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Office of the Press Secretary

For Immediate Release February 13, 1995
                             Hyatt Regency
                             Washington, DC

Last week I had the opportunity to testify before the House and Senate budget committees about the Clinton Administration's new budget. Believing my assignment to be a serious one, I prepared a lengthy statement that examined the economy's performance during the last year, assessed its outlook over the next five years, and explained the Clinton Administration's strategy for building a prosperous economic future for all Americans. Perhaps naively, I thought that the facts would speak for themselves--after all, as President Reagan himself pointed out years ago, the facts are stubborn things--you can try to overlook them, but you can't change them, and they keep coming back to haunt you.

The stubborn economic facts of the last two years yield two inescapable conclusions. First, by most standard macroeconomic indicators, the performance of the US economy in 1994 was, in a word, outstanding. The economy has not enjoyed such a healthy expansion of strong growth and modest inflation in more than a generation. And second, as a result of the Administration's 1993 budget package, which embodied the largest deficit-reduction plan in the nation's history, the deficit is now under control, declining gradually as a share of the nation's output and reversing the trends of soaring deficits and debt that began in the early 1980s. But in my exchanges with the Republican members of both of these Congressional committees--and sadly, I might add in much of the press coverage of the Administration's new budget--these basic and incontrovertible conclusions were either simply overlooked, perhaps as yesterday's news, or denied altogether.

My Republican interlocutors had several lines of attack. Some questioned whether any real progress on the deficit had in fact been made, despite both OMB projections that the deficit-GDP ratio will be cut in half between FY1992 and FY1998. Others maintained that the economy's excellent performance during the past two years had nothing to do with the Administration's 1993 budget program, conveniently forgetting that they had predicted that its passage would, in the colorful words of one critic, cause the economy to go in the tank.

And, as if in carefully practiced unison, without a trace of irony, all of them blasted the Administration's new budget for not providing more than an additional $81 billion of deficit- reduction on top of the $505 billion in the 1993 budget. This despite the fact that to a person they had voted against the Administration's budget plan in 1993 without offering a single credible alternative of comparable size, and despite the fact that they have yet to come up with any specifics explaining how they intend to balance the budget by 2002 while simultaneously enacting dramatic tax cuts primarily for the rich and increasing defense spending. You will forgive me if I conclude that their feigned righteous indignation masked a deepseated frustration that the Administration had not given them a way out of the trap of inconsistent promises which they had laid for themselves with reckless abandon during the fall campaign season.

And you will at least understand me, if not forgive me altogether, if I characterize my sessions before these two committees as having a certain Alice-in-Wonderland quality.

In my remarks today, I would like to focus on reality rather than fantasy, on fact rather than fiction, on hard choices rather than soothing promises. My remarks will build on the analysis contained in this year's Annual Report of the Council of Economic Advisers. Before I begin, I would like to thank my colleagues on the Council, Dr. Joseph Stiglitz and Dr. Martin Baily, and the Council's superb professional staff, for their dedication, their intellectual rigor, and their hard work in putting the Report together over the past several months.

As I have already noted, the economic facts for 1994 are outstanding. Growth was robust, fueled by strong investment spending. Nonfarm payroll employment grew by 3.5 million jobs, the largest annual increase in a decade, and the unemployment rate fell by more than a percentage point, to 5.4 percent. Buoyed by improving job prospects and growing incomes, consumer sentiment hit a five-year high, and retail sales expanded at their fastest pace in a decade. Yet despite growing demand both at home and abroad, inflation remained modest and stable. The core rate of consumer price inflation--which removes the effects of volatile food and energy prices--registered its smallest increase in 28 years. The Federal deficit declined by more than $50 billion over the preceding fiscal year and by more than $100 billion compared to what had been projected for 1994, and the ratio of federal discretionary spending to gross domestic product fell to its lowest level in 30 years.

The economy's performance in 1994 looks even more remarkable when viewed against the backdrop of the economic challenges confronting the Nation when the Clinton Administration took office. Then the economy seemed mired in a slow and erratic recovery from the 1990-91 recession, business and consumer confidence was low, the unemployment rate was over 7 percent, and the deficit was nearly 5 percent of GDP. To make matters worse,the problems of anemic recovery and mounting deficits were superimposed on several disturbing long-run trends: a twenty-year slowdown in productivity growth; a twenty-year stagnation in real median family incomes; and a twenty-year decline in real compensation levels for many American workers.

