Grab Bag Economics

In his State of the Union address on Jan. 28 and again in his budget proposal for fiscal year 1993 issued the next day, President Bush stayed the course. The President's growth agenda creates little short-run fiscal stimulus, raises the deficit modestly, and recognizes--but does not really address--the nation's long-term economic problems. The President's men said all along that Bush was suffering from a communications problem, not an economic one. So in the speech, Bush made it plain that he sympathizes with victims of what Democrats are happy to call the Bush recession. "I know we're in hard times," he declared. "But I know something else: This will not stand."

Just the same, neither the speech nor the massive $1.5 trillion budget offers much to spur near-term growth. Instead, Bush seemed intent on buffing his image without derailing a recovery that his closest aides think is already near. "Although the economy is sluggish," says one Bush adviser, "it is on the way back. Even if there were a silver bullet, there's no need for one now."

STOCKING-STUFFERS. The much-vaunted middle-class tax break turns mut to be a $500-per-child rise in the personal exemption and a tweaking of withholding rates to give taxpayers more now, in exchange for smaller refunds next spring--after the election. The stimulus was kept small to avoid spooking financial markets. But they didn't seem impressed, dropping sharply the day after the speech. The Bush package doesn't figure to spur growth much, but it's loaded with stocking-stuffers for taxpayers (table). Says William A. Niskanen, a former economic adviser in the Reagan Administration: "This is not serious. It's not the sort of tax package you would want for the long run."

The big winners: first-time home buyers and real estate developers. Investors would get a tax break on capital gains. Business, which had hoped for relief on capital spending, gets little. Bush's longer-range proposals recognize, finally, the need for dramatic changes in defense and health care policy. But the specifics offer little more than a down payment on both.

While congressional Democrats are grumbling loudly about the package, most believe that its proposals are a good starting point. They should. Many of the provisions have been in the Democratic playbook for years. "We can do business with this," says one top Senate Democratic aide.

Since there will, of course, be much haggling over the details, can Congress pass this package by Mar. 20, Bush's deadline? That's a long shot, but a bill may well be finished by late spring.

The real debate will be over defense: how much to cut spending and what to do with the money (page 27 17 ). Bush has proposed cutting anticipated military spending by $50 billion over the next five years. Democrats want to cut twice that much, but they're divided over how to spend the peace dividend. Some would use the money to pay for middle-class tax cuts. Others prefer to reduce the deficit. A third group wants to fund domestic programs. Bush wants deficit reduction, but Budget Director Richard G. Darman hints the Administration would agree to use the savings to pay for tax cuts.

The defense dispute could delay key tax decisions. In the meantime, business will keep a close eye on Capitol Hill to see how the Bush plan fares. Here's a closer look at some details and a preview of how Congress will receive each one:

-- Capital investment. Bush would allow companies to take an additional 15% deduction for the cost of equipment they purchase between now and the end of the year. This would speed up tax write-offs for equipment but do little to reduce the cost of capital for most businesses. Emil Sunley, a senior tax economist at Deloitte & Touche, estimates that the Bush plan is roughly equivalent to a 1% investment tax credit. Adds Pamela J. Pecharich, director of tax policy at Coopers & Lybrand: "It's going to be a big disappointment to business." Nonetheless, a revised version of the Bush plan--possibly a restored investment tax credit--could well pass.

-- Capital Gains. The President wants to cut the top capital-gains rate from 28% to 15.4% for assets held at least three years. Despite the rhetorical confrontation over this issue for the past several years, the majority of congressional Democrats will back a cut in the capital-gains tax--under certain conditions.

First, they may try to tailor the plan to the middle class. House Ways & Means Committee Chairman Dan Rostenkowski (D-Ill.) may offer a counterproposal similar to a measure that passed the House in 1990. That plan would exempt from tax the first $1,000 in gains taken each year and provide a onetime $200,000 exemption for gains from the sale of a home or business. Likewise, the Senate Finance Committee will pass some sort of gains tax cut.

But Democrats in both houses will exact a price: a tax hike on the wealthiest individuals. The increase is not so much to pay for capital-gains relief as it is an attempt to prevent a windfall for the rich. Democrats believe they have a powerful issue in "fairness," and they'll invoke it freely in the coming debate.

-- Soak the rich. Bush may actually propose a tax hike for high-income individuals in the health insurance plan he'll offer soon. While he will resist a rise in the top income-tax rate, the wealthy can be hit in other ways, such as a further phase-out of deductions.

-- Savings incentives. As proposed by Bush, who has adopted a plan offered last year by Senate Finance Committee Chairman Lloyd Bentsen (D-Tex.) and Senator William Roth (R-Del.), individual retirement accounts would no longer have much to do with retirement. Unlike the current IRA, the new version offers no tax break when contributions are made but allows tax-free withdrawals for any purpose after seven years. This kind of tax-free savings plan is hugely popular on Capitol Hill. But Rostenkowski and other Democrats may insist that Bush find a way to pay for big future revenue losses.

-- Real Estate. The President is proposing a cornucopia of new tax breaks for real estate developers and home buyers. First-time home buyers would be able to use their IRAs for a down payment and would enjoy a $5,000 tax credit as well. Developers could use losses to offset profits from unrelated projects. The proposal enjoys wide support on Capitol Hill, where most lawmakers back a somewhat broader measure.

The tax debate won't be pretty, and a budget deficit that could hit $400 billion this year will keep a final measure modest. But by springtime, Congress should pass a tax cut that business will like. It may not hasten the recovery much, but it won't hurt much, either. If the economy breaks his way, that may be just enough for George Bush.

THE BUSH AGENDA:
      WHAT FLIES, WHAT DIES
      CAPITAL GAINS
      PROPOSALS: Bush wants to cut the tax on capital gains to 15.4% for assets held 
      at least 3 years. Democrats will probably go along, for a price
      LIKELY FATE: Pretty much a done deal if Bush agrees to hike taxes on the rich. 
      Look for a Democratic alternative that shifts benefits to the middle class
      MIDDLE-CLASS TAX RELIEF
      The White House would raise the personal exemption by $500 per child. Democrats 
      prefer a credit for lower incomes
      Who's going to oppose a middle-class tax cut in an election year?
      INVESTMENT INCENTIVES
      Bush would allow a 15% deduction for equipment purchased in 1992. Democrats and 
      some Republicans prefer an investment tax credit
      Some version sure to pass
      TAX HIKE ON THE RICH
      Bush rejects it as antigrowth. Democrats, sensing a good issue, will demand it
      It's a winner for Democrats
      NEW REAL ESTATE TAX BREAKS
      Bush would restore a passive loss deduction for developers, give first-time 
      homebuyers a $5,000 credit, and allow penalty-free IRA withdrawals to buy a 
      house
      Bet the house: Most of this will be adopted
      DEFENSE CUTS
      Bush would slice $50 billion from planned defense spending over the next five 
      years. Democrats want to cut twice that much
      Near-term cuts will be close to Bush proposal, long-range cuts closer to 
      Democratic view. Real fight will be over what to do with the peace dividend
      BUDGET DISCIPLINE
      The President and top House Dems would keep the framework of the 1990 budget 
      deal. Senators want to scrap key elements
      Look for a carefully crafted compromise that no one really understands
      DATA: BW