Overview

President Bush's budget suffers from tunnel vision. It fails to see multiple risks that could easily cause disastrous results. It plows toward its overriding objective — an outsized tax cut — almost mindless of the potential consequences.

The Bush budget documents contain greater detail, but no global changes from February's Blueprint for New Beginnings. But since the Blueprint was released, circumstances have worsened, confirming concerns we raised two months ago. Meanwhile, in the Senate, the President's tax cuts were voted down by $400 billion and spending initiatives were voted up by $600 billion, changing radically, if not rejecting, major parts of his budget.

As in February, Democrats express two key concerns:

• First, to have his tax cut, the President's budget has to dissipate virtually all of the non-Social Security, non-Medicare surplus over the ten-year budget period. The budget leaves almost no margin for contingencies and sets in motion a large tax cut before even estimating, much less deciding, how much is required for the largest account, national defense. Even assuming no further increases in defense or agriculture, the budget still invades the Medicare surplus in 2005 and 2006, weakening Social Security and Medicare just as the baby boomers are about to retire.

   

• Second, to make room for the tax cut, the Administration confronts the Congress with a budgetary dilemma. We must either overspend the available surplus, risking the economy and the long-term solvency of Social Security and Medicare; or we must accept harmful cuts in programs that we and the people support. The new budget makes this dilemma even more troubling than it seemed in February; for unlike February's Blueprint, the full budget details key cuts in important programs. The function sections of this document give a detailed discussion of these cuts. Here are a few of the most notable and disturbing:

  - A cut in funds for training pediatricians in children's hospitals.

  - A deep cut in funds for educating physicians, nurses, and health care professionals.

  - A freeze in grants for the treatment of AIDS patients.

  - A freeze in funds to locate physicians in medically under-served parts of the country.

  - A cut in funding for the Centers for Disease Control.

  - A cut in the Clean Water State Revolving Fund, which makes low-interest loans to modernize water and wastewater treatment systems.

  - A cut in funding for monitoring toxic substances in ground and surface water.

  - Elimination of the Wetland Reserve Fund, which provides voluntary incentives for conservation by farmers.

  - A cut in scientific research on clean air and pollution.

  - A $435 million cut in funds for cleaning up nuclear and hazardous waste at nuclear weapons plants.

  - A $117 cut in funds in Nunn-Lugar, the key program for impeding the spread of nuclear weapons.
  
  - A cut in funds for training and employment services, and a freeze in participation in the WIC program, just it appears that unemployment could rise.

  - A cut in the Child Care and Development Block Grant, which has helped recent welfare recipients to go to work.

  - Cuts in funds that states use to provide welfare, child care, and welfare-to-work assistance.
  
  - Elimination of funding for rental vouchers for disabled persons displaced from public housing designated for the elderly.

  - A cut in funds for critical building repairs in public housing.

  - Termination of the Public Housing Drug Elimination Program.

  - Termination of a program to create Boys and Girls Clubs in public housing.

  - A 46% cut in funding of the COPS program.
  

The remainder of the overview explains how the budget threatens Social Security and Medicare, and imposes unnecessary risks on the economy. The following sections of this document pinpoint the undesirable programmatic choices taken by the budget.

The Bush Framework

President Bush first proposed his $1.6 trillion tax cut on December 1, 1999. In his February 27, 2001 address to the Congress, the President explained the size of his tax cut this way:

I didn't throw darts at the board to come up with a number for tax relief. I didn't take a poll or develop an arbitrary formula that might sound good. I looked at problems in the Tax Code and calculated the cost to fix them.

In hindsight, this explanation seems curious, given the President's statements later that Congress was free to alter his plan in many ways, so long as it adhered to the $1.6 trillion total. But in any event, the central fact is clear: The President's $1.6 trillion tax cut came first, and the rest of the budget was built around it.

Such a method could lead to the discovery that the rest of the budget did not fit, and could not accommodate basic needs. A budget built this way could over-commit or leave out important needs. Policymakers have to be wary of this possibility, and be prepared to reconsider the single-minded commitment to anything, whether a large tax cut or a large spending initiative. The Bush Administration shows no such concern. A $1.6 trillion tax cut is their overriding objective, and this explains the many gimmicks and insupportable cuts in their budget.

