Nine
Return of the Deficit

Can anyone here say that if we can't do it, someone down the road can do it? And if no one does it, what happens to the country? All of us here know the economy would face an eventual collapse. I know it's a hell of a challenge, but ask yourselves: If not us, who? If not now, when?

The speaker was Ronald Reagan; the audience was his cabinet,the time, September 1981, his subject, reducing budget deficits.^[1] As soon as the reconciliation and tax-cut battles ended, the deficit panic began again—indeed, even before Reagan signed those two bills on August 13 and left on a California vacation. The alarm was sounded by David Stockman, privately to the president on August 3 during a lunch meeting of the administration's top economic policy makers, not so privately in a series of leaks to the media. Some critics have argued that Stockman's fear that the deficits would spook the markets was self-fulfilling. But the "markets," with their own supply of gloomy gurus, did not need Stockman to spook them.

The Markets Say No

When the tax cut passed, the coming deep recession was not obvious, though the economy had begun to slow and private economists were nowhere near as optimistic as the administration.^[2] The recession was coming in large part because the Federal Reserve had finally taken a choke hold on the economy. An upward blip in the money supply in April supposedly spooked the markets, so the Fed decided to make sure it did not happen again. In early May the central bank raised the discount rate one point to 14 percent with a four point penalty for frequent, large borrowers, allowed the federal funds rate to rise above 20 percent, and began an unprecedented monetary squeeze. M1-B shrank in May and June, not regaining its April level until November.^[3] It took a while for what the Fed was doing to be noticed or believed. By the end of June, however, Jerry Jordan of the CEA, commented that the Board was being very strict; Edward Yardeni of E. F. Hutton said that the Fed might

push the economy over a cliff; Lacy Hunt of Fidelity Bank predicted that unemployment would rise above 8 percent.^[4]

Inflation was still slowing, but so far that seemed mainly a result of good luck on commodity prices. Governors of the Federal Reserve Board were worried that inflation might accelerate again, and so were bondholders. "I assume markets are so skeptical now," Mellon Bank's Norman Robertson suggested, "that no amount of talk will change people's anticipations. The markets will have to see actual results."^[5] By mid-July CEA member William Niskanen was declaring that "I think we should acknowledge that we are puzzled…. People don't change their expectations of long-term inflation very fast."^[6] Trying to soothe European worries about American interest rates, Treasury Secretary Donald Regan was explaining that "you cannot get inflation under control without having high interest rates…. It's a result of supply and demand for money."^[7] Interest rates were not coming down, and the arguments they would were daily growing less credible.

Federal Reserve officials expected interest rates to ease "only if we get real softness in the economy." They believed as well that inflation could be controlled only if the economy were weak enough to hold down wages in basic industries like steel, trucking, and automobiles.^[8] In July, although money supply growth was running below target and the economy was at a virtual standstill, the Fed lowered the announced targets for 1981. On July 21 members of the House Banking Committee blasted Volcker. Representative Henry Gonzales (D-Tex.) accused the Board of "legalized usury." "Can the country," Norman Shumway (R-Calif.) asked, "stand the cure for this [inflation] problem?" The chairman of the Federal Reserve replied that "turning back the inflationary tide, as we can see, is not a simple, painless process, free from risks and strains of its own. All I would claim is that the risks of not carrying through on the effort to restore price stability would be much greater."^[9] The politicians were being judged on many criteria, including employment; Volcker was being judged only on one—inflation.

Instead of a boom, passage of Reagan's economic package preceded the worst economic slump since the Great Depression. From Stockman's Dunkirk memo to Reagan's comments upon the passage of the tax bill, the administration had dreamt that expectations, raised by enacting its program, would cause an investment boom, while tight money would assure price stability. By mid-July that position was becoming very difficult to maintain. Perhaps they hadn't meant that tight. Investors had not been inspired to optimism by the Reagan package, or, if they had, they had not been inspired to pay or charge less for their money. In the June 5 meeting, Reagan's advisers decided not to acknowledge in the midyear review that a rosy scenario was losing credibility. Yet they had to

forecast the deficit for their own use, not just to sell their tax program; by late July only the supply-side coterie at Treasury was willing to defend the old forecast.

Stockman, Weidenbaum, OMB chief economist Larry Kudlow, and monetarist Jerry Jordan of the CEA believed that the unlikely assumptions about money velocity should be corrected. The tax and spending packages also produced larger tax cuts and smaller spending cuts, particularly for FY85 on, than had been planned. The administration's Senate allies were expressing strong doubts about the old forecast. Finally, as one policy maker puts it, "The closer you get to the actual, the more realistic you have to be…. You move the optimism into the out-years." In late July the economic troika put together a new, more realistic forecast. Even assuming 5 percent real growth of GNP from late 1981 on—a very fine economy indeed—the new forecast, as worked up into budget projections by OMB, implied a deficit of $83 billion in FY83, heading over $100 billion in later years.^[10]

On August 3, Weidenbaum briefed his colleagues and the president on the new economic forecast; Stockman followed with a long briefing on the budget bad news. "The president," a participant recalled, "looked stunned." Donald Regan, who had accepted the new economic projections, raised some doubts about the deficit numbers but confirmed the main point: the deficit was likely to be worse than previous projections admitted.

