$2,800 for the current minimum standard deduction and percentage standard deduction. Businesses would be given the option of either an income tax credit against 4 percent of their payroll taxes or a 2percentage-point increase in their investment credit.

The stimulus program would increase the number of public service jobs from the current level of 310,000 jobs to 600,000 jobs in 1977 and 725,000 in 1978. This action would add outlays of $0.7 billion in 1977 and $3.4 billion in 1978 above current program levels.

Coupled with this increase in public service jobs, the President proposes a major expansion in other training and youth programs under CETA. This proposal is expected to add $0.3 billion to 1977 outlays and $1.6 billion in 1978.

The administration proposes the extension and expansion of countercyclical assistance to States and localities through 1978. About $1 billion is required above the previous administration's request for 1978 merely to keep the program at the 1977 level. The stimulus proposal includes an additional $0.5 billion in outlays for 1977 and $0.6 billion for 1978.

The proposed increase for the local public works program of the Economic Development Administration in the Department of Commerce would call for an additional $2 billion in budget authority for both 1977 and 1978. Of course, public works programs-even if they are already planned by State and local governments are somewhat slower in their effect on spending than direct cash payments or tax rebates. Reflecting this, outlays are expected to be increased by $0.2 billion in 1977 and $2 billion in 1978. For the current year, there are more than enough applications on hand to use up the proposed budget authority. No new applications would be needed or requested. We believe this is ample evidence that the local public works program will have a positive effect on the economy much more rapidly than is usually the case with public works.

The following table shows that, in total, these proposals will reduce taxes or increase outlays by $15.5 billion in 1977 and $15.7 billion in 1978:

BUDGET EFFECT OF THE ECONOMIC STIMULUS PROPOSAL

1 Based on current budget procedures, this amount would be reflected in increased outlays rather than reduced receipts. 2 This figure represents the amount necessary to move above the current program level of 310,000 jobs. Because the Ford budget assumed a reduction in this program in 1978, $1,100,000,000 will be required above the Ford budget request to restore the program to current levels.

While this economic recovery package will increase the deficit in the short run, as the President has often said, the only realistic path to eliminating budget deficits is improving the health of the economy.

In short, economic recovery now will hasten the day when we can achieve a balanced budget.

Since this committee acts on appropriations, it is particularly useful to summarize the components of the economic recovery package in those terms, as well as outlays. For fiscal year 1977, supplemental appropriations of about $6.7 billion would be necessary. For fiscal year 1978, appropriation of about $7.3 billion above current program levels is proposed. A table, showing a breakdown of these totals, is attached to this statement.

Let me say a few words about how this economic recovery program relates to the longer-term budget strategy of the Carter administration. Budgeting is a matter of establishing relative priorities, and we all know that everything cannot be done at once. The President stated repeatedly during his campaign that his first priority was to get the economy moving again in a noninflationary way. This program, by helping to meet that priority, will also hasten the day when we can consider and when we can afford major reforms in Federal programs such as health care and welfare.

Some people are concerned that this additional stimulus will be inflationary. There is little evidence to justify that concern. For one thing, our economy is not pressing against its capacity. Throughout calendar year 1976, the Commerce Department reported manufacturing capacity utilization at 80 percent or slightly more, and the unemployment rate at the end of the year was 7.8 percent. Moreover, there are no imminent shortages of key commodities, although we will need to carefully monitor possible shortages in the future that could result from the current wave of severe cold. The factors that produced double-digit inflation during 1974 commodity shortages, the oil price increase by the OPEC nations, the delayed effects of an overvalued dollar, and simultaneous economic booms in the major industrialized countries are not threats in the near future. This stimulus package will put people back to work by increasing purchasing power to a modest degree, by reducing business taxes, by creating specific jobs through public works and temporary employment assistance, by training our youths, and by increasing the financial health of States and localities. Its relatively short duration and the fact that the economy is working far from its potential, means that the threat of inflation is minimal.

That completes my prepared remarks. I would be happy to answer your questions together with my colleagues.

