    [Analytical Perspectives]
    [Economic Assumptions and Analyses]
    [12. Stewardship]
    [From the U.S. Government Printing Office, www.gpo.gov]

    [[Page 181]]

                                12.  STEWARDSHIP

                                  Introduction

      The budget is an essential tool for allocating resources within the
    Federal Government and between the public and private sectors; but
    current outlays, receipts, and the surplus or deficit do not provide
    enough information to evaluate fully the Government's financial and
    investment decisions. Indeed, changes in the annual budget deficit or
    surplus can be misleading indicators of the Government's financial
    condition. For example, the temporary shift from annual deficit to
    surplus in the late 1990s did nothing to correct the long-term
    deficiencies in the Nation's major entitlement programs, which are the
    major source of the long-run shortfall in Federal finances. This would
    have been more apparent if greater attention had focused on long-term
    measures such as appear in this chapter. As important as the current
    budget surplus or deficit is, other indicators are also needed to
    properly judge the Government's fiscal condition.
      For the Federal Government, there is no single number that corresponds
    to the bottom line in a business balance sheet or income statement. The
    Government is ultimately judged by how its actions affect the country's
    security and well-being, and that cannot be summed up with a single
    statistic. Although its financial condition is important, the Government
    does not and is not expected to earn a profit. Instead, its fiscal
    status is best evaluated using a broad range of data and several
    complementary perspectives. This chapter presents a framework for such
    analysis. Because there are serious limitations on the available data
    and the future is uncertain, this chapter's findings should be
    interpreted with caution; its conclusions are subject to future
    revision.
      The chapter consists of four parts:
        Part I explains how the separate pieces of analysis link
              together. Chart 12-1 presents the linkages in a schematic
              diagram.
        Part II presents the Government's physical and financial
              assets and its legal liabilities, which are all collected in
              Table 12-1. This table is similar to a business balance sheet,
              but for that reason it misses some of the Government's unique
              fiscal characteristics. That is why it needs to be
              supplemented by information in Parts III and IV.
        Part III shows possible paths for the Federal budget
              extending well beyond the normal budget window and describes
              how these projections vary depending on key economic and
              demographic assumptions. The projections are summarized in
              Table 12-2 and in a related set of charts. This part also
              presents discounted present value estimates of the funding
              shortfall in Social Security and Medicare in Table 12-3.
              Together such data indicate the full range of the Government's
              future responsibilities and resources under current law and
              policy. In particular, they show the looming challenge that
              Federal entitlement programs create for the budget in the long
              run.
        Part IV returns the focus to the present. It features
              information on national economic and social conditions that
              are affected by what the Government does. The private economy
              is the ultimate source of the Government's resources. Table
              12-4 presents summary data for total national wealth, while
              highlighting the Federal investments that have contributed to
              that wealth. Table 12-5 presents a small sample of economic
              and social indicators.

                    PART I--HOW TO EVALUATE FEDERAL FINANCES

      No single framework can encompass all of the factors that affect the
    financial condition of the Federal Government. Nor can any framework
    serve as a substitute for actual analysis. Nevertheless, the framework
    presented here offers a useful way to examine the financial aspects of
    Federal policies that goes beyond the standard measures of outlays,
    receipts and the surplus/deficit. It includes information that would
    appear on a balance sheet, but it goes beyond that to include long-run
    projections of the budget that can be used to show where future fiscal
    strains are most likely to appear. It also includes measures that
    indicate some of what society has gained economically and socially from
    Federal programs funded through this and past budgets.
      The Government's legally binding obligations--its liabilities--consist
    in the first place of Treasury debt owed to the public. Other
    liabilities include the pensions and other benefits owed to retired
    Federal employees and veterans. These employee obligations are a form of
    deferred compensation; they have counterparts in the business world, and
    would appear as liabilities on a business balance sheet. Accrued
    obligations for Government insurance policies and the estimated present
    value of failed loan guarantees and deposit insurance claims are also
    analogous to private liabilities. These Government liabilities are
    discussed further in Part II along with the Government's assets. They
    are collected in Table 12-1. Although they are important, the
    obligations shown in Table 12-1 are only a subset

    [[Page 182]]

    of the Government's total financial responsibilities. Indeed, the full
    extent of the Government's fiscal exposure through its various
    programmatic commitments dwarfs the outstanding debt held by the public
    or even the total of all acknowledged Federal liabilities. The
    commitment to Social Security and Medicare alone amounts to many times
    the value of outstanding Federal debt.
      In addition to Social Security and Medicare, the Government has a
    broad range of programs that dispense cash and other benefits to
    individual recipients. It also provides a wide range of other public
    services that must be financed through the tax system. The Government is
    not constitutionally obligated to continue operating any of these
    programs without change, and specific benefits and services may be
    modified or even ended at any time, subject to the decisions of Congress
    and the President. Indeed, such changes are a regular part of the
    legislative cycle. For such reasons, these programmatic commitments are
    not ``liabilities'' in a legal or accounting sense, and they would not
    appear on a balance sheet, but they remain Federal responsibilities and
    will have a claim `on budgetary resources for the foreseeable future.
    All of these programs are reflected in the long-run budget projections
    in Part III. It would be misleading to leave out any of these
    programmatic commitments in projecting future claims on the Government
    or in calculating the Government's long-run fiscal balance.
      The Federal Government also has resources that go beyond the assets
    that would appear on a business's balance sheet. These additional
    resources include most importantly the Government's sovereign power to
    tax. Because of these additional responsibilities and resources, the
    best way to analyze the future strains on the Government's fiscal
    position is to make a long-run projection of the entire Federal budget,
    as is done in Part III of this chapter, which provides a comprehensive
    measure of the Government's future cash flows.
      Over long periods of time, the spending the Government does must be
    financed by the taxes and other receipts it collects. Although the
    Government can borrow for temporary periods, it must pay interest on any
    such borrowing, which adds to future spending. In the long run, under
    normal financial conditions, a solvent Government must pay for its
    spending out of its receipts. The projections in Part III show that
    under an extension of the estimates in this budget, long-run balance in
    this sense is not achieved, mostly because projected spending for Social
    Security, Medicare, and Medicaid grow faster than the revenue available
    to pay for them.
       The long run budget projections and the table of assets and
    liabilities are silent on the question of whether the public is
    receiving value for its tax dollars or whether Federal assets are being
    used effectively. Information on those points requires performance
    measures for Government programs supplemented by appropriate information
    about conditions in the economy and society. Recent changes in budgeting
    practices will contribute to the goal of more complete information about
    Government programs and permit a closer alignment of the cost of
    programs with performance measures. These changes are described in
    detail in the main Budget volume itself, in chapter 2 of this volume,
    and in the accompanying material that describes results obtained with
    the Program Assessment Rating Tool (PART). This Stewardship chapter
    complements the detailed exploration of Government performance with an
    assessment of the overall impact of Federal policy as reflected in some
    general measures of economic and social well-being.

    Relationship with FASAB Objectives

      The framework presented here meets the stewardship objective \1\ for
    Federal financial reporting recommended by the Federal Accounting
    Standards Advisory Board (FASAB) and adopted for use by the Federal
    Government in September 1993.
    ---------------------------------------------------------------------------
      \1\ Statement of Federal Financial Accounting Concepts, Number 1,
    Objectives of Federal Financial Reporting, September 2, 1993. Other
    objectives are budgetary integrity, operting performance, and systems
    and controls.
    ---------------------------------------------------------------------------
              Federal financial reporting should assist report users in
         assessing the impact on the country of the Government's operations
              and investments for the period and how, as a result, the
        Government's and the Nation's financial conditions have changed and
        may change in the future. Federal financial reporting should provide
                   information that helps the reader to determine:

             3a. Whether the Government's financial position improved or
                            deteriorated over the period.

           3b. Whether future budgetary resources will likely be sufficient
        to sustain public services and to meet obligations as they come due.

          3c. Whether Government operations have contributed to the nation's
                           current and future well-being.
      The presentation here is an experimental approach for meeting this
    objective at the Government-wide level. It is especially intended to
    meet the broad interests of economists and others in evaluating trends
    over time, including both past and future trends. The annual Financial
    Report of the United States Government presents related information, but
    from a different perspective. The Financial Report includes a standard
    business-type balance sheet. The assets and liabilities on that balance
    sheet are all based on transactions that have already occurred. A
    somewhat similar table can be found in Part II of this chapter. The
    Report also includes a Statement of Social Insurance and it reviews a
    substantial body of information on the condition and sustainability of
    the Government's social insurance programs. However, the Report does not
    try to extend that review to the condition or sustainability of the
    Government as a whole, which is the main focus of this chapter.

      Connecting the Dots: The presentation that follows consists in large
    part of a series of tables and charts. Taken together, they serve
    similar functions to a business's balance sheet. The schematic diagram,
    Chart 12-1, shows how the different pieces fit together. The tables and
    charts should be viewed as an ensemble, the main elements of which are
    grouped in two broad

    [[Page 183]]

    categories--assets/resources and liabilities/responsibilities.
        Reading down the left-hand side of Chart 12-1 shows the
              range of Federal resources, including assets the Government
              owns, tax receipts it can expect to collect based on current
              and proposed law, and national wealth that provides the base
              for Government revenues.
        Reading down the right-hand side reveals the full range of
              Federal obligations and responsibilities, beginning with
              Government's acknowledged liabilities based on past actions,
              such as the debt held by the public, and going on to include
              future budget outlays that maintain present policies and
              trends. This column ends with a set of indicators highlighting
              areas where Government activity affects society or the
              economy.

    [[Page 184]]

    ------------------------------------------------------------------------

            QUESTIONS AND ANSWERS ABOUT THE GOVERNMENT'S STEWARDSHIP

    ------------------------------------------------------------------------
    1.   According to Table 12-1, the Government's liabilities exceed its
     assets. No business could operate in such a fashion. Why does the
     Government not manage its finances more like a business?

                   The Federal Government has fundamentally different
                    objectives from a business enterprise. The primary goal
                    of every business is to earn a profit, and the Federal
                    Government properly leaves almost all activities at
                    which a profit could be earned to the private sector.
                    For the vast bulk of the Federal Government's
                    operations, it would be difficult or impossible to
                    charge prices--let alone prices that would cover
                    expenses. The Government undertakes these activities not
                    to improve its balance sheet, but to benefit the Nation.

                   For example, the Federal Government invests in education
                    and research. The Government earns no direct return from
                    these investments; but people are made richer if they
                    are successful. The returns on these investments show up
                    not as an increase in the Government assets but as an
                    increase in the general state of knowledge and in the
                    capacity of the country's citizens to earn a living and
                    lead a fuller life. A business's motives for investment
                    are quite different; business invests to earn a profit
                    for itself, not others, and if its investments are
                    successful, their value will be reflected in its balance
                    sheet. Because the Federal Government's objectives are
                    different, its balance sheet behaves differently, and
                    should be interpreted differently.

    2.  Table 12-1 seems to imply that the Government is insolvent. Is it?

                   No. Just as the Federal Government's responsibilities are
                    of a different nature than those of a private business,
                    so are its resources. Government solvency must be
                    evaluated in different terms.

                   What the table shows is that those Federal obligations
                    that are most comparable to the liabilities of a
                    business corporation exceed the estimated value of the
                    assets actually owned by the Federal Government. The
                    Government, however, has access to other resources
                    through its sovereign powers. These powers, which
                    include taxation, allow the Government to meet its
                    present obligations and those that are anticipated from
                    future operations even though the Government's current
                    assets are less than its current liabilities.

