Federal Reserve Chairman Alan Greenspan gave a big boost to President Bush’s economic program yesterday, saying tax cuts are needed to prevent Congress from spending the burgeoning budget surpluses and to provide “insurance” against recession.
“Economic growth has slipped very dramatically,” he said. “We are probably very close to zero at this particular moment” after a weak economic performance at the end of last year, he told the Senate Budget Committee in testimony that riled Democrats while warming the White House.
“Should current economic weakness spread beyond what now appears likely, having a tax cut in place may, in fact, do noticeable good,” he said, urging Congress to act sooner rather than later.
“While a tax cut may not have been useful for purposes of fending off [a recession], it clearly would be useful in bringing us out of it far more quickly. It’s insurance in that regard.”
Mr. Greenspan did not specifically endorse Mr. Bush’s $1.6 trillion tax plan, but he said that tax cuts are preferable to the higher spending that Congress has been approving. He added that tax-rate cuts would be the best medicine for the economy. By historical standards, he added, the Bush plan is not large but “average” in size.
The Fed chairman also endorsed Mr. Bush’s idea of letting taxpayers invest some of their Social Security taxes in private investments. Such partial privatization would be the best way to keep the government from having to invest huge and growing surpluses in the stock and bond markets, he said.
“I was pleased to hear Mr. Greenspan’s words,” Mr. Bush said in a meeting with congressional leaders. “He recognizes that we need good monetary policy and sound fiscal policy to make sure that the economy grows.”
Sen. Phil Gramm, Texas Republican, applauded Mr. Greenspan for pointing out that Congress has lost its spending discipline and for recognizing that the huge budget surpluses are acting as a drag on economic growth.
“We’ve already abandoned fiscal discipline,” he said.
But Democrats charged that he “flip-flopped” since last year, when he said the best way to use the surpluses was to pay down the $5 trillion national debt.
Mr. Greenspan conceded that his views have changed, but said that is because of dramatic changes in the economic and budget outlook.
Strong growth in productivity and incomes since the mid-1990s and a flood of capital-gains taxes reaped from surging stock values dramatically boosted the government’s revenues, assuring elimination of the national debt in this decade perhaps as early as 2006 unless there is a deep and prolonged recession, he said.
“I never expected to see the day where I would be talking about anything other than reducing the debt,” he said, but “the trade-off faced earlier appears no longer an issue.”
He said Congress’ spending binge since the large surpluses emerged in 1999 also prompted his change of views.
“The flurry of increases in outlays that occurred near the conclusion of last fall’s budget deliberations is troubling because it makes the previous year’s lack of discipline less likely to have been an aberration,” he said. “History illustrates the difficulty of keeping spending in check.”
“It is far better, in my judgment, that the surpluses be lowered by tax reductions rather than by spending increases,” he said.
Tax cuts and partial privatization of Social Security also are needed because the government will not be able to entirely eliminate the debt, he said. Many savings-bond holders and foreign governments that hold long-term Treasury bonds will not want to redeem them prematurely and in any case, total elimination of such debt is not desirable, he said.
The accumulation of large surpluses, once the debt is reduced as much as possible, would be as bad for the economy as running large deficits, he said, since it would put the government in the position of investing large amounts in stocks and bonds and thus unduly influencing those markets.
“It would be exceptionally difficult to insulate the government’s investment decisions from political pressures,” he said. “I would prefer to see the on-budget system in balance neither in deficit nor in surplus chronically, because I believe that both tend to represent a distortion in the system.”
Democrats on the committee said they were astonished by the Fed chairman’s testimony, with some suggesting that he had betrayed his mission to encourage fiscal discipline in Congress.
“Through this economic expansion period I’ve considered you to be a great portion of the anchor,” said Sen. Robert C. Byrd, West Virginia Democrat. “I am somewhat stunned by the fact that the anchor seems to be wavering today.”
Mr. Byrd, the Senate’s senior Democrat, predicted that Mr. Greenspan’s testimony would produce a “stampede” of Democrats and Republicans rushing to enact tax cuts. “The projected surpluses have not been realized,” he said. “I think we’re taking a tremendous chance.”
Sen. Hillary Rodham Clinton, New York Democrat, questioned whether it is safe to assume that the strong productivity growth that has produced big surpluses will continue.
But Mr. Greenspan said the latest budget projections are conservative in assuming only half of the current rate of growth.
The Fed chairman agreed with Democrats that Congress should continue to be cautious in cutting taxes and increasing spending to prevent the surpluses from turning into deficits once again, if necessary by enacting procedures to rescind the tax cuts if they prove to be too large.
“Special care must be taken not to conclude that wraps on fiscal discipline are no longer necessary,” he said, noting that the current weakness in the economy could result in disappointing revenues and lower budget surpluses in the coming year.
“With today’s euphoria surrounding the surpluses, it is not difficult to imagine the hard-earned fiscal restraint developed in recent years rapidly dissipating.”
On the other hand, if the economy proves stronger than expected and surpluses keep increasing from last year’s record $237 billion, he said, Congress would need to enact more tax cuts to bring revenues back into balance with outlays.