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FEDERAL EXPENDITURES IN MODERN AMERICA Frazar B. W ilde,1 chairman, Research and Policy Committee, Com mittee for Econom ic Development, and president, Connecticut Gen eral L ife Insurance Co. I welcome this study o f the principles that should underlie Federal decisions to spend money. W e have fallen into the habit o f thinking that, where Federal expenditures are concerned, we should consider every case on its merits. Even in these terms, on a case-by-case basis, we do not do well— often what passes for merit has little relation to the national welfare. But, in addition, to consider each case on its merits is not really to consider the merits o f any case. Each decision can be made properly only in the light o f the other decisions that must simul taneously be made. A nd this is possible only if all decisions are illu minated by certain common principles. This is why I am pleased that one agency o f the Congress is now discussing the principles o f Federal expenditure policy. In conducting this very valuable inquiry, I hope the subcommittee will bear in mind one important- fact about the American economy that many people disregard in making recommendations about Federal expenditures. That fact is that we have developed in this country a set o f private institutions which have demonstrated their capacity to meet most o f our national needs through the individual efforts o f our citizens, singly or organized in businesses, labor unions, and other associations. The basic impetus to satisfying these needs comes from the millions o f decisionmaking units in the economy who direct their labor and financial resources into productive pursuits without inter ference, from the Central Government. The role o f government, especially o f central government, in a highly developed, private enterprise economy like ours is vastly different from its role in an underdeveloped country. W here the private econ omy is incapable o f generating and sustaining growth, the Govern ment must step in to stimulate the forces o f expansion. Where the private economy is already growing at a rapid rate, the presumption runs the other way. Although certain limited exceptions should be recognized, it is true in general that government intervention is likely to do more harm than good, either because it might result in a misallocatioii o f resources or because it might impair the incentives o f private individuals to produce and to undertake risks. There is still another reason for relying less 011 the Government in this country than elsewhere. Not only is our national product the largest in the world— it is also distributed more equally than in most, other countries. This is partly the result o f the tremendous growth 1 W h ile th o v ie w s p re s e n te d in t h i s p a p e r a r e w ith in th e g e n e ra l fr a m e w o rk ol! policy s ta t e m e n ts is su e d by th e R e s e a rc h a n d P o lic y C o m m itte e of th e C o m m itte e f o r E c o n o m ic D e v elo p m en t, t h e ir p a r t i c u l a r e x p re ss io n a n d a p p lic a tio n h e re a r e th e resx>onsibility of th e a u th o r alo n e. 158 154 ECONOMIC GROWTH AND STABILITY we have already achieved and partly the result o f our greater devotion to the ideal o f equality o f opportunity. A lthough we have not completely eradicated the problem o f ex tremely low incomes, we have developed efficient and equitable meth ods o f dealing with many o f its basic causes. Our system o f universal education provides every child with the basic training needed to par ticipate in the economy and to share in its output. W e deal with un employment and old age— two o f the major causes o f poverty— through social insurance and private pension arrangements. A n d we have a nationwide system o f public assistance to help those who are poor fo r other reasons. More needs to be done to improve the lot o f the less fortunate among us, particularly to assist in developing the skills that will permit them to earn their own livelihoods. But growth in our production carries fa r more potential for removing poverty from our midst than does a redistribution o f the output we have. This is one o f the more im portant reasons why we must be sure that Federal expenditure pro grams promote, rather than retard, economic growth. R ole o f t h e F ed era l G o v er n m en t in a G r o w in g E c o n o m y T o determine the needs fo r Federal spending under conditions o f growth, it is essential to discard ideas about the role o f government that are the outgrowth o f the depression psychology o f the 1930’s The problem is no longer how to assist the economy in making use o f the available human and physical resources. The problem now is how to allocate our existing scarce resources among the numerous de mands that are placed upon them. This change is reflected in the reasons now being given by those who support more Federal spending. Proposals to maintain or increase the present level o f Federal spending are advanced mainly on two grounds, neither o f which is related to the high employment problem. H igher spending by the Federal Govern ment is now justified either on the ground that growth itself creates demands fo r more government services or that increased spending is essential to promote further growth.2 I agree that economic growth increases the need fo r certain govern mental services— particularly i f the term “ economic grow th” is under stood to include growth in population as well as in number, size, and geographic dispersion o f the Nation's economic units. By and large, this growth-created demand fo r government services is concentrated in the traditional areas— police and fire protection, water supply, waste disposal, highways, education, postal services, provision