Balanced Budget Bliss

Balance the federal budget in the United States, and wonderful things will happen to the economy.

Interest rates will drop, saving a homeowner $1,232 a year on a 30-year, $150,000 mortgage. On a $30,000, five-year auto loan the annual saving would be $175.

Economic growth, business investment, productivity - all higher, raising stock prices.

If you have $100,000 in a mutual fund tied to the Standard & Poor's 500 stock index, you'll pocket a $14,000 bonus by 2000, compared with your shares' value if the budget stays unbalanced. By 2006, you're better off by almost $39,000.

All this and more, says Roger Brinner, chief economist at DRI/McGraw-Hill, an economic consulting firm in Lexington, Mass.

For his study, he used a computerized, mathematical model - more than 1,000 equations - of the US economy.

Some other economists are skeptical that such happy results can actually be forecast.

Robert Eisner, an economist at Northwestern University, Chicago, says conclusions depend much on assumptions put into the model.

Economists, he says, have difficulty confirming a key assumption in the DRI model: that interest rates would fall along with the deficit.

But it is an assumption accepted by Treasury Secretary Robert Rubin. In fact, this has already happened, he told Congress last month. A smaller deficit - falling from 4.7 percent of gross domestic product in 1993 to 1.4 percent of GDP now - has "inspired business confidence and [driven] down interest rates, which then drove and sustained the economic recovery."

Further deficit reduction, he continued, "is critical to a strong economy over the long-term."

DRI also assumes that the Federal Reserve will allow interest rates and unemployment to decline, and growth to accelerate, even though Fed chairman Alan Greenspan cautioned Congress again this week that the Fed might raise rates to preempt higher inflation.

DRI figures the Fed would want to offset the fiscal drag on the economy from deficit cuts.

Lawrence Klein, who pioneered "econometric" models of the economy 30 years ago, says the Fed should let interest rates fall. "We could go to 5 percent or less unemployment without accelerating inflation," says the University of Pennsylvania professor emeritus.

Unemployment stood at 5.4 percent in January. Many economists expect numbers out today will show a decline to 5.2 percent in February.

The Fed, in Mr. Klein's view, made a "serious mistake" in reckoning that the economy can't grow faster than a real 2 to 2.5 percent a year without boosting inflation.

"If we were to grow at 3 percent, we would have a much better shot at balancing the budget," Klein says.

The DRI exercise shows national output growing 0.1 percentage point faster this year than it would without budget balance, and 0.4 percentage point faster in 1998 and in 1999. That extra growth brings unemployment down an extra 0.2 percentage point a year for several years.

DRI sees another budget-balance bonus: Marginal income-tax rates could be cut 4 percentage points between 2002 and 2006. Alternatively, the budget would develop a large surplus.

Imagine that....

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