                   The financial markets clearly recognize this reality. The
                    Federal Government's implicit credit rating is the best
                    in the world; lenders are willing to lend it money at
                    interest rates substantially below those charged to
                    private borrowers. This would not be true if the
                    Government were really insolvent or likely to become so.
                    Where governments totter on the brink of insolvency,
                    lenders are either unwilling to lend them money, or do
                    so only in return for a substantial interest premium.
    ------------------------------------------------------------------------

    ------------------------------------------------------------------------

    [[Page 185]]

    ------------------------------------------------------------------------

            QUESTIONS AND ANSWERS ABOUT THE GOVERNMENT'S STEWARDSHIP

    ------------------------------------------------------------------------
    3.  Why are Social Security and Medicare not shown as Government
     liabilities in Table 12-1?

                   Future Social Security and Medicare benefits may be
                    considered as promises or responsibilities of the
                    Federal Government, but these benefits are not a
                    liability in a legal or accounting sense. The Government
                    has unilaterally decreased as well as increased these
                    benefits in the past, and future reforms could alter
                    them again. These benefits are not ignored in this
                    presentation of the Government's finances, but they are
                    shown elsewhere than in Table 12-1. They appear in two
                    ways: Budget projections as a percent of GDP from now
                    through 2080, in Table 12-2, and the actuarial
                    deficiency estimates over roughly the same period in
                    Table 12-3.

                   Other Federal programs exist that are similar to Social
                    Security and Medicare in the promises they make--
                    Medicaid--for example. Few have suggested counting the
                    future benefits expected under these programs as Federal
                    liabilities, yet it would be difficult to justify a
                    different accounting treatment for them if Social
                    Security or Medicare were to be classified as a
                    liability. There is no bright line dividing Social
                    Security and Medicare from other programs that promise
                    benefits to people, and all the Government programs that
                    do so should be accounted for similarly.

                   Furthermore, if future Social Security or Medicare
                    benefits were to be treated as a liability, then future
                    payroll tax receipts earmarked to finance those benefits
                    ought to be treated as a Government asset. This
                    treatment would be essential to correctly gauge the
                    future claim. Tax receipts, however, are not generally
                    considered Government assets, and for good reason: the
                    Government does not own the wealth on which future taxes
                    depends. Including taxes on the balance sheet would be
                    wrong for this reason, but without counting taxes the
                    balance sheet would overstate the drain on net assets
                    from Social Security and Medicare. Furthermore, treating
                    taxes for Social Security or Medicare differently from
                    other taxes would be highly questionable.

                   Finally, under Generally Accepted Accounting Principles
                    (GAAP), Social Security is not considered to be a
                    liability, so not counting it as such in this chapter is
                    consistent with the accounting standards.

    4.  Why can't the Government keep a better set of books?

                   The Government is not a business, and accounting
                    standards designed to illuminate how much a business
                    earns and how much equity it has could provide
                    misleading information if applied naively to the
                    Government. The Government does not have a ``bottom
                    line'' comparable to that of a business corporation, but
                    the Federal Accounting Standards Advisory Board (FASAB)
                    has developed, and the Government has adopted, a
                    conceptual accounting framework that reflects the
                    Government's distinct functions and answers many of the
                    questions for which Government should be accountable.
                    This framework addresses budgetary integrity, operating
                    performance, stewardship, and systems and controls.
                    FASAB has also developed, and the Government has
                    adopted, a full set of accounting standards. Federal
                    agencies now issue audited financial reports that follow
                    these standards and an audited Government-wide financial
                    report is issued as well. In short, the Federal
                    Government does follow generally accepted accounting
                    principles (GAAP) just as businesses and State and local
                    governments do for their activities, although the
                    relevant principles differ depending on the
                    circumstances. This chapter is intended to address the
                    ``stewardship objective''--assessing the interrelated
                    condition of the Federal Government and the Nation. The
                    data in this chapter illuminate the trade-offs and
                    connections between making the Federal Government
                    ``better off'' and making the Nation ``better off.''
    ------------------------------------------------------------------------

    ------------------------------------------------------------------------

    [[Page 186]]

    ------------------------------------------------------------------------

            QUESTIONS AND ANSWERS ABOUT THE GOVERNMENT'S STEWARDSHIP

    ------------------------------------------------------------------------

    5.  When the baby-boom generation begins to retire in large numbers

                   The aging of the U.S. population will become dramatically
                    evident when the baby-boomers begin to retire, and this
                    demographic transition poses serious long-term problems
                    for Federal entitlement programs and the budget. Both
                    the long-range budget projections and the actuarial
                    projections presented in this chapter indicate how
                    serious the problem is. It is clear from this
                    information that reforms are needed in these programs to
                    meet the long-term challenges.

    6.  Would it make sense for the Government to borrow to finance needed
     capital--permitting a deficit in the budget--so long as the borrowing
     did not exceed the amount spent on investments?

                   This rule might not actually permit much extra borrowing.
                    If the Government were to finance new capital by
                    borrowing, it should plan to pay off the debt incurred
                    to finance old capital as the capital is used up. The
                    net new borrowing permitted by this rule would not then
                    exceed the amount of net investment the government does
                    after adjusting for capital consumption. But, as
                    discussed in Chapter 6, Federal net investment in
                    physical capital is usually not very large and has even
                    been negative, so little if any deficit spending would
                    have been justified by this borrowing-for-investment
                    criterion, at least in recent years.

                   The Federal Government also funds substantial amounts of
                    physical capital that it does not own, such as highways
                    and research facilities, and it funds investment in
                    intangible ``capital'' such as education and training
                    and the conduct of research and development. A private
                    business would never borrow to spend on assets that
                    would be owned by someone else. However, such spending
                    is today a principal function of Government. It is not
                    clear whether this type of capital investment would fall
                    under the borrowing-for-investment criterion. Certainly,
                    these investments do not create assets owned by the
                    Federal Government, which suggests they should not be
                    included for this purpose, even though they are an
                    important part of national wealth.

                   There is another difficulty with the logic of borrowing
                    to invest. Businesses expect investments to earn a
                    return large enough to cover their cost. In contrast,
                    the Federal Government does not generally expect to
                    receive a direct payoff from its investments, whether or
                    not it owns them. In this sense, investments are no
                    different from other Government expenditures, and the
                    fact that they provide services over a longer period of
                    time is no justification for excluding them when
                    calculating the surplus or deficit.

                   Finally, the Federal Government must pursue policies that
                    support the overall economic well-being of the Nation
                    and its security interests. For such reasons, the
                    Government may deem it desirable to run a budget
                    surplus, even if this means paying for its own
                    investments from current receipts, and there are times
                    when it is necessary to run a deficit, even one that
                    exceeds Government net investment. Considerations in
                    addition to the size of Federal investment must be
                    weighed in choosing the right level of the surplus or
                    deficit.
    ------------------------------------------------------------------------

    ------------------------------------------------------------------------

    [[Page 187]]

            PART II--THE FEDERAL GOVERNMENT'S ASSETS AND LIABILITIES

      Table 12-1 takes a backward look at the Government's assets and
    liabilities summarizing what the Government owes as a result of its past
    operations netted against the value of what it owns. The table gives
    some perspective by showing these net asset figures for a number of
    years beginning in 1960. To ensure comparability across time, the assets
    and liabilities are measured in terms of constant FY 2003 dollars.
    Government liabilities have exceeded the value of assets (see chart 12-
    2) over this entire period, but, in the late 1970s, a speculative run-up
    in the prices of oil and other real assets temporarily boosted the value
    of Federal holdings. When those prices subsequently declined, Federal
    asset values declined and only recently have they regained the level
    they had reached temporarily in the mid-1980s.
      Currently, the total real value of Federal assets is estimated to be
    50 percent greater than it was in 1960. Meanwhile, Federal liabilities
    have increased by over 200 percent in real terms. The decline in the
    Federal net asset position has been due partly to persistent Federal
    budget deficits that have boosted debt held by the public most years
    since 1960. Other factors have also been important in reducing net
    Federal assets such as the large increases in health benefits for
    Federal retirees and the sharp rise in veterans' disability
    compensation. The slower growth in Federal assets compared with
    liabilities also helped reduce the net asset position.
      The shift from budget deficits to budget surpluses in the late 1990s
    temporarily checked the decline in Federal net assets, but only for a
    few years. Currently, the net excess of liabilities over assets is about
    $4.9 trillion or nearly $17,000 per capita. As a ratio to GDP, the
    excess of liabilities over assets reached a peak of 51 percent in 1995;
    it declined to 38 percent in 2000 and was 45 percent in 2003. The
    average since 1960 has been 34 percent.

                                                         Table 12-1.  GOVERNMENT ASSETS AND LIABILITIES*
                                                 (As of the end of the fiscal year, in billions of 2003 dollars)
    --------------------------------------------------------------------------------------------------------------------------------------------------------
                                              1960     1965     1970     1975     1980     1985     1990      1995      2000      2001      2002      2003
    --------------------------------------------------------------------------------------------------------------------------------------------------------
                    ASSETS
    Financial Assets:
      Cash and Checking Deposits..........       44       63       39       32       49       32        43        44        59        52        79        53
      Other Monetary Assets...............        1        1        1        1        2        2         2         1         7        12        19         9
      Mortgages...........................       28       27       40       42       78       80       102        70        81        78        76        74
      Other Loans.........................      104      143      179      179      230      301       214       163       137       129       121       118
        less Expected Loan Losses.........       -1       -3       -5       -9      -18      -18       -20       -25       -39       -39       -46       -47
      Other Treasury Financial Assets.....       63       79       69       62       87      129       206       247       226       241       258       292
                                           -----------------------------------------------------------------------------------------------------------------
          Total...........................      239      310      324      307      428      526       546       511       539       553       603       589

    Nonfinancial Assets:
      Fixed Reproducible Capital:.........    1,030    1,021    1,062    1,029      974    1,102     1,143     1,149     1,007       994       992       998
        Defense...........................      890      836      845      772      693      806       827       808       661       640       630       631
        Nondefense........................      140      185      217      257      281      297       316       341       346       354       362       367
      Inventories.........................      274      237      221      197      244      279       247       191       196       190       195       194
      Nonreproducible Capital:............      443      455      436      646    1,035    1,110       876       666       998     1,058     1,045     1,202
        Land..............................       96      133      168      266      340      353       363       282       438       457       526       553
        Mineral Rights....................      347      322      268      380      696      757       513       384       560       601       519       649
                                           -----------------------------------------------------------------------------------------------------------------
          Subtotal........................    1,747    1,713    1,719    1,873    2,254    2,491     2,267     2,005     2,200     2,241     2,232     2,394
                                           -----------------------------------------------------------------------------------------------------------------
    Total Assets..........................    1,986    2,023    2,043    2,180    2,682    3,018     2,813     2,515     2,739     2,795     2,835     2,984

                  LIABILITIES

    Debt held by the Public...............    1,194    1,228    1,093    1,111    1,381    2,284     3,112     4,135     3,601     3,423     3,600     3,915

    Insurance and Guarantee Liabilities:
      Deposit Insurance...................  .......  .......  .......  .......        2       10        75         5         1         3         2         1
      Pension Benefit Guarantee...........  .......  .......  .......       45       33       45        45        22        43        53        82        71
      Loan Guarantees.....................        *        1        2        7       13       11        16        31        39        40        38        36
      Other Insurance.....................       33       29       23       21       28       17        21        18        17        16        16        16
                                           -----------------------------------------------------------------------------------------------------------------
          Subtotal........................       33       30       25       73       76       83       157        76       100       112       139       124

