`Peace Dividend' Devoured by Revenue Shortfall

ONE of Congress' favorite games since the opening of this year's session has been the gleeful anticipation of how to spend the peace dividend. Numerous proposals, some of them quite compelling, have come to the forefront. These range from rebuilding the country's aging infrastructure (highways, bridges, and transportation systems) to providing more funds for education and the war on drugs.

A host of special interest groups have quickly brought forth programs that would be of much narrower interest. Some of the proposals are even so bold as to contemplate using the peace dividend to reduce the tax burden on the American family or, failing that, to reduce the budget deficit and diminish upward pressure on interest rates. Unfortunately, two important events have caused the peace dividend to vanish even before it materializes.

First, the government's economic assumptions for the 1990 federal budget are proving to be not only optimistic but outrageous.

Specifically, by relying on a rosy economic scenario, tax revenues are projected to rise by 8.3 percent in 1990 compared to 1989. Unfortunately, for the first three months of the current fiscal year, total revenues have only posted a gain of 3.2 percent.

Taxes on business, moreover, contain a bad omen. December's corporate tax payments are a good leading indicator of the much larger combined March and April tax payments. In December 1989, corporate tax receipts fell l5.8 percent below the 1988 level. Thus, corporate tax receipts are beginning to reflect the sharp fall in corporate profits over the last three quarters.

The rosy scenario syndrome traps the politicians in another area. The budget assumes that the three-month Treasury bill discount rate and the 10-year Treasury note yield will drop to an average of 7.1 percent and 7.8 percent respectively for 1990. Unfortunately, interest rates have not cooperated so far. Recently, the Treasury's three-month discount rate was 7.72 percent and the 10-year note yield was at 8.5 percent. These unbudgeted higher market interest rates would increase the government's debt servicing expenditures and would absorb any peace dividend.

After adjusting for inflation, nondefense government expenditures started to accelerate in 1988, almost as soon as defense expenditures started to fall. In 1989 there was a brief sideways pause in total spending as priorities shifted in favor of the social programs. However, during late 1988 and 1989, nondefense expenditure growth more than offset the weakness in defense outlays. With this shift well under way, potential savings from the military budget are likely to be spent on nondefense items even faster than they are realized.

Reflecting the acceleration in social spending programs, disappointing tax receipts, and less favorable interest rate environment, the budget deficit in the current fiscal year may now be $160 billion, $8 billion larger than last year and far above the Gramm-Rudman balanced-budget target of $100 billion.

However, the situation is even worse than it appears. The $20 billion in bonds sold to bail out the savings and loan industry are not being counted in spending, but an extra $16 billion Social Security surplus is included as receipts.

Without a major refocusing of the realities of the deteriorating budget picture, there is no peace dividend. Moreover, if the politicians assume that there is a peace dividend available to spend, it will only serve to aggravate the situation.