A separate US budget for capital outlays would not ease deficit

Over the years, numerous panaceas have been suggested to increase control over the federal budget and especially to reduce the deficit. First, a comprehensive planning-programming-budgeting system was developed to improve the process of setting federal priorities. That quickly degenerated into a rationalization of the status quo.

Then the focus shifted to zero-based budgeting as an effective way of identifying - and, it was hoped, eliminating - obsolete and ineffective federal spending programs. That approach also promised more economic results than it could politically deliver.

With the federal deficit stubbornly staying in the neighborhood of $200 billion, the latest easy answer is capital budgeting.

On the surface, it is an attractive concept.

After all, state and local governments typically distinguish between capital outlays - such as those for new buildings and equipment, which are generally used for a long period of time - and current expenditures, such as wages, salaries, and pensions.

Certainly, businesses do that, and it makes good sense for them. Charging the cost of a new factory in the year it is built would make the profit-and-loss statement for that fiscal period look very sad - and subsequent years would look deceptively good.

Moreover, the tax laws require that capital items be depreciated over an extended period of time, instead of having their cost written off in the year they are acquired.

For the federal government, a capital budget would mean removing capital investments from the unified budget (which would be renamed the ``current'' or ``operating budget'').

Only the depreciation of government capital would be recorded in the operating budget.

Thus, capital outlays (in excess of current depreciation charges) would no longer be counted in determining the budget surplus or deficit.

The fact that the reported budget deficit is likely to be lower under the capital budget approach helps to explain why this esoteric concept has gained so many enthusiastic adherents. The implications of such a shift, however, deserve careful examination.

The similarities between the federal government fiscal situation and that of the organizations now using capital budgeting are not as great as they might seem. Unlike those initiated by private companies or smaller units of government, as capital projects in one area of federal activities are completed, they are undertaken in another.

Thus, there is little of the peak-and-valley phenomenon to be smoothed out via a capital budgeting process. For example, annual federal outlays for physical capital investments fluctuated in the narrow range of $12 billion to $15 billion during the fiscal years 1981-85.

But there are other, more serious reasons for being wary of adopting a capital budget for the federal government.

To the uninitiated, the term capital investments conjures up visions of dams, buildings, and similar items that generate flows of benefits or services over a long period of time. In the case of a private company, the original outlay will be repaid out of the profits from that future flow of services.

That is not the case with the typical federal expenditure, which would be classified as a capital outlay.

For many years, the Office of Management and Budget (OMB) has prepared a special classification that reports capital investments separate from operating expenses. Although most supporters of federal capital budgeting seem bored by such details, it is instructive to examine this available data base.

In the OMB investment analysis, military items - primarily weapon systems - represent more than two-fifths of all capital outlays by the federal government.

Putting aside the controversies over the desired size and composition of defense spending, we must acknowledge that there is no reasonable basis for estimating depreciation charges on aircraft, missiles, space vehicles, etc.

Some weapon systems are phased in and out of the military arsenal within a few years. Others, such as the B-52, stay operational for decades.

Another large component of federal investment is grants to state and local governments to help them build roads, airports, schools, and similar items.

Nobody quarrels with having the states and localities (which wind up owning the assets) capitalize them in their budgets.

But what would be the basis for the federal government's capitalizing the same assets, when it is only providing some of the financing?

After all, General Motors does not capitalize the office buildings of Michigan Blue Cross - even though GM's premium payments constitute a major source of the financing.

A third category of reported federal investment outlays are the disbursements that are not considered to be capital outlays when they are made by either private companies or by state and local governments.

The major examples are expenditures for education, training, and research and development. However valuable these spending programs may be, they do not generate assets on the part of the federal government and do not belong in a bona fide capital budget.

What is left? By my calculations, out of the US government's total disbursements of $990 billion in the fiscal year 1986, less than $25 billion would truly qualify as capital investments.

Of course, in practice the number would be much larger, because every interest group would try to shield its favorite programs from deficit reduction measures by getting Congress to remove them from the operating budget.

Nevertheless, when the Treasury borrows to finance the federal government's operations, it would add together the deficits in both the capital and operating budgets.

Thus, any effective effort to stem the tide of red ink must squarely face the need to cut individual spending programs. Juggling the budget numbers is not an adequate substitute.

Murray L. Weidenbaum is director of the Center for the Study of American Business at Washington University in St. Louis and a former chairman of the Council of Economic Advisers.

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