No formal decision came out of the meeting, yet there seems to have been a general, undiscussed conclusion that the administration should respond. Reagan commented that the news would make Tip O'Neill look like he had been right all along; when Stockman suggested (rhetorically) that they abandon the target of a balanced budget in FY84, the president responded, "No, we can't give up on the balanced budget. Deficit spending is how we got into this mess." He added that precise balance in FY84 wasn't necessary, but they should come close and show they had made the effort.^[11]

What response was possible? Stockman broached the subject of scaling down the defense buildup; Reagan would have none of it. He emphasized that in the campaign he had said national security was more important than the deficit; he believed it, and the people cheered. Stockman brought up the avenue of tax increases; Don Regan, happy to fight the deficit but with spending cuts, opposed the budget director. Stockman discussed "draconian" cuts in social programs; the president suggested savings from "waste" from federal personnel. He said the federal bureaucracy was "layered in fat."

No doubt Reagan believed it. He had said it before, believing 10 percent of the budget could be cut by eliminating waste, and he would

say it again. At the end of 1981 he told Senate Republican leaders as much as $40 billion could be saved from general government overhead.^[12] Unfortunately for Stockman and other budgeters, no matter how much waste there may be in the government, people could not agree on what it was. Certainly $40 billion couldn't be taken out of overhead; total payroll for all the civilian agencies wasn't much more than that. Reagan wanted deficit reduction that hurt only "free-loading" bureaucrats, but Stockman had to take checks and benefits away from citizens.

Stockman's difficulty, as he left the inconclusive meeting on August 3, was that, as Newsweek reported, "The easy cuts have all been made." By definition, everything the boll weevils or gypsy moths had forced out of his earlier package was difficult, never mind the cuts that never made it to public view.

Stockman versus Weinberger

But one thing hadn't been tried before—the military. Although the magic asterisk in the Economic Recovery Plan referred to domestic spending savings, Stockman and other presidential advisers had long assumed defense could take a hit if necessary. They had assured Domenici, Bill Green, and other doubters that defense could be cut if the deficit headed out of control. When the Legislative Strategy Group met on August 4, Stockman convinced his colleagues that the administration should launch a "September offensive" to fix the deficit. They agreed that, while the president was in California, a series of meetings would be held to work out a new deficit-reduction package.

Baker and Meese agreed that Stockman should prepare a new package, including defense scale-backs, to present to the president in Los Angeles on August 17 and 18. The Senate was asked to delay action on appropriations until late September so the administration could devise this new package. As Reagan prepared to head west, he held a thank-you ceremony for his tax-cut allies. "The fight to control the Federal budget," Reagan told them, "is just beginning."^[13]

Before the long budget battle in Congress, Stockman and his deputy, Bill Schneider, were agreeing with Weinberger and Frank Carlucci on 7 percent real growth for the Department of Defense from FY83 on, after 15 percent in FY82 and 12 percent in FY81. Weinberger treated that as a commitment, and the Pentagon began working out a five-year plan to spend its $1.46 trillion.^[14] He was following a logical strategy for an agency in a competitive environment where support could fluctuate quickly: get it while you can, a big commitment, and as much up front as possible. His job was to fight for his department; plenty of other people could worry about the deficit.

Pursuing his responsibility to control spending, the OMB director disagreed with the secretary of Defense. Stockman saw no hope of support for much more in domestic cuts unless the military also chipped in; he believed there were plenty of items that the military desired but, for good budgetary reasons (they didn't work, something else would do the same job, the contractor was having trouble producing), could be dismissed. OMB produced a $130 billion reduction (7 percent) out of Weinberger's $1.46 trillion, five-year plan. Their cuts included the usual suspects in such exercises: aircraft carrier groups, the Bradley armored fighting vehicle, the DIVAD antiaircraft gun.^[15] The first two were still on the list during the 1988 campaign for president; DIVAD had been cancelled.

The big showdown was set for August 18 at the Century Plaza Hotel in Los Angeles. Trying to build a sense of public urgency in support of their position, OMB staff did a lot of "public handwringing" over the extent of the deficit.^[16] The national media picked up the message that defense must be reconsidered.

While Stockman built pressure on the outside, resistance had developed inside the administration. Prepped by supply-side advisers who were not so worried about the deficit and having a salesman's sensitivity to his client's moods, Donald Regan came to oppose arguments that hinted at any retreat on the tax cut. When Stockman began his case by predicting a $75 billion deficit in FY84, Regan objected that, because the administration's program would not take effect until October 1, projections were premature.

Regan's objection stretched the boundaries of reasonable inference. The economic forecast was quite optimistic; fiscal policy beginning in October would not be much of a change from before October;^[17] if expectations were to rescue the economy, they should have already begun to work. However, President Reagan didn't believe in macroeconomics anyway; thus, he did not attend to such details. He always wanted a more optimistic forecast. His secretary of the Treasury's objections would help the president conclude that he did not have to accept prescriptions he preferred to avoid.

The secretary of Defense was even less helpful to Stockman. Objecting even to the form of Stockman's numbers (constant 1984 dollars instead of 1982), Weinberger argued that any reduction in the defense buildup would be dangerous. He stonewalled by refusing to discuss where cuts might be made. Secretary of State Alexander Haig added that to flinch would send the wrong message to the Soviets. Weinberger echoed that argument, which appealed strongly to his chief's sense of what the buildup was all about. Reagan would make the argument himself continually whenever his aides or congressional allies pressed him for defense

scale-backs. Reagan also emphasized that defense had represented a much larger share of the federal budget under President Kennedy, which was true; but, if entitlements had grown, and you could not get rid of them, did that mean defense had to grow to match? Amidst all this resistance, Stockman did have some support from the more legislatively oriented Baker and Meese, who argued that it would be political folly to make new proposals for soaking the needy while sparing the Pentagon. Said one participant, "It can't be done. We'd never win that fight." The president told Weinberger and Stockman to work out a compromise, but that was most unlikely.^[18]

