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

    [[Page 199]]

                                13.  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 deficit provide only a partial
    picture of the consequences of the Government's financial and investment
    decisions. Indeed, changes in the annual budget deficit or surplus can
    be misleading. 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 judge
    the Government's fiscal condition properly.
      For the Federal Government, there is no single number that corresponds
    to a business's bottom line. The Government is 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 13-1 is a schematic diagram showing the
              linkages.
        Part II presents the Government's physical and financial
              assets and its legal liabilities, which are all collected in
              Table 13-1. 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 13-2 and in a related set of charts. This part also
              provides present value estimates of the funding shortfall in
              Social Security and Medicare in Table 13-3. These data
              indicate the Government's future responsibilities and
              resources under current law and policy. In particular, they
              show the looming challenge that Federal entitlement programs
              present 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
              13-4 presents summary data for total national wealth, while
              highlighting the Federal investments that have contributed to
              that wealth. Table 13-5 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. 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 or deficit. It includes balance-sheet
    information, but it goes beyond that to include long-run projections of
    the budget showing 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. 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 13-1. Although they are important, the obligations
    shown in Table 13-1 are only a subset of the Government's 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

    [[Page 200]]

    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. These include, to mention only a few examples:
    Medicaid, veterans' pensions and health care, and food stamps. It also
    provides a wide range of other public services that must be financed
    through the tax system. The specific benefits and services may be
    modified or even ended at any time by the Congress and the President.
    Indeed, changes in laws governing these programs are a regular part of
    the legislative cycle. For these reasons, these programmatic commitments
    do not constitute ``liabilities'' in a legal or accounting sense, and
    they would not appear on a balance sheet. Until modified by law, 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 has many assets. These include financial
    assets, such as loans and mortgages which the Government has acquired
    though a variety of credit programs. They also include the physical
    plant and equipment used to produce Government services. The Government
    owns a substantial amount of land. Such assets would normally be shown
    on a balance sheet. The Government also has resources that go beyond the
    assets that would be expected to appear on a balance sheet. These
    additional resources include most importantly the Government's sovereign
    power to tax.
      Because of its unique 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. Part III of
    this chapter presents a set of such projections under different
    assumptions about policy and future economic and demographic conditions.
    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, 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 providing more complete
    information about Government programs and permit a closer alignment of
    the cost of programs with performance measures. These changes have been
    described in detail in previous Budgets. They are described in chapter 2
    of this volume, and in the accompanying material that describes results
    obtained with the Program Assessment Rating Tool (PART). This chapter
    complements the detailed exploration of Government performance with an
    assessment of the overall impact of Federal policy as reflected in
    general measures of economic and social well-being, which are presented
    in Table 13-5.

    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, operating 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 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 balance sheet.
    The assets and liabilities on that balance sheet are all based on
    transactions and other events that have already occurred. A similar
    table can be found in Part II of this chapter but based on different
    data and methods of valuation. The Report also includes a statement of
    social insurance that reviews a substantial body of information on the
    condition and sustainability of the Government's social insurance
    programs. However, the Report does not extend that review to the
    condition or sustainability of the Government as a whole, which is a
    main focus of this chapter.

      Connecting the Dots: The presentation that follows consists in large
    part of a series of tables and charts.

    [[Page 201]]

    The schematic diagram, Chart 13-1, 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 categories--assets/
    resources and liabilities/responsibilities.
        The left-hand side of Chart 13-1 shows the full range of
              Federal resources, including assets the Government owns, tax
              receipts it can expect to collect given current and proposed
              law, and national wealth, including the trained skills of the
              national work force, that provide the base for Government
              revenues.
        The right-hand side reveals the full range of Federal
              obligations and responsibilities, beginning with the
              Government's acknowledged liabilities from past actions, such
              as the debt held by the public, and including future budget
              outlays needed to maintain present policies and trends. This
              column ends with a set of indicators highlighting areas where
              Government activity affects society or the economy.

    [[Page 202]]

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            QUESTIONS AND ANSWERS ABOUT THE GOVERNMENT'S STEWARDSHIP

    ------------------------------------------------------------------------
    1.  According to Table 13-1, 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 different objectives from a
                    business firm. The goal of every business is to earn a
                    profit, and as a general rule the Federal Government
                    properly leaves 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 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. Business investment motives 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 13-1 seems to imply that the Government is insolvent. Is it?

                   No. Just as the Federal Government's responsibilities are
                    different from those of 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.
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    [[Page 203]]

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       QUESTIONS AND ANSWERS ABOUT THE GOVERNMENT'S STEWARDSHIP--Continued

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    3.  Why are Social Security and Medicare not shown as Government

                   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 13-1. They appear in two
                    ways: budget projections as a percent of GDP in Table 13-
                    2, and the actuarial deficiency estimates in Table 13-3.

                   Other Federal programs make similar promises to those of
                    Social Security and Medicare--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 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 doesn't the Federal Government follow normal business practice
     in its bookkeeping?

                   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, 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.''
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    [[Page 204]]

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       QUESTIONS AND ANSWERS ABOUT THE GOVERNMENT'S STEWARDSHIP--Continued

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

                   The aging of the 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 shown in this chapter
                    and the actuarial projections prepared for Social
                    Security and Medicare 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 the Federal 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 would 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 pursues 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 will be
                    other 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.
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    [[Page 205]]

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

      Table 13-1 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 2004 dollars and
    the balance is also shown as a ratio to GDP. Government liabilities have
    exceeded the value of assets (see chart 13-2) 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 in the
    mid-1980s.
      Currently, the total real value of Federal assets is estimated to be
    62 percent greater than it was in 1960. Meanwhile, Federal liabilities
    have increased by 234 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 such as the large increases
    in health benefits for Federal retirees and the sharp rise in veterans'
    disability compensation. The relatively slow growth in Federal asset
    values 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
    $5.3 trillion or about $18,000 per capita. As a ratio to GDP, the excess
    of liabilities over assets reached a peak of 51 percent in 1993; it
    declined to 38 percent in 2000; it rose above 45 percent in 2003; and it
    fell below 45 percent in 2004. The average since 1960 has been 34
    percent (see Table 13-1).

