WASHINGTON - The nonpartisan Congressional Budget Office predicted yesterday that the federal budget deficit would shrink again this year and could actually swing into a surplus in 2012 - but only if President Bush's tax cuts expire in 2010.

The agency predicted that the deficit for 2007 would decline to about $200 billion. It would be the third big annual decline in a row, and would come even though spending on the war in Iraq is expected to remain high this year.

The decline of the deficit follows unexpectedly large increases in tax revenue over the last two years and slower-than-expected increases in Medicare spending.

Much of that increased revenue came from taxes on sharply higher corporate profits and big gains in the stock market, even though Congress reduced the tax rate on capital gains and stock dividends in 2003.

The agency's "baseline" estimate - one that assumes current law does not change - is that the deficit will decline to $172 billion this year, from $248 billion in fiscal 2006, which ended Sept. 30. As a practical matter, officials said, the actual deficit will probably be about $200 billion because of outlays for the war.

'Solid path'

It is a rare piece of good news for President Bush, coming as he is struggling to persuade Congress to accept his strategy of sending more troops to Iraq and as his public approval ratings are at an all-time low.

White House officials said the projections validated Bush's strategy of cutting taxes to stimulate the economy and ultimately generate higher tax revenues.

"Two years ago, the president laid out an ambitious goal to cut the deficit in half by 2009, and we met that goal three years early," said Rob Portman, White House budget director. "We are now on a solid path toward the president's new goal to achieve a balanced budget by 2012, while making the tax cuts permanent and better constraining spending."

Congressional budget officials cautioned that the projections were not as sunny as they looked, in part because they assume that Congress will let Bush's tax cuts expire in 2010, along with many corporate tax breaks, and will not try to shield millions of families from a big increase in their tax bills because of the alternative minimum tax.

Democrats' view

Bush and most of his Republican allies in Congress have pushed to make the tax cuts permanent, rather than letting them expire at the end of 2010 as scheduled. Even some Democrats favor extending the tax cuts that benefit middle-income families.

Extending the tax cuts would cost the Treasury $1.4 trillion in the next 10 years and increase the deficit in 2017 alone by more than $400 billion.

Preventing an increase in the alternative minimum tax would cost $1.2 trillion over 10 years and add more than $200 billion to the deficit in 2017, the budget office estimated.

Democrats countered that the fiscal picture remained bleak. "While any improvement in the deficit is a welcome development, today's report from CBO is no cause for a declaration of victory," said Rep. John M. Spratt Jr. (D., S.C.), the chairman of the House Budget Committee.