Department of Homeland Security’s supplement topped out at 3,134 pages, one page for every $12.6 million it was seeking to spend.

  To make sense of all this, groups that promote fiscal rectitude have boiled the budget down to (relatively) simple online games: cut spending here, raise taxes there, and see if you can do better at bringing the deficit under control than Congress and the president. There’s Stabilize the Debt by the Committee for a Responsible Federal Budget and Federal Budget Challenge by the Concord Coalition. The most elaborate is Budget Hero, built by educational gamers for the Woodrow Wilson International Center for Scholars, a government-backed Washington think tank, and American Public Media, a public radio network. This is no Call of Duty or Portal 2. There’s no adrenaline rush from deciding whose taxes to raise or how much to cut the defense budget. But since it was launched on the Web in 2008, Budget Hero has been played 1.4 million times. The game plucks options from the thick catalog of ways to reduce the deficit published annually by the Congressional Budget Office and puts them into a Pokémon-style video game. Just as in real life, there is no single goal. Players identify up to three objectives, such as achieving greater energy independence or improving the competitiveness of the U.S. economy, and try to use the spending and tax levers to reach them. A running tally shows the consequences of their choices on deficits and the size of government. The overarching lesson: Bringing the deficit down to sustainable levels takes big changes. Little ones won’t do it.

  Despite the video games and think tank websites and newspaper pie charts and televised presidential debates, the public remains strikingly misinformed about the budget. The typical respondent to a CNN poll said food stamps accounted for 10 percent of federal spending; it’s closer to 2 percent. Maybe being off by a factor of five is understandable given the enormity and complexity of the budget. But it’s harder
to make sense of a 2008 Cornell University poll in which 44 percent of those who receive Social Security checks and 40 percent of those covered by Medicare say they “have not used a government social program.”

  Polls also find that Americans cling to the belief that government is a sea of waste and inefficiency that can be excised painlessly. When Gallup asked last year how much of each tax dollar sent to Washington is wasted, the answer averaged 51 cents, the highest since the polling outfit began posing the question in 1979. Yes, the federal government harbors gobs of waste and inefficiency—the Department of Homeland Security recently discovered it was spending $10.6 million on unused wireless devices—but the public overstates the magnitude. Reports on government corruption also reinforce this idea, even when the underhanded dealings ultimately cost taxpayers very little. For example, the Washington Post identified thirty-three members of Congress who quietly steered government grants to road improvement and other projects near pieces of private property they owned. The tab: $300 million, less than one hour’s worth of federal spending. Nonetheless, every president vows to pare waste, fraud, abuse, and inefficiency, but the budgetary relief is often underwhelming. The Obama budget boasted that the Social Security Administration took an employee suggestion to use e‑mail instead of snail mail to distribute commemorative flyers to its offices nine times a year. The grand total saved: $5,000 a year.

  “Reducing the deficit by cutting ‘waste, fraud, and abuse’ never works: there’s seldom any agreement on what qualifies as waste,” says Stan Collender, a Washington public relations man who has built a business explaining the federal budget to outsiders. “Everyone thinks there’s a lot, but there’s nothing that a majority wants to cut. The average person doesn’t want less government. They just want the government to cost less.”

  MERGE WITH CANADA

  Rob Portman, a Republican U.S. senator from Ohio and George W. Bush’s White House budget director, understands the politics of persuading constituents that they are going to have to give up something to bring down the deficit. So when he was named to a congressional deficit-reduction committee last year, he asked Ohioans to offer their suggestions on his website. “My goal was to actually end up taking some of these and being able to say, here’s something that came from Joe Smith in Akron, Ohio,” he said. “And we would have been able to do that had we come up with something [a committee agreement] because a number of their ideas were part of the mix.”

  Not all of the ideas were practical: a constituent from Cincinnati suggested that the United States merge with Canada, while someone from Columbia Station advocated replacing paid congressional staff with volunteers. Others were sober and serious: JZ from Cincinnati suggested raising the age at which Americans qualify for Social Security and Medicare. A farmer from Lebanon proposed paring farm subsidies. CM from Bay Village questioned the merits of allowing holders of municipal bonds to avoid federal taxes on the interest they earn. Even the feasible ones, though, amounted to nibbling at the edges.

  When Portman tries to explain the budget to constituents, he slices it into several pieces: “One is the annually appropriated spending that gets all of the attention. But when you take out defense, which is more than half of it, it ends up being 18 percent of the budget. Then you’ve got defense spending … that’s the second big part.

  “And the third big part—and the fast-growing part—is the mandatory spending,” he continues, lapsing into Washington jargon for benefits paid to those eligible without any annual vote by Congress. “You can divide that into basically three things: It’s interest. It’s Social Security. It’s the health care programs, Medicare and Medicaid.”

  The federal budget can be sliced in any number of ways. Portman’s are as good as any. But his slices are huge, and each has many parts, subparts, and individual programs. So to get a feel for where all that money goes and for why cutting spending sounds easier than it is, slice the budget into five pieces besides interest—health care, Social Security, other benefits, defense, and everything else—and take a closer look.

