Federal fiscal programs Essay

THE fiscal year 1986 budget, submitted to Congress in early
February, would fundamentally alter the scope and scale of Federal
fiscal programs and significantly change the Federal Government’s
relationship with some parts of the economy, especially agriculture and
State and local governments. To help reduce the large and growing
deficit, the budget proposes a 1-year freeze in total outlays other than
for debt service. The freeze would not be applied across-the-board; it
would be achieved by a combination of selective freezes, terminations,
reductions, and management improvements in individual programs.
National defense outlays, while reduced from the estimate included in
the mid-session review of the 1985 budget, continue to increase, as do
outlays for Social Security benefits.

The budget proposes sbustantial reductions from current services
outlays–that is, outlays that would take place without policy changes.
The reductions are in medicare, in agricultural and other subsidies to
business and upper income groups, in numerous grants to State and local
governments, in Federal payroll costs, and in credit programs. A freeze
is proposed for automatic annual cost-of-living adjustments for some
entitlement program benefits other than Social Security, for
means-tested programs, and for programs for the disabled. A number of
immediate terminations, including local government revenue sharing and
additions to the strategic petroleum reserve, as well as phaseouts,
including crop insurance and grants for the construction of sewage
treatment plants, are proposed.

The budget also proposes to increase a variety of fees–such as
loan origination fees, customs fees, and navigation fees–paid by users
and beneficiaries of Federal services. The budget does not include any
proposal for tax reform and simplification, although the administration
plans to submit a proposal later. The minor tax changes that are
proposed increase receipts, on balance, in 1986 by only $0.2 billion.

National defense spending increases 12.6 percent in 1986; in real
terms, according to the administration, the increase is 8.3 percent.
This level of spending would push total spending for national defense
for the fiscal year 1982-86 period to $1.2 trillion, or about 27 percent
of total budget outlays for the period. The budget continues the
pattern of large increases for procurement–up 19.1 percent in 1986–and
smaller increases in operation and maintenance–up 6.7 percent–and in
compensation of millitary personnel–up 7.2 percent. Much of the
procurrement spending increase is for strategic nuclear programs: The
administration is requesting $6.2 billion for 48 B-1 bombers, $4.7
billion for a Trident submarine and missiles, and $4.0 billion for 48 MX
missiles. A large increase–22.3 percent–is proposed for research and
development, with emphasis on strategic weapons programs, including the
Star Wars program, the space-based defense against nuclear missiles.

Nondefense spending declines 2.4 percent in 1986; in real terms,
the decline is 6.1 percent. Excluding debt service and social security,
nondefense spending declines 12.1 percent, reflecting the
administration’s freeze program. The only major function to show
an increase is health, reflecting an increase in medicaid. The largest
proposed reductions are in agriculture and energy.

The administration proposes to include all currently off-budget
entities in the coverage of the unified budget; the budget estimates, in
total and by function, reflect this proposal. Among the off-budget
entities proposed for inclusion are the Federal Financing Bank (FFB),
the strategic petroleum reserve, and the Postal Service.

Economic assumptions

The economic assumptions underlying the fiscal year 1986 budget are
shown in table 1. In addition, monetary policy is assumed to avoid
excessive stimulus, while providing sufficent liquidity to sustain the
expansion. According to the Council of Economic Advisers, the economic
assumptions for 1986 reflect projected trends and should not be
interpreted as year-to-year forecasts.”

GNP in constant dollars is forecast to increase at a constant rate
of 4 percent through calendar years 1985 and 1986. From the fourth
quarter of 1984 to the fouth quarter of 1985, personal consumption
expenditures are excpected to increase 4.3 percent, about the same as in
1984. Residential investment–with housing starts of 1.7 million–is
expected to increase 1.7 percent, about one-half the 1984 increase.
Nonresidential investment is expected to increase 6.8 percent,
considerably below the 1984 increase but still faster than GNP. The
increase in Federal purchases over the four quarters of 1985 is 2.2
percent, down from 14.2 percent over the preceding four quarters, due to
assumed cuts in purchases in late 1985. State and local purchases are
expected to increase at a slower pace–2.7 percent–in 1985 than in

With moderate expansion of the money supply and continued real
growth in GNP, prices–as measured by the GNP deflator–are expected to
increase 4.3 percent over the four quarters of 1985. Employment is
expected to increase 2.3 million in 1985, compared with 3.5 million in
1984, leading to a decline in the unemployment rate to 7 percent by the
fourth quarter of 1985.