    Pension and Post-Employment Health
     Liabilities:
      Civilian and Military Pensions......      836    1,051    1,256    1,423    1,889    1,874     1,832     1,776     1,810     1,819     1,861     1,886
      Retiree Health Insurance Benefits...      200      252      301      341      453      449       439       426       406       795       820       842
      Veterans Disability Compensation....      198      249      298      330      339      280       252       275       584       713       863       955
                                           -----------------------------------------------------------------------------------------------------------------
          Subtotal........................    1,234    1,552    1,855    2,094    2,680    2,603     2,523     2,477     2,800     3,328     3,544     3,684

    Other Liabilities:
      Trade Payables and Miscellaneous....       29       35       44       56       86      112       154       128       104       106       104       116
      Benefits Due and Payable............       21       26       35       43       53       66        74        80        82        89        97        99
                                           -----------------------------------------------------------------------------------------------------------------
          Subtotal........................       50       61       79       99      138      178       228       208       187       195       201       215
                                           -----------------------------------------------------------------------------------------------------------------
    Total Liabilities.....................    2,511    2,870    3,052    3,377    4,276    5,148     6,020     6,896     6,687     7,058     7,484     7,937

    Net Assets (Assets Minus Liabilities).     -525     -847   -1,009   -1,197   -1,594   -2,130    -3,207    -4,380    -3,948    -4,263    -4,649    -4,953
    --------------------------------------------------------------------------------------------------------------------------------------------------------
    Addenda:
    Net Assets Per Capita (in 2003           -2,911   -4,365   -4,929   -5,550   -6,988   -8,921   -12,797   -16,406   -13,958   -14,908   -16,084   -16,961
     dollars).............................
    Ratio to GDP (in percent).............    -19.8    -25.4    -25.3    -26.5    -29.5    -33.0     -42.5     -51.4     -37.9     -41.0     -43.4     -44.6
    --------------------------------------------------------------------------------------------------------------------------------------------------------
    * This Table shows assets and liabilities for the Government as a whole, excluding the Federal Reserve System. Data for 2003 are extrapolated in some
      cases.

                                     Assets

      Table 12-1 offers a comprehensive list of the financial and physical
    resources owned by the Federal Government.
      Financial Assets: According to the Federal Reserve Board's Flow-of-
    Funds accounts, the Federal Government's holdings of financial assets
    amounted to $0.6 trillion at the end of FY 2003. Government-held
    mortgages and other loans (measured in constant dollars) reached a peak
    in the early 1990s as the Government acquired mortgages from savings and
    loan institutions that had failed. The Government subsequently
    liquidated most of the mortgages it acquired from bankrupt savings and
    loans in the 1990s. The face value of mortgages and other loans
    overstates their economic worth. OMB estimates that the discounted
    present value of future losses and interest subsidies on these loans was
    about $40 billion as of 2003. These estimated losses are subtracted from
    the face value of outstanding loans to obtain a better estimate of their
    economic worth.
      Reproducible Capital: The Federal Government is a major investor in
    physical capital and computer software. Government-owned stocks of such
    capital have amounted to about $1.0 trillion in constant dollars for
    most of the last 40 years (OMB estimate). This capital consists of
    defense equipment and structures, including weapons systems, as well as
    nondefense capital goods. Currently, slightly less than two-thirds of
    the capital is defense equipment or structures. In 1960, defense capital
    was about 90 percent of the total. In the 1970s, there was a substantial
    decline in the real value of U.S. defense capital and there was another
    large decline in the 1990s after the end of the Cold War. Meanwhile,
    nondefense Federal capital has increased at an average annual rate of
    around 2-1/2 percent. The Government also holds inventories of defense
    goods and other items that in 2003 amounted to about 20 percent of the
    value of its fixed capital.
      Non-reproducible Capital: The Government owns significant amounts of
    land and mineral deposits. There are no official estimates of the market
    value of these holdings (and of course, in a realistic sense, many of
    these resources would never be sold). Researchers in the private sector
    have estimated what they are worth, however, and these estimates are
    extrapolated in Table 12-1. Private land values fell sharply in the
    early 1990s, but they have risen since 1993. It is assumed here that
    Federal land shared in the decline and the subsequent recovery. Oil
    prices have been on a roller coaster since the mid-1990s. They declined
    sharply in 1997-1998, rebounded in 1999-2000, fell again in 2001, and
    rose in 2002-2003. These fluctuations have caused the estimated value of
    Federal mineral deposits to fluctuate as well. In 2003 as estimated
    here, the real value of Federal land and mineral rights was higher than
    at any time since 1982.
      These estimates are limited to land and mineral rights. They, thus,
    omit some valuable assets owned by the Federal Government, such as works
    of art and historical artifacts partly because there is no realistic
    basis for valuing such unique assets and also because, as part of the
    Nation's historical heritage, these objects are never likely to be sold.
      Total Assets: The total value of Government assets measured in
    constant dollars has been increasing for the past five years, but it was
    still lower in 2003 than it was in the early 1980s. The Government's
    asset holdings are vast. As of the end of FY 2003, Government assets
    were estimated to be worth about $3.0 trillion, about 27 percent of GDP.

    [[Page 188]]

    [[Page 189]]

                                   Liabilities

      Table 12-1 includes Federal liabilities that would also be listed on a
    business balance sheet. All the various forms of publicly held Federal
    debt are counted, as are Federal pension and health insurance
    obligations to civilian and military retirees and the disability
    compensation that is owed the Nation's veterans. The estimated
    liabilities stemming from Federal insurance programs and loan guarantees
    are also shown. The benefits that are due and payable under various
    Federal programs are also included, but these are short-term obligations
    not long-term responsibilities.
      Other obligations, including future benefit payments that are likely
    to be made through Social Security and other Federal income transfer
    programs, are not shown in this table. These are not Federal liabilities
    in a legal or accounting sense. They are Federal responsibilities, and
    it is important to gauge their size, but they are not binding in the
    same way that a liability is. That is why a simple balance sheet can
    give a misleading impression of the Federal financial position. The
    budget projections and other data in Part III are designed to provide a
    sense of these broader responsibilities and their claim on future
    budgets.
      Debt Held by the Public: The Federal Government's largest single
    liability is the debt owed to the public. It amounted to about $3.9
    trillion at the end of 2003, down from a peak value of $4.2 trillion (in
    constant 2003 dollars) in 1996. Publicly held debt declined for several
    years in the late 1990s because of the unified budget surplus that had
    emerged at that time, but as the deficit has returned, publicly held
    debt has begun to increase again, while remaining below its previous
    peak level measured in real terms.
      Insurance and Guarantee Liabilities: The Federal Government has
    contingent liabilities arising from the loan guarantees it has made and
    its insurance programs. When the Government guarantees a loan or offers
    insurance, cash disbursements are often small initially, and if a fee is
    charged, the Government may even collect money; but the risk of future
    cash payments associated with such commitments can be large. The figures
    reported in Table 12-1 are estimates of the current discounted value of
    prospective future losses on outstanding guarantees and insurance
    contracts. The present value of all such losses taken together is about
    $0.1 trillion. As is true elsewhere in this chapter, this estimate does
    not incorporate the market value of the risk associated with these
    contingent liabilities; it merely reflects the present value of expected
    losses. Although individually many of these programs are large and
    potential losses can be a serious concern, relative to total Federal
    liabilities or even the total debt held by the public, these insurance
    and guarantee liabilities are fairly small. They were less than 2
    percent of total liabilities in 2003.
      Pension and Post-Employment Health Liabilities: The Federal Government
    owes pension benefits as a form of deferred compensation to retired
    workers and to current employees who will eventually retire. It also
    provides civilian retirees with subsidized health insurance through the
    Federal Employees Health Benefits program and military retirees receive
    similar benefits. Veterans are owed compensation for their service
    related

    [[Page 190]]

    disabilities. While the Government's employee pension obligations have
    risen slowly, there has been a sharp increase in the liability for
    future health benefits and veterans compensation. The discounted present
    value of all these benefits was estimated to be around $3.7 trillion at
    the end of FY 2003 up from $2.8 trillion in 2000.\2\ There was a large
    expansion in Federal military retiree health benefits legislated in
    2001.
    ---------------------------------------------------------------------------
      \2\ The pension liability is the actuarial present value of benefits
    accrued-to-date based on past and projected salaries. The 2003 liability
    was extrapolated. The retiree health insurance liability is based on
    actuarial calculations of the present value of benefits promised under
    existing programs. Estimates are only available since 1997. For earlier
    years the liability was assumed to grow in line with the pension
    liability, and for that reason may differ significantly from what the
    actuaries would have calculated for this period. Veterans' disability
    compensation was taken from the 2002 Financial Report of the United
    States Government and Reports from earlier years.
    ---------------------------------------------------------------------------

                                   Net Assets

      The Government need not maintain a positive balance of net assets to
    assure its fiscal solvency, and the buildup in net liabilities since
    1960 has not significantly damaged Federal creditworthiness. Long-term
    Government interest rates in 2003 reached their lowest levels in 45
    years, although by year end rates were substantially above their low
    point in May. For the year as a whole, the average level of long term
    rates were lower than in any year since 1963. Despite the continued good
    performance of interest rates, there are limits to how much debt the
    Government can assume without putting its finances in jeopardy. Over an
    extended time horizon, the Federal Government must take in enough
    revenue to cover all of its spending including debt service. A
    Government that borrows must eventually pay for what it has borrowed.
    The Government's ability to service its debt in the long run, however,
    cannot be gauged from a balance sheet alone. To judge the prospects for
    long-run solvency it is necessary to project the budget into the future.

                      PART III--THE LONG-RUN BUDGET OUTLOOK

      A balance sheet with its focus on obligations arising from past
    transactions can only show so much information. For the Government, it
    is important to anticipate what future budgetary requirements might flow
    from future transactions as implied by current law. Despite their
    uncertainty, very long-run budget projections can be useful in sounding
    warnings about potential problems. Federal responsibilities extend well
    beyond the next five or ten years, and problems that may be small in
    that time frame can become much larger if allowed to grow.
      Programs like Social Security and Medicare are intended to continue
    indefinitely, and so long-range projections for Social Security and
    Medicare have been prepared for decades. Budget projections for
    individual programs, even ones as important as Social Security and
    Medicare, do not reveal the Government's overall budgetary position.
    Only by projecting the entire budget is it possible to anticipate
    whether sufficient resources will be available to meet all the
    anticipated requirements for individual programs. It is also necessary
    to estimate how the budget's future growth compares with that of the
    economy to judge how well the economy might be able to support future
    budgetary needs.
      To assess the overall financial condition of the Government, it is
    necessary to examine the future prospects for all Government programs
    including the revenue sources that support Government spending. Such an
    assessment reveals that the key drivers of the long-range deficit are,
    not surprisingly, Social Security and Medicare along with Medicaid, the
    Federal program that helps States provide health coverage for low-income
    people and nursing home care for the elderly. Medicaid, like Medicare
    and Social Security, is projected to grow more rapidly than the economy
    over the next several decades and to add substantially to the overall
    budget deficit. Under current law, there is no offset anywhere in the
    budget that is large enough to cover all the demands that will
    eventually be imposed by Social Security, Medicare, and Medicaid.
      Future budget outcomes depend on a host of unknowns--constantly
    changing economic conditions, unforeseen international developments,
    unexpected demographic shifts, the unpredictable forces of technological
    advance, and evolving political preferences to name a few. The
    uncertainty increases the further into the future projections are
    extended. Such uncertainty, while making accuracy more difficult,
    actually enhances the importance of long-term projections. People are
    generally averse to risk, but it is not possible to assess the
    likelihood of future risks without projections. Although a full
    treatment of risks is beyond the scope of this chapter, the chapter is
    able to show how the budget projections respond to changes in some of
    the key economic and demographic parameters. Given the uncertainties,
    the best that can be done is to work out the implications of expected
    developments on a ``what if'' basis.

