Candidates Seek Budget Solutions : Parties Forced to Rely on ‘Backdoor’ Financing for Domestic Spending

Republican George Bush and Democrat Michael S. Dukakis share a common challenge in the current presidential election campaign: How to squeeze political blood out of a fiscal turnip--the federal budget.

Political analysts say that after eight years of shrinking government services, voters want the federal government to become more activist again--at least to the extent of providing new programs for child care, aid to education and some other social services. But the budget deficit is now so large there is no room for new spending programs.

“The prime question of domestic politics this year is how one navigates that contradiction,” William A. Galston, an analyst at the Roosevelt Center for American Studies, a Democratic think tank, asserts.

Different Ways

Predictably, both candidates have turned to backdoor methods--financing schemes that will not show up in the federal budget--to finance such new proposals. And they are doing it in sharply different ways.

But neither candidate’s approach is likely to provide the fiscal free ride that he implies, experts say.

Dukakis wants the government to provide small amounts of seed money for new programs, and then require corporations, rather than the federal government, to foot the full, continuing bill for them. The Massachusetts governor already has endorsed a plan that would require businesses to extend health insurance to workers who are not covered now. And he is expected to suggest a similar approach for financing child-care programs and job-leave for new parents.

In contrast, Bush wants to leave it to businesses and individuals to purchase such services on their own and calls for the enactment of tax credits that would reimburse them by allowing them to write off on their taxes part of what they actually spend. Bush already has proposed tax credits for child care and oil and gas exploration, and he wants to restore preferential tax treatment for capital gains and to create a tax-deferred savings bond for college costs.

Congressional and private experts estimate that Bush’s proposals could drain federal revenues--and thus increase the federal budget deficit--by between $4 billion and $10 billion a year, depending on how the proposals are structured.

Would Hike Deficit

And while Dukakis’ approach may seem cost-free at first blush--because the outlays by private businesses would not show up on the federal budget--economists warn that requiring corporations to pay for new social programs on their own eventually would cut into business profits. This, in turn, would cut into the amount of taxes collected on corporate profits, thus increasing the deficit.

“It is a strategy in which all of the gains are front-loaded and the disadvantages appear only later,” says the Roosevelt Center’s William Galston. “The services that are mandated have to be paid for somehow. To the extent that they are paid for by the private sector, it’s likely to produce a decrease in investment, a decrease in jobs, a decrease in wages, along with a decrease in profits and dividends.”

Michael Barker, another Democratic economic strategist, agrees. Both Dukakis and Bush “are running away from” the federal budget deficit, Barker contends. “Dukakis runs away from it by mandating that corporations provide the services,” Barker says, while “Bush runs away from it by implying that we can afford endless (tax) loopholes. Neither one is looking at the deficit and saying: ‘Here’s what needs to be done.’ ”

William A. Niskanen, a former Reagan Administration economist now at Washington’s conservative Cato Institute, predicts that the Dukakis approach would have even more far-reaching implications. Because providing the benefits would cost companies the same whether the worker is high-skilled or low-skilled, Niskanen says, the plan would raise the relative cost of hiring low-skilled workers, hurting “those whom we want most to help.” Maternity leave and child-care programs are likely to make employers more leery about hiring women. And there is no real way federal policy-makers can ride herd on such programs.

“There’s more reason to worry than if (the programs) went through the federal budget,” Niskanen says. The Dukakis approach effectively represents “the next stage of the American welfare state,” he asserts.

Tax Reform Act

Rudolph G. Penner, former director of the nonpartisan Congressional Budget Office, notes that Bush’s proposals for new tax preferences would fly in the face of the 1986 Tax Reform Act, which has been hailed as one of the Reagan Administration’s most important achievements.

“The downside is that we have just tried to get rid of all sorts of things like that with tax reform, in the interest of simplifying the system,” Penner says. In the 1986 legislation, the Administration sought to eliminate narrow tax breaks that benefited particular special interest and population groups, using the money that it “saved” there to reduce general tax rates for everyone.