The Contingency Fund

Like the President's Blueprint, the President's budget purports to have a buffer against adverse developments. It claims a substantial "contingency reserve." But as one moves through the Bush budget, the contingency fund changes size at least three times. On Page 3, the President's message claims "an unprecedented $1 trillion reserve." On page 7, the budget raises the claim to "an unprecedented $1.4 trillion reserve." On page 223, in the numerical tables, the budget drops to $841 billion available for "contingencies." But examine the $841 billion fund, and you will find that it includes $525 billion from the surplus in the Medicare trust fund. In truth, the contingency fund is $318 billion spread over ten years, and most of this accumulates in the second five years. These are not mere discrepancies. They are built in by design to conceal just how thin the margin for error and the fund for contingencies actually are.

Table 1 below uses the budget's own figures to show how the President's new budget framework arrives at each of these four figures. The fourth variation simply observes the terms of the Medicare lockbox bill, H.R. 2, which passed the House by 407 to 2 on February 13. Version 1 shows that the budget can claim a $1.4 trillion contingency reserve only by ignoring its own proposal for a Medicare prescription drug benefit, and the impact of its initiatives on the government's debt service costs.1 Version 2 shows that the claim of a $1.0 trillion contingency reserve omits the prescription drug proposal. It challenges logic and accounting to say that funds to pay for one of the budget's key proposals are also available for contingencies. Version 3 uses the framework listed at another location in the budget, to show the contingency reserve at $841 billion; but as noted above, this includes the surplus accumulating in the Medicare HI trust fund.

Table 1: ALTERNATIVE FORMULATIONS OF THE PRESIDENT'S "CONTINGENCY RESERVE" (Billions of dollars over 2002-2011)
	Version 1	Version 2	Version 3	Version 4
Unified Surplus	5,637	5,637	5,637	5,637
LESS:
Social Security Surplus	2,591	2,591	2,591	2,591
Medicare Surplus	Ignored	Ignored	Ignored	525
Tax Cut	1,612	1,612	1,612	1,612
Prescription Drug Coverage	Ignored	Ignored	153	153
Spending Increases	19	19	19	19
Resulting Debt Service	Ignored	420	420	420
EQUALS:
"Contingency Reserve"	1,415	995	841	318
Items do not add to totals due to rounding. Source: Budget, table S-1, page 223; "A Blueprint for New Beginnings," table III-1, page 14.

None of the reserve fund formulations in the budget complies with the near-unanimous decision of Congress in H.R. 2 to set aside not only the surplus for Social Security but also the surplus in the Medicare Hospital Insurance (Part A) Trust Fund.

Reserving the Social Security and Medicare Trust Fund surpluses has both accounting and economic significance. In accounting terms, these surpluses are encumbered already to meet future benefits to today's payroll taxpayers. In economic terms, protecting these surpluses adds to national saving, which increases capital formation and productivity, helping us afford those benefits when they come due. Every argument for preservation of the Social Security surplus, which is accepted on all sides including the Administration, applies with equal force to the Medicare surplus.

Therefore, the contingency fund should omit both Trust Fund surpluses. Version 4 in Table 1 above omits both, and shows a contingency fund of only $318 billion, not $841 billion. Thus, the apparent size of the Bush contingency fund is due to the assumption that the Medicare surplus is available money, contrary to the emphatic will of the Congress. Once the Medicare surplus is protected, the Bush budget's reserve funds almost vanish.

The Contingency Fund Year-By-Year

Even more revealing is the size of the Bush contingency reserve over time. Table 2 takes the President's program at face value, showing the contingency reserve, after setting aside the Medicare HI Trust Fund surplus as well as the Social Security surplus, on a year-by-year basis. The President's own numbers show that he would invade the trust fund surpluses in 2005 and 2006, and leave virtually no margin for error over the entire decade. The Congressional Budget Office recently estimated that its average deficit or surplus projection error for a fiscal year already in progress is about 0.5 percent of GDP (or a bit more than $55 billion at 2002 levels). The President's budget projects non-trust-fund surpluses with less than that minimal margin of confidence until 2011. (CBO has also stated that its estimating errors grow enormously as projection periods extend into the future. Its average error five years in the future is six times as large as the error for a fiscal year in progress.) The President's budget slices right to the bone over virtually the entire ten-year budget period, with almost no cushion in case of error. Of the President's $318 billion ten-year non-trust-fund contingency reserve, less than nine percent is projected to occur in the first five years.

Uncertainty in CBO Projections From The Budget and Economic Outlook: Fiscal Years 2002-2011, January 2001

Obviously, this approach to the budget leaves the contingency reserve itself, and the economy, vulnerable to a host of risks. With no significant reserve for at least the first nine years, any use of the contingency reserve, for whatever reason, would drive the budget into the red.

So what are the risks that the Bush budget creates?

