The Wall Street Journal on the Budget Outlook

There is little news here in this Wall Street Journal summary of the CBO's projections of a return to deficits: if you had been following the numbers, you would have known this five months ago.

Perhaps the most interesting thing is the speed with which the late-1990s political consensus--that the U.S. needed to run a budget surplus larger than the Social Security surplus alone--has unraveled. What the effect of the resulting budget deficits will be on investment in America is, in my view, the big question of the hour. But I haven't yet figured out what I think the answer is.

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WSJ.com - Economy: ...With federal tax collections plunging, the Congressional Budget Office predicted far deeper deficits for the next few years, and the near disappearance of the once-huge projected 10-year surplus.... In the U.S., the ratcheting-down of expectations -- the third such major revision by congressional budget analysts since January 2001 -- signaled the emergence of chronic annual budget deficits as a long-term worry for President Bush... the new CBO report foresees deficits through at least 2006.... And that depends on no further tax cuts and spending growth no greater than inflation. Both assumptions are likely too optimistic. The continuing war on terror and a weak economy threaten to swell the amount of funding needed for federal programs, just as a slowdown in private-sector income cuts into tax receipts.

CBO Predicts Much Wider Gaps
In U.S. Budget Than Was Thought

By JOHN D. MCKINNON and G. THOMAS SIMS
Staff Reporters of THE WALL STREET JOURNAL

With federal tax collections plunging, the Congressional Budget Office predicted far deeper deficits for the next few years, and the near disappearance of the once-huge projected 10-year surplus.

The new CBO report also placed the U.S. squarely in the growing ranks of industrial countries around the world -- such as Germany -- that are struggling to control deficits, in the midst of a balky global economy. The U.S. now joins leading economies in Europe whose proposed tax cuts could be undermined.

In the U.S., the ratcheting-down of expectations -- the third such major revision by congressional budget analysts since January 2001 -- signaled the emergence of chronic annual budget deficits as a long-term worry for President Bush.

A month ago, the White House Office of Management and Budget predicted a return to annual budget surpluses as early as 2004, the year when Mr. Bush would face voters again. By contrast, the new CBO report foresees deficits through at least 2006, and a surplus of only $1 trillion or so for the next 10 years -- down sharply from a 10-year surplus of $5.6 trillion in January 2001, when Mr. Bush took office.

And that depends on no further tax cuts and spending growth no greater than inflation. Both assumptions are likely too optimistic. The continuing war on terror and a weak economy threaten to swell the amount of funding needed for federal programs, just as a slowdown in private-sector income cuts into tax receipts.

Already, spending has been soaring by about 8.5% annually in the past five years, while both Republicans and Democrats are pushing for significant new tax cuts or are likely to in the near future. That could cost the government hundreds of billions more, and turn what is still a modest deficit into a significant drag on the economy, for example by driving up interest rates.

In its semiannual update of the budget forecast, the CBO also projected that the deficit would reach $145 billion for 2003 without new tax cuts or spending. That is significantly higher than OMB's comparable July estimate of $62 billion, which the CBO recalculated at $71 billion. (The CBO figured that some post-Sept. 11 spending items OMB didn't count would be recurring costs.)

Democrats leapt on the new CBO estimates, arguing that Mr. Bush's tax cuts are largely responsible for the budget damage so far, while his plans for more tax cuts would worsen it. "His only answer is to dig the hole deeper," said Senate Budget Committee Chairman Kent Conrad (D., N.D.).

Democrats also accused the White House of engaging in "rosy scenarios" similar to those offered by the Reagan administration in the 1980s.

Mr. Bush's budget director, Mitchell Daniels Jr., sought to play down the CBO report, saying it showed that the recession, the weakened stock market and the war caused the deficits -- not the White House tax cuts.

"President Bush's plan to balance the budget is straightforward: Revive our economy, win the war against terrorism and restrain spending," Mr. Daniels said.

OMB officials also noted that the CBO's report was based on later data, and had to include some spending that will be phased out eventually -- such as helping rebuild New York after the Sept. 11 terror attacks.

The CBO said that Mr. Bush's tax cuts were only one of several factors involved in blowing the surplus in the short run. Over the long run, its analysis suggested that both Republicans and Democrats bear responsibility. It said that of last year's $5.6 trillion 10-year surplus, the tax legislation is chewing up about $1.2 trillion, new spending is consuming an additional $1.1 trillion to $1.2 trillion, increased debt payments will likely eat up a further $500 billion to $600 billion, and the sluggish economy and the still-mysterious drop in tax collections account for an additional $2.3 trillion.

Budget analysts were most focused on what CBO Director Dan Crippen termed the "astounding decrease" in government tax collections. For its estimate of one year -- fiscal 2002 -- the CBO has now gone from about $2.24 trillion in January 2001 to about $1.86 trillion now -- a fall of almost 17%. Collections for 2002 are now expected to be 6.6% below 2001, the biggest percentage drop since 1946, when World War II-era taxes were phased out. As a result, officials are considering new ways to analyze tax-return data more quickly.

Meanwhile, Europe is contending with its own budget strains. In Germany, slow economic growth and rising unemployment -- as well as costs from recent flooding -- are putting the budget under pressure and possibly might delay or water down long-planned fiscal changes. The German government still expects for 2002 a deficit at or below 3% of annual output, as rules stipulate for countries that have adopted the euro. But Hans Eichel, Germany's finance minister, said recently: "It will be close."

To keep the deficit within legal bounds, the government last week announced a spending freeze for the rest of this year and raised corporate income taxes. The government also postponed for a year a tax cut that would have benefited consumers and medium-size companies.

France said earlier this week that its economy may not grow fast enough next year to balance its budget by 2004, as previously promised. And economists have begun expressing doubts whether French government can cut taxes as aggressively as promised.

Write to John D. McKinnon at john.mckinnon@wsj.com¹ and G. Thomas Sims at tom.sims@wsj.com²

Posted by DeLong at August 28, 2002 09:56 AM | Trackback