On August 26 Reagan's top advisers, led by Meese, met once more to discuss the defense budget. Cap Weinberger again adamantly opposed reductions. Meese asked Weinberger and his deputy, Frank Carlucci, to produce an analysis of defense-budget options. On September 3 they complied, providing charts that showed tanks and airplanes sawed in half and consequences such as deactivation of the division to which Meese's son was assigned. Reagan took the charts for study. He understood the political arguments of his advisers, but he also believed that "if it comes down to balancing the budget or defense, the balanced budget will have to give way."^[19]

Having announced they would be remaking the budget, the administration, as in January and February, was continually consulting with its supporters in Congress. A big segment of the latter wouldn't touch further domestic cuts without a defense cut to show fairness and, with defense heading from one-quarter to over one-third of the budget, to give the fiscal program a chance of adding up. Throughout the internal deliberations, interest rates stayed high, stock prices fell, and members of Congress visiting their districts were met not by praise for passing tax cuts but by screams of pain over high interest rates amidst the first signs of recession.

The politicians instinctively and correctly blamed the Federal Reserve's tight money. Back in Kansas, Bob Dole called Paul Volcker and then handed the phone to an agitated constituent so that the Federal Reserve chairman could share the heat. "We can't live with a 20 percent prime," worried Robert Michel, back from his district in Peoria, Illinois. "Something has got to give in the next ninety days." Howard Baker summarized the mood: "I have not witnessed the sort of anger and indignation I'm seeing today in a long time. On the floor, people are talking about credit controls, reorganizing the Federal Reserve, a 'windfall profits' tax on interest income, and wage and price controls. Some of this is coming from Republicans."^[20]

Reagan himself joined in bemoaning the Fed as if he wasn't a part of it. At a GOP fundraiser in Santa Barbara, he declared, "The Fed is

independent, and they're hurting us in what we're trying to do as much as they're hurting anyone else."^[21] This, however, was Reagan the politician trying to soothe the supply-siders, who saw their doctrine being unfairly discredited, by telling them he was sharing their pain. Reagan the policy maker was a hard-line anti-inflationist, a believer in the monetarist doctrine that inflation should be reined in by a tight hand on the money supply. For most of the spring, the monetarists in the administration, particularly Under Secretary of the Treasury Beryl Sprinkel, had been taking shots at Volcker for being too loose. These critics in the administration, along with extreme nervousness in the bond markets (based on remarkably dubious judgments about monetary policy and thus, apparently, equally wrong fears of coming inflation), had helped push the Fed into its tightening in May. Now the bulk of the administration's economic policy makers—Weidenbaum, Stockman, Jordan, Kudlow, Sprinkel—opposed pressure for looser money. Neither did the establishment press approve the politicians' laments. After all, so the common wisdom went, if the Fed loosened, inflation might accelerate.

Most members of the Reserve Board itself, including the chairman, were so concerned about inflation and worried about establishing their credibility as inflation-fighters that the Board was determined, if it erred at all, to err by being too tight. Furthermore, the logic of expectations said that high long-term interest rates, despite quickly falling inflation, must mean the markets were expecting further inflation. Volcker and his colleagues, in turn, blamed that on the deficit projections. If fiscal policy didn't credibly offer relief for bondholders, the Fed had to work even harder to show its dedication to reducing inflation by crunching the economy. From the beginning of 1981, Volcker had maintained and would continue to insist that future deficits forced him to tighten money immediately. Never again would he allow other people's pain to deflect him from his duty or (recall 1979–1980) lead to the Fed being discredited.

William Greider's history of monetary policy during this period tells this unhappy tale well and in great detail.^[22] He places a bit too much emphasis on the secrecy and undemocratic aspects of the Fed as cause of a policy that, as he sees it, sacrificed the economic fates of millions to the irrational fears of bondholders. He is right that the policy favored bondholders in the first instance, but his own story makes it obvious that the responsibility for policy extended far beyond the Fed. Panic about inflation, willingness to err toward severity rather than ease, and insistence on leaving the Fed alone came not from the Fed itself but from the establishment (particularly non-Keynesian) economists, the press, and the administration. Reagan believed in hard money; he was willing to use new worries about deficits to demand a new round of spending

cuts. Those Republican and moderate Democratic budgeters, who, unlike Reagan, were willing to raise taxes or restrain defense to reduce deficits, still believed that inflation and high interest rates were due to fiscal irresponsibility. Howard Baker would privately urge Volcker to loosen up, but Stockman, Weidenbaum, Jim Baker, Domenici, Dole, Hollings, and Chiles all directed most of their attention to the deficit.

Congress essentially had no answer when Volcker demanded that it put its own house in order. The economic logic may or may not have made sense; the political logic was overwhelming. As in 1980, if the government could not control its budget, how could the politicians criticize anyone else?

Thus, the administration was committed to "doing something" about the deficit, and its mainline Republican allies were demanding as much when its leaders gathered on September 9 for one more round of Stockman versus Weinberger. The president's speech about his new package had already been postponed from September 14 to September 24; his staff still had to figure out what he would say.