fo r the aged, etc. W e tend to take some o f these services for granted, but they are extremely important for the health o f the economy. I t is important to recognize, however, that in this country most o f these traditional services are provided by the States and local governments, not by the Federal Government. A m ong the categories mentioned above, the Federal Government is responsible fo r postal services, interstate highways, and old-age and survivors’ insurance. Otherwise, Federal expenditures consist largely o f outlays fo r defense, 2'T h is d is c u s s io n is lim ite d to th e n o n d e fe n s e p o rtio n o f th e F e d e r a l b u d g e t, s in c e o u r d e fe n s e re q u ire m e n ts a r e to a n i m p o r ta n t e x te n t in d e p e n d e n t o f o u r g r o w th n e ed s. A lth o u g h th e re s e a rc h c o n d u c te d u n d e r th e d e fe n se p ro g r a m s h a s c o n tr ib u te d to th e d e v e l o p m e n t o f n e w p r o d u c ts a n d n e w te c h n iq u e s , I k n o w o f n o b o d y w h o w o u ld a r g u e f o r a la r g e r d e fe n se b u d g e t o n t h e g ro u n d t h a t i t w o u ld s tim u la te g ro w th . ECONOMIC GROWTH AND STABILITY 155 interest on the national debt, and a host o f programs that subsidize particular groups, industries, or regions in the economy, the most im portant o f which are farmers and veterans. A lthough there is very little basis for measuring the increased needs o f the community fo r the traditional governmental services as growth proceeds, it is probably not unrealistic to assume that, in the absence o f accumulated backlogs, expenditures fo r these services would in crease in absolute terms but would either rise proportionately with total output or perhaps decline slightly in relation to output, on the assumption that there would be some economies o f large scale. In actual fact, cash expenditures o f the States and local govern ments 3 have increased relative to total output in recent years, from 7.7 percent in fiscal year 1948 to 9.7 percent in 1956. This increase, instead o f the sidewise movement or slight decline that might have been expected under ordinary conditions o f growth, is easy to explain. State-local expenditures were kept to a minimum during W orld W ar I I and, before the backlog o f accumulated demands could be worked off, the Korean war intervened. On top o f this, there as been a rapid rate o f growth in population and a movement o f population to the suburbs. A s a result, road, school, and other public construction p roj ects have lagged behind actual needs. State-local expenditures are still rising relative to total output, and this trend may be expected to continue until a substantial part o f the backlog has been worked off. A t the Federal level, nondefense expenditures have also increased at a faster rate than total output. Cash expenditures, exclusive o f outlays for defense, foreign aid, and interest, rose from 5.8 percent of the gross national product in fiscal year 1948 to an estimated 7 percent in fiscal year 1958. On a per capita basis, and corrected fo r price changes, these expenditures will be approximately 50 percent higher in the current fiscal year than they were 10 years earlier. Even a cursory examination o f the major categories in the budget w ill reveal that the recent rise in Federal nondefense expenditures cannot be attributed to needs created by growth. F or example, F ed eral cash expenditures fo r agriculture increased from $0.6 billion to $4.9 billion in the past 10 years; matching grants to the states for assistance to the aged, the blind, and other categories o f needy persons increased from $0.7 billion to $1.7 billion; and outlays for housing, community development, and related activities increased from $0.2 billion to $0.9 billion. Such expenditures might have been expected to decline with the steady increase in employment and the continued growth o f the incomes and financial assets o f the Nation’s fam ilies; yet there is little evidence in recent budgets that such a decline is in prospect. I must confess that I have great difficulty in understanding the argument that substantial additional Federal spending— over and above the spending required o f States and local governments— is needed to stimulate growth. The argument seems to be that, since growth requires more investment, investment by the Federal Govern ment should rise proportionately as much as— and perhaps even • ore than— investment by other sectors o f the economy. This proposition is by no means self-evident. In fact, in an economy with so many 3 In c lu d in g F e d e ra l g r a n ts - in - a id a n d r e tir e m e n t a n d in s u ra n c e t r u s t e x p e n d itu re s , b u t e x c lu d in g o u tla y s o f u tilit ie s a n d liq u o r s to re s . 156 ECONOMIC GROWTH AND STABILITY other institutions capable o f supporting large-scale investment projects— individuals, businesses, State governments, local govern ments, quasi-public authorities, and voluntary associations— it would seen more reasonable to suppose that less reliance need be placed on the Federal Government as these other institutions expand their activities. M y own view is that, given our present institutional framework, the Federal Government should refrain from making an expenditure unless it is absolutely certain that it is needed and that other units in the economy cannot provide that expenditure more efficiently. There are strong arguments for turning to the Federal Govern ment only as a last resort. Spending decisions wiil be more econo mical and efficient i f they are made directly by the people who pay the bills. The economy w ill grow more rapidly i f the investment o f sav ings must meet the test o f profitability in a competitive market. The freedom o f the individual