APPROPRIATIONS FOR SPENDING PROGRAMS IN THE ECONOMIC STIMULUS PROGRAM

Note: The appropriation amounts represent increases over the current program level. The revenue sharing, public service employment, and CETA amounts show adjustments in the January budget needed to maintain the current program level.

I am very privileged to have the opportunity to appear before the committee here today.

Mr. MAHON. Thank you, Mr. Director.

Our next witness will be the Chairman of the President's Economic Advisers.

Mr. SCHULTZE. I wonder if the Government can really manage the economy effectively, and I wonder if what we mean by managing the economy amounts only to cutting taxes and spending more money. Is that the way to manage the economy? Apparently that is the way we have tried in the past. How well it has worked, I am not so sure, but I don't want to divert your attention from your statement.

STATEMENT OF CHAIRMAN OF COUNCIL OF ECONOMIC ADVISERS

Mr. SCHULTZE. Thank you, Mr. Chairman.

I have a statement which I would like to submit for the record but it is far too long to read to you. I will simply excerpt brief parts of it. [The full statement follows:]

PREPARED TESTIMONY BY CHARLES L. SCHULTZE, CHAIRMAN, COUNCIL OF

ECONOMIC ADVISERS

Mr. Chairman and members of the committee, I welcome the invitation to appear before you. I would like to concentrate on the economic reasons why the President is proposing a program of fiscal stimulus and the economic strategy behind the particular combination of measures he is asking Congress to approve.

ECONOMIC BACKGROUND

The recovery from the worst recession of the past 40 years has, to date, been disappointing. And, without vigorous action, it shows signs of continuing disappointment.

Look, for a moment, at the record of the economy since the recovery began: By December 1976, almost 2 years into recovery, the unemployment rate had fallen from a peak of 9 percent to only 7.8 percent-there were still 7.5 million Americans out of work.

Consumers' incomes, adjusted for inflation, have risen at a dishearteningly slow rate.

Total industrial production has barely recovered its previous peak in the summer of 1974. The production of durable goods, in fact, is still below its previous high and has yet to show the vigorous cyclical rise we normally associate with the recovery from a deep recession.

The retarded recovery of durable goods manufacturing has caused special hardship to regions of our country where economic prosperity hangs heavily on durable goods production. Those regions have fallen behind the growth of income and employment that other sections of the nation have enjoyed. For example, during the year that ended in September 1976, total payroll employment in the Northeastern United States rose only one-half of 1 percent, compared with an almost 3 percent increase for the nation as a whole.

In large measure the weakness of durable goods output since the spring of 1975 reflects a shortfall of business spending for new plant and equipment. During earlier postwar business cycles, business fixed capital outlays-in real termsusually surpassed their previous peak during the first year of recovery. But in the last quarter of 1976-with the current recovery nearly 2 years old-real business fixed investment was still 12 percent below its previous high at the beginning of 1974.

So far, this economic recovery has gone through three phases. Initially, from the first quarter of 1975 through the first quarter of 1976, the recovery proceeded briskly, spurred by the tax cut which Congress enacted in 1975 and by the sharp turnaround of business inventory investment from deep liquidation to substantial accumulation. During that first year, the gross national product rose by 7.3 percent, unemployment fell from 9.0 to 7.3 percent, and the strength of recovery exceeded most expectations.

But then, from early 1976 until about October, the rate of growth of economic activity fell steadily. Unemployment began to rise again. By early winter, fears were expressed that the recovery was running out of steam completely.

Since October, however, most of the statistics indicate that the recovery is proceeding once again. But they also point to a pace of growth during 1977 that will be unsatisfactory, and would bring forth only a very modest reduction in unemployment in the year ahead.

Forecasts of economic activity in 1977, both those which we have made ourselves and those of most other economic observers, point to real GNP growth during 1977 in the range of 32 to 5 percent, in the absence of Federal actions to provide economic stimulus. Most of the forecasts are clustered in the 41⁄2 to 44 percent range. This is not enough. With the labor force growing very rapidly now, and with productivity also moving up, a rise of income of from 42 to 4 percent in real GNP this year would probably leave the unemployment rate about unchanged-or at best, down only a little from its present high level.