The Bush Budget's Risks for the Economy

The federal budget at the end of 2000 was stronger than it had been in half a century. Fiscal policy was in a virtuous circle. Good fiscal policy was supporting a strong economy, and a strong economy was supporting good fiscal results. The President's proposals put that process at risk.

Omitted Costs

The Bush budget ignores risks to the budget and the economy in part because it omits inevitable costs from its calculation, and overstates its "contingency reserve," while understating the risk that the budget will revert to deficit in the near future.

A prime example of major costs omitted from the budget is defense. The Administration has claimed with some pride that it has not presented a defense request for future years because it has not yet completed "a top-to-bottom review" of the nation's needs. Although this degree of care may be admirable, one can only wonder why the same care should not have been shown for the budget as a whole. Instead, the Administration guessed how much of a ten-year commitment to tax cuts it could make, and now it would lock that guess into law, without knowing how much more spending defense might impose on the budget.

No one knows precisely what the Administration's defense review will conclude, but there is no doubt it will conclude that more money, not less, is needed. For example, the budget includes no estimate of how much the President's missile defense initiatives will cost, but estimates indicate that the cost could easily run into tens of billions of dollars. If the President upheld a campaign goal of increasing defense to 3.1 percent of GNP, it would cost $650 billion over ten years. Just increasing growth in defense spending by one percent per year would add $195 billion to budget costs over ten years. Table 3 puts potential defense costs into the context of the Bush Administration's meager reserves. (See Function 050 (National Defense) for further discussion of the defense budget.)

Defense is not the only example of omitted costs in this budget. The Administration's proposed tax cuts would worsen the existing problem of a widening individual alternative minimum tax (AMT). Over the coming years, increasing numbers of middle-income taxpayers will become subject to the AMT in large part because its basic income exclusions are not indexed for inflation. The AMT is burdensome not only because it imposes a higher tax liability than does the ordinary tax law, but also because it requires that individuals compute their taxes a second time according to a different set of rules. Over the next ten years with the Bush tax cuts, an additional 15 million taxpayers would be subject to the AMT, and would pay $292 billion in AMT. Unfortunately, the Administration does not propose to address this consequence of its tax cuts. Regardless of whether the Administration accepts responsibility for correction of the additional AMT problems its tax cut package will impose, virtually every authority believes that such a correction is inevitable. Including the revenues lost to an AMT correction does no more than recognize that reality.

Senate and House Conflicts with Bush Budget

To fit its predetermined $1.6 trillion tax cut within the available resources, the Administration chose a long list of spending cuts and minimized the projected costs of its spending-side initiatives. However, in the time between the release of the February Blueprint and the April budget, the Senate and the House have already rejected many of these savings, mainly because they are bad policy that would never have been called upon except to make room for the tax cuts. These Senate and House actions impose additional costs that are omitted from the Bush budget framework.

Table 4: HOUSE AND SENATE POLICY DIFFERENCES WITH BUSH BUDGET (Billions of dollars over 2002-2011)
Medicaid Upper-Payment Limit	Savings omitted by House	17
ANWR Oil Royalties	Savings omitted by House and Senate	1
Veterans Benefit Savings	Savings omitted by House	1
Veterans Benefit Additions	Spending added by House or Senate	30
Education	Spending added by Senate	224
Education for the Disabled	Spending added by Senate	70
Medicare Prescription Drug Coverage	Spending added by Senate	147
Agriculture	Spending added by Senate	59
Home Health	Spending added by Senate	14
Defense	Spending added by Senate	7
Other Health	Spending added by Senate	36
Environment	Spending added by Senate	7
TOTAL		613

Table 4 enumerates some of the actions and omissions in the House and Senate budget resolutions and show how far Republicans in the Congress are from the President, and how much pressure those additional costs put on the budget.

This table shows a long list of instances where the Republican-controlled Congress does not see eye-to-eye with the President. The table also shows that a substantial amount of the budget cuts that the President counted on to make room for his tax cut are not acceptable to Congress. The Senate chose to reduce the size of the tax cut by more than $400 billion, or almost one-fourth, to accommodate a part of these increases in spending, and so their actions did not detract dollar-for-dollar from the budget surplus. But that merely reinforces the point that the President's budget framework and his large tax cut are not acceptable at face value even to members of his own party, and when faced with an explicit choice, a Republican-controlled Senate voted to reduce the tax cut.