    [[Page 206]]

                                                         Table 13-1.  GOVERNMENT ASSETS AND LIABILITIES*
                                                 (As of the end of the fiscal year, in billions of 2004 dollars)
    --------------------------------------------------------------------------------------------------------------------------------------------------------
                                              1960     1965     1970     1975     1980     1985     1990      1995      2000      2002      2003      2004
    --------------------------------------------------------------------------------------------------------------------------------------------------------
                    ASSETS

    Financial Assets:
      Cash and Checking Deposits..........       45       65       40       33       50       33        44        46        60        81        54        54
      Other Monetary Assets...............        1        1        1        1        2        2         2         1         7        19         9         2
      Mortgages...........................       29       28       41       43       80       82       105        72        83        78        75        74
      Other Loans.........................      107      147      184      184      238      309       219       167       140       124       120       118
        less Expected Loan Losses.........       -1       -3       -5      -10      -18      -18       -21       -26       -40       -47       -48       -47
      Other Treasury Financial Assets.....       65       81       71       64       90      132       211       254       232       263       315       311
          Subtotal........................      245      318      332      315      442      540       560       524       552       616       624       606

    Nonfinancial Assets:
      Fixed Reproducible Capital..........    1,074    1,065    1,108    1,075    1,018    1,151     1,194     1,200     1,053     1,032     1,037     1,061
        Defense...........................      925      869      879      803      720      838       860       840       687       652       653       667
        Nondefense........................      148      196      229      272      297      313       334       360       365       379       384       394
      Inventories.........................      281      243      226      202      250      286       254       195       201       200       247       249
      Nonreproducible Capital.............      454      466      447      662    1,062    1,138       898       675     1,000     1,018     1,179     1,401
        Land..............................       99      137      172      273      348      362       372       282       426       487       517       601
        Mineral Rights....................      356      330      275      390      713      776       526       393       574       532       663       801
          Subtotal........................    1,809    1,775    1,781    1,939    2,330    2,575     2,346     2,071     2,254     2,250     2,463     2,711

    Total Assets..........................    2,054    2,093    2,114    2,254    2,772    3,115     2,906     2,594     2,806     2,866     3,087     3,318

                  LIABILITIES

    Debt held by the Public...............    1,225    1,259    1,120    1,139    1,416    2,341     3,190     4,240     3,692     3,685     4,002     4,296

    Insurance and Guarantee Liabilities:
      Deposit Insurance...................  .......  .......  .......  .......        2       10        77         5         1         2         1         1
      Pension Benefit Guarantee             .......  .......  .......       46       34       47        46        22        44        84        73        88
       Corporation........................
      Loan Guarantees.....................  .......        1        2        7       13       11        17        32        40        39        37        43
      Other Insurance.....................       33       30       23       21       29       18        21        19        17        17        16        16
          Subtotal........................       33       31       26       74       78       85       161        78       102       142       127       148

    Pension and Post-Employment Health
     Liabilities:
      Civilian and Military Pensions......      857    1,077    1,288    1,459    1,937    1,921     1,878     1,821     1,856     1,905     1,989     2,022
      Retiree Health Insurance Benefits...      205      258      309      350      464      461       450       437       416       839       943     1,009
      Veterans Disability Compensation....      203      256      305      338      347      287       258       282       598       884       976       925
          Subtotal........................    1,266    1,591    1,902    2,148    2,748    2,669     2,587     2,540     2,871     3,628     3,909     3,956

    Other Liabilities:
      Trade Payables and Miscellaneous....       29       36       46       57       88      115       158       131       107       108       110       106
      Benefits Due and Payable............       22       26       35       37       48       53        63        74        84        99       102       105
          Subtotal........................       51       62       81       94      135      168       221       204       191       207       212       211

    Total Liabilities.....................    2,575    2,943    3,129    3,455    4,377    5,263     6,159     7,062     6,857     7,663     8,249     8,611

    Net Assets (Assets Minus Liabilities).     -521     -850   -1,015   -1,201   -1,606   -2,148    -3,253    -4,468    -4,051    -4,796    -5,162    -5,293
    --------------------------------------------------------------------------------------------------------------------------------------------------------
    Addenda:
    Net Assets Per Capita (in 2004           -2,890   -4,382   -4,959   -5,569   -7,041   -8,997   -12,982   -16,733   -14,324   -16,620   -17,711   -17,988
     dollars).............................
    Ratio to GDP (in percent).............    -19.2    -24.9    -24.8    -25.9    -29.0    -32.5     -42.0     -51.1     -37.9     -43.7     -45.4     -44.8
    --------------------------------------------------------------------------------------------------------------------------------------------------------
    * This table shows assets and liabilites for the Government as a whole excluding the Federal Reserve System. Data for 2004 are extrapolated in some
      cases.

      Table 13-1 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 2004. Government-held
    mortgages (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 these bankrupt savings and loans.
    Meanwhile, Government holdings of other loans have been declining in
    real terms since the mid-1980s. 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
    around $50 billion as of 2004. 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 2-1/4 percent. The Gov

    [[Page 207]]

    ernment also holds inventories of defense goods and other items that in
    2004 amounted to about 25 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 13-1. 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 2002-2004. These fluctuations have caused the estimated value of
    Federal mineral deposits to fluctuate as well. In 2004 as estimated
    here, the combined real value of Federal land and mineral rights was
    higher than it has ever been, but only 3 percent greater than in 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 available
    inventory or realistic basis for valuing such unique assets.
      Total Assets: The total value of Government assets measured in
    constant dollars has risen sharply in the past three years, and was
    higher in 2004 than ever before. The Government's asset holdings are
    vast. As of the end of FY 2004, Government assets were estimated to be
    worth about $3.3 trillion or 28 percent of GDP.

