Thus, by 1981 the combined cost of the social contract and other entitlement programs had risen to about 10% of GNP—about twothirds more than in 1971. This development posed serious longrange fiscal challenges that are only just now becoming apparent. By definition, entitlement programs develop vast networks of dependency that cannot be precipitously altered without unacceptable social and human costs. As a consequence, their claim on the budget and national economy tends to become relatively permanent and can be reduced only slowly over long periods of time. This meant that to appreciably affect the budget outlook after 1985, policy changes in the social contract and other entitlement programs needed to be implemented during the initial budget cycle after 1981. It also meant that significant pre-1985 shifts in internal budget priorities or reductions in overall spending claims on GNP would have had to occur largely in the remainder of the budget consisting of net interest, discretionary programs, and national defense. The 1981 budget remainder: Inversion of internal priorities and limited opportunity for overall reduction.—The remainder of the inherited 1981 budget was a fraction smaller relative to GNP than it had been in 1970. But as shown below, its internal composition had shifted markedly. Between 1970 and 1981, real defense and security spending declined by 19%, with its claim on GNP dropping from 8.3% to 5.5%. 1 Military retired pay is included in all social contract and other entitlements. 2 Not applicable. To be sure, defense spending should be based on assessment of threats and the force structure and military capabilities required to support national security objectives rather than an arbitrary "share of GNP.” Nevertheless, by the late 1970's it was clear that overall national defense capabilities had eroded badly over a decade of unprecedented Soviet military expansion, and that the 1981 defense and security claim on GNP of 5.5% was wholly unsustainable if national security objectives were to be met. DECLINE IN DEFENSE AND SECURITY CLAIM ON GNP, 1970-1981 The requirement for a substantial increase in defense spending and for a significant recoupment of its pre-1970 claim on GNP left the 1981 budget in an excruciating bind: either the 14% share of GNP claimed by the budget remainder would have to rise to 1516% as defense investment and strength was restored, or enormous proportionate reductions would be required in net interest and discretionary spending. The former course was not a practicable alternative. Given the relative downward inflexibility of the social contract and other entitlement spending in the near term, raising defense without offsets elsewhere in the budget remainder would have meant an increase in the aggregate outlay claim on GNP. By 1981, however, total spending was already at a historic high of 23.6% of GNP. a Alternatively, a complete defense offset within the budget remainder would have required nearly a 50% reduction in the nondefense discretionary claim, but would have still left total spending above 23% of GNP. Indeed, as shown on the next page, a shift in the 1981 budget remainder equal to the 6% of GNP needed to both restore national defense and reduce the total outlay claim to 20% of GNP would have meant the abolition of the entire nondefense discretionary Federal establishment. The profound disequilibrium in the inherited 1981 budget is displayed in full dimension in the accompanying chart. The decline in defense spending had been almost fully absorbed by rising debt service costs, reflecting the deficit finance policies of the previous decade and a steady upward drift in discretionary spending for domestic health, social service, education, and energy programs. Since the base of social contract and entitlement spending had also ratcheted sharply upward during the previous decade, the overall spending burden had increased from 20% to 23.6% of GNP. Remedying the structural deficit in the inherited 1981 budget, therefore, involved an imposing task: significantly reducing aggregate spending claims on GNP, while increasing defense within a budget structure characterized by significant inflexibility in its social contract and entitlement base. Resolution of this dilemma remains the key to shrinking the structural deficit now projected for the remainder of the 1980's. The tax drift solution built into the pre-1981 fiscal policy. With built-in spending in excess of 25% of GNP—including the rapidly accumulating catch-up requirements for national defense-preReagan administration fiscal policy offered no apparent solution except steadily rising tax claims on the output of the private economy. Yet this policy was not sustainable for two major reasons. First, it is apparent that the American public would not have supported explicit tax increases sufficient to fund both existing nondefense budget commitments and a restoration of defense strength. Tax increases of the magnitude required would have run exactly counter to the anti-tax sentiment prevalent throughout the States and localities. |