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The Rosy Scenario

In this context of market skepticism advisers battled over the assumptions that would accompany the economic plan. They could not use the September 9 inflation assumptions, but any forecast within the bounds of experience would make it difficult to project a balanced budget with the big tax cut. Neither the Senate leaders nor, naturally, House budgeters thought the two fit together. House opposition could be dismissed as partisan, but, if the forecast were denounced by Senate leaders as well, the administration's game would be up. Luckily for Stockman and Reagan, Senate leaders wanted to support their new president and at least the basic outlines of the new policy: real domestic spending cuts and some tax relief. Stockman therefore needed an economic forecast that was optimistic but not totally off the wall, one that could be criticized but not simply dismissed out of hand. He got what he needed, not from calculation but from last-minute compromise.

The original drafting team for the economic forecast—Stockman with his chief economist at OMB, Lawrence Kudlow, and Beryl Sprinkel, Norman Ture, and Paul Craig Roberts from Treasury—were a mix of supply-siders and monetarists. They wanted economic growth of 5 percent to 6 percent, twice the historical norm. "Otherwise," Stockman writes, "what was the point of the whole miracle cure we were peddling?"[9] But they also wanted low growth of money supply. There were two ways to get there; the most obvious was to assume a quick collapse of inflation, falling to 2 percent by 1984. Accordingly, in late January, Stockman's draft forecast was predicting a quick rebound in the second half of 1981, followed by GNP growth of 4.5 percent for each following year, all with low inflation. Conceding that conventional economic models predicted nothing of the sort, the budget director declared those models "can't even predict the next quarter, let alone the next year."[10] That was too true, but wishful thinking was not necessarily a better guide.

Stockman could not sell the forecast to any but his supply-side colleagues. Alan Greenspan was particularly critical (internally), and he was hardly alone. CBO estimated that under realistic assumptions the Reagan package as roughly outlined would lead to $70 to $80 billion deficits.[11] More important, Senate Republicans balked at the developing forecast; Domenici told Stockman that he could not accept it.


Into this mess strode Murray Weidenbaum, the new CEA chairman. He knew that no one would believe the combination of fast growth and 2 percent inflation. His protests were interpreted as a threat to resign, which would be very damaging. There they were in early February with no economic forecast, and, as part of the overall strategy of moving quickly, the administration had already announced that it would reveal the full package in a speech to Congress on February 18. Estimates in the budget documents depend on the economic forecast, so the matter had to be settled fast. "You're going to be sending the President of the United States up that Hill with a blank piece of paper," Dale McComber, chief career official at OMB, warned his new director. "The prospect," Stockman notes, "lacked charm."[12]

Stockman, Weidenbaum, and the rest, therefore, bargained out a forecast. Weidenbaum won agreement to predicting slower long-term growth (4.2 percent annually after 1983) and acknowledging the need for a very small ration of recessionary pain in 1981. The final forecast assumed slightly higher (7.7 percent) unemployment in the fourth quarter of 1981 than had prevailed in the first quarter (7.4 percent). It also assumed a much more gradual fall-off in inflation (to 6.0 percent on the CPI in 1983; 5.1 percent in 1984).[13] The CEA chairman described the result:

A forced marriage. Supply-side people insisted on the possibility of rapid growth in real terms, and monetarists demanded rapid progress in bringing down inflation. Each of them would go along with a set of numbers as long as their own concern was satisfied. The monetarists weren't that concerned about growth and supply-siders weren't that worked up about inflation.[14]

The result, Herbert Stein wrote, "strained credulity."[15] Weidenbaum later claimed that the final result was "extremely optimistic," but not "off the wall…. Was it technically feasible? I think so. But everything had to work well."[16]

The numbers about which there was such controversy appear in Table 3, with comparisons to figures in Carter's budget.The forecast's optimism was not so unusual as presidential forecasts go, though it would prove far less justified than normal. The problem was in the internal logic: this was all supposed to happen with slow monetary growth. The monetary squeeze could wipe out the forecast by creating a recession—the usual concomitant of slowing the flow of financial blood to the economic system. But even without recession there was a mathematical inconsistency.

The revenues to balance the budget, at the lower rates from the tax cut, called for a large growth in the nominal (current dollar) economy and therefore in both real and inflationary growth. Growth in the nominal size of the economy means that more money is changing hands. Either there is more money (i.e., the money supply increases), or current


Table 3. Economic Forecasts for 1981–1983 (in percentages)












CPI increase







Interest, 91-day T-Bills







GNP change







Sources: CQ Almanac, 1981, pp. 272, 279; National Journal, Feb. 21, 1981, p. 307.

money is moving faster (i.e., "velocity" increases). If the money supply were squeezed, then money for the projected growth in nominal terms would have to come from unprecedented increases in velocity. People would have to turn over their money much faster than ever before. Unless velocity increased then, as Paul Craig Roberts later wrote, by "jacking up the inflation assumption" above what the supply-siders wanted—so as both to seem reasonable to those who believed that inflation could only fall slowly and to give an appearance of budget balance that might reduce inflation expectations in the long term—"Stockman showed higher nominal GNP than was consistent with the assumption of monetary restraint."[17] To wring more money from lower taxes demanded a higher nominal GNP; that in turn required high growth and inflation. But, because the money supply was not supposed to grow nearly enough for this, something had to give.

Inconsistency at this level of analysis was not something that economists could explain very well to themselves, let alone to the American public or to politicians. But it suggested that the administration package would be less than convincing to those skeptical bond markets; when they did not react with glee, Stockman, rather guiltily, concluded "they don't think it adds up."[18]

Economically it didn't add; politically it did—barely. No one knew either if the Federal Reserve would hit its monetary targets or what target was really consistent with what rate of inflation. The uncertainty of 1980, plus the difficulty of appearing partisan, inhibited CBO from taking a strong stance against the estimates.[19] Republican economists—Greenspan, for instance—who wanted the administration to look as good as possible withheld public criticism.

The rosy scenario fooled neither budget experts nor leaders of House Democrats and Senate Republicans. But because the administration had avoided totally implausible economic or budget deficit forecasts and was


only technically inconsistent, Senate Republican budgeters would have trouble explaining a break with the president. They would seem to be siding with the Democrats, and that the Republicans could not do. The issue could still be posed as "us" versus "them"; anyone who questioned the figures was opposing the president. Democrats, of course, could say anything they wanted about the Reagan plan, and it would be dismissed as partisan.

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