CRS Report Examines Fiscal 2004 Budget

[1] The President's fiscal year (FY) 2004 budget includes a deficit of $307 billion (an estimated 2.7% of gross domestic product -- GDP). Under the President's proposals and estimates, the deficit shrinks through FY2008 -- the last year of the Administration's estimates -- when it will reach $190 billion (1.4% of GDP). The proposals call for speeding up and making permanent many of the tax cuts enacted over the last two years, along with tax changes for economic stimulus, tax incentives, and expiring tax provisions. The tax proposals would reduce taxes an estimated $493 billion between FY2004 and FY2008 and by $1,461 billion between FY2004 and FY2013. The President would increase spending in some areas (health) and reduce it in others (natural resources and environment). Overall, the proposals reduce outlays -- when measured against the baseline estimates -- by $40 billion in FY2004 and by $529 billion over the five years. Even with these changes from baseline levels, both total receipts and total outlays would be larger in FY2004 than they are estimated to be in FY2003, and larger in FY2008 than in FY2004.

[2] The Congressional Budget Office (CBO) released the first of its annual budget reports in late January. The baseline estimates from CBO run through FY2013. CBO's baseline estimates are similar in construction to those produced by the Office of Management and Budget (OMB) for the President. CBO's January baseline has a $145 billion deficit in FY2004 (down from $199 billion in FY2003), that becomes a small surplus of $65 billion in FY2008. Because the CBO baseline estimates are constrained by current policy, they incorporate the scheduled expiration of the 2001 tax cuts at the end of calendar year 2010. This produces a rapid increase in receipts between FY2011 and FY2013, producing substantial surpluses in these years. Under CBO baseline estimates -- which CBO points out contain policy assumptions [that] may not hold -- the surplus would reach $508 billion in FY2013.

[3] In early March, CBO released its interim report analyzing the President's policies. The report also included an update to CBO's January baseline that pushed the deficit for FY2004 to $200 billion from $145 billion. The revisions move the return to a surplus from FY2007 to FY2008 and reduce the cumulative FY2004-FY2013 surplus from $1,336 billion (January) to $891 billion (March). CBO's estimates of the President's budget, a recasting of the policies using CBO assumptions and budget estimating methods, raise the expected deficit for FY2004 to $338 billion from the OMB estimated $307 billion.

[4] Both the House and Senate Budget Committees cleared their respective budget resolutions for FY2004 on March 13. The House Budget Committee's resolution includes instructions for tax reductions effectively implementing the President's economic growth revenue proposals and imposing, with few exceptions, an across the board 1% reduction in entitlement spending. The Senate Budget Committee's resolution incorporates the President's economic growth revenue proposals, but does not require mandatory spending reductions. Both provide room for a prescription drug benefit by different means. They also establish reserve funds for a variety of purposes. This report will be updated as events warrant.

Contents

 Background and Analysis

 Table 1. Budget Estimates for FY2003 and FY2004

[6] The Administration's annual budget submission is followed by congressional action on the budget. This usually includes the annual budget resolution, appropriations, and, possibly, a reconciliation bill or bills. During the months of deliberation on budget legislation, the Administration often revises its original proposals because of interactions with Congress and changing circumstances in the economy and the world.

[8] The terrorist attacks on the United States on September 11, 2001, the 2001 recession and the continuing economic uncertainty, changes from expected or proposed policies, and changes in the technical components of the underlying budget-economic relationships, all contributed to the large deterioration in the budget outlook over the last two years.

        Table 1. Budget Estimates for FY2003 and FY2004

[9] CBO's first budget report for FY2004, the Budget and Economic Outlook (January 2003), contains baseline estimates and projections for FY2003 through FY2013.¹ CBO's report shows the budget in deficit through FY2006, with a $145 billion deficit in FY2004 and a $16 billion deficit in FY2006. The baseline projections show small surpluses beginning in FY2007 and growing rapidly in FY2011 through FY2013 as revenues grow quickly with the scheduled expiration of the 2001 tax reductions from the Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA; P.L. 107-16, June 2001).

[10] President Bush's FY2004 budget calls for additional tax cuts and both increased and decreased spending (as measured against baseline estimates) depending on the activity. The policy changes would increase the FY2004 deficit from OMB's baseline of $158 billion to $307 billion. OMB's current service baseline estimates move into a small ($5 billion) surplus in FY2006 while the President's proposals produce a deficit of $201 billion in that year and would keep the budget in deficit at least through FY2008, the last year of the Administration's estimates.²

[11] Excluded from the Administration's budget are any estimates for the cost of a possible military conflict with Iraq. Nor did it indicate the cost of the likely increases to homeland security and defense spending.

