tional amendment, or two-thirds majority is the way out. I think we have to devise some sort of process whereby we can compare the cost and the benefits of expenditures in the public sector to the cost and benefits of using the same resources in the private sector.

And it is not clear that one sector is always more productive than the other. I am not sure whether the investment in national defense or the investment in people's education is more or less productive, than the investment in the princess telephone or other private sector investments. I am all for what we have heard this morning, in analyzing particular programs in terms of their cost and benefits. I don't think this can be done by formula or by equation, and I don't think it can be done by a constitutional amendment.

And so these are the main points that I have spelled out in more detail in my written remarks. I welcome the opportunity to appear before the committee and make my views known.

Senator BAYH. Dr. Saunders, we appreciate very much your taking the time to be with us.

If you could sort of bear with us, why don't we let Mr. Everett give his statement and then maybe some of the questions can be answered together so we can have continuity in our record. [Mr. Saunder's prepared statement follows:]

PREPARED STATEMENT OF PHILLIP SAUNDERS

I think that it would be a mistake to amend the Constitution of the United States to require an annually-balanced federal budget as proposed in several of the resolutions pending before this committee. I think that it would be a mistake for three general reasons, which I will first state, and then elaborate in more detail. First, I do not feel that either the absolute size of the federal debt or the existence of a surplus or deficit in the federal budget in any given year should be considered the most important goals of national economic policy. There are other goals that are often more important for the economic well-being of the American people than these. To elevate the goals of an annually-balanced budget and/or a systematic reduction of the national debt to a constitutionally-mandated priority, therefore, would be a mistake-even if these goals could be attained.

Second, not all of our problems, let alone all of our economic problems, are susceptible to constitutional remedies. I feel that the effectiveness of our Constitution, which has served us so well, will be seriously undermined if we begin to load it up with amendments that promise things which we might not be able to deliver. At a time when many feel that public confidence in our most basic institutions is eroding, it would be unfortanate to drag something as important as the Constitution of the United States into the hurly burly of the annual budgeting process. Nothing would be gained, and much could be lost, if economic and political realities would cause the Constitution to be treated as we have treated the legislatively-mandated national debt ceiling in recent years.

Third, I think that much of the support for the proposed amendments, or at least much of the emotion surrounding the national debt, confuses symbol with substance and may suffer from a lack of perspective and/or be based on misleading analogies with private debt. There is, unfortunately, no simple one-to-one, causeand-effect relationship between the size of a budget deficit and other important economic variables. Contrary to some popular misconceptions, the national debt is not the fastest growing thing in the U.S. economy. And, having warned of misleading analogies, one of the last points that I will make below is that, if the federal government kept its books the same way that private businesses do, and used capital budgeting, the budget deficits of recent years, which are the source of so much concern, would not even exist.

Having thus stated my general reasons for opposing the proposed amendments. I would now like to elaborate on each of them briefly, beginning with the points on "desirability" and "feasibility," and concluding with a more detailed examination of budget deficits and the national debt in an economic perspective.

GOALS OF ECONOMIC POLICY

What "really" counts in determining the economic well-being of the American people is how well we are nourished, how well we are clothed, how well we are housed, how well we are educated, how free we are from external aggression and internal violence, and so on. These things in turn depend on how fully and effectively we employ our limited productive resources, how stably we maintain our overall price level, and how securely we maintain the basic freedoms of our people. It is these broad goals of freedom, security, price stability, and full employment of our resources that I feel are the most fundamental goals of our economy-not a set of numbers that shows up on the books of the United States Treasury Department. In some circumstances, the attainment of these broader, and I think more important, goals of economic policy is compatible with an annually-balanced federal budget. In other circumstances it is not. Sometimes it may require a surplus to attain our other goals. Sometimes it may require a deficit. The important point is that the economic impact of the federal budget depends on what is happening in the rest of the economy. And a closely-related point, that I will elaborate below, is that what happens in the rest of the economy has an impact on the federal budget.

Given a choice between "adjusting" the budget to "fit" changing economic conditions and "adjusting" the economy to "fit" an arbitrary budget requirement, I favor the former and argue against the latter. As I have said, I think that it would be unwise to require an annually-balanced budget, irrespective of current economic conditions, and I think it would be doubly unwise to use a Constitutional amendment, as opposed to the give-and-take of the legislative process, to enact such a requirement.

