ELSIE M. WATTERS
Federal budget initiatives in 1981 and 1982 signaled broad political support for policies that will substantially reduce the size of the federal sector. The available evidence indicates that federal aid to subnational governments will be sharply reduced. A central issue faced by these jurisdictions is whether to pare the federally aided programs commensurately with the federal budget cuts or to follow another course. To continue many of the associated activities would require sharp increases in state or local taxes or shifts away from other activities now financed with state and local revenues.
One way of looking at state-local finance in the 1980s is to pose these questions : What is to be the size of the economic pie? What slice of the pie will be claimed by government as opposed to the private sector? How will the government share be allocated among federal, state, and local units? In 1967, government spending as a share of gross national product (GNP) passed the 30 percent mark for the first time in peacetime history. It is now about one-third of total GNP, as measured by the national income and product accounts prepared by the Bureau of Economic Analysis.
The Reagan administration's long-term goal, as announced in March 1981, was to reduce federal outlays from 23 percent of GNP in fiscal 1981 to 19 percent by 1986. Based on assumed levels of GNP, presented later in this essay, such a percentage reduction would put federal outlays by 1986 about $190 billion below the level they would reach if the ratio of federal spending to GNP remained at its 1980 level. If the 1986 target ratio is achieved, and extended, the federal government would release close to $280 billion in 1990 for use in the private and state-local-government sectors.
State and local expenditures, excluding amounts spent from federal grants-in‐ aid, have fluctuated within a range of 10.1 to 11.5 percent of GNP since 1968. This share reached a high of 11.5 percent in 1975, and has been gradually declining since, reaching 10.2 percent in 1980. With the addition of federal grants-in