[12] The Administration argues that the tax cuts are needed to boost the lagging economy and that the acceleration of economic growth resulting from the tax cuts will lead to the recovery of much of the lost revenue over future years. The President's Council of Economic Advisors, in its annual report stated,

[14] CBO's early March interim report, An Analysis of the President's Budgetary Proposals for Fiscal Year 2004 revised the CBO baseline and estimated the Administration's FY2004 budget proposal using CBO's assumptions and budget estimating techniques. CBO increased its baseline deficits by $47 billion in FY2003 and by $55 billion in FY2004. CBO attributed $22 billion of the $55 billion increase in the deficit in FY2004 to legislative changes since January (almost all from the Consolidated Appropriations Resolution, 2003 (CAR2003; P.L 108-7) adopted in late February, with the remaining $33 billion attributed to technical changes. Over the 10- year period covered by CBO, it states in the report that,

[16] CBO's estimates of the President's policies are similar to the President's budget, with little cumulative difference in the amounts generated. CBO estimated a cumulative deficit of $1.2 trillion under the President's policies while the Administration estimated $1.1 trillion.⁵ When CBO's estimates of the Administration's policies are compared to the (revised) CBO baseline, the President's policies would increase deficits or eliminate surpluses in the 10-year period covered. CBO estimates that about two-thirds of the increase in the deficits in its estimates of the President's proposal, excluding higher net interest, results from reduced revenues (including the effect of the tax cuts in the President's budget).

[17] The House and Senate Budget Committees both cleared (on party-line votes) 10-year budget resolutions on March 13, 2003. Both resolutions follow the lead of the Administration, although each achieve the goals by different means. The resolutions must be approved by each Chamber and the differences (if they remain) worked out in a conference committee.

Uncertainty in Budget Projections

[18] All budget estimates and projections are inherently uncertain. Their dependence on assumptions that are themselves subject to substantial variation over relatively short time periods makes budget estimates and projections susceptible to fairly rapid and dramatic changes. The last couple of years have demonstrated this volatility. The original proposals and estimates for FY2002, made in early 2001, changed drastically over the 20 to 21 months of congressional and presidential action on the budget. (The budget estimates for five to 10 years in the future that are included in the OMB and CBO budget documents are subject to even greater variability.) The early 2001 estimates for FY2002 estimated a surplus of $231 billion to $313 billion. The year ended (September 30, 2002) with a deficit of $158 billion. The September 2001 terrorist attacks on the United States, the legislation adopted in response, the bursting of the stock market bubble, the weak economy, and a shift in critical underlying budget relationships, all contributed to a large change in the year's budget outcome from the originally proposed or estimated amounts.

[19] Information in chapter 5 (The Uncertainties of Budget Projections) of CBO's budget report, The Budget and Economic Outlook: Fiscal Years 2004-2013 (January 2003), indicates how significantly the budget outcome can be altered by changes in economic and related technical factors that underpin the budget estimates. The chapter contains optimistic and pessimistic alternative scenarios for its baseline projection (meaning no changes from current policies). The optimistic scenario assumes that the favorable economic and budget conditions of the late 1990s and 2000 recur. The pessimistic scenario assumes that the economy and the budget revert to the unfavorable conditions that prevailed in the 1970s and most of the 1980s.

[20] The numbers in Table 2 are calculated from data in the January 2003 CBO budget report. The results reflect the wide range of possible budget outcomes. The spread results from varying reasonable assumptions about future economic conditions and technical components that underlie the budget estimates.

[21] The President's budget includes, in the section, "Charting a Course for the Federal Budget," the statement that ". . . five- year projections are fraught with uncertainty. The . . . error in projecting the surplus or deficit since 1982 . . . has been a $90 billion average absolute forecasting error for the first year alone. A 90-percent confidence range for 2008 would stretch all the way from a $281 billion surplus to a $661 billion deficit, a range of nearly $1 trillion."⁶ The broadness expands as one moves further into the future.

               Table 2. CB0's Alternative Scenarios,

[24] The Joint Committee on Taxation (JCT) put out its estimates of the President's revenue provisions on March 4, 2003, followed on March 7 by CBO's interim report, An Analysis of the President's Budgetary Proposals for FY2004, which used the JCT estimates in its analysis.

[25] The House and Senate Budget Committees adopted their own, differing, versions of the FY2004 budget resolution on March 13. The House and Senate are expected to begin considering the resolutions the week of March 17, 2003.

[27] The CBO baseline (created in a manner similar to that of the Administration's current services baseline estimates, but with differences in a number of underlying assumptions) has FY2004 outlays of $2,298 billion, FY2008 outlays of $2,583 billion, and, because CBO's estimates extend through FY2013, FY2013 outlays of $3,167 billion. The outlay numbers from the Administration's FY2004 Budget and CBO's Budget and Economic Outlook are shown in Table 3.

[28] The revisions in CBO's March report raised FY2004 outlays by $25 billion, to $2,224 billion (mostly because of the adoption of the Consolidated Appropriations Resolution, 2003 (P.L. 108-7) in February. Every year's outlays are larger in the March baseline than in the February baseline.