Unified budget

The unified budget deficit decreases from $222.2 billion in fiscal
year 1985 to $180.0 billion in fiscal year 1986 (table 2 and chart 1).
Of the $42.2 billion decline in the 1986 deficit, over one-half is the
result of two factors: $11.0 billion is the result of including
off-budget entities in the budget and $12.5 billion is the result of a
decline in new loans for low-rent public housing. The deficit of
off-budget entities declines to $1.5 billion in 1986 from $12.5 billion
in 1985. The FFB accounts for $10.3 billion of this decline; the
decline in its deficit is largely the result of a proposal to terminate
several lending programs. The decline in low-rent public housing loans
reflects a decline from an unusually large outlay–$14.3 billion–in
1985 by the Department of Housing and Urban Development to purchase
public and Indian housing loans for which the tax-exempt status has been
questioned because of a provision of the Deficit Reduction Act of 1984;
in 1986, these outlays amount to $1.8 billion. Excluding these two
factors, the deficit declines $18.8 billion.

Receipts increase $56.8 billion–or 7.7 percent–in 1986, to $793.7
billion. Receipts in 1985 are $736.9 billion, up 10.6 percent from
1984. Proposed legislation and administrative actions increase
receipts, on balance, $0.2 billion in 1986. The largest proposed
increases are $0.6 billion in taxes levied to finance the Hazardous
Substance Response Trust Fund (commonly referred to as Superfund), which
pays for the cleanup of hazardous waste sites, and $0.4 billion for a
speedup in the deposit of State and local government social security
payroll taxes. The largest reductions are $0.7 billion for a 3-year
extension of the research and experimental expenditures tax credit,
which is scheduled to expire December 31, 1985, and $0.4 billion for a
tuition tax credit of 50 percent of tuition expenses paid to private
elementary and secondary schools for qualified dependents.

Outlays increase $14.6 billion–or only 1.5 percent–in 1986, to
$973.7 billion. Outlays in 1985 are $959.1 billion, up $107.3 billion,
or 12.6 percent. The 1986 increase is the net result of $58.8 billion
in increases and $44.2 billion in decreases. Table 3 shows the change
in unified budget outlays by function; three functions–national
defense, social security and medicare, and net interest–account for 95
percent ofd the $58.8 billion of increases. The $44.2 billion of
decreases is largely the result of proposals to cut nondefense outlays
except Social Security benefits. (Net interest is indirectly reduced by
the effect of the other functional reductions on the increase in debt.)
Reductions in agriculture and in energy and an increase in undistributed offsetting receipts account for about 40 percent of the reductions. The
decline in housing assistance, a subfunction of income security, is the
result of the unusually large increase in 1985 discussed earlier.

Current services estimates

Current services estimates show what receipts and outlays would be
without policy changes. They are neither recommended amounts nor
forcasts, but rather are a base with which administration or
congressional proposals can be compared. The level of outlays generally
is that needed to maintain ongoing Federal programs and activities at
fiscal year 1985 levels in real terms. The major exception is for
national defense; the current services reflects enacted 1985
appropriations and administration policy in the 1985 mid-session review.

Unified budget receipts in 1986 are $0.6 billion lower than current
services receipts, reflecting proposed tax reductions of $1.6 billion
and tax increases of $1.0 billion (table 4). The largest proposed tax
reduction is the extension of the research and experimental expenditures
tax credit and the largest tax increase is the speed-up of the State and
local government deposit of Social Security taxes. Receipts are also
reduced by a proposed 5-percent reduction in Federal employee pay,
effective January 1, 1986; the pay reduction lowers contributions for
retirement and for life insurance.

Unified budget outlays are $50.8 billion lower than current
services outlays; proposed program reductions ($51.5 billion) exceed
proposed increases ($0.7 billion). Current services outlays for
national defense are reduced $8.9 billion, or 3.0 percent. Outlays for
nondefense programs are reduced $42.6 billion, or 5.8 percent. Farm
income stabilization programs are reduced $5.3 billion, and include a
proposal to set Commodity Credit Corporation (CCC) price support loan
rates and subsidy target prices in alignment with market prices.
Medicare outlays are reduced $4.1 billion, mainly by proposals to freeze
payments to hospitals under the prospective payment system at 1985
levels and to extend the existing freeze on payments to physicians until
October 1986. The termination of local government revenue sharing in
1986, 1 year before the current authorization expires, reduces outlays
$3.8 billion. The termination of further additions to the strategic
petroleum reserve, a part of the reduction in the energy function,
reduces outlays $1.5 billion.

According to the budget, current services outlays for discretionary
programs are 20 percent of budget outlays in 1986, and current services
outlays for entitlements and other mandatory programs are 43 percent.
The former–such as housing, mass transit, and pay raises–are reduced a
net $21.2 billion, and the latter–such as medicare, medicaid, and farm
price supports–are reduced $13.9 billion. The remaining
reductions–$12.0 billion–are in national defense ($8.9 billion) and in
net interest ($3.1 billion). Undistributed offsetting receipts, which
are offset against total outlays, are higher by $3.6 billion. The
impending sale of the Conrail system accounts for $1.2 billion of the
increase and proposed user fees are processing fees on passengers and
commercial carriers entering the United States by land or sea ($0.5
billion) and fees for dreding harbors and inland waterways ($0.6

Federal sector

BEA has prepared estimates of the Federal sector on the national
income and product accounting (NIPA) basis consistent with the unified
budget estimates (table 2).

