There are going to be changes, and I suspect there may very well be changes in statutes because it is crucially important that the trust which is so fundamental to all transactions in a market economy be reinforced, and I do not know how that is going to happen, but I do know that the pressure to do that as a consequence of this event is going to be significant, and I think that is a very fortunate potential outcome of this rather unfortunate story.

Senator CLINTON. I agree with that. Thank you, Mr. Chairman. Chairman CONRAD. Thank you. And we want to thank Chairman Greenspan for your appearance here today. We have held you somewhat beyond the time that we had agreed to, and I thank you for your patience.

Chairman CONRAD. Let me just say that I especially welcome your suggestion that we revisit the notion of a mechanism to adjust spending and revenue so that we do everything we can to aggressively pay down this national debt in expectation of the baby boom generation's retirement and the desirability of building surpluses in preparation for that time. I think that is a very constructive and important suggestion that you made last year that you have repeated this year, and hopefully we will proceed to try to find a way to get it enacted into law.

I thank you again.

[Whereupon, at 12:51 p.m., the Committee was adjourned.]

THE PREPARED STATEMENT OF SENATOR SENATOR RUSSELL FEINGOLD

Thank you Mr. Chairman, and thank you, Chairman Greenspan. It is always somewhat of an occasion to have you before us. We all recognize just how critical your own thinking and actions are to the economy. For that reason, it is extremely useful for us to hear directly from you.

During the 1990's, you played an important part in our ability to get our fiscal house in order. Many of the individual decisions Congress made in trying to balance the Federal books may have been less than popular, but I think having heard from you about the need for fiscal responsibility made it easier to make the case that a greater good was being served. You convincingly made the case for how fiscal responsibility helped to strengthen our Nation's economy.

Last year, we were presented with budget projections that in many ways did not seem real. We were shown budget surpluses that seemed to grow forever, and we were presented with the likelihood that we would actually be able to pay down the great bulk of our publicly held debt by 2006.

At that time, perhaps because those budget projections seemed so unreal, a number of us on the Committee urged caution. We suggested that it would be a mistake to pursue a policy that relied so completely on those projections.

To its credit, the Congressional Budget Office included cautionary language about those projected budget surpluses. It even provided a chart that graphically demonstrated the range of uncertainty in the projections.

Unfortunately, as yesterday's testimony from Dr. Crippen demonstrated, CBO was right to be cautious. In fact, their projections were literally nearly off the chart. Looking at CBO's chart a year ago outlining the range of possible outcomes, the actual budget experience over the last year is at the extreme limit on the bottom end of that chart-in that portion of the graph that was characterized at the time as the least likely to occur.

As I noted at yesterday's hearing, no one is to blame for inaccurate budget projections. We ask our professional forecasters to do the best job that they can, and they do that job extremely well. In fact, CBO does an excellent job of outlining the assumptions it uses in making these predictions.

But if nothing else, our experience in the past year should teach us that the policy course we choose should reflect the uncertainty inherent in CBO's budget projections. As I said yesterday, we should treat them with a great deal of humility.

That did not happen last year, and as a result, we have an enormous budget hole to fill for years to come.

Chairman Greenspan, for me, one of the more memorable comments made at this hearing last year was made by our colleague, now the Chairman of the Banking Committee, Senator Sarbanes. After listening to your testimony, he expressed his concern that in effect you had given license to those who wanted to stray from the course of fiscal responsibility. The expression he used was that in effect, you had taken the lid off the punch bowl.

In looking back over the last year, I think Senator Sarbanes used an apt analogy. Congress and the White House have engaged in a binge of spending increases and tax cuts that have left us with a serious budget mess. Some of it, but only a fraction of it, stemmed directly from the events of September 11. Most of it, though, did not. And apparently, we will be asked to do even more. Reports suggest that the President will be asking for significant increases in spending on Defense, as well as on non-defense. We are also being asked to enact even more tax cuts, in the name of stimulating the economy, many of which are ill-designed to do that job.

With the sobering news about our budget position, one might think that Congress had learned a lesson. But it is the nature of things that people do not like to admit that they have made a mistake, and we may end up with more of the same-spending increases and tax cuts that we cannot afford.