Bush endorsed the tax-reform legislation, which was the most sweeping of its kind in the nation’s history. Part of the Administration’s rationale then was to stop using the tax code to influence social behavior--a practice that has long been criticized by conservatives. Analysts say Bush wants to reverse the Reagan effort and return to using the tax code to promote social goals such as making it easier for women to work outside the home and helping more children go to college.

Large Bureaucracies

Bush backers insist that such schemes are more effective than spending programs because they do not require large bureaucracies to administer.

Barker, Niskanen and others contend that the best thing both candidates could do for the economy would be to postpone all new spending initiatives and concentrate instead on reducing current spending to help lower the budget deficit. The borrowing needed to finance the deficit is sapping money that otherwise could be used for investment, inflating interest rates in the process, and is exacerbating the trade deficit by drawing in foreign lenders.

To be sure, both candidates have offered deficit-reduction proposals that they contend would offset the cost of their new initiatives. Bush has called for a “flexible freeze” that would hold spending roughly at its current levels. And Dukakis has pledged to intensify tax-collection efforts.

But economists doubt that either can prove all that effective in practice. Most agree that Bush’s freeze would be difficult to carry out. And tax experts say stepping up collection efforts would net only a few billion dollars at best.

Penner agrees: “They’re not really dealing with the budget deficit--either one of them,” he says of the two candidates.

Bush’s proposed tax credit for child-care expenses, designed to appeal to women and families, would allow working families with incomes of $10,000 or less to deduct from their taxes up to $1,000 per child for child-care expenses. If a family’s tax obligation was not high enough to allow it to claim the full benefit, the family would get the rest in a cash payment from the government. Bush has placed the price tag at $2.2 billion, but government estimators say it could be even higher, depending on the details. They say the cash payments alone would cost $1.8 billion.

His proposal for an energy tax credit to stimulate oil and gas exploration would allow taxpayers a credit of up to 10% on the first $10 million in oil- and gas-drilling expenses and 5% on everything above that. Bush also wants to allow independent oil and gas drillers to deduct more of their drilling costs. Estimators put the cost at about $800 million.

Stimulate Growth

Bush contends that his plan to cut the tax rate for capital gains--to make it 15% instead of the 28% that now prevails--would actually generate new revenues because it would stimulate economic growth.

But similar claims Reagan made for his own 1980 tax-cut proposal did not pan out, leaving the government in a bind over a widening budget deficit, and both congressional and Treasury estimators say Bush’s latest proposal would drain billions of dollars from government coffers also. The congressional Joint Committee on Taxation has formally estimated that the plan would lose about $1 billion a year during the first few years, rising to as much as $15 billion a year five years after it was enacted.

Finally, Bush’s plan to create a new tax-deferred bond that parents could purchase to help save for their children’s college education would drain $50 million a year from the Treasury during its first two years, and between $200 million and $400 million a year by 1993, according to congressional estimators. The bond would be similar to the Individual Retirement Account, in which the holder puts off paying taxes on the interest until the money is actually used.

Dukakis has not been far behind. The Massachusetts governor has endorsed in principle existing congressional health-care and child-care bills that together would require several billion dollars in new spending by the government alone. He also has called for increasing the Strategic Petroleum Reserve with oil for use in possible shortages--a move that some estimators have figured would require $4 billion in new outlays.

Democratic strategist Barker complains that while the two candidates may reap some short-term benefits politically from trying to circumvent the budget problem, their approaches are likely to prove counterproductive in the long run.

“The reason everyone is concerned about the budget deficit in the first place,” he says, “is not simply that it’s unsightly but that it has an effect on capital formation and investment and therefore on improving productivity. The Dukakis approach seems likely over time to have a negative effect on investment, and the Bush approach isn’t much better. To the extent that we bleed business profits away for social purposes, we exacerbate the very problems that deficit reduction is meant to solve.”

Staff writer William J. Eaton contributed to this story.