Weinberger again made the general case for the defense buildup. He talked about Soviet advantages in tanks and bombers, even though OMB had accepted DOD numbers on those items. DOD graphics dramatized the Russian threat but said little about real differences between plans. The best of these graphics was a cartoon showing three characters: one, a pygmy with no rifle, was Carter's budget; a second, "a four-eyed wimp who looked like Woody Alien, carrying a tiny rifle," was OMB's budget; DOD's plan was "G.I. Joe himself, 190 pounds of fighting man."^[23] Stockman did not know what to say against this hour-long blast of what he considered irrelevance. There was too much to say and too little time; he couldn't be sure of agreement on anything, from the numerical bases to the need for any deficit package at all. As in a number of previous instances—most strikingly the meeting on "Chapter 2" business subsidies back in February—Stockman was too discouraged to take the issue right to his adversary, but he "could tell the President wasn't listening."^[24]

Ronald Reagan did not enjoy working with details, and this disagreement, though Weinberger kept trying to obscure the issue, was essentially one of facts and particulars. He organized his presidency by setting clear policy directives and finding people who would run that way. He did not want to confront, never mind resolve, conflicts created when people working out parts of his agenda collided. He preferred they work it out among themselves so he could say his troops all agreed on a policy. Put differently, the president had given general policy direction; whether it leaned a bit this way or that need not, he felt, concern him, nor would he decide better had he considered it. Once more, therefore,

the president told his secretary of Defense and budget director to work out a compromise.

Because Cap didn't want to compromise and Stockman was furious at Weinberger's "intellectually disreputable … demeaning" presentation, that was none too likely. Meese and Baker, therefore, ganged up on the president to force him to make the choice—any choice. He did, but the three nonexperts in the room confused budget authority with outlays; what they thought was "splitting the difference" turned out to be the whole loaf for Weinberger. On Friday, September 11, Reagan had to go over it all again with Stockman and Weinberger. The president was fed up; the staff stayed away. Cap still refused to budge. Finally, Stockman, exhausted and discouraged, agreed to a $13 billion outlay reduction: $2 billion in FY82, $5 billion in FY83, and $6 billion in FY84.^[25] Even then they disagreed about the base from which cuts would be made, but Reagan finally imposed a truce with a signed presidential directive.

"If I had to pinpoint the moment when I ceased to believe that the Reagan Revolution was possible," Stockman recalls, "Sept. 11, 1981, the day Cap Weinberger sat Sphinx-like in the Oval Office, would be it."^[26] How could this be when even Stockman had no real desire to restrain defense? The answer lies in power over process. Until the defense dust-up, Stockman believed that he always had some arrows left in his quiver. Some solution or maneuver would be found. The events of September 1981 showed that the budget director was not making policy. They showed as well that Stockman's vision of policy making—clear debate on the merits—would not be attained. Stockman had been rolled by a Defense secretary who, in Stockman's mind, had not played fair. Whether the Reagan revolution ended on September 11 is open to doubt. By some calculations it still continues; by others, it ended on August 13 when Reagan signed the tax bill. But Stockman's revolution, his confidence, and his power did end on September 11, 1981, though his responsibility for budget numbers remained.

Reagan Loses Control

The defense decision was announced on September 12. As Stockman expected, it infuriated the gypsy moths and those who considered themselves responsible budgeters. On September 15 Howard Baker and Domenici urged Reagan to reconsider, but he refused. Senate Budget staff drafted an alternate proposal for much greater defense savings, though it still would have left a 7 percent increase. They also wanted to limit medicaid costs and change the formula for entitlement COLAs. But they

would be stymied by House Republicans, never mind Democrats, and the president.

In a leadership meeting, one by one Republican leaders vetoed alternatives. Silvio Conte (R-Mass.), Republican leader on House Appropriations, declared that "we've got those domestic appropriations bills so tight they squeak." Bob Dole protected the means-tested entitlements: "Somebody else is going to have to start taking a hit besides welfare recipients." Bob Michel exclaimed, "Judas Priest! There's got to be more than $2 billion of fat [in defense]. We've got to have some more give on defense, or we might not get anything at all up there in the House." John Tower replied that defense cuts would redound "to no one's benefit except the Kremlin."^[27] As for social security, the Democratic Congressional Campaign Committee was all geared up to blast any Republican move, and the Republicans knew it. An aide to Howard Baker recalls that staff and Domenici had convinced his Senate majority leader that shaving entitlements "was necessary and appropriate," but House Republicans, especially Kemp, wouldn't touch it; Baker saw no point in a losing battle. This aide neatly paraphrased Kemp's position: "I'm the heir to Reaganism, but that's nothing if the entitlements get cut." Stockman quotes House Minority Whip Trent Lott on the same subject: "There ain't a corporal's guard," Lott said, for touching social security.^[28]

Hemmed in on all sides, Stockman and Darman finally decided to try to delay the second- and third-year tax cuts. They agreed on September 18 to try to convince first Baker, then Meese, then Regan, and finally the president. On Sunday, September 20, Meese agreed that Reagan should at least see the option. On Monday Regan objected, and his opposition only buttressed the president's. Reagan asked the obvious political question: "What would the people think?" He added, "We shouldn't even be discussing that idea. If our critics ever heard about it, they'd jump for joy."^[29] A salesman who condemns his own product doesn't make many more sales. A leader cannot suddenly go back on his major promise to followers. But what, then, was the fast disappearing September offensive to include?

Meese immediately backed down, while providing the formula that would be used to justify tax hikes in future years: "If we do anything in the revenue category, it should be strictly under the heading of loopholes."^[30] Loophole closings could be justified as matters of fairness, without going back on the general promise of lower rates. With only three days to go before the president's September 24 speech, however, Meese's suggestion was little help to Stockman.

At Monday afternoon's leadership meeting, House Minority Leader Michel told his president that support for a new package "just ain't there." The defense number was too small; he couldn't get the votes for cutting

other things and leaving the military virtually unscathed. Reagan insisted the whole administration agreed on defense need; anyone who read the papers knew better.

