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The 'Stimulus' Deficit
February 5, 2008; Page A16

If you want to know the real cost of Washington's economic stimulus, look no further than yesterday's Fiscal 2009 White House budget. The federal deficit is taking a giant leap backward, thanks in substantial part to the $150 billion in "temporary" tax cuts.

That much was clear from yesterday's great deficit wail, a cry so loud the rest of President Bush's proposed $3.1 trillion budget was reduced to a footnote. The White House now expects the deficit to reach $410 billion in fiscal 2008 (which began on October 1), up from $163 billion last year, and Democrats made sure the "near-record" figure was their major talking point.

This is the latest in the Administration's history of turning "record surpluses into record deficits," declared Majority Leader Harry Reid, while Senate Budget Chairman Kent Conrad warned about "more deficit-financed tax cuts tilted to benefit the wealthiest."

Lost amid the faux political outrage is the direct role that these worthies are playing in creating this larger deficit, thanks to the bipartisan $150 billion "stimulus." This non-stimulating stimulus will largely take the form of tax rebates and credits that will do little to change economic incentives. Thus they will result in a nearly dollar-for-dollar revenue loss to the Treasury, expanding a deficit that was already going to climb to $219 billion thanks to slower economic growth and faster spending.

Let's hope Republicans appreciate the irony, because no doubt Democrats do. By signing on to a bigger deficit for the sake of election-year stimulus, Mr. Bush is making it easier for Democrats to wave the red ink as an excuse to justify repealing his 2001 and 2003 tax cuts next year.

Yet Mr. Bush's 2003 reductions on capital gains, dividend and marginal income-tax rates are precisely the kind of tax cuts that lift incentives to work and invest and thus recoup at least some of the revenue lost due to lower rates. Revenues climbed by some $785 billion over four years in the wake of those tax cuts. A 2006 study by the Bush Treasury also analyzed the revenue impact of different tax cuts, and found precisely this difference between marginal and non-marginal tax cuts. But apparently the Bush White House forgot.

The unsung budget story is that overall revenue growth remains relatively healthy. The White House budget office says fiscal 2007 revenue rose by 6%, and the main reason they're estimated to fall modestly this year is the "stimulus" tax rebates. Taxes as a percentage of GDP are now 18.5%, slightly higher than the 40-year modern historical average.

The other false target of Democratic outrage is defense spending, which Mr. Bush proposes to lift in fiscal 2009 to $585 billion. The left is decrying this as the most defense spending, in inflation-adjusted terms, since World War II. But using the more appropriate comparison of spending as a share of the economy, Mr. Bush's request would bring defense outlays to 4.5% of GDP next year, up from 4.2% this year.

That is on par with the 4.4% of GDP in President Clinton's first year in office, and remains well below the 6.2% of GDP in 1986 at the peak of the Reagan defense buildup. (See the nearby chart.) With a hot war in Iraq and Afghanistan, and the terrorist threat hardly ebbing, the U.S. should be spending even more on defense. Democrats need to explain why they want record subsidies for gentleman farmers to take priority over national security.

As for spending, Mr. Bush makes at least one more belated stab at reining it in. His proposed budget would cut or pare 151 ineffective programs, with a total savings of $18 billion. It holds nondefense discretionary spending in fiscal 2009 to less than 1% growth. Mr. Bush proved last year that a President willing to use his veto pen can slow the growths of spending, but don't expect Congress to kill even a single onAe of those 151 programs.

The real nondefense spending driver continues to be entitlements, and Mr. Bush takes a Sisyphean swing at Medicare reforms that would reducing spending by $178 billion over five years. He'd also save $17.7 billion in Medicaid. Expect Democrats to charge that Mr. Bush is funding his war at the expense of health care for the elderly and poor, but the reality is that even with these reforms Medicare would continue to grow by 5% a year.

In recent years, Mr. Bush has taken important steps to recover from the spending profligacy of his first term. Even the Democratic Presidential candidates had dropped the deficit as a campaign theme. Now, however, they're back to deploring the deficit even as they're all applauding the stimulus that won't do much for the economy but is driving the higher deficit. The price of Mr. Bush's final budget may well be paid in far higher taxes next year.