Estimates of the Federal sector are integrated conceptually and
statistically with the rest of the NIPA’s and differ in several
respects from the unified budget. Unlike the unified budget, they
exclude financial transactions, such as loans, and record several
categories of receipts and expenditures on a timing basis that is
different from the budget. (For a more detailed discussion of the
differences, see the February 1980 SURVE OF CURRENT BUSINESS.) Table 5
shows the relation between unified budget and NIPA receipts and table 6
shows the relation between unified budget outlays and NIPA expenditures.
The proposed inclusion of off-budget entities in the unified budget
eliminates a reconciliation item between the unified budget and the
Federal sector of the NIPA’s; these entities always have been
included in the Federal sector.

Federal receipts on the NIPA basis in fiscal year 1986 are $826.6
billion, up $68.1 billion from 1985 (chart 2). The increase is the net
result of an $81.4 billion increase due to higher tax bases and a $13.3
billion decrease due to tax changes (table 7). Enacted tax changes
reduce receipts $16.0 billion in 1986 and proposed legislation increases
taxes $2.7 billion Proposed legislation increases indirect business tax
and nontax accruals $3.8 billion and reduces other receipt categories
$1.1 billion. The major proposals increasing indirect business taxes
are to put in place a variety of user fees and to use funds recovered by
the Federal Government from pricing and allocation violations under the
Emergency Petroleum Allocation Act of 1973 to finance various energy
programs. (In the unified budget, the recovered funds are recorded as
proprietary receipts and are offset against outlays.)

Federal expenditures on the NIPA basis in 1986 are $992.7 billion,
up $44.2 billion from 1985; this increase is about one-half the increase
in 1985 (chart3 and chart 4). Table 8 highlights the major factors that
contribute to recent changes in Federal expenditures. The largest
increase in 1986-$16.3 billion–is in “other” national defense
purchases; combined with the increases in purchases of military hardware
and paychanges, national defense purchases increase $30.2 billion,
accounting for about 70 percent of the total increase. Net interest
paid increases $13.2 billion and Social Security benefits increase $11.1
billion, including $7.5 billion for cost-of-living adjustments. Partly
offsetting these increases are declines in agriculture subsidies, in
revenue sharing, and in “other” nondefense purchases. The
5-percent civilian pay reduction results in a $0.9 billion decline in

Table 9 shows the relation between national defense outlays in the
unified budget and national defense purchases on the NIPA basis. In
1986, outlays, which are measured on a checks-issued basis, increase
slightly more than purchases, which are recorded largely on a delivery
basis. This larger increase in outlays reflects the steep increase in
procurement of military hardware, for which checks are issued prior to

Quarterly pattern.–Table 10 shows the major factors that affect
the quarterly pattern of receipts and expenditures through fiscal year
1986. The Federal deficit declines steadily after the fourth quarter of
1984, with one interruption in the first quarter of 1986, when the
second round of indexation under the Economic Recovery Tax Act (the
first round was in the first quarter of 1985) holds down the increase in
personal taxes. Receipts reflect the pattern of enacted and proposed
tax changes and the administration’s projected quarterly pattern of
wages and profits. Expenditures reflect the pattern of proposed
legislation and selected other items, such as a cost-of-living increases
in retirement benefits.

Cyclically adjusted deficit.–Measures of the cyclically adjusted
budget are estimates of what the budget would be if the economy were
moving along a trend GNP path–a path free from cyclical fluctuations–rather than along its actual path. Consequently, cyclical
fluctuations in the economy do not affect cyclically adjusted budgets.
Two measures of the cyclically adjusted budget, one based on a
“middle expansion” trend GNP and one based on a 6-percent
unemployment rate trend GNP, are shown in table 11. (See the December
1983 SURVEY for a discussion of these trend measures of GNP and
BEA’s methodology for calculating cyclincally adjusted budgets.)

As measured using cyclical adjustments based on middle-expansion
trend GNP, the Federal sector of the NIPA’s was in deficit in
calendar year 1983. The deficit widened in 1984 and will widen further
in 1985 (table 11). On a quarterly basis, the deficit declined in the
first half of 1983, but then increased in the second half, when the
final withholding rate cut under the Economic Recovery Tax Act of 1981
became effective. The deficit increases further throughout 1984 before
declining in most quarters of 1985 and 1986.

The cyclically adjusted budget based on middle-expansion trend GNP
discussed above is associated with a middle-expansion trend unemployment
rate that is 7.4 percent in 1983, falls to 7.3 percent by mid-1984, then
remains at that rate through mid-1986. Table 11 also shows a measure of
the cyclically adjusted budget based on a constant 6-percent
unemployment rate. On this basis, the cyclically adjusted deficit is
lower, but follows the same quarterly pattern.

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