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Reagan’s Deficit

In response to:

How to Wreck the Economy from the May 14, 1981 issue

To the Editors:

Lester Thurow [NYR, May 14] may well be right, that the American economy is in serious danger from the Reagan Administration’s economic “recovery” program, especially its defense component. But he sensationalizes the argument by misrepresentations that need to be cleared away so that the real dangers can be properly weighed.

Mr. Thurow begins his article with the horror story that the defense budget increase contemplated by the Reagan Administration “is three times as large as the one that took place during the Vietnam War” (italics his). This was picked up and endorsed by James Fallows, writing on national defense in the following issue [NYR, May 28].

The truth (which, heaven knows, is bad enough) is that the Reagan increase is about 43 percent greater than the Vietnam increase.

The Vietnam increase occurred between 1965 and 1968 (not 1965-1970 as Thurow states; defense outlays in both 1969 and 1970 were lower in real terms than in 1968). Measured in 1967 constant dollars in order to discount for inflation, the Vietnam increase was $24.8 billion. In the same monetary unit, the planned Reagan increase of the defense budget from 1981 to 1986 is $35.4 billion.

My results depend on the following figures. (In the remainder of this letter all monetary figures are stated as simple numbers, representing so many billions of dollars.) From 1965 to 1968 nominal defense outlays rose from 49.6 to 80.5; in 1967 dollars, from 52.5 to 77.3. From 1981 to 1986 the planned Reagan outlays, in nominal dollars, rise from 162 to 343; in 1967 dollars, from 59.1 to 94.5. (My conversions use the Consumer Price Index as the measure of inflation. With 1967 as the base year the CPI figures, in percents, are 1965—94.5; 1968—104.2; 1981—274.3; 1986—363.0; the last two figures are Reagan assumptions.

In another example of misrepresentation, Mr. Thurow writes, “A $138 billion cut…in civilian expenditures—not an absolute but one relative to the Carter budget—simply does not counterbalance a $196 billion tax cut and a $181 billion increase in military spending.”

Since a saving of 138 is clearly no match for a loss of 377, the sensational impression is created of a huge built-in deficit, the handiwork of economic idiots. The impression depends upon (1) a misstatement and (2) an omission, both of them crucial.

(1)The misstatement is the figure of 181 for military spending. The figures of 196 and (approximately) 138 turn out to be the Reagan cuts in total receipts and in non-defense outlays for fiscal 1986, in comparison with a 1986 “Carter” budget. (By ” ‘Carter’ budget” I mean a Reagan projection based on pre-Reagan policies.) But the corresponding figure for the Reagan increase in defense outlays should be 63 not 181. Mr. Thurow has confused his categories: 181 is Reagan’s defense increase in 1986 in comparison with 1981.

(2) The omission is the fact that the 1986 “Carter” budget shows a surplus of 216 (receipts 1189, outlays 973). Add to this surplus 138 from civilian cuts and you have enough money to pay for both a tax cut of 196 and a military increase of 63. Even when you include the Reagan assumptions that changes in economic conditions will lower the “Carter” surplus by about 70, you still come out in the black.

How can a military budget increase that is 43 percent larger than Vietnam, combined with a substantial tax cut, produce an estimated surplus? The answer to this question brings us to the most important omission in Mr. Thurow’s article. Despite the Reagan tax cut, from 1981 to 1986 the estimated increase in total budget receipts is greater than the estimated increase in defense outlays: 112 as compared with 97, measured by 1981 dollars to discount for inflation.

The basic structure of the Reagan program, which Mr. Thurow consistently avoids or obscures, may be quickly grasped by converting its figures to 1981 dollars. For example, when comparing the plan’s last year, 1986, with its base year, 1981, one starts with a 1981 deficit of 55, then adds the following changes for 1986: total receipts up 112, defense outlays up 97, nondefense outlays down 63; result, a surplus of 23.

But to understand the structure is not necessarily to forgive the results. The plan seems full of provisions for which no sufficient justification has been given: unjustified increases in weapons, unjustified sacrifices of social programs, unjustified forecasts of high growth combined with low inflation, unjustified risks of economic and social disruption, etc.

The real dangers, some of them ably exposed by Thurow and Fallows, are grave enough; why misrepresent and exaggerate? I grant to Mr. Thurow’s approach the initial advantage, that it stirs up his readers (including me). But its disadvantages are far greater, the worst being that it provides grounds for public mistrust of the author and perhaps of the magazine. Moreover, a sequence of perceptions, proceeding from greater dangers that prove fictitious to lesser dangers that are real, can make the lesser seem good news in comparison, thereby generating acceptance and neglect rather than the vigilant counteraction which the realities deserve.

Curtis Crawford

Charlottesville, Virginia

Lester Thurow replies:

In my original article I converted Vietnam expenditures into 1980 dollars to compare them with President Reagan’s planned increase in military spending from 1981-1986. As Mr. Crawford admits, the 1981-1986 spending is three times as large.

I did not, however, deflate 1986 spending into 1980 dollars for a very simple reason. Neither Mr. Crawford nor I know how much inflation is going to occur between 1981 and 1986. The technical problem with Mr. Crawford’s calculations is easy to illustrate.

Suppose I were to tell you that military spending will increase by $181 billion, but that it will cause so much inflation that, after correcting for inflation, military spending won’t go up at all. Would you then conclude that military spending was no problem? Evidently Mr. Crawford would.

No one is going to place orders for military equipment in deflated dollars. By 1986 extra orders worth $181 billion more than is now being spent will be placed. The amount of extra equipment that they will buy depends on the rate of inflation—a variable endogenous to the amount of equipment purchased.

If one is trying to calculate the burden of defense spending, the correct way to handle the problem, as was done in the article, is to calculate military spending as percent of the GNP. Using this technique it is not necessary to forecast inflation since inflation is in both the numerator and the denominator of the index and therefore drops out of the calculations. Using this technique it is, however, necessary to forecast the rate of productivity growth.

As I stated in my original article military spending will go up by 1.4 percentage points (from 5.7 to 7.1 percent of the GNP) if Reagan’s supply-side miracle occurs and by 2.4 percentage points (to 8.1 percent of the GNP) if Reagan’s supply-side miracle does not occur.

And as I have shown in the New York Times, Business Section, May 31, there will be a large deficit in President Reagan’s budget in 1986 if the supply-side miracle does not occur.

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