Jan. 22 (Bloomberg) -- President George W. Bush is poised to leave the federal government in worse financial shape than he found it, making it harder for whoever succeeds him to deliver on the promises of this year's election campaign.

Bush may end his eight years in office with a larger-than- forecast budget deficit approaching 2004's record $413 billion, as an increasingly likely recession slashes tax receipts and raises spending. He'll also leave behind a host of thorny, longer-term problems -- from the expiration of his big tax cuts in 2010 to spiraling spending on senior citizens -- that will dog his successor's budgets for years.

That means Democratic candidates Hillary Clinton and Barack Obama would find it harder to finance their promised expansion of health-care benefits. Republicans Rudy Giuliani and Mitt Romney would have a tougher time carrying out their pledges to cut taxes.

``We have a big hole to crawl out of,'' says Robert Bixby, head of the Washington-based Concord Coalition, a nonpartisan group that advocates balanced budgets. ``Any sort of major initiative by the next president is going to be very difficult to do.''

The situation is, in some respects, the mirror image of 2001. Bush, 61, was the first president since John F. Kennedy to take office with a budget surplus, to the tune of $236 billion, giving him considerable latitude in formulating policy. He cut taxes by more than $1.5 trillion over 10 years, increased defense spending and created a new Medicare prescription-drug-benefit program.

Squandered Opportunity

Critics say Bush squandered a chance to put the Social Security retirement program and Medicare health plan for the elderly on a sounder financial footing. Government accountants calculate Social Security will begin paying more in benefits than it collects through taxes by 2017, while Medicare will exceed its spending limits by 2013.

``History will treat him very harshly,'' says Robert Reischauer, former director of the nonpartisan Congressional Budget Office and now president of the Urban Institute, a Washington-based research group.

Bush ``came in with an unprecedented opportunity to address the long-run challenges faced by this nation and completely blew it, in part because of events and in part because of policy,'' Reischauer says.

`Rebuild'

The administration defends its record, saying the tax cuts helped revitalize the economy after it fell into recession in March 2001 while much of the additional spending was needed either to ``rebuild'' the military or wage the war on terrorism in the wake of the Sept. 11, 2001, attacks.

Sean Kevelighan, a spokesman for the White House's Office of Management and Budget, also points the finger at Congress, saying lawmakers were ``unreceptive'' to Bush's second-term efforts to address the future of Social Security. Kevelighan said the government is on a path to balance the budget by 2012.

Wall Street economists are skeptical. They see the deficit rising this year and beyond after falling for three straight years as an unexpected surge of revenue from highly profitable companies and wealthy individuals subsides.

The Congressional Budget Office said Jan. 7 the deficit for the first quarter of the 2008 fiscal year, which began Oct. 1, was one-third higher than a year ago.

``We've seen the best for awhile,'' says Ed McKelvey, a Goldman Sachs Group economist in New York. He reckons it will be at least five or 10 years before the deficit shrinks below 2007's $163 billion.

Shortfall

In August, the CBO predicted this year's shortfall would total $155 billion, excluding since-enacted changes in the tax code costing $51 billion... On Jan. 23 the office will release its biannual report on the long-term budget outlook, which will include revised deficit projections.

A growing number of economists, including those at Goldman, Merrill Lynch & Co. and Morgan Stanley, are forecasting a recession. The CBO has said a recession could boost the deficit by anywhere from $140 billion to $350 billion.

That estimate doesn't include the cost of measures such as new tax cuts and spending increases that Congress and Bush might agree on to fight a recession. Bush last week called for a stimulus package worth about $150 billion to be passed by Congress ``as soon as possible.''

``If we have a recession and a stimulus package, we're looking at something from a $300 to $400 billion deficit for 2009,'' says Louis Crandall, chief economist at Jersey City, New Jersey-based Wrightson ICAP LLP, a unit of ICAP Plc, the world's largest broker for banks and other financial institutions.

Politically Perilous

The next administration will also face a witch's brew of politically perilous tax and spending issues, each of which threatens to blow a hole in future budgets.

The alternative minimum tax, a levy originally intended to make sure the wealthy pay the government their fair share, is threatening to hit more Americans because it isn't indexed for inflation.

Then there are Bush's tax cuts. While it would be politically painful for any president to allow them to expire at the end of 2010, extending them would cost hundreds of billions of dollars a year. The CBO says maintaining the status quo -- extending the cuts and tying the AMT to inflation -- would cost $250 billion in 2011; in 2012 those costs would grow to $375 billion.

Retiring Boomers

Entitlements, meanwhile, will consume an ever-greater share of the government's resources as Baby Boomers retire. The eldest become eligible this year for Social Security; beginning in 2011, they'll be qualified for Medicare. Social Security and Medicare accounted for 37 percent of the $2.73 trillion budget in 2007, and Moody's Investors Services said Jan. 10 the two programs' costs are growing so quickly they could eventually threaten the government's AAA bond rating.

``Fiscal policy is going to be very much a problem for whomever occupies 1600 Pennsylvania Avenue,'' says Bill Hoagland, who was the top budget aide to former Republican Senate Majority Leader Bill Frist. ``A confluence of events is going to force them to rethink a lot of their campaign rhetoric.''

To be sure, the next administration could realize a substantial peace dividend if and when the Iraq war winds down. Budget experts say reducing the number of troops in Iraq and Afghanistan could save tens of billion of dollars a year.

Doom and Gloom

Few presidential contenders discuss such issues on the campaign trail; no one wants to be tagged the doom-and-gloom candidate. While many declare they're committed to fiscal discipline and determined not to increase the deficit, they've built their campaigns around expensive initiatives.

New York Senator Clinton, 60, has proposed a $110 billion expansion of health care; the plan from Illinois Senator Obama, 46, would cost $50 to $65 billion. Former New York City Mayor Giuliani, 63, has promised ``the biggest tax cut in American history.''

Leon Panetta, director of the Seaside, California-based Panetta Institute, likens the situation to 1992, when then-rookie presidential candidate Bill Clinton pledged to cut middle-class taxes and stimulate the economy in a campaign aimed at ``putting people first.''

After he was elected, a $290 billion deficit forced Clinton to abandon or scale back many of his promises to focus on getting the government's books in order.

``You're back in almost exactly the same situation,'' says Panetta, who was Clinton's first budget director. ``There's not a hell of a lot of room to do very much.''

To contact the reporters on this story: Brian Faler in Washington at bfaler@bloomberg.net, Rich Miller in Washington at rmiller28@bloomberg.net.

Last Updated: January 21, 2008 21:47 EST