Many who voted for this kind of fiscal policy last year may, in fact, regret that support. Unfortunately, my guess is that they are also reluctant to admit they made a mistake, and would rather ride this policy bomb all the way into the ground, waiving their hats and whooping.

If that happens, if we continue on this course, we will make a bad situation much

worse.

Yesterday, Dr. Crippen reminded us all of the challenge we face in the not too distant future. My generation, the baby boom generation, will start to retire, and we will begin to draw upon Social Security, Medicare, and Medicaid. Meeting the commitments those programs make poses an enormous challenge. We need to put the budget back on a path that will enable us to meet those commitments. Digging the budget hole even deeper will not help.

WRITTEN QUESTIONS FROM SENATOR BYRD TO CHAIRMAN
GREENSPAN AND THE RESPONSES

Question. Chairman Greenspan, I believe in productive public investments in infrastructure and human capital. Decades of economic growth have overwhelmed many of the Nation's sanitation, public transportation, and energy technology and delivery systems whose original designs back fifty to a hundred years.

Would investments in modernizing and expanding this infrastructure contribute to stronger economic growth?

Answer. There can be little doubt that investment in infrastructure both public and private-is an important prerequiste for economic growth, and our Nation has benefited over time its high-quality infrastructure. The evident acceleration in the growth potential of our economy in recent years likely has placed strains on some aspects of our infrastructure and correspondingly raised potential rates of return of return to additional investment. However, as a general matter, economists have had a difficult time establishing a clear-cut empirical link between public investment in infrastructure and economic growth. This difficulty almost certainly reflects, in part, the uneven rates of return to the public investments that have been undertaken in the past. As a consequence, there can be little substitute for an evaluation of infrastructure investment projects on a case-by-case basis.

THE BUDGET AND THE ECONOMY

TUESDAY, JANUARY 29, 2002

U.S. SENATE,

COMMITTEE ON THE BUDGET,
Washington, DC.

The committee met, pursuant to notice, at 10 a.m., in room SD608, Dirksen Senate Office Building, Hon. Kent Conrad (chairman of the committee) presiding.

Present: Senators Conrad, Stabenow, Clinton, Corzine, and Domenici.

Staff present: Mary Ann Naylor, staff director; and Chad Stone, chief economist.

For the minority: G. William Hoagland, staff director; and Bob Stein, chief economist.

OPENING STATEMENT OF CHAIRMAN CONRAD

Chairman CONRAD. The committee will come to order.

Senator Domenici is in an Energy Committee hearing elsewhere and will be joining us a little later.

As you know, this is a very odd week because of the State of the Union today and because of party caucuses starting tomorrow. So it is an unusual week, and I apologize to the witnesses for that, but we think this is a very important hearing to talk about the economic conditions that we face.

Today is really the third in a series of hearings on that question. We started with Dr. Crippen, Director of the Congressional Budget Office, who gave us an overview of our current economic condition and the fiscal condition of the country.

We then followed with Chairman Greenspan of the Federal Reserve, who gave us a more detailed look at our current economic conditions and prospects going forward.

The news so far has been dramatic. As Dr. Crippen testified, just a year ago, we were told that we would have surpluses of $5.6 trillion over the next 10 years. That has now been reduced, as the chart shows, to $1.6 trillion, a disappearance of some $4 trillion of budget surpluses.

That has enormous implications. Instead of effectively eliminating the publicly held debt by 2008, as we were told last year, we now know that we will still have $2.8 trillion of publicly held debt by 2008. And of course, instead of building up some $2.7 trillion of surpluses outside of Social Security and Medicare, the new projection is that we will be running a deficit of $1.1 trillion. And those are of course baseline estimates-that is before any additional defense buildup, which we now know the President will call

for in just the next few days; that is before his proposal for dramatic increases in homeland security; for a stimulus package or for prescription drug coverage for seniors, or other things that are not in the so-called baseline forecast.

What caused these changes? CBO is clear that over the next 10 years, the biggest reason for the diminished surplus is the tax cut, which accounts for 42 percent of the decline.

The other factors are economic changes, the economic slowdown, which accounts for some 23 percent of the change; other legislation, largely spending as a result of the attacks, some 18 percent of the change; and then, technical changes which account for some 17 percent. Technical changes are things like a difference in estimations of Medicare and Medicaid expenses. The CBO has increased their estimates of the expenses in those areas.