                                   Liabilities

      Table 13-1 includes all Federal liabilities that would normally be
    listed on a 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, which can be thought of
    as a form of deferred compensation. 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 liabilities reflect only binding short-term
    obligations, not the Government's full commitment under these programs.
      Future benefit payments that are likely to be made through Social
    Security and other Federal income transfer programs are not Federal
    liabilities in a legal or accounting sense. They are Federal
    responsibilities, however, and it is important to gauge their size, but
    they are not binding in the same way as a legally enforceable claim
    would be. That is why a 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 $4.3
    trillion at the end of 2004. 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.
      Insurance and Guarantee Liabilities: The Federal Government has
    contingent liabilities arising from the loan guarantees it has made and
    from 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 13-1 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 2004.
      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 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 $4.0 trillion at the end of FY 2004 up from $2.9 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 2004 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 2004 Financial Report of the United
    States Government and Reports from earlier years.
    ---------------------------------------------------------------------------

                         The Balance of Net Liabilities

      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 affected Federal creditworthiness. Long-term
    Government interest rates in 2003 reached their lowest

    [[Page 208]]

    levels in 45 years, and in 2004 they remained lower than at any time
    from 1965 through 2002. 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. The Government's ability to
    service its debt in the long run 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. That is the subject of the next
    section.

                      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 the
    uncertainty surrounding the necessary underlying assumptions, 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 important ones such as Social Security and
    Medicare, however, 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 3.3 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 support the retired population, the budgetary pressures
    will continue to grow. The problem posed by the demographic transition
    is a permanent one; indeed, it is a growing one.
      Currently, the three major entitlement programs--Social Security,
    Medicare and Medicaid--account for 44 percent of non-interest Federal
    spending, up from 30 percent in 1980. By 2035, when the remaining baby
    boomers will be in their 70s and 80s, these three programs could easily
    account for nearly two-thirds of non-interest Federal spending. At the
    end of the projection period, the figure rises to around three-quarters
    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,
    aside from interest, 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

    [[Page 209]]

    the next several years, while most of the baby boomers are still in the
    work force. As the baby boomers begin to reach retirement age in large
    numbers, the deficit begins to rise. In about 10 years, the deficit as a
    share of GDP is projected to reach a low point and then begin an
    inexorable increase. By the end of this chapter's projection period,
    rising deficits would drive publicly held Federal debt to levels 2-\1/2\
    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 to eventually reach around 22
    percent of GDP.
      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 forecasting assumptions, the resources
    generated by the programs themselves will be insufficient to cover the
    long-run costs of Social Security and Medicare.

                                                              Table 13-2.  LONG-RANGE MODEL RESULTS
                                                                      (As a percent of GDP)
    --------------------------------------------------------------------------------------------------------------------------------------------------------
                                                              1995       2005       2015       2025       2035       2045       2055       2065       2075
    --------------------------------------------------------------------------------------------------------------------------------------------------------

    Receipts.............................................       18.5       16.8       18.5       19.1       19.6       20.2       20.9       21.5       22.0
    Outlays:
      Discretionary......................................        7.4        7.9        5.9        5.9        5.9        5.9        5.9        5.9        5.9
      Mandatory:
        Social Security..................................        4.5        4.2        4.4        5.4        6.0        6.0        6.1        6.2        6.4
        Medicare.........................................        2.1        2.4        3.3        4.6        6.0        7.0        7.9        9.1       10.4
        Medicaid.........................................        1.2        1.5        1.9        2.1        2.3        2.6        2.8        3.0        3.3
        Other............................................        2.2        2.8        2.0        1.7        1.5        1.3        1.2        1.1        1.0
          Subtotal, mandatory............................       10.1       10.9       11.6       13.8       15.8       16.9       18.0       19.5       21.2

      Net Interest.......................................        3.2        1.5        1.9        2.0        3.1        4.8        6.9        9.7       13.3
          Total outlays..................................       20.7       20.3       19.4       21.8       24.8       27.6       30.8       35.1       40.4

    Surplus or Deficit (-)...............................       -2.2       -3.5       -0.9       -2.7       -5.2       -7.4      -10.0      -13.6      -18.4

    Federal Debt Held by the Public......................       49.2       38.6       35.6       38.1       58.7       90.4      130.0      181.3      249.0
    --------------------------------------------------------------------------------------------------------------------------------------------------------
    Note: The figures shown in this table for 2015 and beyond are the product of a long-range forecasting model maintained by the Office of Management and
      Budget. This model is separate from the models and capabilities that produce the detailed programmatic estimates in the Budget. It was designed to
      produce long-range forecasts based on additional assumptions regarding the growth of the economy, the long-range evolution of specific programs, and
      the demographic and economic forces affecting those programs. The model, its assumptions, and sensitivity testing of those assumptions are presented
      in this chapter.

                 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. All show that
    there are mounting deficits under most reasonable projections of the
    budget.
      1. Health Spending: The projections for Medicare over the next 75
    years are based on the actuarial projections in the 2004 Medicare
    Trustees' Report, that include the effects of the Medicare Prescription
    Drug and Modernization bill enacted in 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. Improved health and increased longevity are highly
    valued, and society has shown that it is willing to spend a larger share
    of income on them than it did in the past. 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 or lowering the projected growth rate in per capita
    health care costs by \1/4\ percentage point.

    [[Page 210]]

      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 realistic.
    When the population and economy grow, as assumed in these projections,
    the demand for public services is very likely to expand as well. 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 to limit the percentage increase in discretionary
    spending to the increase in population plus inflation, in other words,
    to hold the real per capita inflation-adjusted level of discretionary
    spending 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.

    [[Page 211]]

      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 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, the rate of productivity
    growth increased unexpectedly and it has increased again since 2000.
    This 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. This is a
    cautious assumption. If the recent increase in trend productivity growth
    is sustained, it might continue growing faster than the historical
    average for some time to come. The alternatives highlight the effect of
    raising the projected productivity growth rate by \1/4\ percentage point
    and the effect of lowering it by the same amount.

