President Reagan and his economic advisers, brought down to earth by the deep recession and high unemployment, finally have agreed that there is no free lunch.
In the 1984 budget they have abandoned the unbridled optimism that led them to claim that their policies would produce a rapidly expanding economy, sharp declines in inflation and balanced budgets simultaneously.
Inflation has fallen even more than the administration predicted, but the economy is only beginning to recover from the recession that was not supposed to occur.
Equally important, the recession has lasted so long that, even with the moderate recovery predicted, it will be the end of this year before the level of economic activity gets back to where it was when Reagan took office, budget documents point out.
There is no attempt to gloss over these facts with unrealistically high growth predictions. Instead, the new forecast projects that the gross national product, adjusted for inflation, will rise at about 4 percent a year once the recovery is well under way.
With such growth, unemployment will decline only slowly, with the rate still above 10 percent through much of next year and reaching 6.5 percent only in 1988, the Reagan forecast shows. Meanwhile, inflation is predicted to remain between 4 and 5 percent indefinitely.
And to try to close the yawning gap between federal spending and revenues, the administration has continued the shift begun last year, when the president lobbied hard for a bill that increased taxes by about $100 billion over three years.
Along with higher gasoline and Social Security taxes, and a recommended set of standby tax increases likely to be triggered in late 1985, the budget projects total federal revenues to be equal to 20.6 percent of GNP in 1988, down only slightly from the 20.9 percent level in 1981.
In other words, by the end of a possible second Reagan term, the total tax burden as a share of GNP would be almost as high as it was when he took office.
A number of private economists applauded the newly modest note adopted by the administration, including the willingness to raise taxes to close the huge long-term gap between spending and revenues.
"It's not only realistic, it's on the conservative side," said Allen Sinai of Data Resources Inc. in a representative comment. "It's like a cautious plan for a corporation in which the surprises could come on the up side, not the down side."
But Sinai, George Perry of the Brookings Institution, Rudy Penner of the American Enterprise Institute and others also expressed concern about the large deficits that will remain after the recovery is far advanced.
Interestingly, the administration's new caution has led it in the budget to disown some of its earlier assertions about the economy and the source of some of the nation's economic difficulties.
For instance, at one point, the budget says, "Underscoring the commitment to a sustained inflation reduction and a moderate rate of monetary expansion, the growth of nominal GNP that is, GNP in current dollars as opposed to GNP adjusted for inflation is estimated to decline gradually from 9.2 percent in 1984 to 8.6 percent in 1988. This moderate growth rate for total spending or aggregate demand contrasts with the inflationary 11.2 percent growth of nominal GNP during 1977-1981."
It also contrasts sharply to the average 12 percent goal for growth in nominal GNP set by Reagan in his initial economic policy package in March, 1981.
With the Federal Reserve following a monetary policy--in part, at the urging of the administration--that was more likely to produce an increase in nominal GNP of about 9 percent instead of 12 percent, many economists warned that fiscal and monetary policies were on a collision course in 1981 and 1982.
Most economists today agree that just such a collision occurred and contributed to the high interest rates during much of the last two years. Compounding the problem last year was an unexpected shift in the relationship between money growth and nominal GNP growth, so that the latter went up a paltry 4.1 percent.
With the new forecast, the admininstration's targets for nominal GNP are in line with those of the Federal Reserve. But the large deficits projected for the years beyond 1983 still will put pressure on interest rates and on business investment gains.
DRI's Sinai, for one, said that the contingency tax intended to produce more than $40 billion in fiscal 1986, a combination of an income tax surcharge and a $5-a-barrel fee on domestic and imported oil, is "not a measure for reducing the deficit that anybody in financial markets can take seriously. I wouldn't buy bonds on the strength of that."
Even with the contingency tax, by the administration's arithmetic, the deficit would still be $117 billion in fiscal 1988 when unemployment is projected to have fallen to 6.5 percent, about the lowest level the administration says it thinks it can go without adding substantially to inflationary pressures.
At that point, many economists say a budget surplus would be more appropriate than a deficit equal to about 2 percent of GNP. A lower deficit likely would mean lower interest rates relative to inflation and would make more funds available for business investment.
One of the major goals of the administration has been to encourage more saving and more business investment by cutting taxes. But the tax cuts also helped increase the deficits, and the borrowing to finance them will absorb a large portion of total savings in the economy.
Moreover, the process feeds on itself, the budget points out. Each year deficits add to outstanding debt and thus to the interest bill. By the end of fiscal 1986, the debt held by the public will have soared to $1,707.5 billion from $929.4 billion last year. That means the net interest paid to the public will rise from $69.5 billion in 1982 to $109.1 billion in 1986.
Meanwhile, the recession has idled so much of the nation's productive capacity that few businesses need to expand. "As a result, the above-average recovery in capital spending necessary for unusually strong real output growth is unlikely to take place during the early stages of recovery, even with the new policy of investment-oriented tax reduction," the budget said.