and the vigor o f State and local govern ment will be better protected the more limited the size and power o f the Central Government. A nd, in an economy where private demands are high, we can help avoid inflationary pressures by holding down the size o f the Federal budget. I do not want to im ply that our needs fo r public assets are small. On the contrary, there is need to clear the slums in our large cities; to build more schoolrooms, hospitals, and roads; to improve our harbors and airports; and to conserve and develop our natural resources. But should these be provided by the Federal Government? The answer, I believe, is that only few o f these important programs may be clearly labeled a Federal responsibility. One o f the clearest cases is the financing and planning o f interstate roads. In constructing the Nation’s highways, attention must be given to the needs o f interstate traffic and to defense needs. Furthermore, the State-local highway programs must be coordinated so that they w ill result in a logical national network. F or these reasons and one other— that the program can be financed through taxes levied on highway users and need not be a drain on the general revenues—-CED lias endorsed Federal par ticipation in the construction o f the Interstate Highway System.4 On the other hand, education and health are either a State-local or private responsibility. A irport improvement (as distinct from aids to navigation), slum clearance, and urban development programs must be tailored to the needs o f individual cities or metropolitan areas. The improvement and operation o f commercial harbor facilities is a local. State or regional problem for which the use o f a quasi-public authority seems to best be suited. Conservation and development o f natural resources is a matter o f national as well as local concern, but Federal outlays for these purposes should be restricted to projects that cannot, be undertaken by private businesses or State and local governm ents; and, in all cases, the full cost o f construction and opera tion— including the cost o f capital at market rates— should be borne by the beneficiaries o f these projects. I conclude that most o f the governmental services and public assets required under conditions o f growth should be provided by the States and local governments. Before turning to the reasons why the Fed ^ C o m m itte e fo r E c o n o m ic D e v elo p m en t, M o d e rn iz in g th e N a tio n ’s H ig h w a y s, .Tum iary ECONOMIC GROWTH AND STABILITY 157 eral budget for nondefense purposes is nonetheless at record levels, it is necessary to examine still another argument that has been used of late to justify increased Federal expenditures, namely, that the Statesand local governments do not have the financial resources to satisfythe growing demands upon them. R o l e o f F e d e r a l A id S om e,p eople who agree that States and local governments have the primary responsibility in providing governmental services under con ditions o f growth nevertheless believe that a major share o f these serv ices should be financed by the Federal Government through grants-inaid or similar devices. Since 1940, the Federal Government has provided roughly 10 per cent of total State-local reveues, with the exception of World W ar II years and the subsequent period of readjustment. In fiscal year 1956, total Federal aid accounted for $3.3 billion of State-local revenues—• an amount just short of 10 percent. Since then, however, the Federal highway program has been put into operation and the magnitude of Federal aid has been rising rapidly. According to the President's budget for fiscal year 1958, Federal grants (exclusive of the proposed school construction aid program, which was not enacted by this year’s Congress) will amount to $5.3 billion this fiscal year and, at this level, they will probably account for 12 to 13 percent of State-local revenues. The use o f Federal aid is not limited to a few small and isolated activities o f the State and local governments. In fiscal year 1956, 87 percent o f total Federal aid was allocated to education, highways,, public welfare, health and hospitals, and natural resources— expendi ture categories that accounted for 74 percent o f total State-local expenditures. I t is important to recognize, therefore, that the pro posals to increase Federal aid would add greatly to an already bewild ering variety o f strongly entrenched programs. There is a place in our financial system for Federal aid. Such assistance should be reserved for projects, like the road program,, in which the Federal and State or local governments have a joint responsibility. In all cases, the State and local governments should finance a substantial portion o f the cost o f the joint program on a matching basis. There are grave dangers in an excessive reliance by the State and local governments on the Federal Government for financial assistance. In the first place, such aid may lead to an encroachment by the Federal Government on decisions that should be made by State, county, and city governments. Those who are familiar with local conditions are in a much better position to gage the needs o f their communities. Second, even if Federal assistance is provided on a matching basis, there is always a tendency for States and municipalities to allocate more o f their own resources to the areas in which Federal assistance is given merely to obtain the Federal funds. Thus, the use o f fluids provided by another government may result in a misallocation o f resources, with some activities being supported too handsomely and other, more necessary, activities being starved. s nearly as possible, tax and expenditure decisions should be made at the same level o f govern men*, rather than at different levels. 