Market downturn not a threat to surplus Wave of stock selling may bolster revenues, budget specialists say


WASHINGTON -- While booming stock prices contributed importantly to the government's now-certain budget surplus for 1998 -- the first in almost 30 years -- the market's recent swoon poses little threat so far to the nation's hard-won return to fiscal integrity.

Indeed, economists and budget specialists say, the many investors who frantically or more deliberately decided to cash in some stock winnings will swell the surplus even further, at least for a while.

"As people are pulling out, they're having to take capital gains that have been built up," said James Glassman, managing director of Chase Securities in New York.

Reflecting the job and wage gains of a surging economy as well as soaring stock prices, the government has repeatedly scrambled to raise its budgetary sights, with the Congressional Budget Office now projecting that federal revenue will exceed spending by $63 billion for the fiscal year that ends Sept. 30.

The Republican-controlled Congress and the Clinton White House have pounced on this largely unforeseen surplus -- the administration's first estimate early last year was for a deficit of $121 billion -- to press, respectively, for tax cuts or for partial mending of Social Security, among other programs.

In July, after the Congressional Budget Office more than doubled its projection of the surplus over the next 10 years, Republicans said the government could afford to do both.

But analysts say the additional revenue resulting from months of cashing in of stock profits -- most issues retreated well before the August dive of blue chips -- will only marginally affect the budget debate unless the stock market drops enough to help tip the now-slowing economy into recession. This is a prospect that has become less remote in recent weeks, but is still considered unlikely.

"I don't think this correction is going to have any measurable impact on the rate of economic growth," said Lawrence Kudlow, chief economist at American Skandia Life Assurance in Shelton, Conn., who served in the Office of Management and Budget in the Reagan administration.

When recessions do occur -- the latest being a mild, eight-month one that ended in 1991 -- they shrink revenue and raise spending for unemployment and other benefits.

Kenneth Kies, a former staff chief at the Congressional Joint Committee on Taxation and now a managing partner at Price Waterhouse Coopers, said the market would have a minimal effect on the budget unless the market dropped enough to force the government to cut back its long-term projections for economic growth.

But Kies also said that shrinking stock values and the lower tax receipts associated with them would allow Republicans in Congress to argue that it would be less costly to make further cuts in the tax bite on capital gains and on estates.

In a somewhat perverse twist, Kudlow contended that one largely unrecognized factor in the current meltdown of stock prices was the enactment this summer of a reduction in the holding period for preferential capital gains tax treatment, to 12 months from 18 months.

Robert Reischauer, who headed the Congressional Budget Office from 1989 to 1995, said the government would probably enjoy a temporary, modest rise in taxes from capital gains, but the amount could not be quantified. "It's a difficult call," he said, "because a lot depends on who's selling" -- a combination of small investors with years of profit buildup and professionals bailing out of recently established losing positions.

Reischauer, who is now with the Brookings Institution, said the impact of current developments would depend not only on how far the stock market falls but also on whether, for example, corporate profits falter badly or instability in Russia and elsewhere prompts an increase in the military budget.

Pub Date: 8/30/98

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