Reality check on Obama's deficit plan

The administration laid out several key approaches to whittling down U.S. debt. Whether they pan out as the president hopes is a question mark.

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By Jeanne Sahadi, CNNMoney.com senior writer

NEW YORK (CNNMoney.com) -- President Obama won't submit a formal 2010 budget request to Congress until next month. But the head-knocking on the Hill over fiscal priorities begins in earnest this week.

Starting on Tuesday, White House budget director Peter Orszag, Treasury Secretary Tim Geithner and Federal Reserve Chairman Ben Bernanke will all be testifying before Congressional committees about the budget.

A main question will be whether Obama's proposals can reduce the deficit as much as the administration estimates they will: $2 trillion over 10 years.

Orszag bases that deficit-reduction estimate on four main factors: economic recovery, collecting more revenue from high-income taxpayers, curbing corporate tax breaks and winding down the war in Iraq.

Given how unprecedented the downturn has been and the uncertainties in the geopolitical situation, several of the factors the administration is relying on to deliver its deficit-reduction promises are far from guaranteed.

Banking on economic recovery

The assumptions: The economy will start its recovery in 2010, with 3.2% growth in gross domestic product (vs. a 1.2% drop this year). GDP will grow 4.0% in 2011 and 4.6% in 2012.

Reality check: The White House's GDP estimates, while roughly in line with those projected by the Federal Reserve, are higher than average. Some say the administration is being too optimistic.

But Orszag says larger-than-average increases isn't unusual.

"As you emerge [from a very deep recession] the economy temporarily grows faster than normal just because your starting point is so low," he told CNN.

Economic recovery can help reduce the deficit by reducing the government's need to borrow money to fund its efforts. That's because tax revenue starts to rise as more employers start hiring and boost production, while demand for government services and benefits such as unemployment insurance falls as more people find work.

Should the economy take longer to recover than forecast by the White House, however, the deficit will be reduced by something less than promised.

Last week, the government reported that the nation's economic slide during the last three months of 2008 was even sharper than expected. Gross domestic product fell at an annual rate of 6.2%, its worst decline in 26 years.

Some economic news, though, has surprised to the upside. Consumer spending rose more than expected in January after declining for six consecutive months.

Raising taxes on high-income filers

The assumptions: Reduce the deficit by $637 billion over 10 years by letting the Bush tax cuts expire in 2011 for singles making more than $200,000 and couples making more than $250,000.

Reality check: Letting the tax cuts expire has a good chance of happening. But the savings that achieves could be undercut if two other revenue raising efforts don't pan out.

Already, some leading Democrats -- including Senate Budget Chairman Kent Conrad, D-N.D., and Senate Finance Chairman Max Baucus, D-Mont. -- have questioned Obama's plan to limit itemized deductions on high-income filers.

Obama hopes to raise $318 billion over 10 years with this provision and use it to help pay for his new health reform fund.

Separately, he wants to make permanent his signature credit for low- and middle-income families and fund it by requiring companies to pay for the amount of carbon emissions they produce. He estimates a cap and trade program, which is the subject of much debate, would raise $646 billion.

If either or both of these revenue raisers don't pan out, the administration will have to propose other ways to help pay for his new initiatives or risk further increasing the deficit.

"The key to the budget is whether they stick to that pledge [to pay for their new proposals] because they have the potential to add enormously to the deficit if they're not paid for," said Bob Bixby, director of the Concord Coalition, a deficit watchdog group.

Curbing corporate tax breaks

Assumptions: Raise $354 billion by changing a variety of corporate tax provisions, including repealing some tax benefits for oil and gas companies.

Reality check: The biggest piece of it -- estimated to raise $210 billion -- is a vaguely worded item called "international enforcement, reform deferral and other tax reform policies."

Analysts expect that a significant chunk of that $210 billion will come from a change to current policy that lets U.S.-based companies defer tax payments on their foreign subsidiaries' profits until they bring the money back to the United States.

How the rule is changed will affect how much revenue may be raised. And corporate resistance to it will be stiff.

"We don't know where members [of Congress] will fall after a very powerful lobbying effort," said Dan Clifton, the head of policy research at Strategas Research PartnersClifton.

Lawmakers' positions will be driven in part by the the economic interests of their states. Sen. Barbara Boxer, D-Calif., has sponsored bipartisan amendments to make it less costly for companies to repatriate earnings. A number of California-based technology companies have large portions of their business based abroad, Clifton said.

Winding down the war in Iraq

Assumptions: Obama is planning to pull a large number of combat troops out of Iraq by the end of August 2010.

The White House estimates the troop withdrawal, even as operations in Afghanistan continue, will preserve $1.5 trillion over 10 years that would otherwise be spent.

Reality check: The real savings, some say, is actually going to be less since the administration was measuring its proposals against a baseline that assumes the country would spend what it currently spends in Iraq for each of the next 10 years.

That's the way budget baselines are normally constructed, said Josh Gordon, policy director at the Concord Coalition. But, he added, no one was expecting U.S. involvement in Iraq to continue at current levels for the next 10 years.

It's also not clear how much more money will be needed to fund military efforts in Afghanistan. Currently the budget request has assumed $50 billion a year as a place holder. Any more than that would negate the savings realized from the Iraq withdrawal. To top of page

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