Rough Waters Ahead

By WALTER ISAACSON

The President decides to trim the budget, again, rather than his sails

One of Ronald Reagan's senior advisers was asked last week to describe the mood of his boss at a time of adversity. The aide responded initially with pantomime. He put an imaginary hand grenade to his mouth, pulled the invisible pin with his teeth, hurled the grenade upward and said with a smile, "He's going up the hill. He's going for it."

That melodrama in miniature was a way of saying that the President is still ready and willing to fight for the principal goals of his economic program. In a 30-minute televised speech to the nation last Thursday, Reagan outlined a second phase of that program, asking Congress to prescribe $ 13 billion more in cuts from the budget for fiscal 1982, mainly from social programs. He also proposed to raise $3 billion more in revenue next year by eliminating certain tax loopholes that hie called "obsolete incentives."

But perhaps more important was what he did not do. He did not abandon his goals of holding the fiscal 1982 budget deficit to roughly $43 billion and of balancing the budget by 1984. He did not defer or scale down the newly enacted tax cuts that go into effect next week. He refused to make more than token cuts in the defense budget. And he backed away from tinkering with the politically sensitive issue of Social Security (see box).

In his speech, the President aimed a deceptive and somewhat mean-spirited gibe at his opponents, complaining about "a chorus of other voices protesting that we haven't had full economic recovery." Reagan did not acknowledge that he and his aides were slow to concede the inevitable: that a package of $280 billion in tax cuts and $130 billion in spending cuts over three years passed in July was certain to swell budget deficits far beyond what had been anticipated. The bond and stock markets have slipped dramatically since then in anticipation of a sluggish economy, continued high interest rates and a 1982 deficit that analysts feared might top $60 billion. Alice Rivlin, head of the Congressional Budget Office, accepted that figure. So did one of Reagan's unofficial economic advisers, Alan Greenspan.

The Administration was further delayed by a bitter internal debate over the defense budget, which raged around Reagan's ranch in August while he was on vacation. Siding with Defense Secretary

Caspar Weinberger against Budget Director David Stockman, the President eventually announced that there would be only a $13 billion trim in the increase in military spending over the next three years, and a mere $2 billion cut for fiscal 1982. He also ruled out deferring the tax reductions enacted in July. In rejecting these courses, Reagan could plead consistency. He has been adamant in calling for a military buildup to counter the Soviet threat. In his speech he described national security as "Government's first responsibility." He had also campaigned on a pledge to lower taxes and could hardly back away from the reductions so recently won in a bitter battle with Congress.

Stockman was left with limited room to maneuver in compiling a package to cope with the burgeoning deficit projections. The core of his original solution, composed two weeks ago, was to defer, for three months, cost of living adjustments (COLAs) for entitlement programs

I--particularly for the biggest one of |? all, Social Security. The deferrals would save $5 billion in fiscal 1982.

The problem was getting Congress to accept them.

When Senate Majority Leader Howard Baker gathered Republican congressional leaders at lunch last week to discuss the Stockman plan, it became clear that it would not be accepted. "You're using 'entitlements' as a buzz word for Social Security," Congressman Barber Conable of New York virtually shouted across the cold cuts at colleagues who wanted to support the COLA deferrals. Conable argued that the complex issue of reforming Social Security, which must be faced, should not be entangled with current budgetary problems. Baker and Senate Finance Committee Chairman Robert Dole agreed.

There was even greater unanimity among the Republicans on the need for further defense cuts. Said one: "If we cut back on other programs by another 12%, we can't sell it with defense cuts at only $2 billion." The lunch disclosed such deep-seated resistance amid the ranks of Reagan's supporters that Baker and House Republican Leader Robert Michel went directly to the White House to relay the warnings to the President in person. Declared Reagan at the end of that session: "I'm not going to do a thing that would have me appear to be backing off." But the idea of deferring the COLAS was dropped for good.

In fact, even before the Monday meeting, White House aides knew that the cost of living deferral was in trouble. In an unusual Sunday session with Chief of Staff James Baker in his West Wing office, Stockman and Treasury Department officials began struggling to find alternative ways to hold down the deficit. One other potential source of savings was eliminated: Governors and local officials who had supported earlier budget cuts said they could not live with the proposal to eliminate revenue sharing, which provides them with direct federal funds.

As a last recourse, Stockman and Murray Weidenbaum, Chairman of the Council of Economic Advisers, suggested that one more plea be made to Reagan to further pare the defense budget. The matter was broached with the President on Monday. But there was no discussion.

For Reagan, the matter was closed. Said one aide: "He's adamant. He just doesn't want to hear that argument again and he let everyone know that."

It was clear that domestic programs would once again have to bear the brunt of the cuts. Administration officials, led by Stockman, rushed to stitch together a program in the face of two deadlines: Reagan's scheduled speech and the start of fiscal 1982 on Oct. 1. Congressional committees are already writing the 1982 appropriations bills, struggling to stay within the guidelines of the trimmed budget passed in July. The key elements in the package Reagan finally proposed include:

> A 12% across-the-board cut in what are called "nondefense discretionary programs." This would touch on almost every domestic program directly funded by Congress, from farm subsidies to urban aid programs. If approved, the reductions could lead to the elimination of 75,000 Government jobs and a saving next year of $8.4 billion. Unlike the all encompassing single vote Reagan had on his earlier budget proposals, reductions for each agency and program must be fought individually this time around--and the battles are sure to be furious.