The next day the president slammed the door on tax cuts, saying "damn it, Dave, we came here to attack deficit spending, not put more taxes on the people."^[31]

On September 24 Reagan went on television to announce the new, improved deficit-reduction plan, which was supposed to win the confidence of the markets. He proposed to reduce the deficit by $35.8 billion in FY84. Donald Regan at the last minute had offered $22 billion over three years in what were euphemistically called "revenue enhancements." Examples included eliminating some energy tax credits and restricting the use of tax-exempt industrial development bonds. Federal civilian employment would be cut by 75,000 people by 1984 (reducing "waste," of course), though no one knew where or how reductions might be made. Defense would be pared by $13 billion over three years; entitlements, except for social security, would be cut by $2.6 billion in FY82 and a total of $25 billion in the following two years. Here, as with revenue enhancements, Reagan did not have the details, promising only to provide them within a few weeks.

The president did speak about social security, but not to argue for reduced benefits. His allies had convinced him not to fight a battle he could not win and in which they might get killed. Reagan bowed to public pressure and announced support for restoring the minimum benefit. He also proposed a fifteen-member commission—with Reagan, Tip O'Neill, and Howard Baker each appointing five members—to prepare a proposal (in early 1983, safely after the midterm election) to solve the system's financing crisis. Until then, the pension trust fund could borrow from the medicare trust fund, which still had a surplus.^[32]

There was, in short, no proposal, another magic asterisk, as Stockman says, save for a 12 percent across-the-board cut in domestic appropriations. Even there OMB was forced to announce exceptions, such as the Immigration and Naturalization Service and VA hospitals. Across-the-board cuts always sound good until someone points out what is actually getting cut. One also always has to ask, cut from what base? Here the administration disturbed a hornet's nest. They decided to cut from neither assumptions in Congress's budget resolution nor the reconciliation act but from proposals in the March budget revisions. The cuts therefore would undo all the bargains and adjustments of priorities that had been made over the previous six months. Table 5, prepared by the rather irritated Northeast-Midwest Congressional Coalition, provides some striking examples of the result.

Given February and March revisions, May and June deals, and September

changes, the media and politicians greeted Reagan's third and maybe fourth annual budget of 1981 with derision. The administration, Newsweek headlined, was "Running to Stay in Place."^[33] The National Journal 's summary was "Reagan's budget plans generate tepid support, plenty of confusion."^[34] Time commented that the president was "backpedaling furiously" on social security.^[35] The attitudes of politicians and chief aides in Congress were no more encouraging. On the Republican side of House Appropriations, "They didn't really take it very seriously. That

was their private perception. Publicly there was some outrage." Over in Senate Budget, a source reports, "We thought they had been smoking dope. There was no way you could cut those things again."

The Economist summed up the reaction of the financial community while pointing out what was puzzling about the whole business:

At present the Reagan administration is surprising informed people mainly by its implausibility. The president's latest spending minicuts did not persuade investors that interest rates will come down, except investors who trust to Murphy's law that everything which can conceivably go right will from this moment be deemed to do so. Every private analyst who is not called Murphy is now forecasting a bigger American budget deficit in 1982 through 1985 than the White House does, especially as the fastest increasing spending program, which is defence, is the one most prone to overruns on costs. The difference of opinion is whether it is logical or rather nuts to suppose that a budget deficit of around 2 percent of gnp could send American inflation and interest rates soaring.^[36]

Whether or not it was "rather nuts" to be so worried about the deficit, the worry, as The Economist noted, could be a "self-fulfilling expectation." In spite of his great victories, in September 1981 Ronald Reagan had placed himself in a situation similar to Jimmy Carter's in January 1980. Reagan's budget proposals were being mocked as too little to help and too big to be believed. Had he brazened it out, claiming that the deficit was part of putting the country on a new course, the president would only have had to deal with its size, not with his own credibility on insubstantial reductions. But then he would have needed a staff, especially a budget director, who shared his priorities. Like Carter before him, Reagan was now in the grip of a budget deficit panic that seemed more a matter of faith and group-think than a coherent model of the economy.

Bye, Bye, Balanced Budget

Senate Republicans outlined an alternative package of budget savings that would cut social spending less while raising taxes and slicing defense slightly more than the president had suggested. The gypsy moths were supporting larger defense reductions (which, we should always remember, still meant large increases in real defense expenditures).^[37] Their willingness to defect was demonstrated by two votes on appropriations bills. In spite of opposition from the GOP leadership, the conference report on the HUD-Independent Agencies bill got enough Republican votes to pass on the House floor. Then thirty-nine Republicans, led by Silvio Conte, opposed a motion to recommit the Labor/HHS/Education bill so as to implement the 12 percent cuts. The motion failed, 168 to

249. Meantime the administration had not developed the promised package. Neither entitlement cuts nor revenue enhancements were revealed, as promised, on October 20. Not unreasonably, with his own men stymied, Reagan gave Howard Baker private approval to see what kind of deals the senators could work out for their proposed package.^[38]

Democrats were emboldened by a September 23 rally in Washington, organized by a coalition of labor and civil rights groups, that drew 250,000 protesters of Reaganomics. As the recession deepened, the Democrats became assertive. "It is a shame," the Speaker declared, "that it takes the human tragedy of unemployment to show the Reagan economic nonsense for what it is." As their programmatic cuts were implemented, the result most embarrassing to the administration was the issuance of new regulations for school lunches, including one and a half ounce hamburgers with catsup defined as a vegetable. After Democratic senators munched a sample lunch at a press conference, the new regulations were withdrawn for redrafting.