These actions by Congress include rejection of some of the President's proposed savings and additions of spending for prescription drug coverage under Medicare, education, and agriculture. Had the President's full budget been available, there probably would have been even more movement by the House and Senate. Outside Congress, with the arrival of the President's budget documents, there is a growing reaction against his spending cuts now that they are revealed in detail. Examples were suggested at the beginning of this overview; more will follow in the section on individual budget functions.

In a sense, important parts of the President's April budget were "dead before arrival." Democrats argued in February that the President's Blueprint did not have sufficient data on the spending cuts needed to accommodate the President's tax cut, but Republicans insisted on proceeding with the budget process without them. The outcome of the process has demonstrated our point. The President's spending reductions appear to be more than Congress will tolerate, and his spending initiatives, particularly for education and prescription drug coverage, are less than Congress deems needed. The amounts of the additional spending and reduced spending cuts are thus shown in Table 3 as further omitted costs.

Table 3 should not be taken to assert that the Congress will immediately and blindly overspend the budget surplus (though the 1981 experience should give us pause). However, table 3 does indicate that writing the oversized tax cut in stone first was the wrong way to proceed. More important national priorities, including fiscal responsibility, cannot coexist with a tax cut of this size. Even if the economic and budget projections prove accurate, sooner or later the Congress will reach a choice between breaking its hasty tax-cut promise and ignoring serious national needs.

Economic Risks

There are further risks in the President's budget. For example, the economy does not always perform on cue. And in recent years, non-economic estimating errors — so-called "technical re-estimates" — have been even larger than economic errors. Over the last eight years, budget projection errors have been large, but almost always in a favorable direction. During the preceding twelve years, projection errors were equally large relative to the budget, and almost always in an unfavorable direction. It seems only prudent to leave a margin of safety so that any economic misfortune in the future or any errors in projections will not leave the budget in an untenable position. Unfortunately, this is not the course the President chose to follow. His contingency or reserve fund is less than CBO's most minimal measure of estimating errors.

Estimating Uncertainty

The President is proposing highly significant changes in policy. It is always difficult to estimate how large policy changes will affect budget outcomes. This was true in 1981 when budget outcomes were far worse than the Reagan White House (or CBO) ever expected; and it was also true in 1993 when the economy and the budget responded to the deficit reduction far better than even its staunchest advocates had hoped. Budget estimation practices may be getting better, but uncertainty is still considerable. In recent weeks, non-partisan congressional tax staff have discovered that repeal of the estate tax would open doors to wholesale reduction of individual income tax liabilities within wealthy families. As a result, estimates of the revenue cost of the President's estate tax proposal have soared. Republicans on the Ways & Means Committee have had to postpone repeal outside the ten-year budget window entirely. (Repeal would take place in the tenth year, but given the time allowed to file estate tax returns, virtually no direct effect appears in the budget estimates.) Similar increases in the estimated costs of the President's proposed income tax cuts should likewise give pause to those who care about fiscal responsibility.

Effects Beyond the Ten-year Budget Window

The Bush tax cut is heavily back-loaded. As a result, the ten-year cost understates revenue consequences in later years. Although estimates of policy effects more than a decade off are far from precise, there must be concern that the effects of a large tax cut could cascade over time, and become apparent only after the tax cut is fully phased in and thus is hardest to adjust.

The Aging of the Baby Boom

The most alarming signal on our budget radar is the impending retirement of the baby boomers. The President's tax cuts would phase in fully just as the baby boomers phase out of the labor force. The first of the baby boomers, born in 1946, become eligible for reduced Social Security benefits, at age 62, in 2008. With the non-trust fund surplus in the President's budget at virtually zero through 2010, any adversities in the economy, any estimating errors, or any other budgetary problems would leave policymakers little margin for error and no time to maneuver.

Conclusion

The history of the budget over the past few decades is full of surprises and major misjudgments that have been hard to reverse and painful to correct. The future is full of demographic changes for which there is no history or experience to follow. Judgment and common sense call for caution and restraint. Instead, the President presents us a budget that leaves little margin for error and nothing for our long-term liabilities.

The budget is at its strongest in a half century. On its current track, the nation can retire all of the debt held by the public for the first time since 1835, and add three trillion dollars to net national savings. Alternatively, we can replay the dramas of the Eighties and early Nineties, and risk a return of the days when the national debt grew faster than the national income. The choice would seem clear; but it was not to those who wrote the Bush budget.

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1 The budget baseline assumes that all budget surpluses reduce debt, hence debt service costs arise when surpluses are used for another purpose. Any proposal that would divert the surplus from reducing debt by either cutting taxes or increasing spending must therefore increase debt service costs relative to that baseline. Back to text