    [[Page 212]]

      4. Population: The key assumptions for projecting long-run demographic
    developments are 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.

    [[Page 213]]

        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 growth from low
              fertility and allows total population to expand throughout the
              projection period, although at a much slower rate than has
              prevailed historically.

        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 2003 to 85.3 years by 2080, and the
              average male lifespan is projected to increase from 74.4 years
              in 2003 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 214]]

             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. Both programs' actuaries have calculated that they face
    persistent long-run deficits. How best to measure the long-run imbalance
    in Social Security is a challenging analytical question. The imbalance
    is even more difficult to measure in Medicare, which includes both
    Hospital Insurance (HI), funded through the payroll tax, and
    Supplementary Medical Insurance (SMI), financed through premiums and
    general revenues. Under reasonable assumptions, however, each program
    embodies 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 both of these programs' financial problems.

    [[Page 215]]

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

                                        Social Security: The Long-Range Challenge

    Social Security provides retirement security and disability insurance for tens of millions of Americans. The
     Social Security system 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 within 20 years. Social
     Security's spending path is unsustainable under current law. The retirement of the baby-boom generation, born
     following World War II, will begin to increase greatly the number of Social Security beneficiaries within five
     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 following the baby boomers passage through the system.
     The number of workers available to support each beneficiary is projected to decline from over 3 today to just
     around 2 in 2030, and remain there indefinitely. This decline in the workforce available to support retiree
     benefits means that the Government will not be able to meet current-law benefit obligations at current payroll
     tax rates.

    The size of Social Security's future shortfall cannot be known with 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, the
     demands created by Social Security could compromise the rest of the budget and the Nation's economic health.
     The actuarial shortfall is estimated to be $11.9 trillion over an infinite horizon.

    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 216]]

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

                                            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 Supplemental Medical Insurance (SMI) or Part B, which pays for physicians' services and
     other related expenditures. Starting in 2006, Medicare will offer a voluntary prescription drug benefit,
     Medicare Part D, which is part of the SMI Trust Fund.

    Like Social Security, HI is intended to be self-financing through dedicated taxes. According to the Medicare
     Trustees most recent report, the Trust Fund is projected to be depleted in 2019. Looking at the long run, the
     Medicare actuaries project a 75-year unfunded promise to Medicare's HI trust fund of around $8.5 trillion (net
     present value). However, this measure tells less than half the story because it does not include the deficiency
     in Medicare's Part B and Part D programs. The main source of dedicated revenues to the SMI Trust Fund 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 $28.1 trillion. SMI's financing gap is covered by an unlimited tap on general revenues. According
     to the Medicare Trustees 2004 report, ``When the Part D program becomes fully implemented in 2006, general
     revenue transfers are expected to constitute the largest single source of income to the Medicare program as a
     whole--and would add significantly to the Federal Budget pressures.''

    This bifurcated trust fund structure finances Medicare as if the program offers two separate, unrelated
     benefits, instead of recognizing that Medicare provides integrated, comprehensive health insurance coverage.
     The Medicare Prescription Drug, Improvement and Modernization Act of 2003 took initial steps to address this
     problem and to monitor Medicare's use of general revenues. The Trustees are now required to include a new,
     comprehensive fiscal analysis, the Combined Medicare Trust Fund Analysis. This analysis examines the program as
     a whole, and signals whether Medicare's reliance on general revenue funding is projected to exceed 45 percent
     of total Medicare expenditures at any point in the following six years. Current projections indicate that
     Medicare's reliance on general revenues may exceed this threshold as early as 2012. The Administration supports
     efforts to integrate Medicare's financing structure and monitor the program's reliance on general revenue
     funding, such as a unified Medicare trust fund.

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

    [[Page 217]]

      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
    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 value of the Social Security imbalance over the next 75
    years was estimated to be $5.2 trillion as of January 1, 2004. The
    comparable estimate for Medicare was $28.1 trillion. (The estimates in
    Table 13-3 were prepared by the Social Security and Medicare actuaries,
    and they are based on the intermediate economic and demographic
    assumptions used for the 2004 trustees' reports. These differ in some
    respects from the assumptions used for the long-run budget projections
    described in the preceding section, but Table 13-3 would still show
    large imbalances if the budget assumptions had been used for the
    calculations.)

        Table 13-3.  ACTUARIAL PRESENT VALUES OF BENEFITS IN EXCESS OF FUTURE TAXES AND PREMIUMS  Over a 75-Year
                               Projection Period as of January 1, in Trillions of Dollars
    ----------------------------------------------------------------------------------------------------------------
                                                                           2000     2001     2002     2003     2004
    ----------------------------------------------------------------------------------------------------------------
    Social Security
      Future benefits less future taxes for those age 15 and over......      9.6     10.5     11.2     11.7     12.6
      Future benefits less taxes for those age 14 and under and those       -5.8     -6.3     -6.7     -6.8     -7.3
       not yet born....................................................
        Net present value for past, present and future participants....      3.8      4.2      4.6      4.9      5.2

    ----------------------------------------------------------------------------------------------------------------
    Medicare
      Future benefits less future taxes and premiums for those age 15        9.9     12.5     12.9     15.0     24.6
       and over........................................................
      Future benefits less taxes and premiums for those age 14 and          -0.7      0.3      0.4      0.8      3.4
       under and those not yet born....................................
        Net present value for past, present and future participants....      9.2     12.8     13.3     15.8     28.1

    ----------------------------------------------------------------------------------------------------------------
    Social Security and Medicare
      Future benefits less future taxes and premiums for those age 15    .......     23.0     24.1     26.7     37.2
       and over........................................................
      Future benefits less taxes and premiums for those age 14 and       .......     -6.0     -6.3     -6.0     -3.9
       under and not yet born..........................................
      Net present value for past, present and future participants......  .......     17.0     17.8     20.7     33.3

