Press Releases | Budget, Taxes, and Public Investment

News from EPI Magical thinking won’t create jobs: Heritage forecasts for Ryan plan are fantasy

For Immediate Release: Wednesday, April 6, 2011
Contact: Phoebe Silag or Karen Conner, 202-775-8810

In this analysis, EPI Vice President Ross Eisenbrey questions the findings of a new Heritage Center for Data Analysis study of the proposed Republican budget unveiled today by House Budget Committee Chair Paul Ryan.

Rep. Paul Ryan (R-Wisc.) has produced a magical budget that “strengthens the safety net” by slashing trillions of dollars from Medicaid and Medicare. He also proposes to “strengthen” Social Security by dismissing the $2.4 trillion Social Security trust fund as valueless, based on “dubious accounting.”

It is no surprise, therefore, that the economic analysis Ryan holds up to support his plan is pure fantasy. According to Ryan:

“A study just released by the Heritage Center for Data Analysis projects that The Path to Prosperity will help create nearly one million new private-sector jobs next year, bring the unemployment rate down to 4% by 2015, and result in 2.5 million additional private-sector jobs in the last year of the decade.”

Unemployment fell to 4% for only one relatively brief episode in recent memory, and that was after nearly a decade of strong economic growth. So the Heritage Center’s claim is very bold. The Congressional Budget Office predicts that the unemployment rate will be 5.9% in 2015.

The Heritage Center’s forecasts for the Ryan plan are even bolder in the out years: It predicts unemployment will fall to an unprecedented 2.8% by 2021. Simply put, this is incredible.

After the amazing eight-year run of job growth from 1993 to 2000, when annual job creation averaged more than 2.5 million, unemployment fell to 4%. Somehow, even though the Heritage Center estimates that Ryan’s plan will produce 4 million fewer jobs than were created in the 1990s, the center predicts the lowest U.S. unemployment rate ever recorded.  Literally, the United States has never recorded an annual unemployment rate as low as 2.8% since the Bureau of Labor Statistics began scientific reporting after World War II.

The mystery of the Heritage Center’s unemployment forecasts begins with the first year of the Ryan budget, in 2012. Despite more than $100 billion in federal spending cuts and a $290 billion increase in private savings, the center predicts that the plan will create 831,000 more jobs than created under the center-constructed baseline budget.

How will this be accomplished? How can reduced federal spending and heightened consumer saving lead to job creation? The supposed mechanism is spelled out in the center’s report: “Lower taxes stimulate greater investment, which expands the size of business activity. This expansion fuels a demand for more labor. …”

Yet the center’s budget tables provide clues about how it cooks the books. For one thing, despite tax cuts, combined personal and corporate tax receipts in 2012 are forecast to be more than $40 billion higher than under the baseline—this is the same old supply-side snake oil that Heritage has been selling for decades. 

Total private investment in 2012 is forecast to be about $120 billion higher than under the baseline, largely due to a burst of residential home building, which alone is predicted to add $89 billion. But this investment figure arises not from the output of Global Insight’s macroeconomic model but rather to the insertion of assumed higher investment (as an “add factor”) into the model. In essence then, the Heritage results hinge on another housing boom starting this year.

In the paper, the Heritage Center cloaks its faulty predictions in the guise of results of the IHS Global Insight U.S. Macroeconomic Model. But the figures are misleading since the center simply juiced up the model to get better investment results. In its methodology appendix, the center admits that it had to tweak the forecasting model: “Economic studies repeatedly find that government debt crowds out private investment although the degree to which it does so can be debated.  The structure of the model does not allow for this direct feedback between government spending and private investment variables.”

It’s obvious why Heritage had to resort to adding these kinds of fudge factors to their model:  The textbook way that reduced budget deficits spur private-sector activity is through lowering interest rates that have been driven higher by federal borrowing and which have crowded out private-sector activity. But because today’s deficits have been run in the context of (and largely driven by) an economy operating far below potential, they have not increased interest rates or crowded out private sector activity.

Because Heritage claims that the Ryan budget would cut federal debt by an estimated $342 billion, its ad-hoc tweaks to the model yield unexpectedly significant increases in private investment.

The Ryan budget is a job killer, and the Heritage Center’s attempts to portray it as a job creation machine should not be taken seriously. The chances that this plan would drive the U.S. economy to 2.8% unemployment are near zero, but the chances of it repeating the mistakes of the Bush tax cuts and driving the economy into a ditch are very real.