                      The Impending Demographic Transition

      In 2008, the first members of the huge generation born after World War
    II, the so-called baby-boomers, will reach age 62 and become eligible
    for early retirement under Social Security. In the years that follow,
    the elderly population will skyrocket, putting serious strains on the
    budget because of increased expenditures for Social Security and for the
    Government's health programs serving this population.
      The pressures are expected to persist even after the baby-boomers are
    gone. The Social Security actuaries project that the ratio of workers to
    Social Security beneficiaries will fall from around 3\1/2\ currently to
    a little over 2 by the time most of the baby-boomers have retired.
    Because of lower fertility and improved mortality, that ratio is
    expected to continue to decline slowly from there. With fewer workers to
    pay the taxes needed to

    [[Page 191]]

    support the retired population, the budgetary pressures will continue to
    grow. The problem posed by the demographic transition is a permanent and
    a growing one.
      Currently, the three major entitlement programs--Social Security,
    Medicare and Medicaid--account for 43 percent of non-interest Federal
    spending, up from 30 percent in 1980. By 2040, when most of the
    remaining baby-boomers will be in their 80s, these three programs could
    easily account for 70 percent of non-interest Federal spending. At the
    end of the projection period, the figure rises to nearly 80 percent of
    non-interest spending. In other words, under an extension of current-law
    formulas and the policies in the budget, almost all of the budget would
    go to these three programs alone. That would severely reduce the
    flexibility of the budget, and the Government's ability to respond to
    new challenges.

                              An Unsustainable Path

      These long-run budget projections show clearly that the budget is on
    an unsustainable path, although the rise in the deficit unfolds
    gradually. The budget deficit is projected to decline as the economy
    expands over the next several years, while most of the baby-boomers will
    remain in the work force. As the baby-boomers begin to reach retirement
    age in large numbers, the deficit begins to rise steadily. This process
    is projected to begin about 10 years from now, i.e., in about 10 years,
    the deficit as a share of GDP reaches a low point and then begins an
    inexorable increase. By the end of the projection period for this
    chapter in 2080, rising deficits would drive publicly held Federal debt
    to levels several times the size of GDP.
      The revenue projections in this section start with the budget's
    estimate of receipts under the Administration's proposals. They assume
    that individual income tax receipts will rise somewhat relative to GDP.
    This increase reflects the higher marginal tax rates that people will
    face as their real incomes rise in the future (the tax code is indexed
    for inflation, but not for real economic growth). In terms of total
    receipts collected relative to GDP, those income tax increases are
    partly offset by declines in Federal excise tax receipts, which are
    generally not indexed for inflation. Payroll taxes also are projected to
    decline relative to GDP because the base for these taxes--cash wages and
    salaries--has shown a tendency to decline relative to total
    compensation, which again partly offsets the increase in income tax
    receipts. Even so, the overall share of Federal receipts in GDP is
    projected to rise above the average of 17 to 19 percent that prevailed
    from 1960 through the mid-1990s and approaches 22 percent by 2080.
      The long-run budget outlook is highly uncertain (see the technical
    note at the end of this chapter for a discussion of the forecasting
    assumptions used to make these budget projections). With pessimistic
    assumptions, the fiscal picture deteriorates even sooner than in the
    base projection. More optimistic assumptions imply a longer period
    before the pressures of rising entitlement spending overwhelm the
    budget. But despite the unavoidable uncertainty, these projections show
    that under a wide range of reasonable forecasting assumptions, the
    resources generated by the programs themselves will be insufficient to
    cover the long-run costs of Social Security and Medicare. The recently
    passed Medicare Prescription Drug, Improvement, and Modernization Act of
    2003, which added a vital new prescription drug benefit to Medicare,
    will put additional cost pressures on the program. However, this
    legislation made other important changes to Medicare, including a
    significant increase in private sector participation and new fiscal
    safeguards, which may help address Medicare's long-run shortfall.
    Despite these improvements, Medicare's long-run financial outlook
    remains uncertain, and it is likely that further reforms will be
    necessary to sustain both Medicare and Social Security in the future.

                             Table 12-2.  LONG-RUN BUDGET PROJECTIONS OF 2005 BUDGET POLICY
                                                    (Percent of GDP)
    ----------------------------------------------------------------------------------------------------------------
                                                               2000    2010    2020    2030    2040    2060    2080
    ----------------------------------------------------------------------------------------------------------------
    Discretionary Spending Grows with GDP:
      Receipts..............................................    20.9    17.9    18.6    19.0    19.5    20.6    21.6
      Outlays...............................................    18.4    19.3    20.3    24.1    28.2    37.7    53.2
        Discretionary.......................................     6.3     6.2     5.4     5.4     5.4     5.4     5.4
        Mandatory...........................................     9.8    11.0    13.0    15.9    17.9    20.6    24.6
          Social Security...................................     4.2     4.2     5.0     6.0     6.2     6.5     6.8
          Medicare..........................................     2.0     2.9     3.9     5.9     7.4     9.6    12.5
          Medicaid..........................................     1.2     1.7     2.1     2.4     2.7     3.3     4.1
          Other.............................................     2.4     2.3     1.9     1.7     1.5     1.2     1.1
        Net Interest........................................     2.3     2.1     1.8     2.7     4.9    11.7    23.2
      Surplus or Deficit (-)................................     2.4    -1.4    -1.7    -5.0    -8.7   -17.2   -31.6
      Primary Surplus or Deficit (-)........................     4.7     0.7     0.1    -2.3    -3.8    -5.5    -8.4
      Federal Debt Held by the Public.......................    35.1    39.3    34.0    51.3    92.2   219.3   432.3
    ----------------------------------------------------------------------------------------------------------------

                 Alternative Economic and Technical Assumptions

      The quantitative results discussed above are sensitive to changes in
    underlying economic and technical assumptions. Some of the most
    important of these alternative economic and technical assumptions and
    their effects on the budget outlook are discussed below. Each highlights
    one of the key uncertainties in the outlook. All show that there are
    mounting deficits under most reasonable projections of the budget.

    [[Page 192]]

      1. Health Spending: The projections for Medicare over the next 75
    years are based on the actuarial projections in the 2003 Medicare
    Trustees' Report, as adjusted for the effects of the Medicare
    prescription drug and modernization bill enacted in December 2003.
    Following the recommendations of its Technical Review Panel, the
    Medicare trustees assume that over the long-run ``age-and gender-
    adjusted, per-beneficiary spending growth exceeds the growth of per-
    capita GDP by 1 percentage point per year.'' This implies that total
    Medicare spending will rise faster than GDP throughout the projection
    period.
      Eventually, the rising trend in health care costs for both Government
    and the private sector will have to end, but it is hard to know when and
    how that will happen. ``Eventually'' could be a long way off. Improved
    health and increased longevity are highly valued, and society may be
    willing spend a much larger share of income on them than it has
    heretofore. Whether society will be willing to devote the large share of
    resources to health care implied by these projections is an open
    question. The alternatives highlight the effect of raising the projected
    growth rate in per capita health care costs by 1/4 percentage point and
    the effect of lowering it by the same amount.

    [[Page 193]]

      2. Discretionary Spending: The assumption used to project
    discretionary spending is essentially arbitrary, because discretionary
    spending is determined annually through the legislative process, and no
    formula can dictate future spending in the absence of legislation.
    Alternative assumptions have been made for discretionary spending in
    past budgets. Holding discretionary spending unchanged in real terms is
    the ``current services'' assumption used for baseline budget projections
    when there is no legislative guidance on future spending levels.
    Extending this assumption over many decades, however, is not necessarily
    realistic. When the population and economy are expected to grow, the
    demand for public services is likely to expand, although not necessarily
    as fast as GDP. The current base projection assumes that discretionary
    spending keeps pace with the growth in GDP in the long run, so that
    spending increases in real terms whenever there is real economic growth.
    An alternative assumption would be that discretionary spending increases
    only for inflation. In other words, real inflation-adjusted level of
    discretionary spending holds constant. This alternative moderates the
    long-run rise in the deficit because the shrinkage in discretionary
    spending as a share of GDP partially offsets the rise in entitlement
    outlays.

      3. Productivity: The rate of future productivity growth has an
    important effect on the long-run budget outlook. It is also highly
    uncertain. Over the next few decades an increase in productivity growth
    would reduce the projected budget deficits appreciably. Higher
    productivity growth adds directly to the growth of the major tax bases,
    while it has only a delayed effect on outlay growth even assuming that
    in the long-run discretionary outlays rise with GDP. In the latter half
    of the 1990s, after two decades of much slower growth, productivity
    growth increased unexpectedly and it has increased again during the
    first three years of the new century. The increase in productivity
    growth is one of the most welcome developments of the last several
    years. Although the long-run growth rate of productivity is inherently
    uncertain, it has averaged 2.3 percent since 1948, and the long-run
    budget projections assume that real GDP per hour will also grow at a 2.3
    percent annual rate over most of this century. The alternatives
    highlight the effect of raising the projected productivity growth rate
    by 1/4 percentage point and the effect of lowering it by a same amount.

    [[Page 194]]

      4. Population: The key assumptions for projecting long-run demographic
    developments concern fertility, immigration, and mortality.
        The demographic projections assume that fertility will
              average around 1.9 births per woman in the future, just
              slightly below the replacement rate needed to maintain a
              constant population--2.1 births.
        The rate of immigration is assumed to average around 900,000
              per year in these projections. Higher immigration relieves
              some of the downward pressure on population from low fertility
              and allows total population to expand throughout the
              projection period, although at a much slower rate than has
              prevailed historically in the United States.
        Mortality is projected to decline; i.e., people are expected
              to live longer. The average female lifespan is projected to
              rise from 79.5 years in 2002 to 85.5 years by 2080, and the
              average male lifespan is projected to increase from 74.2 years
              in 2002 to 81.6 years by 2080. A technical panel to the Social
              Security Trustees recently reported that the improvement in
              longevity might even be greater.

    [[Page 195]]

    [[Page 196]]

             Actuarial Projections for Social Security and Medicare

      Social Security and Medicare are the Government's two largest
    entitlement programs. Both rely on payroll tax receipts from current
    workers and employers for at least part of their financing, while the
    programs' benefits largely go to those who are retired. The importance
    of these programs for the retirement security of current and future
    generations makes it essential to understand their long-range financial
    prospects. Although Social Security and Medicare's Hospital Insurance
    (HI) program are currently in surplus, actuaries for both programs have
    calculated that they face long-run deficits. How best to measure the
    long-run imbalances in Social Security and in the consolidated Medicare
    program, including Supplementary Medical Insurance (SMI) as well as HI,
    is a challenging analytical question, but reasonable calculations
    suggest that each program faces such a huge financial deficiency that it
    will be very difficult for the Government as a whole to maintain control
    of the budget without addressing each of these program's financial
    problems.

    [[Page 197]]

    ------------------------------------------------------------------------

                                        Social Security: The Long-Range Challenge

    Social Security provides retirement security and disability insurance for tens of millions of Americans through
     a system that is intended to be self-financing over time. The principle of self-financing is important because
     it compels corrections in the event that projected benefits consistently exceed dedicated receipts.

    While Social Security is running surpluses today, it will begin running cash deficits in about 15 years. Social
     Security's spending path is unsustainable under current law. The impending retirement of the baby-boom
     generation, born following World War II, will greatly increase the number of Social Security beneficiaries
     beginning within ten years. Demographic trends toward lower fertility rates and longer life spans mean that the
     ratio of retirees to the working population will remain permanently higher. The number of workers available to
     support each retiree will decline from 3.3 today to 2.2 in 2030 and continue to drift down slowly from there.
     This means that the Government will not be able to meet current-law benefit obligations at current payroll tax
     rates.