    ----------------------------------------------------------------------------------------------------------------
    Addendum:
    Actuarial deficiency as a percent of the discounted payroll tax
     base:
      Social Security..................................................    -1.89    -1.86    -1.87    -1.92    -1.89
      Medicare HI......................................................    -1.21    -1.97    -2.02    -2.40    -3.12
    ----------------------------------------------------------------------------------------------------------------

                       In Perpetuity as of January 1

    ----------------------------------------------------------------------------------------------------------------
                                                                                                                2004
    ----------------------------------------------------------------------------------------------------------------
    Social Security....................................................  .......  .......  .......  .......     11.9
    Medicare...........................................................  .......  .......  .......  .......     61.9
    Social Security and Medicare.......................................  .......  .......  .......  .......     73.8
    ----------------------------------------------------------------------------------------------------------------

      Doing the calculations for a 75-year horizon understates the
    deficiencies, because the 75-year actuarial calculations omit the large
    deficits that continue to occur beyond the 75th year. The understatement
    is significant, even though values in the distant future are discounted
    by a large amount. For example, merely adding an additional year to the
    estimating period would widen the imbalance for Social Security from
    $5.2 trillion to $5.3 trillion. For the latest Social Security and
    Medicare trustees' reports, the programs' actuaries have also calculated
    the actuarial imbalances in perpetuity. See Table 13-3, which shows how
    much these distant benefits add to the programs' imbalances.
      The imbalance for Social Security, when estimated on a perpetuity
    basis, was $11.9 trillion at the beginning of 2004. This was the amount
    that the Government would have had to raise in the private capital
    markets to resolve the program's imbalance. It was entirely accounted
    for by the benefits due to current workers and beneficiaries. Future
    participants do not add to the total, but their contributions do not
    significantly reduce it either. If nothing else were to change, the
    estimated imbalance would grow every year at approximately the rate of
    interest, just as an unpaid debt grows with interest each year it
    remains outstanding. For Social Security this would imply an increase of
    approximately $600 billion in 2004 and by growing amounts with every
    year that the imbalance remains unaddressed. The comparable imbalance in
    Medicare is even more staggering at $61.9 trillion. Unlike Social
    Security, future participants do add significantly to the Medicare
    imbalance, but the exact size of the imbalance is harder to estimate for
    Medicare because of greater uncertainty regarding the future growth of
    medical costs. If these costs continue to rise faster than GDP,

    [[Page 218]]

    then inevitably the Medicare program will place an unsustainable burden
    on the budget.
      Social Security: The current deficiency in Social Security is
    essentially due to paying past and current participants more benefits
    than they have paid or will pay into the program in taxes (calculated in
    terms of present values). By contrast, future participants--those who
    are now under age 15 or not yet born--are projected to pay in present
    value about $7.3 trillion more over the next 75 years than they will
    collect in benefits over that period. Limiting the horizon at 75 years,
    however, prevents a full accounting of the expected benefits for these
    future participants, since many future participants will pay all of
    their lifetime taxes within the 75-year period, while continuing to
    receive benefits after the 75th year, while others will pay some taxes
    within the 75-year horizon without receiving any benefits until much
    later.
      Extending the estimates to perpetuity avoids this distortion because
    everyone's taxes and benefits are fully included in the calculation and
    discounted to the present. Altogether, the far distant benefits,
    estimated in perpetuity, add about $6.7 trillion to the imbalance, which
    nearly offsets the expected net contribution of $7.3 trillion from
    future participants over the next 75 years. In other words, the taxes
    that future participants are expected to pay will be large enough to
    cover the benefits due them under current law, but not large enough to
    cover those benefits plus the benefits promised to current program
    participants in excess of the taxes paid by current program
    participants.
      Medicare: Over the next 75 years, benefits due to current program
    participants exceed payroll taxes and premiums by $24.6 trillion in
    present value. This is twice as large as the Social Security gap for the
    same group. Future participants are also projected to collect more in
    benefits than they pay in taxes and premiums, but over the same time
    span the gap is much smaller for them, $3.4 trillion. Even so, this
    pattern is different from that for Social Security, where future
    participants are net contributors over a 75-year horizon. Extending the
    horizon to infinity shows that the benefits due future participants will
    eventually exceed projected payroll tax receipts and premiums by a much
    larger margin. The infinite horizon projections shown at the bottom of
    Table 13-3 reveal that total Medicare benefits exceed future taxes and
    premiums by $61.9 trillion in present value.
      Passage of the Medicare Prescription Drug, Improvement and
    Modernization Act added substantially to Medicare's actuarial
    deficiency, as can be seen in the 75-year projections in Table 13-3
    comparing 2003 with 2004. The legislation also increased private sector
    participation and added new fiscal safeguards which may help address
    Medicare's financial shortfall, but how large the impact of these
    changes will be is uncertain and their effects are not captured in the
    figures reported here.
      General revenues have covered about 75 percent of SMI program costs
    for many years, with the rest being covered by premiums paid by the
    beneficiaries. In Table 13-3, 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. From the
    standpoint of the Government as a whole, only receipts from the public
    can finance expenditures.
      A significant portion of Medicare's actuarial 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, waste, and the many of the costs
    associated with medical liability claims add needlessly to costs. But
    even though the projected increases in Medicare spending are likely to
    contribute to longer life-spans and safer treatments, the financial
    implications remain the 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, and that
    is reflected in the estimates shown in Tables 13-2 and 13-3.
      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. The trust fund surpluses could have added to
    national saving if debt held by the public had actually been reduced
    because of the trust fund accumulations. But it is impossible to know
    for sure whether this happened or not.
      At the time Social Security or Medicare redeems the debt instruments
    in the trust funds to pay benefits not covered by 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, and for that reason, the trust funds are not netted against
    future benefits in Table 13-3. The eventual claim on the Treasury is
    better revealed by the difference between future benefits and future
    taxes or premiums.
      In any case, trust fund assets 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 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

    [[Page 219]]

    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 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.
      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 if the savings occurred outside the budget window.
    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 long-run 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 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 the
    return on investment 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 also contribute to future tax receipts.
      To show the importance of these kinds of issues, Table 13-4 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 types of capital, and these contributions are shown separately
    in the table. At the same time, the private wealth shown in Table 13-4
    can be drawn on by Government to finance future public activities. The
    Nation's wealth sets the ultimate limit on the resources currently
    available to the Government. Data in this table are especially
    uncertain, because of the strong assumptions needed to prepare the
    estimates.
      The table shows 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--$6.6 trillion. The Federal contribution is down
    from 8.8 percent in the mid-1980s and from 11.5 percent in 1960. Much of
    this reflects the relative decline in the stock of defense capital,
    which has fallen from around 13 percent of GDP in the mid-1980s to under
    6 percent in 2004.