Between 1973 and 1993, the share of total family incomes going to the bottom 80 percent of the family income distribution declined--only the top 20 percent enjoyed a substantial gain. In 1993, the last year for which complete data are available, the number of Americans living in poverty--forty percent of them children--hit a thirty-year high. Even in 1994, a year of robust economic expansion, the hourly compensation of American workers increased only 3 percent, barely keeping pace with consumer price inflation. All of these trends indicate that for an increasing number of American workers and their families, the dream of rising incomes and prosperity appeared to be fading away.

From the beginning the Clinton Administration has had a coherent strategy designed to bring the federal deficit and debt under control, to improve the economy's macroeconomic performance, and to reverse the trends of falling or stagnating incomes for most working Americans. There has been much speculation that this year's budget reflects a change in strategy motivated by the November 1994 election results. As a member of the economic team from the first days of the Administration, I can attest to the fact that there has been no such change. Deficit-reduction; policies to promote both public and private investments in the nation's physical, human and technological capital; targeted tax relief for working Americans; health care and welfare reform; re-inventing government; and policies to open foreign markets have always been the main components of the Administration's economic strategy. You need only re-read last year's ERP along with this year's version to see how consistent our thinking has been over the past two years.

The linchpin of our strategy was and remains a deficit- reduction plan that is balanced and gradual, yet large enough to be credible and to have a significant and sustained effect on the course of the deficit over time. While our critics attack us with rhetoric, the reality of our deficit reduction efforts cannot be denied. I have already mentioned some of the facts on deficit-reduction above. Let me add three more here. First, abstracting from interest on the debt run up by previous Administrations, the lion's share by the Reagan and Bush Administrations, the federal budget is now essentially in balance. In FY1994 revenues were nearly sufficient to cover spending for all purposes other than interest on past government borrowing. And according to current projections, revenues will exceed non-interest spending in each of fiscal years 1995, 1996, and 1997, making the Clinton Administration the first since the Johnson Administration to run a non-interest surplus over a complete cycle of four fiscal years. Second, the so-called structural budget deficit--a measure which abstracts from cyclical changes in the deficit and captures only the effects of policy--is forecast to average only 2.5 percent of GDP between 1994 and 2000, compared to an average of 3.9 percent between 1982 and 1993. Third, after tripling in the 1980s, the net debt of the federal government is expected to stabilize relative to GDP through the year 2000. Moreover, the Administration's current long-range economic forecast indicates that the favorable trends in the deficit and debt relative to the size of the economy are likely to persist at least through the middle of the next decade.

During last week's testimonies, I was asked repeatedly by the Republican committee members whether the Administration was satisfied with a budget that predicted annual deficits of around $200 per year for the next five years and beyond. I offered a two-part answer to this question. First, the absolute size of the deficit in dollar terms is not a meaningful economic indicator--it must be judged relative to the size of the economy, and as I have already noted, on this measure, the deficit outlook has dramatically improved and will continue to improve gradually through the next ten years.

Second, the Administration believes that additional success in slowing government spending and reducing the deficit requires meaningful health care reform. Federal health care spending is the most rapidly growing part of total federal spending, expanding at a rate which causes it to double every eight years. Because of the linkages and interactions between public health care programs and the private health care markets, however, attempts to stem the growth of federal health care spending by such mechanisms as spending caps will not solve the underlying problem of costs. Instead, the imposition of caps will shift costs to the private sector and threaten the availability and quality of services for the medicare and medicaid populations.

Critics of the Administration's deficit-reduction efforts regularly miss another important economic point--deficit- reduction is not an end in itself--it is a means to the end of greater national investment and higher living standards. As we explain in the Economic Report, deficit reduction has the beneficial effect of increasing national saving (by reducing the negative saving of the Federal Government). This increased national saving is available to private entities for investment in physical capital like machinery and equipment, which in turn can increase labor productivity.

But squeezing worthwhile public investments out of the budget to make room for private investment is the wrong way to reduce the deficit. Moreover, one should recognize that deficit reduction by itself is contractionary fiscal policy and constrains aggregate demand. Therefore, there are limits to the amount of deficit reduction that the economy can be expected to withstand in a short period without endangering economic growth. Over the long run, deficit reduction makes room for more private investment, but in the short run it depresses aggregate demand and can even depress private investment.

This is one reason why the Administration is opposed to a balanced budget amendment to the Constitution. Another is that such an amendment would throw the so-called "automatic" fiscal stabilizers into reverse, leaving monetary policy as the sole instrument for moderating the cyclical ups and downs that are a normal occurrence in a market economy. My opinion piece in last week's Washington Post has a more complete analysis of the shortcomings of the balanced budget amendment.