          Table 3. Outlays for FY2003-2008 and FY2013

[30] Total outlays are projected to grow at an average annual rate of 5.0% between FY2004 and FY2008 in the Administration's proposals. When the components of the budget are examined, the budget functions show that the health budget function increases at an annual average rate of 7.9%, the Medicare function increases at an annual average rate of 7.8%, and net interest increases at an annual average rate of 9.6%.⁷,⁸ These three functions account for over 53% of the total outlay increase during this period. None of the other fifteen budget functions has a compound rate of growth as large as that of total outlays.⁹ The relatively low growth in some budget functions (agriculture 0.8%, education, training, employment, and social services 1.2%, general government 1.2%, and natural resources and environment 1.5%), growth that is lower than the expected rate of inflation, will reduce these functions' spending in real terms.

[31] CBO's March reestimates of the President's budget policy raise outlays in FY2004 by $16 billion (to $2,245 billion). Subsequent years show outlays $20 billion to $30 billion higher in the CBO reestimates than in the President's budget.

            Table 4. Receipts for FY2002-2008 and FY2013

  Table 5. Surpluses/Deficits(-) for FY2004-FY2008 and FY2013

[36] The budget resolution from the House Budget Committee moves the budget into surplus in FY2008 and the Senate Budget Committee's budget resolution moves it there in FY2013.

[37] Over a longer period, one running far into the century, the Administration indicates that it expects, under existing policies and assumptions, large and continually growing deficits. The retirement of the baby-boom generation, beginning in large numbers in the next decade, will rapidly drive up spending on Social Security, Medicare, and other programs for the elderly, increasing the deficit (or reducing the surplus, if there is one) and putting a severe strain on both the budget and the economy.

[39] The positive budget outlook produced in early 2001 had been buoyed by the favorable economic conditions that were then expected. These would have continued the overall improvement in the budget situation since the early 1990s. Much of the improvement had come from strong and sustained economic growth. When those favorable economic conditions faltered, so did a portion of the good budget outcomes of the previous few years. What good economic conditions give, bad economic conditions can take away. The unexpectedly lengthy economic sluggishness, the start of a recession in March 2001, the current continuing uncertainty over the economic outlook, the lengthy fall in the stock market, the policy responses to the September 2001 terrorist attacks, along with negative changes in the technical components of the budget estimates, raised outlays, reduced receipts, and eliminated the previously expected surpluses.

[40] The FY2004 presidential budget documents and CBO's budget report include discussions of the expected economic outlook and the budget's sensitivity to changes in selected economic variables. Both reports include a table showing the budget's sensitivity to changes in selected economic variables (this year, it is found in chapter 2 of the Analytical Perspectives volume of the President's budget and in chapter 5 of CBO's report). The effects of the variables are generally symmetrical. A higher rate of real economic growth (than assumed in the budget proposal) has approximately the same effect on the budget as same-sized lower rate of economic growth has, but in the opposite direction. If a 1% lower rate of economic growth reduces the surplus (or increases the deficit) by $30 billion in FY2004 (from the OMB table, Table 2-6, p. 32, The Budget of the United States Government, Fiscal Year 2004, Analytical Perspectives), a 1% higher than expected rate of economic growth would reduce the deficit (or increase the surplus) by approximately $30 billion. Changes in other variables generally have a smaller effect on the budgetary balance than changes in real GDP. Sustained changes in the underlying economic variables tend to produce larger changes in the budget numbers than the effect of one or two year change.

²Long-run projections of budget policy existing in FY2003 that are found in the budget (p. 41) indicate that, without substantial policy changes, the budget remains in deficit through much of this century.

³Council of Economic Advisers, Economic Report of the President. Feb. 2003. pp. 57-58

⁴Congressional Budget Office, An Analysis of the President's Budgetary Proposals for FY2004, March 2003, p. 3.

⁵Ibid., p. 1.

⁶Office of Management and Budget. Budget of the U.S. Government for FY2004, Feb. 3, 2003, p. 28.

⁷Budget functions group, "budget data according to the major purpose served" rather than by agency or program. OMB, Budget of the U.S. Government for FY2004, Analytical Perspectives, p. 463.

⁸The Energy budget function has an even higher rate of increase, growing by an annual average rate of 18.3%, but since it only makes up 0.04% of total outlays in FY2004 and 0.07% of outlays in 2008, it therefore has little effect on the overall change in outlays.

⁹The two budget functions, "allowances", and "undistributed offsetting receipts", were excluded from the total number of functions.

¹⁰These estimate are from the Treasury's General Explanations of the Administration's Fiscal Year 2004 Revenue Proposals. The President's budget shows a $441 billion revenue reduction (from baseline estimates) for the FY2004-FY2008 period and a $1,307 billion reduction for the FY2004-FY2013 period. The Treasury's estimates were produced after the release of the President's budget and reflect adjustments to these estimates. See also the CRS Report RS21420, President Bush's 2003 Tax Cut Proposal: A Brief Overview, and the CRS Issue Brief IB10110, Major Tax Issues in the 108th Congress for more information on the proposals.