Clinton's dilemma on tax cut pledge

It is the next phase in the tax-cutting frenzy that has broken out since the Republican landslide in last month's mid-term elections: demonstrate to sceptical economists and voters how you are going to fund such largesse.

Four days after proposing a rag-bag of tax cuts for the middle classes on national television, President Bill Clinton promised yesterday to accelerate efforts to streamline government, notably in the departments of energy, transport and housing.

Answering criticism that his joining the tax-relief bidding war, initiated by Republicans in Congress, will wipe out progress made on cutting the federal deficit, the President pledged that any loss in revenue would be offset by "new reductions in government spending, dollar for dollar".

He made the announcement alongside his Vice-President, Al Gore, who has already been working for 18 months on a programme to "reinvent government", by pruning programmes and cutting federal staff. Even before these latest manoeuvres, 100,000 federal positions and 100 government programmes were axed.

The President's tax-cutting programme, centred on relief for families with children and deductions for savings and tuition costs, is projected to cost $60bn (£39bn)over five years. As well as trimming about $24bn from the budgets of the various departments, Mr Clinton is proposing extending a freeze on non-obligatory federal spending that is already in place. The Republicans are similarly straining to dispel Democratic claims that they could not pay for their own tax-cutting proposals which are more generous - and therefore more costly - than the President's. The tax-relief plan being championed by the incoming House Speaker, Newt Gingrich, is expected to cost $197bn over the same five years.

Thus Senator Bob Packwood pledged to identify cuts before enacting tax relief. "I am not going to support any cuts that are going to widen the deficit, period," he declared. "And I just don't want to see us once again send out tax cuts with a lick and a promise and a hope that the spending cuts are coming later. We somehow never quite seem to get them." The Republicans, therefore, are rushing to put together a programme likely to be considerably more drastic than that outlined by the President. While wielding the cleaver will help Republicans balance the tax cuts, it also fits their promise to reduce federal government in general and devolve power and money to the states.

Mr Gore yesterday took up the same theme. "We're going to make government work better and interfere less," he said. While his programme to take the fat out of government has been largely a sidelines affair until now attracting some mockery in the White House, it seems set to take centre stage - a development that doubtless will suit the Vice-President.

Even if sceptics are convinced by the protestations of the White House and the Republicans about balancing the tax reductions, many economists warn that it may be a disastrous time to embark on a tax-cutting binge because the economy has been surging in recent months. A side-effect could be rapidly rising interest rates if the Federal Reserve is forced to move faster to curb inflation and if the government is once again obliged to increase borrowing. For the voters, rising interest rates could eliminateany benefits from the reductions in taxes.

There have been divisions within the White House, too, with the President's economic advisors reportedly upset over the decision to follow the Republicans down the tax-cutting path. An OECD report out today is expected to forecast sharply reduced US growth rates from next year. If the OECD scenario comes true, then a programme of tax cuts may not as foolhardy as the economists suggest.