The leading economic indicators had slumped 2.7 percent in September; the recession was looking longer and deeper all the time. On November 2 his economic advisers met with President Reagan for another round of crisis talk. Stockman and Senate leaders worked up an outline for changes that would eliminate the $100 billion deficit that senators (publicly) and Stockman (privately) expected in FY84. Senate Budget Committee Republicans envisioned, over three years, $80 billion in tax increases and $30 billion in defense spending decreases, compared to the March budget.^[39] Now Stockman, aided by Baker, Meese, Weidenbaum, and Martin Anderson, sought the president's support. Donald Regan led the opposition.

Backed into a corner, the president declared, "I did not come here to balance the budget—not at the expense of my tax-cutting program and my defense program. If we can't do it in 1984, we'll have to do it later."^[40] Or much later, for Reagan would not budge. When Stockman reminded Reagan that he as president was publicly committed to balancing the budget by 1984, Donald Regan disagreed, saying that this was only a target; the press had pushed Reagan into viewing it as a promise. Regan won on Monday; Stockman tried again on Tuesday, with commerce secretary Malcolm Baldrige's support, but to no avail; on Wednesday (November 4) the Treasury secretary told Senate leaders that there would be no tax hikes. Because the senators were unconvinced, on Thursday the president made a strong statement to a meeting of private money managers opposing tax increases. Reagan agreed with his advisers that it was not possible to balance the budget. "That's very obvious," he told them, "but a larger deficit is the least of our problems. What we have to do is get inflation down and business activity and employment

up. If there's a bigger deficit then, the man in the street will say, 'That's okay, things are better.'"^[41]

House Republicans supported the president in rejecting the OMB/Senate "Fall Offensive." "You don't raise taxes during a recession," declared Jack Kemp. Barber Conable called fine-tuning the deficit in order to achieve a major reduction in interest rates "an exercise in moonbeams." "Changing your policy every Thursday afternoon isn't an economic program," he snorted.^[42] Given enough mainstream conservative support, Reagan saw no political reason to budge. One can ask how all these people could be so foolish, as Stockman does, or why the president of the United States kept advisers who wanted him to be something other than he repeatedly insisted he was. The inconsistency was not within the president himself but within the advisory apparatus he created.

As for policy, Reagan did not accept the same analytical framework as either his frustrated budget director or most of his other aides. As he told Pete Domenici, in the final meeting of 1981's efforts to design a package, the issue was not the deficit; rather, "when government starts taking more than 25 percent of the economy, that's when the trouble starts. Well, we zoomed above that a long time ago. That's how we got this economic mess. We can't solve it with more of tax and spends"^[43] That the rest of the industrialized world and, indeed, the United States had enjoyed the greatest prosperity in human experience with total government expenditures above the danger line did not enter Reagan's calculations: as we have seen, he saw that as "false" prosperity. Stockman, Domenici, and others kept trying to point out that even under very optimistic assumptions (5 percent real growth), the nation faced massive deficits. But Reagan accepted no such thing as a historically validated, reasonable limit to growth. As he felt later with his Star Wars initiative, the president was not convinced that just because something had not been done was no reason it could not be tried.

On November 6, 1981, Ronald Reagan publicly admitted that he could not expect to balance the budget in 1984; he adopted Regan's line that it had always been a goal, not a promise. On November 10, bowing to the lack of agreement within his congressional party and staff, the president announced that he would put off decisions on the promised tax and entitlement measures until the FY83 budget was issued in January. Retreat on two fronts made the administration all the more eager to show its toughness on the third. Reagan took a hard line on discretionary appropriations: "I stand ready to veto any bill," he told reporters at his press conference, "that abuses the limited resources of the taxpayers."

On that same day, Atlantic magazine hit the newsstands with William Greider's long article, "The Education of David Stockman." There was little in that piece that Stockman had not said in one form or another

to other reporters. Yet the blunt language—"supply-side was trickledown theory"; "the hogs were really feeding" on the tax bill; "there are no true conservatives in Congress"—and the powerful effect of seeing it all in one place created a sensation.^[44] Democrats pounced on Stockman's admissions; the OMB wizard had been revealed as a blue-smoke-and-mirrors artist who admitted not only that all the numbers were bad but also that nobody understood them. Senator Hollings declared for the Democrats that "after the Stockman performance, I don't see how we could undercut the President."^[45] White House and congressional figures were widely quoted, though not for attribution, claiming that the budget director had betrayed the president.

Anyone shocked by Stockman's revelations had not been following Washington politics very closely. The surprise was not Stockman's beliefs but his secret arrangement with Greider, assistant managing editor of the unfriendly Washington Post . It was not even a matter of feeding a reporter; experienced hands could usually identify the unnamed source of a reporter's story. The unusual part was Stockman's revelation of his own doubts. Washingtonians expect officials to use reporters to plant their private versions of reality into the public debate. The puzzle was how to explain the Stockman/Greider relationship in these terms. Either the budget director all along had been preparing an escape hatch—a defense so he would not be blamed if the policy blew up—or he was obtuse. Such were the conventional reactions, and there was surely some self-promotion and foolishness in the arrangement. There is something wistful yet wrong about wanting it both ways, as if only good intentions mattered. There was something more as well.