    The future size of Social Security's shortfall cannot be known with any precision, but a gap between Social
     Security receipts and outlays emerges under a wide range of reasonable forecasting assumptions. Long-range
     uncertainty underscores the importance of creating a system that is financially stable and self-contained.
     Otherwise, if the pessimistic assumptions turn out to be more accurate, the demands created by Social Security
     could compromise the rest of the budget and the Nation's economic health.

    The current structure of Social Security leads to substantial generational differences in the average rate of
     return people can expect from the program. While previous generations have fared extremely well, the average
     individual born today can expect to receive less than a two percent annual real rate of return on their payroll
     taxes (including the employer's portion, which most economists believe is borne by labor). Moreover, such
     estimates in a sense overstate the expected rate of return for future retirees, because they assume no changes
     in current-law taxes or benefits, even though such changes are needed to meet Social Security's financing
     shortfall. As an example, a 1995 analysis found that for an average worker born in 2000 a 1.7 percent rate of
     return would turn into a 1.5 percent rate of return after adjusting revenues to keep the system solvent.

    One way to address the issues of uncertainty and declining rates of return, while protecting national savings,
     would be to allow individuals to invest some of their payroll taxes in personal retirement accounts. The
     President's Commission to Strengthen Social Security presented various options that would include personal
     accounts within the Social Security framework.

    ------------------------------------------------------------------------

    [[Page 198]]

    ------------------------------------------------------------------------

                                            Medicare: The Long-Range Challenge

    Medicare provides health insurance for tens of millions of Americans, including most of the nation's seniors. It
     is composed of two programs: Hospital Insurance (HI) or Part A, which covers medical expenses relating to
     hospitalization, and Supplementary Medical Insurance (SMI) or Part B, which pays for physician and outpatient
     services, and will now also pay for the new prescription drug benefit.

    Like social security, HI is self-financing through dedicated taxes. According to the Medicare trustees' most
     recent report, projected spending for HI under current law will exceed taxes going into the HI trust fund after
     2012, and the fund is projected to be depleted by 2026. Looking at the long run, the Medicare actuaries project
     a 75-year unfunded promise to Medicare's HI trust fund of around $6 trillion. However, this measure tells less
     than half the story because it does not include the deficiency in Medicare's SMI trust fund. SMI's only source
     of dedicated revenues is beneficiary premiums, which generally cover about one-quarter of its expenses. SMI's
     funding structure creates an enormous financing gap for the program, and is the largest contributor to the
     total Medicare program shortfall of $15.8 trillion (or $15.6 trillion including trust fund assets). (These
     estimates are as of the 2003 Medicare trustees' report and do not reflect the effects of the recent Medicare
     prescription drug and reform legislation.)

    SMI's financing shortfall is covered by an unlimited tap on general revenues, the ultimate source of which is
     the Federal taxpayer. The new Medicare prescription drug legislation builds in fiscal safeguards to monitor
     Medicare's use of general revenues. The trustees are required to analyze Medicare's reliance on these funds,
     and issue a warning if Medicare's reliance on general revenues is projected to exceed 45 percent of total
     Medicare expenditures at any point during the following six years. Current projections indicate that Medicare's
     reliance on general revenues may exceed this threshold as early as 2014. If the trustees issue a warning in two
     consecutive years, the bill provides special legislative procedures to allow the President and Congress to
     address the shortfall in advance of financial crises in the Medicare trust funds.

    ------------------------------------------------------------------------
      The 75-Year Horizon: In their annual reports and related documents,
    the Social Security and Medicare trustees typically present calculations
    of the 75-year actuarial imbalance or deficiency for Social Security and
    Medicare. The calculation covers current workers and retirees, as well
    as those projected to join the program within the next 75 years (this is
    the so-called ``open-group'' calculation; the ``closed-group'' covers
    only current workers and retirees''. These estimates measure the present
    discounted value of each program's future benefits net of future income.
    They are complementary to the flow projections described in the
    preceding section.
      The present discounted value of the Social Security imbalance was
    estimated to be about $5 trillion at the beginning of 2003, and the
    comparable estimate for Medicare was around $16 trillion. (The estimates
    in Table 12-3 were prepared by the Social Security and Medicare
    actuaries, and they are based on the intermediate economic and
    demographic assumptions used for the 2003 trustees' reports. These
    differ in some respects from the assumptions used for the long-run
    budget projections described in the preceding section, but the basic
    message of Table 12-3 would not change if OMB assumptions had been used
    for the calculations.)
      Limiting the calculations to 75 years understates the deficiencies,
    because the actuarial calculations omit the large deficits that continue
    to occur beyond the 75th year. The understatement is significant, even
    though values beyond the 75th year are discounted by a large amount. The
    current deficiency in Social Security is essentially due to the excess
    benefits paid to past and current participants compared with their
    taxes. For current program participants, the present value of expected
    future benefits exceeds the present value of expected future taxes by
    about $12 trillion. By contrast, future participants--those who are now
    under age 15 or not yet born--are projected to pay in present value
    about $7 trillion more over the next 75 years than they will collect in
    benefits over that period. In fixing the horizon at 75 years, most of
    the taxes of these future participants are counted without a full
    accounting for their expected benefits, much of which will be received
    beyond the 75th year. For Social Security, the present value of benefits
    less taxes in the 76th year alone is nearly $0.1 trillion. Altogether,
    the far distant benefits, estimated in perpetuity, add about $7 trillion
    to the imbalance, which essentially offsets the expected net
    contribution from future participants over the next 75 years.

                         Table 12-3.  ACTUARIAL PRESENT VALUES OVER A 75-YEAR PROJECTION PERIOD
      (Discounted Present Value of Expected Benefit Payments in Excess of Future Earmarked Taxes and Premiums as of
                                           Jan. 1, 2003, Trillions of Dollars)
    ----------------------------------------------------------------------------------------------------------------
                                                                                    2000     2001     2002     2003
    ----------------------------------------------------------------------------------------------------------------
    Social Security
      Future benefits less future taxes for those age 15 and over...............      9.6     10.5     11.2     11.7
      Future benefits less taxes for those age 14 and under and those not yet        -5.8     -6.3     -6.7     -6.8
       born.....................................................................
        Net present value for past, present and future participants.............      3.8      4.2      4.6      4.9

    ----------------------------------------------------------------------------------------------------------------
    Medicare
      Future benefits less future taxes and premiums for those age 15 and over..      9.9     12.5     12.9     15.0
      Future benefits less taxes and premiums for those age 14 and under and         -0.7      0.3      0.4      0.8
       those not yet born.......................................................
        Net present value for past, present and future participants.............      9.2     12.8     13.3     15.8

    ----------------------------------------------------------------------------------------------------------------
    Social Security and Medicare
      Future benefits less future taxes and premiums for those age 15 and over..     19.5     23.0     24.1     26.7
      Future benefits less taxes and premiums for those age 14 and under and not     -6.5     -6.0     -6.3     -6.0
       yet born.................................................................
      Net present value for past, present and future participants...............     13.0     17.0     17.8     20.7

    ----------------------------------------------------------------------------------------------------------------
    Addendum:
    Actuarial deficiency as a percent of the discounted payroll tax base:
      Social Security...........................................................    -1.89    -1.86    -1.87    -1.92
      Medicare HI...............................................................    -1.21    -1.97    -2.02    -2.40
    ----------------------------------------------------------------------------------------------------------------

      Medicare: A significant portion of Medicare's deficiency is caused by
    the rapid expected increase in future benefits due to rising health care
    costs. Some, perhaps most, of the projected increase in relative health
    care costs reflects improvements in the quality of care, although there
    is also evidence that medical errors and waste add unnecessarily to
    health care costs. Even though the projected increases in Medicare
    spending are likely to contribute to longer life-spans and safer
    treatments, the financial implications remain the

    [[Page 199]]

    same. As long as medical costs continue to outpace the growth of GDP and
    other expenditures, as assumed in these projections, the financial
    pressure on the budget will mount.
      The rapid projected growth of Medicare spending is reflected in the
    estimates in Table 12-3. For current participants, the difference
    between the discounted value of benefits and taxes plus premiums is $15
    trillion, which is larger than the similar gap for Social Security. For
    future participants over the next 75 years, Medicare benefits are
    projected to be roughly equal in magnitude to future taxes and premiums.
    Unlike Social Security, the discounted value of future taxes does not
    exceed benefits during this period even though benefits beyond the 75th
    year are not counted. Extending the calculation beyond the 75th year
    would add many trillions of dollars in present value to Medicare's
    actuarial deficiency, just as it would for Social Security. Passage of
    the Medicare Prescription Drug, Improvement and Modernization Act added
    to Medicare's actuarial deficiency, but it is uncertain how large the
    final impact will be given that the legislation increased private sector
    participation and added new fiscal safeguards which may help address
    Medicare's financial shortfall. The 2004 Medicare trustees' report will
    provide actuarial estimates of long-run Medicare income and expenditures
    that reflect the new law.
      General revenues have historically covered about 75 percent of SMI
    program costs, with the rest being covered by premiums paid by the
    beneficiaries. In Table 12-3, only the receipts explicitly earmarked for
    financing these programs have been included. The intragovernmental
    transfer is not financed by dedicated tax revenues, and the share of
    general revenues that would have to be devoted to SMI to close the gap
    increases substantially under current projections. Other Government
    programs also have a claim on these general revenues, and SMI has no
    priority in the competition for future funding. From the standpoint of
    the Government as a whole, only receipts from the public can finance
    expenditures.
      The Trust Funds and the Actuarial Deficiency: The simple fact that a
    trust fund exists does not mean that the Government necessarily saved
    the money recorded there. To have saved the Social Security and HI trust
    fund surpluses as they accumulated would have required the Government to
    set aside the surpluses reducing the unified budget deficit dollar for
    dollar with the change in the trust fund balance (or adding dollar for
    dollar to a unified budget surplus). It is an open question whether this
    happened or not. The large unified budget deficits that prevailed during
    most of the time when the trust funds were increasing suggests that the
    Government did not do this, although to know this for sure it would be
    necessary to know what the unified deficit would have been in the
    absence of those trust fund surpluses, and that is not really knowable.
      The assets in the trust funds are special purpose financial
    instruments issued by the Treasury Department. At the time Social
    Security or Medicare redeems these instruments to pay future benefits
    not covered by future income, the Treasury will have to turn to the
    public capital markets to raise the funds to finance the benefits, just
    as if the trust funds had never existed. From the standpoint of overall
    Government finances, the trust funds do not reduce the future burden of
    financing Social Security or Medicare benefits.
      In any case, the trust funds remain small in size compared with the
    programs' future obligations and well short of what would be needed to
    pre-fund future benefits as indicated by the programs' actuarial
    deficiencies. Historically, Social Security and Medicare's HI program
    were financed mostly on a pay-as-you-go basis, whereby workers' payroll
    taxes were immediately used

    [[Page 200]]

    to pay retiree benefits. For the most part, workers' taxes have not been
    used to pre-fund their own future benefits, and taxes were not set at a
    level sufficient to pre-fund future benefits even had they been saved.
      The Importance of Long-Run Measures in Evaluating Policy Changes:
    Consider a proposed policy change in which payroll taxes paid by younger
    workers were reduced by $100 this year while the expected present value
    of these workers' future retirement benefits were also reduced by $100.
    The present discounted value of future benefit payments would decrease
    by the same amount as the reduction in revenue. On a cash flow basis,
    however, the lost revenue occurs now, while the decrease in future
    outlays is in the distant future beyond the budget window, and the
    Federal Government must increase its borrowing to make up for the lost
    revenue in the meantime. If policymakers only focus on the Government's
    near-term borrowing needs, a reform such as this would appear to worsen
    the Government's finances, whereas the policy actually has a neutral
    impact. Extending the forecast horizon to 75 years, as in this chapter,
    can help to avoid such a false impression, although any fixed horizon,
    even 75 years, can give rise to a distorted comparison if budget effects
    continue past that point.
      Now suppose that future outlays were instead reduced by a little more
    than $100 in present value. In this case, the actuarial deficiency would
    actually decline, even though the Government's borrowing needs would
    again increase. Focusing on the Government's near-term borrowing alone,
    therefore, can lead to a bias against policies that could improve the
    Federal Government's overall fiscal condition. Taking a longer view of
    policy changes and considering measures of the Government's fiscal
    condition other than the unified budget surplus or deficit can correct
    for such mistakes.

