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previous discussion of various ideas for reform demonstrates, both sides of

these issues bear strong argument. One of your most difficult tasks will be to

evaluate these pro and con arguments in order to determine whether a given

reform would represent a net gain or a net cost.

CONGRESSIONAL BUDGET OFFICE

U.S. Congress
Washington, DC 20515

Robert D. Reischauer

Director

March 30, 1993

Honorable Lee Hamilton
Co-Chairman
Joint Committee on the Organization

of Congress
U.S. House of Representatives
Washington, D.C. 20515

Dear Mr. Chairman:

Thank you for your letter of March 9, requesting a response to a question concerning the concept of GNP budgeting.

As you suggest in your letter and the attached newsletter, some economists have argued that the federal budget process is overly concerned about the categorization of revenues and spending to the exclusion of concern of the total effect of federal budget policy and private decisions on the economy. To these observers, the important issue of federal budgeting concerns the impact of policies on the allocation of all resources (public and private), as measured by the gross national product (or the gross domestic product). They have advanced proposals to include information on the effect of proposed policies on the economy as a whole. Typically, they recognize that "GNP budgeting cannot replace the revenue and spending budget, but they argue that information about how policies affect the economy is currently downplayed in deference to a discussion of how much a given policy "costs" the federal government.

This proposed change is, I think, a useful way to think about the budget. In fact, the CBO has for many years published data not only on taxes and spending, but on how the budget relates to the overall economy. GNP budgeting would go a step further by more explicitly focusing on the federal government's effect on particular sectors of the economy. These might include, as Herbert Stein suggests, components of the economy such as education, consumption, private investment, public investment, defense, and health care. I agree with the conclusion of those who advocate this change that current deliberations on the federal budget should be much less about the level of federal taxes or federal spending for their own sake, and much more about the effect of federal policies on the economy.

Honorable Lee Hamilton
Page Two

Let me add a final point in favor of this change. As you recall, one of the primary motivations for the adoption of the Budget Act in 1974, and the requirement for budget resolutions and the creation of the Budget Committees, was that the Congress should have the opportunity to debate national priorities and then set some comprehensive outline for the nation's fiscal policy. Recently, however, the budget resolution and Budget Committees have been forced to concentrate much more on reducing annual deficits and enforcing deficit reduction than on evaluating the consequences of alternative fiscal policies. GNP budgeting might have the added benefit of shifting the budget debate back toward considering the nation's long term goals and the policies needed to attain them. This means that GNP budgeting is completely consistent with the goals of the 1974 Act, and with the ability of the Congress to focus comprehensively on the budget, which I think is a capacity that (as I suggested in my statement to the Committee) should be maintained and strengthened.

Two caveats are in order. First, since even the proponents of this change do not argue for changing budgetary accounting, but for increasing the amount of information provided to policymakers, the effect of this change on the explicit legislative behavior of policymakers might be quite limited. This limited role of GNP budgeting might suggest to some that explicit GNP and sectoral effects of any budgetary change be calculated, displayed and voted on. But this raises a second concern. If this concept were to be applied at the level of individual policies, it might be quite difficult for the federal government to develop a capacity to measure the effects and to add them up in a consistent manner.

In sum, GNP budgeting is a solid contribution as a way to sort out and think about fiscal policy choices. A separate budget process would still be needed to effectuate policy.

Thank you for your interest in my views on this issue. I would be happy to provide you with any additional information that you require.

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CONGRESSIONAL BUDGET OFFICE

U.S. Congress
Washington, DC 20515

Robert D. Reischauer

Director
March 30, 1993

Honorable Lee Hamilton
Co-Chairman
Joint Committee on the Organization

of Congress
U.S. House of Representatives
Washington, D.C. 20515

Dear Mr. Chairman:

Thank you for your letter of March 19, requesting responses to questions from Vice-Chairman Dreier and Congressman Emerson. My responses to these questions are attached.

Please do not hesitate to contact me if I may be of any further assistance.

Sincetek

Robert D. Reischauer

Attachment

Honorable David L. Boren, Co-Chairman
Honorable Pete V. Domenici, Vice-Chairman
Honorable David Dreier, Vice-Chairman

Question from Congressman Emerson

Question: Dr. Reischauer, in your statement you emphasized that the budget process must be fair. As I understand your statement, you defined fairness as treating participants equitably. Later on, you infer that the inability to assign responsibility within the system, particularly under Gramm-Rudman-Hollings, for excess spending does not meet a standard of fairness. Could you expand on the elements you believe are necessary in order to create a "fair" budget process?

Answer: When I talk about fairness, I am mainly referring to the fact that participants in the process must not believe that rules and sanctions are applied in an arbitrary fashion, or the process will lose legitimacy. As I suggested in my statement, one of the problems with Gramm-Rudman-Hollings was that the sanctions (that is, the sequestration of spending) did not lie against those Members of Congress whose actions resulted in the failure to achieve deficit targets. This lessened the incentives for many participants to support policy actions to reduce the deficit, because many programs were exempt from sequestration and because sequestration only was affected on the spending side of the budget. Those who supported spending on exempted programs, or who opposed all tax increases, had incentives not to participate in the deficit reduction effort. This was viewed as unfair by those who supported programs that bore the brunt of sequestration. The Budget Enforcement Act (BEA) addressed this situation by creating

two

separate sequestrations--one for discretionary spending and one for mandatory spending.

Further, Gramm-Rudman-Hollings, with its emphasis on fixed deficit targets, was not viewed as fair because it required actions to be taken in response to circumstances that were beyond the control of participants, such as the performance of the economy. The BEA, by eliminating fixed deficit targets, put in place a fairer process by holding participants accountable for those things that are under their control.

I believe that these two related attributes--the ability to identify those who are responsible for actions and holding participants accountable only for those actions that are under their direct control--is crucial to the success of any budget process.

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