The question before this committee is what do we do now, what do we do going forward, what should our policy be.

Clearly, the performance of the economy will affect the budget and vice versa. Chairman Greenspan indicated that he believed the worst of the recession is over, and the economy is beginning to stabilize. But even with that, we see the unemployment rate is still rising, with now 8.3 million people unemployed. We will get new data for January this Friday.

At the same time, there are hopeful signs. We see consumer confidence starting to rise. For example, in the chart, we see the major indexes of consumer confidence showing a move up, and people are expecting a new reading from the Conference Board later this morning. When that news comes, we will report it to the committee.

And of course, the Federal Reserve has cut short-term interest rates aggressively. That brings up an important question of why have long-term rates stayed up while the Federal Reserve has so dramatically cut short-term rates.

This chart I think tells a very important story. We see the results of the Federal Reserve Board sharply cutting interest rates but long-term rates showing very little change. And this is true across a broad range of measures of long-term interest rates.

There is another important point that I think needs to be addressed, and that is a point that Chairman Greenspan made in a speech in San Francisco earlier this month, and he repeated the point at our hearing last week-that one of the reasons why longterm interest rates have not come down is the falling surpluses and diminished prospects for paying down debt.

Chairman Greenspan said in his speech in San Francisco, and I quote: "Some of this stimulus has likely been offset by increases in long-term market interest rates, including those on home mortgages. The recent rise in these rates largely reflects the perception of improved prospects for the U.S. economy. But over the past year, some of the firmness of long-term interest rates is probably the consequence of the fall of projected budget surpluses and the implied less rapid paydown of the national debt."

I think this is something that all of us have to be aware of as we fashion a policy going forward. The importance of fiscal discipline for promoting strong and sustainable growth is one of the issues I hope we will explore today.

As Chairman Greenspan has said: "All else being equal, a declining level of Federal debt is desirable because it holds down longterm real interest rates, thereby lowering the cost of capital and elevating private investment."

I believe that Chairman Greenspan has that right. I think that that is the correct analysis for economic policy.

But there is another key reason for fiscal discipline and for attempting to rebuild surpluses, and that is the demographic time bomb that we all know that we face. The baby boom generation will start retiring in just 6 years. That is the leading edge of baby boomers who choose to retire at age 62, and it will begin in just 6 years, and that is going to change everything.

As Director Crippen said last week, "Acting sooner rather than later to address these long-term fiscal imbalances will make an important difference."

Today we have three witnesses from outside Government to give us their perspective on the economic and budget outlook and to help us address these issues.

Robert Reischauer is President of The Urban Institute and before that was Director of the Congressional Budget Office.

Peter Orszag is a Senior Fellow at the Brookings Institution and was Special Assistant to the President for Economic Policy and a Senior Economist and Senior Advisor at the President's Council of Economic Advisers in the Clinton administration.

Brian Wesbury is Chief Economist at Griffin, Kubik, Stephens, and Thompson, a Chicago-based investment bank, and served as Chief Economist at the Joint Economic Committee in 1995 and 1996.

We welcome all of you and thank you very much for coming.

My very able ranking member, Senator Domenici, has arrived, and I will turn to him for any opening statement that he would choose to make, and then we will go to the witnesses.

OPENING STATEMENT OF SENATOR DOMENICI

Senator DOMENICI. Thank you very much, Mr. Chairman. I will not take a lot of time.

I thank the witnesses for giving of their time here today. By coming here, you contribute a lot to our understanding of what we ought to be doing. Each of you has had very successful input and participate mightily in how things turn out and what we should be thinking about.

In particular, Dr. Reischauer, I do not think I should ever let your appearance at the committee go without thanking you for the enormous amount of public service you have put forward. I do not want to start recalling the very important issues that were decided when you were CBO Director, but suffice it to say that you were the epitome of what that office should be, and I thank you for it then and thank you for it today.

I have some prepared remarks, Mr. Chairman, and I will put those in the record.

Frankly, I am convinced that we are going to return to surpluses of a significant amount as soon as the American economy turns around and goes from its current level of growth, which is nothing, to a level of 2.8, 3.5, and it might even during this recovery go up