                      PART IV--NATIONAL WEALTH AND WELFARE

      Unlike a private corporation, the Federal Government routinely invests
    in ways that do not add directly to its assets. For example, Federal
    grants are frequently used to fund capital projects by State or local
    governments for highways and other purposes. Such investments are
    valuable to the public, which pays for them with its taxes, but they are
    not owned by the Federal Government and would not show up on a
    conventional balance sheet for the Federal Government. It is true, of
    course, that by encouraging economic growth in the private sector, the
    Government augments future Federal tax receipts. However, the fraction
    of their returns that comes back to the Government in higher taxes is
    far less than what a private investor would require before undertaking a
    similar investment.
      The Federal Government also invests in education and research and
    development (R&D). These outlays contribute to future productivity and
    are analogous to an investment in physical capital. Indeed, economists
    have computed stocks of human and knowledge capital to reflect the
    accumulation of such investments. Nonetheless, such hypothetical capital
    stocks are obviously not owned by the Federal Government, nor would they
    appear on a typical balance sheet as a Government asset, even though
    these investments may contribute to future tax receipts.
      To show the importance of these kinds of issues, Table 12-4 presents a
    national balance sheet. It includes estimates of national wealth
    classified into three categories: physical assets, education capital,
    and R&D capital. The Federal Government has made contributions to each
    of these categories of capital, and these contributions are shown
    separately in the table. At the same time, the private wealth shown in
    Table 12-4 can be drawn on by Government to finance future public
    activities. The Nation's wealth sets the ultimate limit on the resources
    available to the Government. Data in this table are especially
    uncertain, because of the strong assumptions needed to prepare the
    estimates.
      The conclusion of the table is that Federal investments are
    responsible for about 7 percent of total national wealth including
    education and research and development. This may seem like a small
    fraction, but it represents a large volume of capital--$6.0 trillion.
    The Federal contribution is down from near 9 percent in the mid-1980s
    and from around 11 percent in 1960. Much of this reflects the shrinking
    size of defense capital stocks, which have declined from around 12
    percent of GDP in the mid-1980s to 6 percent in 2003.

                                                                  Table 12-4.  NATIONAL WEALTH
                                                (As of the end of the fiscal year, in trillions of 2003 dollars)
    --------------------------------------------------------------------------------------------------------------------------------------------------------
                                                               1960    1965    1970    1975    1980    1985    1990    1995    2000    2001    2002    2003
    --------------------------------------------------------------------------------------------------------------------------------------------------------
                             ASSETS
    Publicly Owned Physical Assets:
      Structures and Equipment..............................     2.0     2.3     2.9     3.5     3.8     4.0     4.4     4.8     5.5     5.6     5.6     5.6
        Federally Owned or Financed.........................     1.2     1.3     1.4     1.6     1.6     1.9     2.0     2.1     2.1     2.1     2.2     2.2
          Federally Owned...................................     1.0     1.0     1.1     1.0     1.0     1.1     1.1     1.1     1.0     1.0     1.0     1.0
          Grants to State and Local Governments.............     0.2     0.2     0.3     0.5     0.6     0.8     0.8     0.9     1.1     1.1     1.2     1.2
        Funded by State and Local Governments...............     0.9     1.1     1.5     2.0     2.2     2.1     2.4     2.7     3.4     3.5     3.4     3.3
      Other Federal Assets..................................     0.7     0.7     0.7     0.8     1.3     1.4     1.1     0.9     1.2     1.2     1.2     1.4
                                                             -----------------------------------------------------------------------------------------------
            Subtotal........................................     2.8     3.0     3.5     4.4     5.1     5.4     5.5     5.6     6.7     6.8     6.8     6.9

    Privately Owned Physical Assets:
      Reproducible Assets...................................     7.1     8.2    10.0    12.8    16.7    17.6    20.0    21.9    26.5    27.0    27.9    28.7
        Residential Structures..............................     2.7     3.2     3.8     4.9     6.7     6.9     7.8     8.8    10.9    11.3    11.8    12.4
        Nonresidential Plant and Equipment..................     2.9     3.3     4.1     5.4     6.9     7.6     8.4     9.2    11.1    11.3    11.6    11.8
        Inventories.........................................     0.6     0.7     0.9     1.1     1.4     1.3     1.4     1.4     1.6     1.5     1.5     1.5
        Consumer Durables...................................     0.9     1.0     1.3     1.5     1.8     1.9     2.3     2.5     2.8     2.9     3.0     3.1
      Land..................................................     2.1     2.5     2.9     3.7     5.7     6.5     6.7     5.2     8.0     8.4     9.7    10.2
                                                             -----------------------------------------------------------------------------------------------
            Subtotal........................................     9.2    10.7    12.9    16.5    22.4    24.1    26.6    27.1    34.5    35.4    37.5    38.9

    Education Capital:
      Federally Financed....................................     0.1     0.1     0.2     0.3     0.5     0.6     0.8     0.9     1.2     1.2     1.3     1.4
      Financed from Other Sources...........................     6.2     8.0    10.8    13.3    17.4    20.8    26.9    30.1    39.1    40.7    42.2    44.0
                                                             -----------------------------------------------------------------------------------------------
            Subtotal........................................     6.3     8.1    11.0    13.6    17.8    21.4    27.7    31.0    40.3    41.9    43.5    45.4

    Research and Development Capital:
      Federally Financed R&D................................     0.2     0.3     0.5     0.6     0.6     0.7     0.8     0.9     1.0     1.0     1.1     1.1
      R&D Financed from Other Sources.......................     0.1     0.2     0.3     0.4     0.5     0.7     0.9     1.1     1.5     1.6     1.7     1.7
                                                             -----------------------------------------------------------------------------------------------
            Subtotal........................................     0.3     0.6     0.8     0.9     1.1     1.4     1.7     2.1     2.5     2.6     2.7     2.9

                                                             ===============================================================================================
    Total Assets............................................    18.6    22.3    28.2    35.5    46.4    52.2    61.5    65.8    84.0    86.8    90.6    94.1

    Net Claims of Foreigners on U.S. (+)....................    -0.1    -0.2    -0.2    -0.1    -0.4     0.0     0.9     1.5     2.8     2.7     3.1     4.2

    Net Wealth..............................................    18.7    22.5    28.4    35.6    46.7    52.2    60.6    64.3    81.1    84.1    87.5    89.9
    ��������������������������������������������������������������������������������������������������������������������������������������������������������
                            ADDENDA:
    Per Capita Wealth (thousands of 2003 dollars)...........   103.6   115.9   138.5   165.1   204.8   218.6   242.0   240.8   286.9   294.0   302.7   307.8
    Ratio of Wealth to GDP (in percent).....................   704.4   716.4   695.7   696.3   679.2   674.0   663.6   683.5   688.9   711.4   714.4   718.2
    Total Federally Funded Capital (trils 2003 dollars).....     2.1     2.4     2.8     3.3     3.9     4.5     4.7     4.8     5.5     5.6     5.8     6.1
    Percent of National Wealth..............................    11.5    10.7     9.9     9.3     8.4     8.7     7.8     7.4     6.8     6.7     6.6     6.8
    --------------------------------------------------------------------------------------------------------------------------------------------------------

      Physical Assets: The physical assets in the table include stocks of
    plant and equipment, office buildings, residential structures, land, and
    the Government's physical assets such as military hardware and highways.
    Automobiles and consumer appliances are also included in this category.
    The total amount of such capital is vast, around $46 trillion in 2003,
    consisting of $39 trillion in private physical capital and $7 trillion
    in public physical capital (including capital funded by State and local
    governments); by comparison, GDP was about $11 trillion in 2003. The
    Federal Government's contribution to this stock of capital includes its
    own physical assets of $2.4 trillion plus $1.1 trillion in accumulated
    grants to State and local governments for capital projects. The Federal
    Government has financed about one-fourth of the physical capital held by
    other levels of government.
      Education Capital: Economists have developed the concept of human
    capital to reflect the notion that individuals and society invest in
    people as well as in physical assets. Investment in education is a good
    example of how human capital is accumulated.
      This table includes an estimate of the stock of capital represented by
    the Nation's investment in formal education and training. The estimate
    is based on the cost of replacing the years of schooling embodied in the
    U.S.

    [[Page 201]]

    population aged 16 and over; in other words, the goal is to measure how
    much it would cost to reeducate the U.S. workforce at today's prices
    (rather than at its original cost). This is more meaningful economically
    than the historical cost, and is comparable to the measures of physical
    capital presented earlier.
      Although this is a relatively crude measure, it does provide a rough
    order of magnitude for the current value of the investment in education.
    According to this measure, the stock of education capital amounted to
    $45 trillion in 2003, of which about 3 percent was financed by the
    Federal Government. It was nearly equal to the total value of the
    Nation's stock of physical capital. The main investors in education
    capital have been State and local governments, parents, and students
    themselves (who forgo earning opportunities in order to acquire
    education).
      Even broader concepts of human capital have been proposed. Not all
    useful training occurs in a schoolroom or in formal training programs at
    work. Much informal learning occurs within families or on the job, but
    measuring its value is very difficult. Labor compensation, however,
    amounts to about two-thirds of national income with the other third
    attributed to capital and thinking of this labor income as the product
    of human capital suggests that the total value of human capital might be
    two times the estimated value of physical capital assuming human capital
    had earned a similar rate of return to other forms of capital. Thus, the
    estimates offered here are in a sense conservative, because they reflect
    only the costs of acquiring formal education and training, which is why
    they are referred to as education capital rather than human capital.
    They constitute the part of human capital that can be attributed to
    formal education and training.
      Research and Development Capital: Research and Development can also be
    thought of as an investment, because R&D represents a current
    expenditure that is made in the expectation of earning a future return.
    After adjusting for depreciation, the flow of R&D investment can be
    added up to provide an estimate of the current R&D stock.\3\ That stock
    is estimated to have been $2.9 trillion in 2003. Although this
    represents a large amount of research, it is a relatively small portion

    [[Page 202]]

    of total National wealth. Of this stock, 38 percent was funded by the
    Federal Government.
    ---------------------------------------------------------------------------
      \3\ R&D depreciates in the sense that the economic value of applied
    research and development tends to decline with the passage of time, as
    still newer ideas move the technological frontier.
    ---------------------------------------------------------------------------
      Liabilities: When considering how much the United States owes as a
    Nation, the debts that Americans owe to one another cancel out. When the
    debts of one American are the assets of another American, these debts
    are not a net liability of the Nation as a whole. Table 12-4 is intended
    to show National totals only. Total debt is important even though it
    does not appear in Table 12-4. The amount of debt owed by Americans to
    other Americans can exert both positive and negative effects on the
    economy. Americans' willingness and ability to borrow helped fuel the
    expansion of the 1990s, and continues to support consumption in the
    current recovery. On the other hand, bad debts, which are not
    collectible, can cause serious problems for the banking system.
      The only debts that do appear in Table 12-4 are the debts Americans
    owe to foreigners. America's foreign debt has been increasing rapidly in
    recent years, because of the rising imbalance in the U.S. current
    account. Although the current account deficit has been at record levels
    recently, the size of this debt remains small compared with the total
    stock of U.S. assets. It amounted to 4.5 percent of total assets in
    2002.
      Federal debt does not appear explicitly in Table 12-4 because most of
    it consists of claims held by Americans; only that portion of the
    Federal debt which is held by foreigners is included along with the
    other debts to foreigners. Comparing the Federal Government's net
    liabilities with total national wealth does, however, provide another
    indication of the relative magnitude of the imbalance in the
    Government's accounts. Currently, Federal net liabilities, as reported
    in Table 12-1, amount to 5.6 percent of net U.S. wealth as shown in
    Table 12-4. Prospectively, however, Federal liabilities are a much
    larger share of national wealth, as shown by the long-run projections in
    Part III.