After one reads both Greider's and Stockman's books, it seems evident that their relationship was peculiarly equal. Rather than looking for information to publish, Greider was challenging Stockman's view of the world. And Stockman accepted it; as an ideologue who nevertheless believed in exchanging ideas, he was refreshed by a chance to question right and wrong, how the world works. Stockman's penchant for changing his mind seems almost immoral in the political world where commitment is everything; but for an academic, the continual willingness to criticize his own ideas and to take other critics seriously may be admirable. This is to endorse neither Stockman's policy judgment nor even the Greider arrangement. Rather, the fact, not merely the content, of conversations with Greider show how much Stockman remained the policy-oriented theorist who dreamed of a politics of justice resting on free-market economics.^[46] Cynical in his manipulations, Stockman still could be shocked by Weinberger's failure to provide a good, clean, analytical debate on defense. He wanted to believe that a liberal like Greider could be won over by argument.

None of this garnered points for Stockman in November 1981. Instead he had to dramatically display loyalty to the administration, showing above all that he served at the pleasure of Ronald Reagan. Jim Baker provided the script: "You're going to have lunch with the President. The menu is humble pie. You're going to eat every last mother-f'ing spoonful of it. You're going to be the most contrite sonofabitch this world has ever seen." In a lengthy press conference after lunch, Stockman proclaimed his loyalty and described the lunch as "a visit to the woodshed after supper." An Oliphant cartoon showed Reagan and the paddled miscreant; a little creature in the corner of the drawing commented, "You should have used the other side of the axe!"^[47] The public drama of a chastisement helped soften the scandal of Stockman's supposed apostasy.

In their meeting, Stockman reports, the story was quite different. Apologizing, he told the story of his long ideological journey—how he had worked to make Reaganism work only to be thwarted by the ways of politicians. The president, after all, had traveled the same path from small town values through a rejected liberalism and back to the right wing. Reagan, too, resented the politicians' obstruction; he was more than willing to believe that the press was the real enemy. He had read the article and judged, as we do, that the whole story was more about a frustrated zealot than an apostate. He had never liked to fire people; besides, Stockman knew the budget details that Reagan did not want to know, and the president also knew his budget director's biases. Reagan told Stockman to stay on.^[48]

Although he stayed, the Atlantic article, as Laurence Barrett explains, deprived the budget director his "shield of purity. Now he could be attacked for his character as well as his policies."^[49] Still, many felt better about an administration with Stockman than without him. Thirty-two Republican senators signed a letter to the president declaring that "we need him as part of the team."^[50]

The Atlantic article, combined with Reagan's retreat from the balanced budget, raised questions about the administration's resolve on fiscal policy. With things sliding out of control, both budget director and president looked for a chance to reassert their authority.

Into the Heart of Budget Darkness

After the Senate had delayed all the appropriations in anticipation of the September 24 package, Congress passed a continuing resolution, expiring November 20, to buy time to figure out what to do with the new proposals.^[51] As that deadline approached, congressmen wanted to go home before Thanksgiving. Both House and Senate leaders decided

to wrap up all appropriations in one big continuing resolution and extend it through September 30, 1982, so they could go home. On November 12, the House appropriations committee reported H.J. Res. 357, funding twelve remaining appropriations by a total of six different formulas.^[52] From the administration's standpoint, there were two main difficulties: H.J.Res. 357 ignored much of the president's September reductions and allotted too little for foreign aid. All presidents, whatever their ideology, wind up fighting Congress for a bigger foreign aid budget; it is as inevitable as the Red Sox always breaking their fans' hearts in the end. The administration promised to veto the House CR.

"It's creepy," Silvio Conte declared. "There could be a real showdown…. Those guys up there [in the White House] are really adamant."^[53] Congressmen showed little interest in the 12 percent cut. Both sides would have to compromise, bringing them to the really creepy part: no one knew how to keep score.

How could anyone tell if the CR met targets for deficit reduction? The CR provided budget authority, but outlays created deficits. If two (or three) sides were to negotiate on outlays, they would need to go through the bills account by account because in each account translating BA into outlays occurred at a different rate. There was no time for such detailed work. Instead there were across-the-board formulas, applied to such a variety of bases (conference reports, probably closer to the president's wishes; House committee reports, possibly further; and so on), that no one could fathom their relation to the president's proposals. As House minority whip Trent Lott described it, "We were working with different base lines and three different sets of figures, and the computers weren't talking to each other."^[54] Worse still, much of annually appropriated domestic spending—food stamps, agricultural price supports, unemployment compensation—is really entitlement. In budget parlance, these are mandatory appropriations. An across-the-board cut, without changing underlying entitlement law, makes no sense. For that matter, House Appropriations leaders believed, one should only judge appropriations bills by whether they met targets for the discretionary balance of spending. If the economy went sour and mandatory estimates rose, Appropriations should not be blamed. House Budget agreed. OMB did not. By House scoring, therefore, the CR was only $1.9 billion over the September request for domestic spending and $6.3 billion below for defense. OMB instead claimed the CR was $10.3 billion over on domestic accounts.

Robert Michel proposed that the bill be recommitted with instructions to reduce funds by 5 percent for most nonentitlements, estimating a $4 billion savings. His motion lost, 189 to 201, as eighteen Republicans joined the majority. On November 16, the House CR, of indeterminate

cost, was passed and sent to the Senate, where, on November 19, the Senate stayed up all night to take twenty-three roll call votes and tie itself into knots.