  “IT’s TWO WORDS: HEALTH CARE”

  “When I left OMB in 2007,” Portman said in an interview, “people asked me: ‘What did you learn? What’s the biggest concern about our budget? Is it the spending in Iraq and Afghanistan? Is it tax revenues? Is it the spending?’

  “I said, ‘No. It’s two words: health care.’ ”

  The numbers support that assessment. Health care spending is rising faster than any other major part of the federal budget, driven by a costly trio of factors. One, the number of insured is rapidly increasing as Congress expands the pool of those who are eligible, fewer people get health insurance on the job, and the huge baby boom generation turns sixty-five and becomes eligible for Medicare. Two, those insured through government-subsidized insurance are using more health care, undergoing more procedures, and availing themselves of new technologies. Three, the price of that health care is rising faster than the price of other goods and services.

  These three facts add up to a predictable and alarming trend: already expensive, health care is likely to balloon in cost in coming years. Medicare for the elderly and disabled and Medicaid for the poor currently account for about 21 percent of all federal spending. Medicare alone cost $555 billion in 2011; adjusted for inflation, that’s more than the federal government spent on everything in 1951. The CBO forecasts that the Medicare tab will climb by 75 percent over the next decade. “It is the aging of the population and the rising costs of health care that are putting this unbearable pressure on the federal budget,” CBO director Doug Elmendorf told Congress recently.

  Replacing worn-out hip joints, a marvel of modern medicine that makes old age more comfortable, illustrates the three drivers of Medicare costs. First, more people are living longer, creating a larger pool of potential hips to be replaced. Second, the overall number of eligible patients electing the procedure is on the rise. Between 1999 and 2009, the number of hip replacements performed on patients between sixty-five and eighty-four rose 30 percent, and in a remarkable development, the number done on people over eighty-five rose 21 percent. By 2009, nearly one in every six Americans who had a hip joint replaced was over eighty-five. A generation or two earlier, it was next to none. Third, the cost per procedure has escalated.

  In 2009, Medicare spent $9 billion replacing hip, knee, and shoulder joints, a tab that has been rising at better than 8 percent a year, with about a third of that going to 264,000 hip replacements at roughly $12,000 apiece. The Government Accountability Office, the investigative arm of Congress, estimates that while 40 percent of the increase in Medicare spending on hip replacements between 2004 and 2009 reflects the increase in the number of procedures, fully 60 percent is due to the rising cost per case.

  Surveys of patients after surgery suggest that most are very satisfied, reporting an improved ability to walk and, in some cases, exercise or play sports, so the money may be well spent. But the popularity of the procedure is also an ominous portent for Medicare’s finances: the rapid adoption of joint replacement among middle-aged, non-Medicare-covered Americans is growing, and those artificial hips don’t last forever. When it’s time to replace them, the patients are likely to be of Medicare age.

  The upward pressure on costs is not just a result of more and pricier procedures. The way the government pays for health care is itself a patchwork of perverse incentives crafted for reasons historical and political. Among these costly legacies is a decades-old embrace of fee-for-service, an approach to paying for medical care that tends to encourage more, but not necessarily better, care. In dozens of ways, the cost problem is exacerbated by the way that the government goes about paying for health care.

  Consider just one example. Before Congress expanded Medicare to cover prescription drugs in 2003, the most impoverished of the elderly—about 16 percent of the aged—got drug coverage through Medicaid, the joint state and federal government health insurance program for the poor. By law, pharmaceutical companies
must charge Medicaid the lower of “the best price” they charge anyone for a drug, or a price 15 percent below a benchmark. That saves Medicaid a lot of money.

  In 2003, however, Congress ended that practice. It shifted those low-income elderly whose pharmacy bills have been covered by Medicaid coverage to the new Medicare pharmaceutical program. But, reflecting the enthusiasm for markets over government, the new program was somewhat different. Under the new system, the elderly purchase drug insurance at government-subsidized prices from one of several competing private plans, and then the insurers—not the government—pay the drug tab. For low-income elderly, the change didn’t cost them much; the government still picks up nearly all the cost. They account for about 40 percent of the people in the drug program, but because they tend to have multiple chronic conditions, they account for 56 percent of the program’s current spending.

  One aspect of this shift from one government drug plan to another turned out to be a boon for Big Pharma, as major drug companies are known, but expensive for taxpayers. The “best price” rule no longer applied. Drug insurers, the theory went, would negotiate with the drug companies and keep drug costs down. In general, this competition has worked better than naysayers expected. But for low-income elderly, the law put a lot of restraints on the insurance companies. They had, for instance, to cover every available drug for certain conditions for these beneficiaries. That limited their negotiating power with the drug companies and, thus, boosted the cost of the insurance. The bottom line: the government ended up paying more for drugs for the elderly poor than it did under the old system. How much more? That’s confidential. A couple of Harvard economists dissected drug corporation financial statements and estimated that for one big drug company, this single feature of the Medicare drug insurance program increased revenues by 8 percent in 2006 over the previous year. The White House budget office estimates that reimposing the “best price” rule on drugs used by low-income elderly would save the government $155 billion over ten years. An open question: Would that come out of drug-company profits or would the companies simply raise prices on other drugs to compensate or cut back on research?