In addition, the 12% cut is supposed to come from the levels originally proposed by Reagan last March, not those in the budget bill passed in July. Thus the Administration hopes to cut far more than 12% from certain programs on which he compromised to get his first economic package passed. Examples: Amtrak would be cut 46% from the level approved in July, education assistance to needy children would be cut 29%, guaranteed student loan funds 43%, economic development aid for local public works projects a whopping 89%.

-- A "reform" of the formulas for entitlement benefits. These are payments mandated by various federal laws to individuals who qualify to receive such things as food stamps, welfare payments, Medicare and Medicaid. Explained Reagan: "In the past two decades we have created hundreds of new programs to provide personal assistance. Many of these programs may have come from a good heart, but not all have come from a clear head."

> A 25% cut in loan guarantees, from $80 billion to $60 billion. This does not represent a direct saving but should ease pressure on the tight credit market. The middle class, which benefits from such guarantees as student loans and FHA mortgages, will be most affected.

> Elimination of the Energy and Education Departments. Since many of the functions of these departments have to be shifted to other agencies, the saving will not be dramatic. Of the Energy Department's $13 billion budget, for example, more than half goes to the production of nuclear weapons and the filling of the country's strategic petroleum reserve; neither program will be curtailed. Energy Secretary James Edwards, who is already planning to resume his career as a South Carolina dentist, estimates that when his department is fully dismantled--in about two years--the total saving will be less than $7 billion.

> Revision of certain tax breaks. Under this revenue-raising measure--a new proposal by the Administration--defense contractors will no longer be able to defer income from multiyear projects until the final year, and industries face new restrictions on the issuance of tax-exempt bonds. One important change that will affect individual homeowners: under the proposal, energy tax credits for conservation efforts or for insulating residences and commercial property would be cut.

> A levy of user fees. A part of the Administration's original package last March, these charges would be assessed to boat and plane owners to pay for federal maintenance of waterways and airports. At most, the higher fees will bring in about $980 million in 1982.

Measured by the high standards he has set in the past, Reagan's speech was fairly pedestrian. Missing were any of the visual aids that he often uses and his calculatedly simple elucidations of complex issues. He failed to explain the real reason why new cuts for 1982 are needed --namely, the failure of the economy and the credit markets to respond to the promise of upcoming tax cuts. The President did note, correctly, that inflation has fallen in recent months and that "there has even been a small crack in interest rates."

And he added: "We are just starting down a road ... out of the economic swamp." But as a call to a crusade, it was less than inspiring.

House Majority Leader Jim Wright of Texas, like most Democrats, feels that Reagan has "painted himself into a corner" with his plan to cut taxes, increase defense spending, and still balance the budget by 1984. Wright argues that it is impossible to eliminate the projected total deficit over the next three years through cuts in domestic spending. Says he: "You can't do it without closing down the Government. Stockman and the supply-side true believers were so bullheaded about putting their whims into practice that they flimflammed the President."

Senator Edward Kennedy, speaking as part of a Democratic response to Reagan's plan on CBS-TV Saturday night, charged: "This is government of the rich, by the rich and for the rich."

To illustrate the effect of the domestic program cuts, a group of Democratic Senators ate the kind of school lunch that would be allowable under new minimum standards proposed by the Agriculture Department--a 1.5-oz. beef and soybean patty, one slice of bread, six french fries, six ounces of milk, and catsup and relish as vegetables. Said Patrick Leahy of Vermont: "This is absolutely obscene." Shortly afterward, Stockman announced that the new proposals would be withdrawn. Said he: "It was a bureaucratic goof."

Even Republican leaders expressed skepticism that Congress would go along with the President a second time. Said Senate Majority Whip Ted Stevens of Alaska: "I just can't believe he's going to get those across-the-board cuts." Dole, a leader in both the Finance and Agriculture Committees, predicted: "The Senate will be slow to cut any more in the nutrition area, as I am." Nor were the financial markets encouraging. Stock prices fell sharply Friday, the Dow Jones hitting a new 17-month low of 824.01, and bond prices also plummeted.

Senator Baker predicted there will "almost certainly" be an effort to cut defense spending further. Congress may also defer some of the income tax reduction, a move that Reagan strongly opposes. And finally, Capitol Hill may simply reject most of the proposed cuts, one by one. The spring swarm of "Boll Weevils," Southern conservative Democrats willing to support Reagan's first round of spending curbs, may be replaced by an autumn flight of "Gypsy Moths," moderate Republicans from the Northeast who are reluctant to reduce social spending further.

"I realize that many in Congress may have different alternatives," a conciliatory Reagan said, "and I welcome a dialogue."

That he will certainly get. Some critics charge that many of the President's proposals are being made more for show than substance, in an attempt to pass on to Congress the burden of trying to balance the budget--a goal that must be pursued. Indeed, his opponents now have the responsibility of coming up with other cuts, or revenue-raising measures, as alternatives--or face the possibility of presidential vetoes of appropriation bills.

In the past six weeks, the Administration seems to have lost some of its magic touch, and Reagan can no longer even count on the solid support of his own party. He is entering a crucial period when the very substance of his economic philosophy is being tested by reality and challenged by Congress. But the President remains an irrepressible optimist. As he grappled with his economic predicament and the recalcitrance on Capitol Hill last week, he told an old joke about the ever-hopeful little boy who finds himself standing amid a pile of horse manure on Christmas morning. The punch line: "There must be a pony in here someplace." --By Walter Isaacson.

Reported by Laurence /. Barrett and Neil MacNeil/Washington

With reporting by Laurence I. Barrett, Neil MacNeil/Washington

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