The basic problem is that the current recovery has not yet proceeded far enough or rapidly enough to set off a self-sustaining economic expansion. Consumers are already spending a very high fraction of their income; the highest fraction since 1972. Only as consumer income grows will consumption expand further. We cannot count on consumers as an independent force to speed up the recovery in the year ahead.

Similarly, while inventory accumulation by business firms will continue this year, we cannot count on it to be the major factor keeping the expansion going during the year ahead. Indeed, under current circumstances a sharply accelerated accumulation of inventories by businessmen would be unhealthy. We must look to other areas, and particularly to spending by business firms for plant and equipment investment.

As I noted earlier, the expansion of investment spending has been much less vigorous than in other recoveries. And it continues to be sluggish. In fact, indicators of business capital outlays-such as contracts and orders for plant and equipment-rose less in the latter half of 1976 than they had in the first 6 months, and surveys of anticipated expenditures by the Commerce Department indicate only a weak advance of those outlays during the first half of 1977. Our major reason for this continued sluggishness is clear-sales, income and use of productive capacity have not recovered enough to give businessmen strong incentives to expand their capacity for the future. The table below tells the basic story.

TABLE 1.-MAJOR ECONOMIC INDICATORS, 7 QUARTERS AFTER TROUGH OF RECESSION COMPARED WITH PRIOR PEAK

At this point in other postwar recoveries, real output and real consumer income had expanded well beyond the high point reached before the recession began. The rebound this time has been much weaker. In the final quarter of 1976, real GNP was only 3.1 percent above its prior peak in 1973, compared to an average of almost 8 percent in other recoveries. Similarly, consumer income, adjusted for inflation, was only 4.4 percent above its prior peak, versus an average of 8 percent. Sales and output have expanded so little compared to 3 years ago that business incentives to invest in new capacity are still quite weak. We need additional economic stimulus that expands markets, in order both to reduce unemployment directly and to set in motion a self-sustaining, long-lasting economic recovery, led by strong increases in business investment. There are other reasons

for the sluggishness of investment and I shall return to these at a later point in my testimony.

REDUCING EMPLOYMENT

There are two different kinds of problems with which we can and must deal now in getting the rate of unemployment down.

At the present time we are faced with substantial cyclical unemployment. This unemployment is brought about principally because businessmen do not have strong enough markets in which to sell the goods and services which additional workers would produce. Consequently, they won't hire them. In December 1976 there were 3.2 million more people unemployed than in 1973, when the economy was reasonably prosperous and the overall unemployment rate was 5 percent. These extra 3.2 million unemployed are the cyclically unemployed. They are not principally those people who have a hard time finding decent jobs, even in good times.

TABLE 2.-Cyclical unemployment (increase in unemployment between 1973 and December 1976)

Of the additional 3.2 million unemployed, 2.7 million were adults; 2.9 million were experienced wage and salary workers; 2.1 million were people who were unemployed because they had lost their prior jobs. In other words, these extra 3.2 million unemployed persons are not mainly composed of the disadvantaged, or of teenagers or other groups that we normally think of as the structurally unemployed.

The long-term answer to the problem of cyclical unemployed is a general economic expansion, creating market outlets for the broad range of business firms who then can be expected to increase their employment and hiring.

In addition, there is the problem of structural unemployment. Even in good times, when the overall unemployment rate is well below what we now have, there are many people who have a hard time finding a job.

In 1973, for example, teenagers, who comprised about 10 percent of the labor force, made up almost 30 percent of the unemployed. Young adults from 20-40 years old made up 14 percent of the labor force, but 23 percent of the unemployed. Blacks and other minority groups who comprised only 11 percent of the labor force accounted for 21 percent of the unemployed. To deal with these structural problems we need pinpointed measures which provide skills, training, and other assistance to particular groups of workers in order to get them into productive, well paying jobs.

There is no reason, of course, that we should not attack both problems simultaneously. As we pursue general economic expansion, we can also provide additional training and skill improvement measures. We can provide some temporary public service employment for both the cyclically and the structurally unemployed while at the same time expanding the private economy to take up the slack of the cyclically unemployed.

I would like, at this stage, to outline in broad terms the principal elements of the economic recovery program.