"CONTROLLABILITY" OF THE FEDERAL Budget

Several of the resolutions proposing an annually-balanced budget requirement recognize that, given the complexities of our economy and the realities of the budget process, there are circumstances in which it might not be possible to balance expenditures and receipts in any given year. In these resolutions, howeversome of the "remedies" proposed in situations where receipts fall short of expenditures (such as mandatory income tax surcharges or waiving the requirement with a two-thirds vote) might cause more damage than the "disease" they are designed to "cure". One need only recall the ineffectiveness of the increased tax rates in the Revenue Acts of 1932 and 1936 in overcoming the federal deficits during the Great Depression to emphasize the difference between the tax rates and tax receipts in our economy, and requiring a two-thirds vote (as opposed to a simple majority) could serve to prolong the decisionmaking process and reduce fiscal flexibility. The argument that a Constitutional amendment would strengthen the "will" or the "resolve" of Congress in achieving an annually-balanced budget misses the point mentioned above that the actual budget balance is more complicated than this. Expenditures and tax receipts are not fixed amounts completely under Congressional control in any given year. Our recent inability to balance the budget has had as much, if not more, to do with the performance of the economy in the face of "external shocks" and previously-enacted legislation than it has had to do with the "will" or "resolve" of Congress in any particular year. A large part of the increase in the federal deficit during the most recent 1974-75 recession, for example, was caused by a sharp decline in tax receipts due to the effects of the recession itself. Further, a significant part of the increase in federal expenditures during this period was equally "uncontrollable" inasmuch as it represented increases in transfer payments (particularly unemployment compensation and social security benefits) mandated by legislation already on the books.

At present, our economic and political arrangements are such that for every $1 decline in GNP, the balance between federal tax receipts and expenditures changes by about $.25-$.30 in a negative direction. That is, an existing surplus would "automatically" be reduced or an existing deficit would "automatically" be increased by about twenty-five or thirty cents. Likewise, economic expansion and increases in GNP tend to increase tax receipts and moderate expenditureseven in the absence of changes in budget legislation.

1 Source: Ott and Ott, Federal Budget Policy, Third Edition (Washington, D.C.: The Brookings Institu tion, 1977), p. 97.

Far from being a bad thing, I feel that this "automatic" or "built-in" flexibility is one of the strengths of our present economic arrangements. It helps explain why the post-World War II recessions, including the most recent and most severe contraction of 1974-75, have been relatively mild compared to the preWorld War II recessions, including the tragic depression of the 1930's. It would be unfortunate to sacrifice this flexibility for a balanced budget requirement that might prove very difficult and very painful to achieve.

DEFICITS AND THE ECONOMY

There are times when a budget deficit can be inflationary." There are times when this need not be the case. Indeed, there are times when a balanced budget or even a budgetary surplus can be inflationary, compared with the economic effects of an even larger surplus. As implied above, the inflationary impact, or the non-inflationary impact, of the federal budget at any given time depends on what is happening in the rest of the economy. A closely-related point is that it is the change in the "balance" between tax receipts and expenditures that is more important in influencing economic activity than the absolute level of the "balance" at any given moment. Other things equal, a change in a surplus from $20 billion to $10 billion has the same expansionary impact on the economy as a change from a surplus of $5 billion to a deficit of $5 billion, or a change from a deficit of $10 billion to a deficit of $20 billion. Likewise, other things equal, a change from a deficit of $20 billion to a deficit of $10 billion has the same contractionary impact on the economy as a change from a deficit of $5 billion to a surplus of $5 billion or a change from a surplus of $10 billion to a surplus of $20 billion.

The fact that the deficit in the federal sector of the national income and product accounts has been shrinking steadily in recent years (from $70.6 billion in 1975, to $53.6 billion in 1976, to $43.6 billion in 1977, to $27.7 billion in 1978) while prices have continued to increase at an alarming rate, and while the unemployment rate remains at a stubbornly high level, indicates that we are not in a "classic" excess demand inflation of the World War I or World War II variety. Accordingly, there seems to be little hope that something as simple as an annually-balanced federal budget can extricate us from our present difficulties. It will take an extraordinary combination of monetary policy, increased productivity, altered expectations, and a host of other things in addition to the federal budget to deal with the economic problems of the 1980's. We should keep our fiscal options open, including the option of balancing the budget. But we should not straightjacket ourselves with a mandatory Constitutional amendment.