                            Trends in National Wealth

      The net stock of wealth in the United States at the end of FY 2003 was
    about $90 trillion, about eight times the level of GDP. Since 1961, it
    has increased in real terms at an average annual rate of 3.7 percent per
    year. It grew very rapidly from 1960 to 1973, at an average annual rate
    of 4.5 percent per year, slightly faster than real GDP grew over the
    same period. Between 1973 and 1995 growth slowed, as real net wealth
    grew at an average rate of just 3.1 percent per year, which paralleled
    the slowdown in real GDP over this period. Since 1995 growth has picked
    up for both net wealth and real GDP, with wealth growing at an average
    rate of 4.3 percent since 1995. This is the same period in which
    productivity growth accelerated following a similar slowdown from 1973
    to 1995.
      The net stock of private nonresidential plant and equipment accounts
    for about 30 percent of privately owned physical capital. It grew 3.3
    percent per year on average from 1960 to 2003. It grew especially
    rapidly from 1960 to 1973, at an average rate of 3.9 percent per year.
    Since 1973 it has grown more slowly, averaging around 3.0 percent per
    year. Unlike most other categories of wealth accumulation, there was
    very little acceleration in the growth of plant and equipment over the
    last eight years compared with 1973-1995. Private plant and equipment
    grew 3.0 percent per year on average between 1973 and 1995 and just 3.1
    percent per year from 1995 through 2003. Higher than average growth in
    the investment boom of the late 1990s has been offset by less rapid
    growth since then. Meanwhile, privately owned residential structures,
    consumer durables and land have all grown more rapidly in real value
    since 1995 than from 1973 to 1995.
      The accumulation of education capital has averaged 4.7 percent per
    year since 1960. It also slowed down between 1973 and 1995, and has
    grown somewhat more rapidly since then. It grew at an average rate of
    5.8 percent per year in the 1960s, about 1.9 percentage point faster
    than the average rate of growth in private physical capital during the
    same period. Since 1995, education capital has grown at a 4.9 percent
    annual rate. This reflects both the extra resources devoted to schooling
    in this period, and the fact that such resources were increasing in
    economic value. R&D stocks have also grown at about 4.2 percent per year
    since 1995.

                   Other Federal Influences on Economic Growth

      Federal investment decisions, as reflected in Table 12-4, obviously
    are important, but the Federal Government also contributes to wealth in
    ways that cannot be easily captured in a formal presentation. The
    Federal Reserve's monetary policy affects the rate and direction of
    capital formation in the short run, and Federal regulatory and tax
    policies also affect how capital is invested, as do the Federal
    Government's policies on credit assistance and insurance.

                                Social Indicators

      There are certain broad responsibilities that are unique to the
    Federal Government. Especially important are fostering healthy economic
    conditions including sound economic growth, promoting health and social
    welfare, and protecting the environment. Table 12-5 offers a rough cut
    of information that can be useful in assessing how well the Federal
    Government has been doing in promoting these general objectives.

                                                                               Table 12-5.  ECONOMIC AND SOCIAL INDICATORS
    ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
         General categories                           Calendar Years                        1960     1965     1970     1975     1980     1985     1990     1995     2000     2001     2002     2003
    ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
    Economic:
      Living Standards..........  Real GDP per person (2000 dollars)....................   13,840   16,420   18,392   19,961   22,666   25,382   28,429   30,128   34,753   34,550   34,934   35,648
                                  average annual percent change (5-year trend)..........      1.7      3.5      2.3      1.7      2.6      2.3      2.3      1.2      2.9      2.3      1.8      1.7
                                  Median Income:........................................  .......  .......  .......  .......  .......  .......  .......  .......  .......  .......  .......  .......
                                  All Households (2002 dollars).........................      N/A      N/A   35,030   34,763   36,608   37,648   39,949   39,931   43,848   42,900   42,409      N/A
                                  Married Couple Families (2001 dollars) \1\............   29,746   34,620   41,516   43,113   47,086   48,798   52,394   54,284   60,748   60,335      N/A      N/A
                                  Female Householder, Husband Absent (2001 dollars) \1\.   15,032   16,831   20,107   19,847   21,177   21,434   22,237   22,713   26,434   25,745      N/A      N/A
                                  Income Share of Lower 60% of All Households...........     31.8     32.2     32.3     32.0     31.5     30.0     29.4     28.0     27.3     26.8     27.1      N/A

                                  Poverty Rate (%) \2\..................................     22.2     17.3     12.6     12.3     13.0     14.0     13.5     13.8     11.3     11.7     12.1      N/A

      Economic Security.........  Civilian Unemployment (%).............................      5.5      4.5      4.9      8.5      7.1      7.2      5.5      5.6      4.0      4.8      5.8      6.0
                                  CPI-U (% Change)......................................      1.7      1.6      5.8      9.1     13.5      3.5      5.4      2.8      3.4      2.8      1.6      2.3

      Employment................  Increase in Total Payroll Employment Previous 12           -0.4      2.9     -0.4      0.4      0.3      2.5      0.3      2.2      1.9     -1.8     -0.5     -0.1
                                   Months.

                                  Managerial or Professional Jobs (% of civilian              N/A      N/A      N/A      N/A      N/A     27.3     29.2     32.0     33.8     34.4     34.6     34.8
                                   employment).

      Wealth Creation...........  Net National Saving Rate (% of GDP) \3\...............     10.2     12.1      8.2      6.6      7.5      6.1      4.6      4.7      5.9      3.3      1.6      0.7

      Innovation................  Patents Issued to U.S. Residents (thousands) \4\......     42.3     54.1     50.6     51.5     41.7     45.1     56.1     68.2    103.6    105.5     99.6      N/A
                                  Multifactor Productivity (average 5 year percent            0.9      2.9      0.8      1.1      0.8      0.5      0.5      0.6      1.1      0.7      N/A      N/A
                                   change).
                                  Nonfarm Output per Hour (average 5 year percent             1.8      3.5      2.0      2.3      1.2      1.7      1.4      1.5      2.5      2.4      3.0      3.4
                                   change).

    Environment:
      Air Quality...............  Nitrogen Oxide Emissions (thousand short tons)........   18,163   21,296   26,883   26,377   27,079   25,757   25,530   24,956   23,199   22,349      N/A      N/A
                                  Sulfur Dioxide Emissions (thousand short tons)........   22,268   26,799   31,218   28,043   25,925   23,307   23,078   18,619   16,317   15,790      N/A      N/A
                                  Lead Emissions (thousand short tons)..................      N/A      N/A      221      160       74       23        5        4        4        4      N/A      N/A
      Water Quality.............  Population Served by Secondary Treatment or Better          N/A      N/A      N/A      N/A      N/A    140.3    162.3    173.8    201.4      N/A      N/A      N/A
                                   (mils).

    Social:
      Families..................  Children Living with Mother Only (% of all children)..      9.2     10.2     11.6     16.4     18.6     20.2     21.6     24.0     22.3     22.7     23.2      N/A

      Safe Communities..........  Violent Crime Rate (per 100,000 population) \5\.......    160.0    199.0    364.0    482.0    597.0    558.1    729.6    684.5    506.5    504.5    494.6    483.8
                                  Murder Rate (per 100,000 population) \5\..............      5.1      5.1      7.8      9.6     10.2      8.0      9.4      8.2      5.5      5.6      5.6      5.6
                                  Murders (per 100,000 Persons Age 14 to 17)............      N/A      N/A      N/A      4.5      5.9      4.9      9.8     11.0      4.7      N/A      N/A      N/A

      Health....................  Infant Mortality (per 1000 Live Births)...............     26.0     24.7     20.0     16.1     12.6     10.6      9.2      7.6      6.7      6.8      6.9      6.7
                                  Low Birthweight [<2,500 gms] Babies (%)...............      7.7      8.3      7.9      7.4      6.8      6.8      7.0      7.3      7.6      7.7      7.8      N/A
                                  Life Expectancy at birth (years)......................     69.7     70.2     70.8     72.6     73.7     74.7     75.4     75.8     77.0     77.2      N/A      N/A
                                  Cigarette Smokers (% population 18 and older) \6\.....      N/A     41.9     39.2     36.3     33.0     29.9     25.3     24.6     23.1     22.6     22.3     21.6

      Learning..................  High School Graduates (% of population 25 and older)..     44.6     49.0     55.2     62.5     68.6     73.9     77.6     81.7     84.1     84.3      N/A      N/A
                                  College Graduates (% of population 25 and older)......      8.4      9.4     11.0     13.9     17.0     19.4     21.3     23.0     25.6     26.1      N/A      N/A

      Participation.............  Individual Charitable Giving per Capita (2000 dollars)      240      288      345      367      400      411      456      432      575      585      573      N/A

                                  -by presidential election year).......................     1960     1964     1968     1972     1976     1980     1984     1988     1992     1996     2000
                                  Voting for President (% eligible population)..........     62.8     61.9     60.9     55.2     53.5     52.8     53.3     50.3     55.1     49.0     51.2
    ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
    \1\ Median income for married couple and female householder families not updated yet for 2002.

    \2\ The poverty rate does not reflect noncash government transfers such as Medicaid or food stamps.

    \3\ Does not reflect December 2003 revisions to National Income and Product Accounts, which are not yet complete for national saving. 2003 through Q3 only.

    \4\ Preliminary data for 2002.

    \5\ Not all crimes are reported, and the fraction that go unreported may have varied over time, 2003 data are preliminary for the first half of the year.

    \6\ Smoking data for 2003 through June.