                                                                  Table 13-4.  NATIONAL WEALTH
                                                (As of the end of the fiscal year, in trillions of 2004 dollars)
    --------------------------------------------------------------------------------------------------------------------------------------------------------
                                                    1960     1965     1970     1975     1980     1985     1990     1995     2000     2002     2003     2004
    --------------------------------------------------------------------------------------------------------------------------------------------------------
                       ASSETS
    Publicly Owned Physical Assets:
      Structures and Equipment..................      2.1      2.4      3.0      3.7      3.9      4.1      4.5      4.9      5.6      5.9      6.1      6.1
        Federally Owned or Financed.............      1.2      1.3      1.4      1.6      1.7      1.9      2.0      2.1      2.1      2.2      2.2      2.3
          Federally Owned.......................      1.1      1.1      1.1      1.1      1.0      1.2      1.2      1.2      1.1      1.0      1.0      1.1
          Grants to State and Local Governments.      0.1      0.2      0.3      0.5      0.7      0.8      0.8      0.9      1.1      1.2      1.2      1.2
        Funded by State and Local Governments...      0.9      1.1      1.5      2.1      2.2      2.2      2.5      2.8      3.5      3.7      3.8      3.8
      Other Federal Assets......................      0.7      0.7      0.7      0.9      1.3      1.4      1.2      0.9      1.2      1.2      1.4      1.7
                                                 -----------------------------------------------------------------------------------------------------------
            Subtotal............................      2.8      3.1      3.6      4.5      5.2      5.5      5.6      5.8      6.8      7.2      7.5      7.8

    Privately Owned Physical Assets:
      Reproducible Assets.......................      7.3      8.3     10.2     13.0     16.1     17.5     20.0     22.1     26.7     28.6     29.5     30.5
        Residential Structures..................      2.8      3.3      3.9      5.0      6.4      6.8      7.9      8.9     11.0     12.1     12.7     13.3
        Nonresidential Plant & Equipment........      2.9      3.3      4.1      5.4      6.5      7.4      8.3      9.0     10.9     11.6     11.7     12.0
        Inventories.............................      0.7      0.8      0.9      1.2      1.4      1.3      1.4      1.5      1.6      1.5      1.6      1.7
        Consumer Durables.......................      0.9      1.0      1.3      1.5      1.8      1.9      2.4      2.7      3.1      3.4      3.4      3.6
      Land......................................      2.1      2.5      2.9      3.8      5.8      6.6      6.8      5.2      7.8      8.9      9.5     11.0
                                                 -----------------------------------------------------------------------------------------------------------
            Subtotal............................      9.4     10.9     13.1     16.8     21.9     24.1     26.8     27.3     34.5     37.6     38.9     41.6

    Education Capital:
      Federally Financed........................      0.1      0.1      0.2      0.3      0.5      0.6      0.8      0.9      1.2      1.3      1.4      1.4
      Financed from Other Sources...............      6.4      8.2     11.0     13.6     17.8     21.4     27.6     30.9     40.1     42.8     44.1     45.0
                                                 -----------------------------------------------------------------------------------------------------------
            Subtotal............................      6.5      8.3     11.3     14.0     18.3     22.0     28.4     31.8     41.3     44.1     45.5     46.4

    Research and Development Capital:
        Federally Financed R&D..................      0.2      0.4      0.5      0.6      0.6      0.7      0.8      1.0      1.0      1.1      1.1      1.2
        R&D Financed from Other Sources.........      0.1      0.2      0.3      0.4      0.5      0.7      0.9      1.2      1.5      1.7      1.8      1.9
                                                 -----------------------------------------------------------------------------------------------------------
            Subtotal............................      0.3      0.6      0.8      1.0      1.1      1.4      1.7      2.1      2.6      2.8      2.9      3.0

                                                 -----------------------------------------------------------------------------------------------------------
    Total Assets................................     19.0     22.8     28.8     36.3     46.5     53.0     62.6     67.0     85.2     91.7     94.9     98.8

    Net Claims of Foreigners on U.S. (+)........     -0.1     -0.2     -0.2     -0.1     -0.4      0.1      0.8      1.6      3.0      3.5      4.1      4.5

    Net Wealth..................................     19.1     23.0     29.0     36.4     46.9     52.9     61.7     65.4     82.1     88.2     90.8     94.3
    --------------------------------------------------------------------------------------------------------------------------------------------------------
                      ADDENDA:
      Per Capita Wealth (thousands of 2004 $)...    106.1    118.5    141.5    168.7    205.6    221.7    246.4    244.9    290.4    305.6    311.5    320.5
      Ratio of Wealth to GDP (in percent).......    703.4    672.4    708.7    785.5    845.8    799.8    797.9    747.9    769.1    803.4    798.7    798.2
      Total Federally Funded Capital (trillions       2.2      2.5      2.9      3.4      4.1      4.7      4.8      4.9      5.6      5.8      6.2      6.6
       2004 $)..................................
            Percent of National Wealth..........     11.5     10.7      9.9      9.3      8.7      8.8      7.8      7.5      6.8      6.6      6.8      7.0
    --------------------------------------------------------------------------------------------------------------------------------------------------------