THE NATIONAL DEBT IN PERSPECTIVE

Much of the concern expressed with regard to the national debt is voiced in terms of its absolute size. And the national debt is indeed very large. Over $800 billion is an almost incomprehensible amount of money. If it were cups of coffee, it would take an impossibly long time to drink it. If it were stacked in $1 bills, one on top of the other, the pile would reach into the universe, and so on. Yet comparisons dealing with the absolute size of the debt alone, without comparing it to the absolute size of other important economic magnitudes, which are also exceedingly large and growing, can be misleading.

Likewise, one hears appeals to analogies such as: "If an individual (or a business) can't spend more than he (it) takes in without going bankrupt, I don't see how the government can do it either." Logically, the usefulness of such analogies depends on the similarity of the things being compared. Unfortunately, individual (and private business) finance is not any more comparable to public finance than is individual speed comparable to the speed of an automobile. Yet, fortunately, one rarely hears analogies to the effect: "If an individual can't run 60 miles an hour, I don't see how a car can either."

The most important difference between a private debt and the national debt is the difference between an external debt and an internal debt. The economic unit

? World Wars I and II are classic examples:

The deficits in the federal budget during the early 1930's were accompanied by a 24.4 percent decline in consumer prices between 1929 and 1933. From an index number (1967-100) of 51.3 in 1929 to an index number of 38.8 in 1933. (Source: January 1979, Economic Report of the President, Table B-49, p. 239.)

Between 1968 and 1969, for example, the consumer price index (1967-100) increased by 5.4 percent, from an index number of 104.2 to an index number of 109.8, despite the fact that the federal sector of the national income accounts shifted from a deficit of $5.5 billion in 1968 to a surplus of $10.7 billion in 1969. (Source: January 1979, Economic Report of the President, Table B-49, p. 239, and Table B-72, p. 267.

contracting an external debt, such as a business firm or a household, must eventu ally give up control over some real goods and services to cover interest payments and debt retirement. When the federal government sells bonds to people or institutions in this country, however, it is contracting an internal debt; and the country as a whole does not have to give up control over any real goods and services. Transfer of control within the basic borrowing and lending unit, however, does

occur.

A reasonable analogy between private debt and public debt occurs in the comparatively rare case where foreigners hold U.S. government bonds. In this case, and only in this case, is the national debt an external debt. And only in this case would we, as a nation, be required to surrender control over goods and services produced in this country in order to meet the interest or retirement charges on an external debt. A more correct analogy between personal or business debt and the national debt would be when one member of a household borrows from another member of the same household. In this case the total household's control over real goods and services stays the same. But, within the household, the control is shifted around.

This is not to say, therefore, that the national debt imposes no burden on th U.S. economy, but it is to say that the internal transfer burden of a large public debt is significantly different from the external transfer burden of a large private debt. It also implies that the best way to assess the ability of our economy to "handle" the national debt is the size of the economy itself; and it implies that it is important to inquire into who "owns" the national debt.

Since the U.S. Treasury cannot borrow money to finance the national debt unless some other economic unit has savings to lend, an inquiry into the ownership of the national debt is also an inquiry into national savings. Saying that the national debt is over $800 billion sounds ominous. Saying that national savings are over $800 billion does not. Yet they are two ways of saying the same thing. For every borrower there must be a lender, and vice versa. I can recall during World War II, for example, that every Friday I took a dime to my home room teacher. For my dime, she gave me a savings stamp, which I pasted in my savings book. When the book was full, I traded it in for a "war bond," and felt good about my contribution to defeating the axis powers. I thought that I was saving. It was not until later that I realized that what I was doing was adding to the national debt.

OWNERSHIP OF THE NATIONAL DEBT

Table 1 shows the ownership of the United States' public debt securities as of last November. One thing that often surprises people seeing these figures for the first time is the fact that the largest single owner of the national debt is the U.S. Government itself. Indeed, various Government accounts, such as the Social Security Trust Fund and so on, and the Federal Reserve System, the independent Federal Government Agency responsible for controlling the nation's money supply, together own over one-third of the total national debt. This is a fact to keep in mind in considering proposals to "pay off" or retire the national debt. The funds to retire the debt, of course, would have to come from taxpayers. Then, what would happen to the money? Most of it would be paid to the Govern ment itself, banks, insurance companies, and other private corporations. These organizations would then be faced with the problem of finding another investment opportunity for their savings. Needless to say, there are literally no other investment opportunities that can offer the absolute guarantee of interest payments and return of principal that can be offered by the U.S. Government, since no other agency has the federal government's authority to tax and print money.