158 ECONOMIC GROWTH AND STABILITY Third, Federal aid has already placed a heavy burden on the Federal Government. In the current fiscal year, grants-in-aid will constitute approximately one-seventh o f total Federal cash expendi tures other than defense and foreign aid. The continuous rise in Federal aid during the past decade has been an important factor in preventing the moderation o f the increase in Federal expenditures that is necessary before Federal tax reduction becomes practical. In view o f the urgent need fo r Federal tax reduction and tax reform in the interest o f promoting growth, augmentation o f Federal aid programs could delay indefinitely the revisions that have already been postponed fo r much too long a period o f time. The financial problems that must be faced by the State and local governments are admittedly formidable. They can be solved within the traditions o f our Federal system, i f the States and subdivisions accept their responsibilities. In practice, Federal assistance cannot be confined to a few selected activities— once the assistance is extended to another area, there will always be requests for more Federal aid as new State-local problems arise. A s the Kestnbaum Commission has pointed o u t: I f we are not w illing to leave some room fo r diversity o f policy, to tolerate some lack o f uniform ity in standards, even in matters which are o f national concern and about which we may feel strongly, the essence o f federalism, even i f not the legal fiction, will have been lost. W e must also realize that it can be lost, or its vitality sapped, by nonuse o f State and local initiative as well as by overuse o f national authority. W e have, therefore, as citizens a responsibility to see to it that those legitimate needs o f society that could be met by timely State and local action do not by default have to be met by the National Government.5 C au ses o r H ig h and R is in g F ederal S p e n d in g There are two m ajor reasons why the Federal budget continues to rise even though it is already at record levels. First, a number o f Federal programs are misdirected— we are trying to solve problems by spending more money, rather than by eliminating the causes that created them. Second, the Federal Government is doing things that the private economy or that State and local governments can do more efficiently. The agriculture program is perhaps the best illustration o f the type o f program that should achieve the desired results at lower costs. In its statement on agricultural p o lic y 9 C E D urged that emphasis should be placed on withdrawing whole farms from cultivation. W e also warned that, unless price supports are gradually reduced to free market levels while the land retirement program is being carried out, it would be impossible to bring the supply of, and the demand for, farm products into balance. Finally, we suggested that assistance should be provided to help some farmers find new and more satis factory means o f earning a livelihood. 5 R e p o r t o f th e C o m m issio n o n I n te r g o v e r n m e n ta l R e la tio n s , J u n e 1955, p . 5. 6 See E c o n o m ic P o lic y f o r A g ric u ltu r e , 19 5 6 . ECONOMIC GROWTH AND STABILITY 159 In actual practice, the agricultural program has worked in the other direction in two o f these respects. Price supports are being reduced, although the pace is too slow. However, whole farms are not being removed from cultivation under the soil-bank program ; and enough is not being done to help farmers on uneconomical farms to move them to other occupations that provide higher income op portunities. Another Federal activity that needs to be reexamined critically is the secondary mortgage purchase program o f the Federal National M ortgage Association. This program was at one time to be con verted to a self-supporting private mutual enterprise with the pur pose o f alleviating temporary shortages o f mortgage funds. Instead it is being used to insulate the mortgage market from general mone tary policy. In an economy with our efficient private capital mar kets, one logical remedy to try before the Federal Government inter venes is to permit the Federal agencies that insure and guarantee mortgages to meet the prevailing rates. The stockpiling programs seem to be directed more at stabilizing prices o f some metals and minerals than at meeting our security needs. Since our stockpile exceeds $6 billion and our capacity to produce critically necessary materials has increased substantially in the past few years, it is time to consider revisions o f these programs in the interest o f reducing prospective Federal activities. The postal deficit o f $600 million is such a self-evident disgrace that it is hard fo r the ordinary citizen to understand why the Con gress does not eliminate it. Postal rates should be raised prom ptly to pay fo r the entire cost o f the postal system, and user charges should be adopted in other cases where individuals and private businesses benefit directly from a Federal service. Considerable savings can be made in the veterans’ programs by re vising payments in accordance with the recommendations o f the Pres ident’s Commission on Veterans’ Pensions. In particular, the Com mission’s proposals fo r gradual elimination o f benefits for non-serviceconnected disabilities should be implemented as soon as possible. Finally, the Federal Government should restore to the State and local governments functions that they are in a better position to per form . A m ong these are sewage and pollution-control facilities, vo cational education, disaster relief, urban redevelopment, and public assistance. The Joint Federal-State A ction Committee, appointed by the President, is now considering the feasibility o f shifting certain governmental functions and tax sources from the Federal