      The indicators shown in Table 12-5 are only a subset drawn from the
    vast array of available data on conditions in the United States. In
    choosing indicators for this table, priority was given to measures that
    were consistently available over an extended period. Such indicators
    make it easier to draw valid comparisons and evaluate trends. In some
    cases, however, this meant choosing indicators with significant
    limitations.
      The individual measures in this table are influenced to varying
    degrees by many Government policies and programs, as well as by external
    factors beyond the Government's control. They do not measure the
    outcomes of Government policies, because they generally

    [[Page 203]]

    do not show the direct results of Government activities, but they do
    provide a quantitative measure of the progress or lack of progress in
    reaching some of the ultimate values that Government policy is intended
    to promote.
      Such a table can serve two functions. First, it highlights areas where
    the Federal Government might need to modify its current practices or
    consider new approaches. Where there are clear signs of deteriorating
    conditions, corrective action might be appropriate. Second, the table
    provides a context for evaluating other data on Government activities.
    For example, Government actions that weaken its own financial position
    may be appropriate when they promote a broader social objective. The
    Government cannot avoid making such trade-offs because of its size and
    the broad ranging effects of its actions. Monitoring these effects and
    incorporating them in the Government's policy making is a major
    challenge.
      It is worth noting that, in recent years, many of the trends in these
    indicators turned around. The improvement in economic conditions has
    been widely noted, and there have also been some significant social
    improvements. Perhaps, most notable has been the turnaround in the crime
    rate. Since reaching a peak in the early 1990s, the violent crime rate
    has fallen by a third. The turnaround has been especially dramatic in
    the murder rate, which was lower in 2000

    [[Page 204]]

    than at any time since the 1960s. The 2001 recession has had an effect
    on some of these indicators. Unemployment has risen and real GDP growth
    has declined. But as the economy recovers much of the improvement shown
    in Table 12-5 is likely to be preserved and extended.

            TECHNICAL NOTE: SOURCES OF DATA AND METHOD OF ESTIMATING

                          Long-Range Budget Projections

      The long-range budget projections are based on long-range demographic
    and economic assumptions. A simplified model of the Federal budget,
    developed at OMB, computes the budgetary implications of these
    assumptions.
      Demographic and Economic Assumptions: Through 2014, the assumptions
    are identical to those used for the budget. These budget assumptions
    reflect the President's policy proposals. The economic assumptions are
    extended beyond this point by holding constant inflation, interest
    rates, and unemployment at the levels assumed in the final year of the
    budget forecast. Population growth and labor force growth are extended
    using the intermediate assumptions from the 2003 Social Security
    trustees' report. The projected rate of growth for real GDP is built up
    from the labor force assumptions and an assumed rate of productivity
    growth. Productivity growth is held constant at the average rate of
    growth implied by the budget's economic assumptions.
        CPI inflation holds stable at 2.5 percent per year; the
              unemployment rate is constant at 5.1 percent; and the yield on
              10-year Treasury notes is steady at 5.8 percent, which are the
              final values at the end of the budget forecast for each of
              these variables.
        Real GDP per hour grows at the same average rate as in the
              Administration's medium-term projections--2.3 percent per
              year--through 2080.
        Consistent with the demographic assumptions in the trustees'
              reports, U.S. population growth slows from around 1 percent
              per year to about half that rate by 2030, and even slower
              rates of growth beyond that point. Population growth reaches
              0.3 percent per year at the end of the projection period in
              2080 and it is still slowing.
        Real GDP growth declines over time with the expected
              slowdown in population growth which feeds through to the labor
              force. An aging population also contributes less work effort,
              and this is also reflected in the projections. Historically,
              real GDP has grown at an average yearly rate of 3.4 percent.
              In these projections, real GDP growth declines to 2.6 percent
              by 2020, and averages that rate for the next 60 years.
      The economic and demographic projections described above are set by
    assumption and do not automatically change in response to changes in the
    budget outlook. This is unrealistic, but it simplifies comparisons of
    alternative policies.
      Budget Projections: For the period through 2014, receipts and outlays
    follow the budget's policy projections. Beyond the budget horizon,
    receipts are projected using simple rules of thumb linking income taxes,
    payroll taxes, excise taxes, and other receipts to projected tax bases
    derived from the economic projections. Discretionary outlays grow at the
    rate of growth in nominal GDP. Social Security is projected by the
    Social Security actuaries using these long-range assumptions. Medicare
    benefits are projected based on the estimates in the 2003 Medicare
    trustees' report, adjusted for differences in the assumed growth rate in
    GDP per capita and for the effects of the Medicare Prescription Drug,
    Improvement, and Modernization Act of 2003. Federal pensions are derived
    from the most recent actuarial forecasts available at the time the
    budget is prepared, repriced using Administration inflation and wage
    growth assumptions. Medicaid outlays are based on the economic and
    demographic projections in the model. Other entitlement programs are
    projected based on rules of thumb linking program spending to elements
    of the economic and demographic projections such as the poverty rate.

                     Federally Owned Assets and Liabilities

      Financial Assets: The source of data is the Federal Reserve Board's
    Flow-of-Funds Accounts.
      Fixed Reproducible Capital: Estimates were developed from the OMB
    historical data base for physical capital outlays and software
    purchases. The data base extends back to 1940 and was supplemented by
    data from other selected sources for 1915-1939. The source data are in
    current dollars. To estimate investment flows in constant dollars, the
    nominal investment series was deflated using chained price indexes for
    Federal investment from the National Income and Product Accounts. The
    resulting capital stocks were aggregated into nine categories and
    depreciated using geometric rates roughly following those used by the
    Bureau of Economic Analysis in its estimates of physical capital stocks.
      Fixed Nonreproducible Capital: Historical estimates for 1960-1985 were
    based on estimates in Michael J. Boskin, Marc S. Robinson, and Alan M.
    Huber, ``Government Saving, Capital Formation and Wealth in the United
    States, 1947-1985,'' published in The Measurement of Saving, Investment,
    and Wealth, edited by Robert E. Lipsey and Helen Stone Tice (The
    University of Chicago Press, 1989).
      Estimates were updated using changes in the value of private land from
    the Flow-of-Funds Balance Sheets and from the Agriculture Department for
    farm land; the value of Federal oil deposits was extrapolated using the
    Producer Price Index for Crude Energy Materials.
      Debt Held by the Public: Treasury data.
      Insurance and Guarantee Liabilities: Sources of data are the OMB
    Pension Guarantee Model and OMB esti

    [[Page 205]]

    mates based on program data. Historical data on liabilities for deposit
    insurance were also drawn from CBO's study, The Economic Effects of the
    Savings and Loan Crisis, issued January 1992.
      Pension and Post-Employment Health Liabilities: For 1979-2001, the
    estimates are the actuarial accrued liabilities as reported in the
    annual reports for the Civil Service Retirement System, the Federal
    Employees Retirement System, and the Military Retirement System
    (adjusted for inflation). Estimates for the years before 1979 are
    extrapolations. The estimate for 2002 is a projection. The health
    insurance liability was estimated by the program actuaries for 1997-
    2001, and extrapolated back for earlier years. Veterans disability
    compensation was taken from the Financial Report of the United States
    Government (and the Consolidated Financial Statement for some earlier
    years). Prior to 1976, the values were extrapolated. For 2003, the
    estimates from the Department of Veterans Affairs' 2003 Performance and
    Accountability Report.
      Other Liabilities: The source of data for trade payables and
    miscellaneous liabilities is the Federal Reserve's Flow-of-Funds
    Accounts. The Financial Report of the United States Government was the
    source for benefits due and payable.

                             National Balance Sheet

      Publicly Owned Physical Assets: Basic sources of data for the
    Federally owned stocks of capital are the Federal investment flows
    described in Chapter 6. Federal grants for State and local government
    capital are added, together with adjustments for inflation and
    depreciation in the same way as described above for direct Federal
    investment. Data for total State and local government capital come from
    the revised capital stock data prepared by the Bureau of Economic
    Analysis extrapolated for 2002-03.
      Privately Owned Physical Assets: Data are from the Flow-of-Funds
    national balance sheets and from the private net capital stock estimates
    prepared by the Bureau of Economic Analysis extrapolated for 2002-03
    using investment data from the National Income and Product Accounts.
      Education Capital: The stock of education capital is computed by
    valuing the cost of replacing the total years of education embodied in
    the U.S. population 16 years of age and older at the current cost of
    providing schooling. The estimated cost includes both direct
    expenditures in the private and public sectors and an estimate of
    students' forgone earnings, i.e., it reflects the opportunity cost of
    education. Estimates of students' forgone earnings are based on the
    year-round, full-time earnings of 18-24 year olds with selected
    educational attainment levels. These year-round earnings are reduced by
    25 percent because students are usually out of school three months of
    the year. For high school students, these adjusted earnings are further
    reduced by the unemployment rate for 16-17 year olds; for college
    students, by the unemployment rate for 20-24 year olds. Yearly earnings
    by age and educational attainment are from Money Income in the United
    States, series P60, published by the Bureau of the Census.
      For this presentation, Federal investment in education capital is a
    portion of the Federal outlays included in the conduct of education and
    training. This portion includes direct Federal outlays and grants for
    elementary, secondary, and vocational education and for higher
    education. The data exclude Federal outlays for physical capital at
    educational institutions because these outlays are classified elsewhere
    as investment in physical capital. The data also exclude outlays under
    the GI Bill; outlays for graduate and post-graduate education spending
    in HHS, Defense and Agriculture; and most outlays for vocational
    training. The Federal share of the total education stock in each year is
    estimated by averaging the prior years' shares of Federal education
    outlays in total education costs.
      Data on investment in education financed from other sources come from
    educational institution reports on the sources of their funds, published
    in U.S. Department of Education, Digest of Education Statistics. Nominal
    expenditures were deflated by the implicit price deflator for GDP to
    convert them to constant dollar values. Education capital is assumed not
    to depreciate, but to be retired when a person dies. An education
    capital stock computed using this method with different source data can
    be found in Walter McMahon, ``Relative Returns to Human and Physical
    Capital in the U.S. and Efficient Investment Strategies,'' Economics of
    Education Review, Vol. 10, No. 4, 1991. The method is described in
    detail in Walter McMahon, Investment in Higher Education, Lexington
    Books, 1974.
      Research and Development Capital: The stock of R&D capital financed by
    the Federal Government was developed from a data base that measures the
    conduct of R&D. The data exclude Federal outlays for physical capital
    used in R&D because such outlays are classified elsewhere as investment
    in federally financed physical capital. Nominal outlays were deflated
    using the GDP deflator to convert them to constant dollar values.
      Federally funded capital stock estimates were prepared using the
    perpetual inventory method in which annual investment flows are
    cumulated to arrive at a capital stock. This stock was adjusted for
    depreciation by assuming an annual rate of depreciation of 10 percent on
    the estimated stock of applied research and development. Basic research
    is assumed not to depreciate. These are the same assumptions used in a
    study published by the Bureau of Labor Statistics estimating the R&D
    stocks financed by private industry U.S. Department of Labor, Bureau of
    Labor Statistics, The Impact of Research and Development on Productivity
    Growth, Bulletin 2331, September 1989. Chapter 6 of this volume contains
    additional details on the estimates of the total federally financed R&D
    stock, as well as its national defense and nondefense components.
      A similar method was used to estimate the stock of R&D capital
    financed from sources other than the Federal Government. The component
    financed by universities, colleges, and other nonprofit organizations is

    [[Page 206]]

    estimated based on data from the National Science Foundation, Surveys of
    Science Resources. The industry-financed R&D stock component is
    estimated from that source and from the U.S. Department of Labor, The
    Impact of Research and Development on Productivity Growth, Bulletin
    2331, September 1989.
      Experimental estimates of R&D capital stocks have been prepared by
    BEA. The results are described in ``A Satellite Account for Research and
    Development,'' Survey of Current Business, November 1994. These BEA
    estimates are lower than those presented here primarily because BEA
    assumes that the stock of basic research depreciates, while the
    estimates in Table 12-5 assume that basic research does not depreciate.
    BEA also assumes a slightly higher rate of depreciation for applied
    research and development, 11 percent, compared with the 10 percent rate
    used here.

        Sources of Data and Assumptions for Estimating Social Indicators

      The main sources for the data in this table are the Government
    statistical agencies. The data are all publicly available, and can be
    found in such general sources as the annual Economic Report of the
    President and the Statistical Abstract of the United States, or from
    agencies' web sites.