So far I have focused on only one aspect of the Administration's economic strategy--deficit-reduction. Now I want to turn my attention to another important component of this strategy--policies to help American workers and businesses realize the opportunities that flow from changes in technology and the global economy. Many of these policies and their economic effects also are highlighted in this year's Economic Report. Their common theme is investment: both public and private. On the public side, the Federal Government is shifting spending away from current consumption and toward investment in children, education and training, and science and technology. On the private side, the Administration supports targeted subsidies to complement market incentives and encourage investment by individuals and businesses in physical, technological, and human capital. Throughout, the Administration recognizes that government must not only spend less, it must also spend better, by focusing more of its resources on the Nation's future.

In the area of science and technology, we discuss in the Economic Report the reasons why the market itself may not provide sufficient incentives for development of all socially desirable investments. This is because the benefits of research do not always accrue to the inventor, but rather to society as a whole through the widespread--and widely beneficial-- dissemination of scientific and technological advances. The Administration recognizes the economic importance of fundamental science and of research and development of generic technologies, both areas that have long received bipartisan support in budget decisions. That is why, even though total discretionary spending has remained approximately fixed in nominal terms, Federal spending on research and development has continued to edge upward.

Despite the protestations of many Republican members of Congress, including the Speaker of the House himself, the science and technology budget is in serious jeopardy by Republican promises to balance the budget and provide huge tax relief during the next several years. In an ominous sign of what is yet to come, just last week the House Appropriations Committee voted to all but eliminate funding for the new Technology Re-investment Program, a partnership program between the Department of Defense and private industry to promote dual-use technology projects, while exposing traditional defense contractors to innovative management and production techniques to lower their costs and to encourage more rapid technology transfer into commercial uses. And the Contract with America calls for the elimination of effective civilian technology support programs like the Advanced Technology Program.

Investment in education and training--or what economists call human capital--is another defining feature of the Administration's economic strategy. Chapter 3 of this year's Economic Report documents the important contribution of human capital to the economy's productivity and growth potential. And Chapter 5 documents the important contribution of skills and education to the income prospects of an individual worker during the course of his working life.

In the United States, as in all of the advanced industrial countries, rapid changes in technology and global competition have shifted the demand for labor away from those with relatively low levels of skill and education. In the United States, where there are few policies to prop up wages at the bottom of the income and skill distribution, the result has been a sharp decline in the real earnings of workers who only have a high- school degree or less and a sharp increase in the relative returns to additional education and training. The lesson from this experience is clear--the restoration of the American dream requires that American workers have the opportunity and incentive to acquire the skills and education needed for the high-paying jobs of the new economy.

This simple but powerful lesson motivates the Administration's ambitious education and training agenda which extends from increased funding for Head Start to the proposed middle-class tax deduction for post secondary training and education. Chapter 1 and 5 of this year's Report contains an extensive analysis of the various components of this agenda. Tomorrow the President will be giving a major speech on the education and training part of his economic strategy tomorrow in San Francisco before the American Council on Higher Education. As even many of his critics have rightly observed, his energy, commitment, and innovation in the education and training area have earned him the mantle of the Education President.

In my Congressional testimonies last week, I heard much from the Republican side of the aisle about the debt burden we are passing onto our children but absolutely nothing about the investment we can and should be making in their education and training. If we really care about the nation's children, including the 23 percent of them who today live in poverty, then we must invest in their future productivity. During the last two years, there has been considerable bipartisan support for the Administration's education and training initiatives. But recent Republican assaults on the National Service Program and the contingent-student loan program and recent welfare reform proposals that threaten to throw even more children into even deeper poverty indicate that the Administration's hard-won successes in the education and training area are under attack in the name of fiscal responsibility and tax relief for wealthy Americans. The President is committed to turning back this attack, to preserve and build on the gains we have made during the last two years. He will not abandon his pursuit of higher incomes for all Americans.

The Administration's initiatives to open foreign markets and boost American exports complement its emphasis on domestic investment. Four examples of the Administration's commitment toward opening foreign markets to U.S. goods and services are discussed in Chapter 6 of this year's Economic Report: NAFTA, the Uruguay Round of the GATT, and the trade discussions that took place at the Summit of the Americas and the meeting of the Asia Pacific Economic Cooperation (APEC) forum.

Evidence presented in the Economic Report also demonstrates precisely how exports play an increasingly important role in the livelihood of American workers: Over 10 million American jobs now depend on exports, and export-related jobs pay substantially higher than average wages. In addition, the reduction of barriers to trade raises the average standard of living by providing a wider variety of goods to American consumers at lower prices. Finally, foreign competition can lead to greater efficiency and productivity in U.S. businesses--several studies released in 1994 showed that American industry had regained its technological and market leadership in several critical areas in which it had been judged, until recently, to be weak or in danger of falling behind.