Govern ment to the State and local government. I hope that the results o f this work will provide the basis for a clearer delineation o f the role o f the various levels o f government in our Federal system. The foregoing are only a few examples o f the policies and pro grams that should be reviewed in order to reduce Federal expendi tures. T h e N eed fo r B u d g eta ry R e fo r m There are, o f course, great political obstacles to overcome i f the Federal budget is to be trimmed to its absolute essentials. A s CED indicated in its latest policy statement, the biggest obstacles are— public defeatism about the F ederal budget and the pressures of p articu lar groups to expand F ederal program s in which they are interested. * * * Citizens will 160 ECONOMIC GROWTH AND STABILITY have to be willing to forego Federal expenditures th a t are less valuable to the Nation and to themselves than ta x reduction.7 The way to overcome defeatism and apathy is to reform Federal budgetary procedures in order to focus the attention o f the public and the Congress on the consequences o f expenditure decisions. In our study o f Federal budget procedures,8 we found that the budgetary process is deficient in two important respects, each o f which must be dealt with properly to achieve economy and discipline. First, ade quate consideration is not given to the relation between total expendi tures and taxes in the formulation o f expenditure policy. Reduc tion o f taxes seems to be subordinated in the budget process to the pressures fo r expanding the numerous activities o f Government. Sec ond, the Congress and the public are not adequately inform ed as to the long-range costs o f particular programs. W hat seems to be a rela tively small expenditure fo r a new program when it is initiated often mushrooms into billions o f dollars. It is clearly impossible fo r Con gress to judge the desirability o f any program merely on the basis o f the current costs. T o remedy these weaknesses we emphasize five recommendations: 1. The administration must take the leadership in formulating a policy that will leave room for tax reduction. In appraising the worthwhileness of government activities, we should remember that reliance on the free decisions of individuals, including their decisions about how they will spend their income, is fundamental to our demo cratic society. 2. Inform ation on the purposes and relative values o f budgeted ex penditures should be presented to the Congress on a program budget basis, so that it can evaluate the purposes o f the recommended pro grams and decide how much should be appropriated fo r the activi ties o f Government and how much should be allocated fo r tax reduc tion. W e urge the use o f program budgets, because only in this way can the great mass o f inform ation now presented in the budget be organized to relate proposed and present programs to their costs. Under present procedures, expenditures and appropriations are sub divided by departments and agencies, rather than by type o f activity. The Congress and the public will be able to understand the fu ll scope o f government activities if appropriations and expenditures are com bined by programs rather than by departments. Some progress along these lines has already been made, but the development o f the pro gram budget should be pushed ahead more rapidly in the near future. 3. T o make budget decisions properly, Congress should have before it estimates o f revenues and expenditures, not only in the com ing year but also for 4 or 5 years ahead. A lon g with overall budget totals, the estimates should include details for the major, long-term Federal programs, whether they are included in the administrative budget or in the cash budget. 4. The President should be given authority to veto individual items in appropriation bills. Under present procedures, the Presi dent cannot disapprove one item without disapproving many others and, as a result, too many wasteful expenditures creep into the annual budget. 7 T a x R e d u c t i o n a n d T a x R e f o r m — W h e n a n d H o w . M a y 1956. p. 10. * C o n t r o l o f F e d e r a l G o v e r n m e n t E x p e n d i t u r e s , J a n u a r y 1955. ECONOMIC GROWTH AND STABILITY 161 ■>. Congressional procedures should be revised to encourage Con gress to view government spending as a whole and to evaluate the effect o f the budget on the private economy. A joint budget-policy conference, consisting o f key congressional leaders, should be o r ganized to coordinate revenue and expenditure decisions and to set guidelines fo r the separate tax and expenditure committees o f the Congress. CONCLUSIOX W ith the Federal budget as high as it is now, it is imperative, in the interest o f economic growth, that the current upward trend in F ed eral expenditures be moderated and, if possible, arrested. Federal ex penditures are using up resources that might be more productively used in the private sector o f the economy or by State and local govern ments. H igh Federal expenditures are absorbing incomes that might provide an incentive to effort and enterprise, and the high Federal tax rates needed to finance these high expenditures reduce effort and ac tivity devoted to earning and producing income. T o say that Federal expenditures should be moderated is not the same thing as saying that needed governmental services should not be supported. Indeed, a grow ing economy requires more governmental services, but the m ajor responsibility fo r providing these services should rest with the State and local governments. I f we continue to spend more at the Federal level, the other units will not have the finan cial resources they w ill need to satisfy the demands imposed upon them by a growing economy.
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