AP analysis: Cut Inflation Act unlikely to impact inflation

Associated Press News Analysis

As inflation rages near its highest level in four decades, Congress is poised to approve the Cut Inflation Act signed by President Joe Biden. Its title raises a tantalizing question: will the measure really tame the price spikes that have inflicted hardship on American households?

Economic analyzes of the proposal suggest the answer is probably no, not anytime soon, anyway.

The legislation, which is due for final approval Friday in the House and will then be enacted, will not directly address some of the main drivers of the price spike, from gas and food to rents and restaurant meals.

Still, the bill could save some Americans money by reducing the cost of prescription drugs for seniors, extending health insurance subsidies and lowering energy prices. It would also modestly reduce the government’s budget deficit, which could reduce inflation slightly by the end of this decade.

The nonpartisan Congressional Budget Office concluded last week that the changes would have a “negligible” impact on inflation this year and next. And the University of Pennsylvania’s Penn Wharton fiscal model concluded that over the next decade, “the impact on inflation is statistically indistinguishable from zero.”

Such forecasts also undermined arguments by some Republicans, such as House Minority Leader Kevin McCarthy, that the bill would “cause inflation,” as McCarthy said in a speech. in the House last month.

Biden himself, in speaking about the effect of the inflation legislation, cautiously referred to potentially lower prices in individual categories rather than lower inflation as a whole. This week, the president said the bill would “reduce the cost of prescription drugs, health insurance premiums and energy costs.”

At the same time, the White House trumpeted a letter signed by more than 120 economists, including several novel prize winners and former Treasury secretaries, which asserts that the bill’s reduction in the government’s budget deficit – to about $300 billion over the next decade, according to the CBO, would put “downward pressure on inflation”.

In theory, lower deficits can reduce inflation. This is because lower government spending or higher taxes, which help reduce the deficit, reduce demand in the economy, thereby easing the pressure on businesses to raise prices.

Jason Furman, a Harvard economist who served as a top economic adviser to the Obama administration, wrote in a Wall Street Journal opinion column, “Deficit cutting almost always lowers inflation.

Yet Douglas Holtz-Eakin, who was a top economic adviser to President George W. Bush and later a CBO director, noted that lower deficits will not take effect for another five years and will not be very important during the period. next decade given the size of the economy.

“$30 billion a year in a $21 trillion economy won’t move the needle,” Holtz-Eakin said, referring to the estimated amount of deficit reduction spread over 10 years.

He also noted that Congress recently passed other laws to subsidize U.S. semiconductor production and expand veterans’ health care, and suggested those laws will spend more than the Reduction Act. of inflation will save.

Additionally, Kent Smetters, director of the Penn Wharton Budget Model, said the bill’s health care subsidies could drive up inflation. The legislation would spend $70 billion over a decade to expand tax credits to help 13 million Americans pay for health insurance under the Affordable Care Act.

These grants would free up money for recipients to spend elsewhere, potentially increasing inflation, although Smetters said he thought the effect was likely to be very small.

While the bill could have the benefit of increasing savings for millions of households on pharmaceutical and energy costs, it is unlikely to have much effect on headline inflation. Prescription drugs represent only 1% of spending in the consumer price index in the United States; expenditure on electricity and natural gas represents only 3.6%.

Starting in 2025, the law will cap the amount Medicare beneficiaries would pay for their prescription drugs at $2,000 per year. It will allow Medicare to negotiate the cost of certain high-priced pharmaceuticals, a long-sought goal that President Donald Trump also launched. It would also limit Medicare beneficiaries’ out-of-pocket costs for insulin to $35 per month. Insulin prescriptions averaged $54 in 2020, according to the Kaiser Family Foundation.

“This is a historic change,” said Leigh Purvis, director of health care costs at the AARP Public Policy Institute. “This allows Medicare to protect beneficiaries from high drug prices in a way that didn’t exist before.”

A Kaiser study found that in 2019, 1.2 million Medicare beneficiaries spent an average of $3,216 on drug prescriptions. Purvis said beneficiaries using the most expensive drugs can spend up to $10,000 or $15,000 a year.

The legislation allows Medicare to negotiate prices for 10 expensive pharmaceuticals, starting next year, though the results won’t take effect until 2026. Up to 60 drugs could be up for negotiation here 2029.

Holtz-Eakin argued that while the provision could reduce the cost of some Medicare drugs, it would discourage the development of new drugs or reduce new venture capital investments in drug start-ups.

The energy provisions of the Cut Inflation Act could also create savings, although the amounts are likely to be much smaller.

The bill will provide a $7,500 tax credit for new electric vehicle purchases, though most electric vehicles won’t qualify because legislation requires them to include batteries with U.S. materials.

And the legislation also dramatically expands a tax credit for homeowners who invest in energy-efficient equipment, from a one-time credit of $500 to $1,200 that a homeowner could claim each year. Vincent Barnes, senior vice president for policy at the Alliance to Save Energy, said it would allow homeowners to make new energy-saving investments over several years.

But for all Americans, including those who are not homeowners, the impact will likely be limited. Rhodium Group estimates that by 2030, the bill’s provisions will save households an average of up to $112 a year, as gas and electricity become cheaper as more and more people ‘Americans are driving electric vehicles and homes are becoming more energy efficient.

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