There are some economic situations in which some debt retirement is desirable. and there are other situations in which it is not. But, in the extremely unlikely event that the entire national debt was eventually retired as proposed by some of the resolutions pending before this committee) we would also have to overhaul our existing monetary arrangements. At present, the Federal Reserve System's main tool for controlling the money supply is the open market purchase an! sale of U.S. Government securities. If there were no national debt, there would be_no U.S. Government securities to buy or sell.

In the absence of the complete retirement of the national debt, however, there remains the questions of how the size of the debt compares with our economy's ability to "carry" it, and how it compares with the size of private debt in the U.S. economy. For purposes of these comparisons, I will use the concept of net debt, which does not count debt that various economic units "owe to themselves".

Net public debt compared to the size of the U.S. economy

At the end of World War II, in 1946, the net federal debt of $229.5 billion was actually larger (109 percent) than the Gross National Product of $209.6 billion." By the end of fiscal 1978, however, the net federal debt of $610.9 billion, as a percentage of 1978 GNP of $2,127.6 billion, had declined to 28.7 percent. At no time since World War II has the net interest paid on the national debt exceeded two percent of GNP, and at the end of fiscal 1978 the net interest payments of $33.1 billion represented 1.56 percent of 1978 GNP. Thus, while the debt has grown significantly since World War II, our ability to handle it has grown much faster.

Net public debt compared to net private debt in the U.S. economy

The data in Table 2 indicate that the first part of the analogy quoted above: "If an individual (or a business) can't. . ." is somewhat misleading. For individuals and businesses can indeed borrow money-as long as they can find someone to lend it to them, and as long as they keep up payments of the interest and principal due. As the figures in the table indicate, private borrowers have increased their debt by well over two trillion dollars in the post-World War II period; a rate of increase that is 1,544 percent of net private debt in 1946. This is an amount and a rate of increase that makes changes in the national debt during the same period seem small by comparison. But, as the data in the table also indicate, if one makes the comparisons from 1929 (before the onset of the Great Depression and World War II) instead of 1946, the relative size of the increases are changed, but the absolute amount of increase in private debt is still over four-and-one-half times larger than the absolute amount of the increase in the national debt.

The figures in Table 2 also indicate, but do not illustrate completely, how prominently wars and recessions have influenced the size of the national debt. Ott and Ott have noted: "Over the period 1914-75, out of accumulated budget. deficits of $447.4 billion, 60 percent was incurred during war years and about 21 percent during recession years." "

I make these comparisons, not to prove that the national debt is not a problem, but to indicate that, if the national debt is put into perspective with other parts of the economy, the magnitude of this "problem" may not be as great as the magnitude of other problems facing the economy at the present time. Despite its absolute size, the national debt poses less of a problem at the present time than it has at other times in our history.

FEDERAL ACCOUNTING PRACTICES

Unlike private business accounting and the practice of some foreign governments, the federal government makes no attempt to separate its annual expendi-tures into the two broad categories of current expenses and capital expenses. Oneof the main reasons that business corporations can carry the huge debt shown in Table 2 and still show annual profits for their shareholders is that they put the cost of capital items, which produce services over an extended period of time, in a separate budget, financed in whole or in part by borrowing. The cost of these capital items are then amortized over the lives of the assets, and only the appropriately amortized portion of the total cost is charged to the current expense budget in any given year.

As indicated earlier, it is difficult to draw exact comparisons between private finance and government finance, and there is some arbitrariness involved in deciding if certain government expenditures are capital items or current expense items. But in one recent attempt to do this, Joseph Scherer of the Federal Reserve Bank of New York came up with the data shown in Table 3, and he concluded:

... a rough division of the budgets for fiscal 1978 (actual) and for fiscal 1979 and 1980 indicate that the current account budgets for all those years are balanced, while in the capital account budgets for fiscal 1979 and 1980, less than half of the new investment expenditures are expected to be financed by borrowing. In fiscal 1978 (actual), about 60 percent of the investment spending was financed by borrowing. Thus, it is reasonable to infer that if business accounting practices had been adopted by the federal government, there probably would not have been any current account federal deficits over the entire post-World War II period; and generally a large proportion of the capital investment spending would have been

Source: January 1978, Economic Report of the President, Table B-9, p. 337 and Table B-1, p. 257. Source: September 1979, Economic Indicators, pp. 1, 32, and 34.

Source: Oft and Ott, Federal Budget Policy, Third Edition (Washington, D.C.: The BrookingsInstitution, 1977), p.97.