      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, $49.3 trillion in 2004,
    consisting of $41.6 trillion in private physical capital and $7.8
    trillion in public physical capital (including capital funded by State
    and local governments); by comparison, GDP was around $11.7 trillion in
    2004. The Federal Government's contribution to this stock of capital
    includes its own physical assets of $2.7 trillion plus $1.3 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. Table 13-4 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. 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

    [[Page 220]]

    $46.4 trillion in 2004, of which about 3 percent was financed by the
    Federal Government. It was almost 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.
      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 total 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
    earns 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 $3.0 trillion in 2004. Although this
    represents a large amount of research, it is a relatively small portion
    of total National wealth. Of this stock, 39 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 13-4 is intended
    to show National totals only. Total debt is important even though it
    does not appear in Table 13-4. The amount of debt owed by Americans to
    other Americans can exert both positive and negative effects on the
    economy. Americans' willingness and abil

    [[Page 221]]

    ity to borrow have helped fuel the current expansion by supporting
    consumption and housing purchases. On the other hand, growing debt would
    be a risk to future growth, if the ability to service the high level of
    debt were to become impaired.
      The only debts that do appear in Table 13-4 are the debts Americans
    owe to foreigners for the investments that foreigners have made here.
    America's net 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 is at record levels, the size of the net
    foreign debt remains relatively small compared with the total stock of
    U.S. assets. It amounted to 4.5 percent of total assets in 2004.
      Federal debt does not appear explicitly in Table 13-4 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 13-1, amount to 5.6 percent of net U.S. wealth as shown in
    Table 13-4. 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 2004 was
    almost $100 trillion, about eight times the size of GDP. Since 1960, 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 3.0 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. Net wealth has been growing at an
    average rate of 4.2 percent since 1995, about the same rate as from 1960
    to 1973. 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 29 percent of privately owned physical assets. It grew 3.3
    percent per year on average from 1960 to 2004. 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, growth of
    plant and equipment over the last eight years accelerated by only a few
    tenths of a percentage point compared with 1973-1995. Private plant and
    equipment grew 2.9 percent per year on average between 1973 and 1995 and
    just 3.2 percent per year from 1995 through 2004. 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 and land have all grown much more rapidly in real value since
    1995 than from 1973 to 1995.
      The accumulation of education capital has averaged 4.6 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, 1.9 percentage points faster than the
    average rate of growth in private physical capital during the same
    period. Since 1995, education capital has grown at a 4.3 percent annual
    rate. This reflects both the extra resources devoted to schooling in
    this period, and the fact that such resources have been increasing in
    economic value. Meanwhile, R&D stocks have grown at an average rate of
    4.1 percent per year since 1995.

                   Other Federal Influences on Economic Growth

      Federal investment decisions, as reflected in Table 13-4, obviously
    are important, but the Federal Government also affects 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 preserving national
    security, fostering healthy economic conditions including sound economic
    growth, promoting health and social welfare, and protecting the
    environment. Table 13-5 offers a rough cut of information that can be
    useful in assessing how well the Federal Government has been doing in
    promoting the domestic portion of these general objectives.

    [[Page 222]]

                                                           TABLE 13-5.  ECONOMIC AND SOCIAL INDICATORS
    --------------------------------------------------------------------------------------------------------------------------------------------------------
             Calendar Years             1960      1965      1970      1975      1980      1985      1990      1995      2000      2002      2003      2004
    --------------------------------------------------------------------------------------------------------------------------------------------------------
    Economic:
    Living Standards:
      Real GDP per person (2000         13,840    16,420    18,392    19,961    22,666    25,382    28,429    30,128    34,760    34,953    35,664    36,893
       dollars).....................
        average annual percent             1.7       3.5       2.3       1.7       2.6       2.3       2.3       1.2       2.9       1.9       1.7       1.7
         change (5-year trend)......
      Median Income:
        All Households (2003               N/A       N/A    35,832    35,559    37,447    38,510    40,865    40,845    44,853    43,381    43,318       N/A
         dollars)...................
        Married Couple Families         30,903    35,966    43,130    44,789    48,917    50,695    54,431    56,395    63,110    62,657    62,405       N/A
         (2003 dollars).............
        Female Householder, Husband     15,616    17,485    20,889    20,619    22,000    22,267    23,102    23,596    27,462    29,665    29,307       N/A
         Absent (2003 dollars)......
      Income Share of Lower 60% of        31.8      32.2      32.3      32.0      31.5      30.0      29.4      28.0      27.3      27.1      26.9       N/A
       All Households...............
      Poverty Rate (%) (a)..........      22.2      17.3      12.6      12.3      13.0      14.0      13.5      13.8      11.3      12.1      12.5       N/A

    Economic Security:
      Civilian Unemployment (%).....       5.5       4.5       4.9       8.5       7.1       7.2       5.5       5.6       4.0       5.8       6.0       5.5
      CPI-U (% Change)..............       1.7       1.6       5.8       9.1      13.5       3.5       5.4       2.8       3.4       1.6       2.2       2.7
      Payroll Employment Increase         -0.4       2.9      -0.4       0.4       0.3       2.5       0.3       2.2       1.9      -0.6      -0.1       2.2
       Previous 12 Months (millions)
      Managerial or Professional           N/A       N/A       N/A       N/A       N/A      27.3      29.2      32.0      33.8      34.6      34.8      34.9
       Jobs (% of civilian
       employment)..................

    Wealth Creation:
      Net National Saving Rate (% of      10.6      12.4       8.3       6.7       7.4       6.2       4.4       4.1       5.9       1.7       1.2       1.6
       GDP) (b).....................