Senate Democrats, meanwhile, unlike their House colleagues, would not support the September 30 expiration date. They wanted a number of items in the defense appropriation bill debated, particularly the MX missile and B-1 bomber. After a filibuster threat by Carl Levin (D-Mich.), supported by Hollings and Nunn, GOP leaders changed the CR's expiration date to March 30. After considering a raft of options, GOP leaders also decided to support Howard Baker's plan to reduce domestic discretionary spending in the CR by 4 percent. A comment from Congressional Quarterly illustrates the complexity of the proposals that senators were being asked to understand:

As proposed, the amendment excluded defense, military construction, foreign aid and food stamp programs from the cuts. James A. McClure, R-Idaho, outlined on the floor a complex procedure for applying the amendment that narrowed its scope substantially. He said a program would not be affected by the cut if it was in a bill that overall was at or below the president's budget, or in a section of a bill that was at or below the budget, or even in an account listing within a section that was not over budget. Programs that were still eligible for cuts would be reduced 4 percent but not below the level of the budget.^[55]

Got that? Good. Nobody else did.^[56]

This new Republican proposal, which gave the president maybe about half of what he wanted, passed the Senate. On the evening of November 20, twenty-eight senators and twenty-one representatives met to resolve their differences in conference. It was a Friday night, so even though the previous CR would expire at midnight they had some time for negotiations. The major differences were over defense, which the House had reduced and the Senate had not, maybe $2 billion in domestic discretionary spending, and a similar amount of foreign aid. As the conferees wrangled, they finally decided that to represent the administration and make sense of the numbers they needed some help from Stockman. The budget director was glad to be wanted after two weeks of abuse stemming from the Atlantic article; he settled down with his pocket calculator and began pricing options.

By Saturday evening, the conferees were willing to accept the House proposal, more or less. When most participants went home around 1:30 Sunday morning, they thought they were near a deal, but they most certainly were not.

Stockman went back to OMB, fed that bargain into his computer, and decided that the new bill's changes in budget authority would not yield

the outlay reductions—roughly those in the Senate's bill—that he had defined as an acceptable compromise. Therefore, a Senate Appropriations source recalled,

Stockman recommended a veto on grounds of outlay. On Sunday morning there was a meeting in Howard Baker's office with Baker, Laxalt, Hatfield, McClure, Garn, Schmidt, Stevens, Jim Baker, Freidersdorf, and Stockman, and to a man the senators said, tell the president to sign it! Jim Baker said thank you very much, went downtown, and an hour later called back and said, "we're gonna veto it."

Conferees were upset. Referring to comments about "balancing the budget with mirrors," Senator Mark Andrews proclaimed that "we all thought we had done the job. But Stockman found he was using the wrong mirror, so he got himself another mirror."^[57]

Congress had good reason to distrust Stockman's numbers, aside from his own statements in the Atlantic . At that point, House Appropriations, which had been building its computer system since 1974, was far ahead of either OMB or CBO on the technical side of scorekeeping. House Appropriations had a simple position on outlays: they should be ignored. Its staff and leaders said then, and say to this day, that outlays are a swamp; everybody should stick to things (i.e., budget authority) that are actually in the bills. Ultimately even OMB had to admit that House Appropriations had a point: One top official recalls that "we wanted to do the technically impossible"; another said that he "found out after that November veto that our numbers were as screwed up as on the Hill."

Nevertheless, House Republican leaders showed their loyalty to the president by opposing the conference agreement. Angry House Democrats chose to pass the bill so Reagan could veto it; then he would be blamed for shutting down the government on Monday morning for lack of funds. Reagan, however, expected to get credit for a veto against spending. This made the loyalist vote a bit difficult for senators to determine, as the Congressional Quarterly describes:

Majority Leader Baker gave conflicting signals on how he wanted party members to vote. At first, he announced his support for a vote to approve the conference report in order to get it to the president. But, in a debate that was repeatedly interrupted by laughter, Democrats relentlessly needled Baker about the contradictions of his position. "Do you vote for or against this conference report if you are trying to be a friend and supporter of the president?" asked J. Bennett Johnston, D-La. Finally Baker threw up his hands and urged members to vote however they felt. "All I want to do is make sure we get rid of this thing once and for all. As far as I am concerned, we could have a vote and you can vote it up or you can vote it down, but just vote it and get it over with."^[58]

They voted it up; H.J.Res. 357, passed on nearly straight party-line votes by House Democrats and Senate Republicans, was sent off to the White House. Reagan, who privately had been arguing that economic and deficit problems were separate, then vetoed the bill, shutting down much of the government on November 23 and going on television to declare that spending $2 billion more (maybe) than he had been willing to accept risked "higher interest rates and inflation, and the continued loss of investment, jobs and economic growth."^[59]

Under guidelines prepared after the 1980 near-misses, many functions did continue; but nonessential employees of many agencies were told to secure their files and go home. The White House made a point of phoning lawmakers to tell them that White House tours for their constituents had been canceled on account of the budget impasse. Everybody having made their points, House Democrats then extended the old CR. They wanted it to expire on February 3, but, when the Republicans insisted on December 15, the Speaker only mildly resisted Conte's motion to change the date. The new CR passed both houses with ease.

The political implications of the CR fiasco far exceeded what small effect it may have had on policy. It foreshadowed years of byzantine battles over scorekeeping, posturing by all sides to make the other look bad, and conflict over priorities masquerading as a contest over fiscal policy. It fed Senate Republicans' distrust, later converted into a sense of betrayal by the administration. And it made the stakes not only policy but also tests of will among the factions controlling parts of the government. Most of all, the erosion of the September offensive, from a serious assault on the deficit to a conflict over about 2 percent of domestic discretionary spending, showed how much the tide had changed in four months. No longer the initiator and leader, the administration was now just one player, better at blocking action than controlling it.

Everybody went home for Thanksgiving, where Robert Michel hoped that they might "have a little bit of wine and turkey, and all the rest … back with the home-folks, and come back here with a fresher view."^[60] When everybody returned from Thanksgiving, everyone was fresher, but nothing was easier.