The Federal Government, too, must respond to the demands of economic change. That is why another component of the Administration's economic strategy is to reinvent the Federal Government so that it works better, costs less, and shed functions that are no longer needed in today's economy or are performed better by either State or local governments or the private sectors. The savings that can be realized by eliminating some programs and rationalizing and improving other are essential to the goals of deficit reduction, tax relief for working families, and a shift in the balance of Federal spending toward more investment.

By the end of 1994, the Administration's reinventing government reforms, under the leadership of Vice President Gore, had reduced the Federal workforce by about 100,000 employees and had made substantial progress in the area of government procurement. A second round of reforms was announced in December 1994, with projected savings of $26 billion over 5 years. While such reforms generate savings in Federal spending, this is not their only motivation. They are also designed to improve government and to provide services that are in the national interest--to create a government that is leaner, not one that is meaner.

This is the sort of government the President envisions when he speaks of a New Covenant between those of us who serve in government and the American people. It is an approach to governing that seeks to shift resources and decisionmaking from bureaucrats to citizens, injecting choice and competition and individual responsibility into national policy. It is an approach that offers citizens greater opportunity in return for a pledge of personal responsibility--for example, a pledge by parents to take care of their children, and a pledge by all of us to invest in our own training and skills.

It is on this basis that the Administration plans several policy initiatives to address the Nation's unfinished economic agenda during the next two years. One of these initiatives--the Middle Class Bill of Rights--was announced by the President in December. This initiative includes targeted tax relief to help middle-class families meet the costs of raising their children, investing in post secondary training and education, and saving for a variety of purposes. The proposed tax cuts reflect the much-improved outlook for the fiscal deficit which allows the President to build on his first round of tax relief for working families--the form of a major expansion of the earned income tax credit in the 1993 budget package.

A second initiative was introduced by the President in his State of the Union Address--an increase in the minimum wage. Adjusted for inflation, the minimum wage has fallen by about 50 cents since 1991 and is 29 percent below its 1979 level, leaving it at its second-lowest level since the 1950s. According to recent research, the erosion of the minimum wage has been an important source of increasing wage inequality, especially among women who are almost twice as likely as men to work at minimum wage jobs. Recent research also indicates that modest increases in the minimum wage will increase incomes at the bottom of the wage distribution and will reduce wage dispersion with no discernible effect on employment. The proposed increase in the minimum wage is an important part of the President's efforts to reward work and raise incomes for working Americans.

This goal informs the Administration's approach to welfare reform which emphasizes the need to ensure that welfare recipients obtain the skills they need to find employment and which eliminates long-term welfare dependency as an option for those able to work.

The Administration looks forward to working with Congress on welfare reform to help more families escape dependence on welfare, while avoiding solutions that punish people for being poor or that punish children for the mistakes of their parents. We must be tough on work requirements but at the same time we must provide a real safety net for children. As a recent study chaired by Nobel Laureate Robert Solow and cited in this year's ERP concludes, children who experience poverty between the ages of six and fifteen are two to three times more likely than those who are never poor to become high-school dropouts. The study finds that just one year of poverty for the 14.6 million children in poverty in 1992 cost the economy somewhere between $36 billion and $177 billion in reduced future productivity and employment. However we resolve the deficit and welfare challenges facing the nation, we must not sacrifice the nation's children--and the nation's future productivity in the process.

Ninteen ninety-four was a very good year for the American economy. Indeed, robust growth, a dramatic decline in the unemployment rate, low inflation, and a much improved outlook for the Federal budget combined to yield the best overall economic performance in at least a generation. In addition, last year's economic performance ranks as the best among the advanced industrial countries with which the United States is usually compared.

But the economic successes of the past year must not obscure the long-term economic challenges facing the Nation. Some of these, like the dramatic growth in entitlement spending projected for the first few decades of the next century, or the disturbing increase in the number of Americans without health insurance, result in large part from the interaction of national economic policy choices with the changing demographics of the American population. Others, such as the persistent decline in real compensation for many groups and overall increasing income inequality, may in large part result from worldwide changes in technology and other areas. These changes are creating a new world economy and a new American economy, which hold both the promise of a more prosperous future and the threat of more dislocation and adjustment for many American workers and their families.

As the Nation enters the last half-decade of this century, this Administration has already put in place some important foundations for greater prosperity. Over the coming year we look forward to working with the Congress, with the States, and, most important, with the American people, to address the Nation's long-term economic challenges and to make the most of the Nation's long-term economic opportunities.