    Innovation:
      Patents Issued to U.S.              42.3      54.1      50.6      51.5      41.7      45.1      56.1      68.2     103.6     104.6     105.9       N/A
       Residents (thousands) (c)....
      Multifactor Productivity             0.9       2.9       0.8       1.1       0.8       0.5       0.5       0.6       1.1       N/A       N/A       N/A
       (average 5 year percent
       change)......................
      Nonfarm Output per Hour              1.6       3.4       2.1       2.3       1.1       1.7       1.5       1.5       2.5       3.0       3.4       3.6
       (average 5 year percent
       change)......................

    Environment:
      Air Quality:
        Nitrogen Oxide Emissions        18,163    21,297    26,883    26,377    27,079    25,757    25,529    24,956    22,598    21,102       N/A       N/A
         (thousand short tons)......
        Sulfur Dioxide Emissions        22,268    26,799    31,218    28,043    25,925    23,307    23,076    18,619    16,347    15,353       N/A       N/A
         (thousand short tons)......
        Lead Emissions (thousand           N/A       N/A       221       160        74        23         5         4         4       N/A       N/A       N/A
         short tons)................
      Water Quality:
        Population Served by               N/A       N/A       N/A       N/A       N/A       140       162       174       201       N/A       N/A       N/A
         Secondary Treatment or
         Better (mils)..............

    Social:
      Families:
        Children Living with Mother        9.2      10.2      11.6      16.4      18.6      20.2      21.6      24.0      22.3      23.2      23.2       N/A
         Only (% of all children)...
      Safe Communities:
        Violent Crime Rate (per          160.0     199.0     364.0     482.0     597.0     558.1     729.6     684.5     506.5     494.4     475.0       N/A
         100,000 population) (d)....
        Murder Rate (per 100,000           5.1       5.1       7.8       9.6      10.2       8.0       9.4       8.2       5.5       5.6       5.7       N/A
         population) (d)............
        Murders (per 100,000 Persons       N/A       N/A       N/A       4.5       5.9       4.9       9.8      11.0       4.8       4.5       N/A       N/A
         Age 14 to 17)..............
      Health:
        Infant Mortality (per 1000        26.0      24.7      20.0      16.1      12.6      10.6       9.2       7.6       6.9       7.0       6.8       6.6
         Live Births) (e)...........
        Low Birthweight [<2,500 gms]       7.7       8.3       7.9       7.4       6.8       6.8       7.0       7.3       7.6       7.8       7.9       N/A
         Babies (%) (e).............
        Life Expectancy at birth          69.7      70.2      70.8      72.6      73.7      74.7      75.4      75.8      77.0      77.3       N/A       N/A
         (years)....................

    [[Page 223]]

        Cigarette Smokers (%               N/A      41.9      39.2      36.3      33.0      29.9      25.3      24.6      23.2      22.4      21.6      20.1
         population 18 and older)
         (f)........................
      Learning:
        High School Graduates (% of       44.6      49.0      55.2      62.5      68.6      73.9      77.6      81.7      84.1      84.1      84.6       N/A
         population 25 and older)...
        College Graduates (% of            8.4       9.4      11.0      13.9      17.0      19.4      21.3      23.0      25.6      26.7      27.2       N/A
         population 25 and older)...
      Participation:
        Individual Charitable Giving       247       296       355       377       410       422       468       444       680       669       N/A       N/A
         per Capita (2000 dollars)..
    (by presidential election year)     (1960)    (1964)    (1968)    (1972)    (1976)    (1980)    (1984)    (1988)    (1992)    (1996)    (2000)    (2004)
        Voting for President (%           62.8      61.9      60.9      55.2      53.5      52.8      53.3      50.3      55.1      49.0      51.2      55.3
         eligible population).......
    --------------------------------------------------------------------------------------------------------------------------------------------------------
    (a) The poverty rate does not reflect noncash government transfers such as Medicaid or food stamps.
    (b) 2004 through Q3 only.
    (c) Preliminary data for 2003.
    (d) Not all crimes are reported, and the fraction that go unreported may have varied over time.
    (e) Data for 2003-2004 provisional, data for 2004 through June.
    (f) Smoking data for 2004 through June.

      The indicators shown in Table 13-5 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 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
    beginning around 1995 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,
    violent crime has fallen by a third. The turnaround has been especially
    dramatic in the murder rate, which has been lower since 1998 than at any
    time since the early 1960s. The 2001 recession had an effect on some of
    these indicators: unemployment rose and real GDP growth declined for a
    time. But as the economy recovered much of the improvement shown in
    Table 13-5 was preserved. Indeed, productivity growth, the best
    indicator of future changes in the standard of living accelerated. Since
    1999, it has increased faster than in any other five-year period since
    1960.

    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: For the years 2005-2015, 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 interval 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 2004
    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.

    [[Page 224]]

        CPI inflation holds stable at 2.4 percent per year; the
              unemployment rate is constant at 5.1 percent; and the yield on
              10-year Treasury notes is steady at 5.7 percent.
        Real GDP per hour grows at the same average rate as in the
              Administration's medium-term projections--2.3 percent per
              year.
        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 slower rates of
              growth beyond that point. Annual population growth eventually
              reaches 0.2 percent.
        Real GDP growth declines over time with the expected
              slowdown in population growth and the increase in the portion
              of the population over age 65, which contributes less work
              effort. Historically, real GDP has grown at an average yearly
              rate of 3.4 percent. In these projections, average real GDP
              growth declines to around 2.5 percent per year.
      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 2010, receipts and outlays
    follow the budget's policy projections. In the long run, 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 2004 Medicare trustees'
    report, adjusted for differences in inflation rate and the growth rate
    in GDP per capita. Federal pensions are derived from the most recent
    actuarial forecasts available at the time the budget is prepared,
    repriced using Administration inflation 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 principal 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, it
    was necessary to deflate the nominal investment series. This was done
    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 estimates 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 1979-2003, 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 2004 is a projection. The health
    insurance liability was estimated by the program actuaries for 1997-
    2003, 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.
      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 or financed 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 2004.
      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 2004 using
    in

    [[Page 225]]

    vestment 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
    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 13-5 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 the
    respective agencies' web sites.