There is much talk in Washington about a "grand bargain" to avert plunging off the fiscal cliff, and it could happen. There is always a surge of positive feelings after an election and a narrow window of opportunity for action before people drift back into their ideological nostrums. Also, several of the more militant Tea Party people were defeated which should strengthen the hand of House Majority Leader John Boehner as he seeks support for compromise.
But the White House and Congress must act quickly and the first hurdle will be taxes. President Obama remains adamant that taxes must go up for upper income people, and he won the election. Obama wants to raise taxes on individuals making more than $200,000 a year and families with adjusted incomes over $250,000. That would affect 4 million out of 114 million households. If the negotiators can cut a deal on taxes, it will set the stage for serious work on the real problem -- entitlement programs.
Make no mistake, if Congress is to deal with the deficit, it must take on entitlements. As the famous bank robber Willie Sutton said, that's where the money is. The good news is that Medicare is on the table, which suggests President Obama and the Democratic leadership of Congress are at long last getting serious about deficit reduction. Medicare spending is already a major budget item -- $519 billion in 2010 -- and headed toward $929 billion by 2020.
Social Security is also a problem. Already the system is paying out more than $100 billion a year more than it takes in, and the difference is made up from the regular budget as the Social Security system cashes in those government bonds in the so-called Trust Fund. Any credible long term plan to bring the deficit under control must entail significant changes in both Medicare and Social Security.
There is no great secret what those changes will be and they will be painful. The eligibility age for both programs should be moved from 65 to 67 for future retirees, though people close to retirement now should be spared. That will be a significant change for many people, but life spans are getting longer and a higher eligibility age is reasonable.
Also, some sort of means test must be imposed for Medicare and possibly Social Security too. Individuals with incomes over $85,000 should pay higher premiums for Medicare coverage, and also have their Social Security benefits reduced. This will be a volatile issue, but every aspect of changing entitlements will be volatile. That is why Congress has avoided the issue for so long. Also, it is safe to assume Medicare beneficiaries will be stuck with higher co-pays.
Of course, this is all too complicated and controversial to be settled between now and the end of the year. I foresee a two-step process. First will be a temporary tax deal -- a patch -- by the end of this year to avoid the fiscal cliff, possibly teeing up more fundamental tax reform later on. The second and more difficult phase will be reforming entitlement programs beginning early in the New Year. In the final analysis, that is key to bringing the deficit under control and reining in growth of the national debt.
Jerry Jasinowski, an economist and author, served as President of the National Association of Manufacturers for 14 years and later The Manufacturing Institute. Jerry is available for speaking engagements.