Don't Stop Believin'

Journey back now to 1981: Charles and Di get hitched, baseball goes on strike, and Yes split up (don't worry, they'll be back). Amid all the hoopla, it's easy to miss the fact that the Reagan administration has given control of its budgetary policy to a small band of cranks and journalists, who have been pushing a free-lunch tax formula they call "supply-side" economics. President Reagan is seduced by the supply-siders' promise that he can pull off a seemingly impossible trifecta: cut taxes for the wealthy, spend more money to combat the 7 percent - and climbing - unemployment rate, and raise interest rates to stop inflation.

The central premise of supply-side is apparently that, by cutting marginal tax rates, the government can actually take in more tax revenue - since entrepreneurs will use the extra money on projects that will grow the economy. Reagan orders his budget director, David Stockman, to make the magic work. And Stockman goes to it with powerful enthusiasm and seemingly inexaustible self-confidence, ultimately convincing a skeptical Congress to give Reagan's tax-cutting budget the benefit of the doubt.

But the magic doesn't work after all. 1982 produces negative growth, unemployment continues to climb, and the Administration is embarrassed by Stockman's admission that the tax cut "was always a Trojan horse to bring down the top [tax] rate for the wealthy.... Supply-side is 'trickle-down' theory." By 1986 Stockman would be openly renouncing supply-side and declaring the 'Reagan revolution' a failure.

For more on the rise of the supply-siders, see this piece by Steve Kangas. What concerns us is the return of the supply-siders in the current administration. We knew that they were back, of course - it was supply-side theory that underpinned much of President Bush's argument for his first-term tax cuts. Now, with a fight shaping up in Congress over whether to renew the cuts, the trickle-downers are determined to convince us that they were right after all.

Larry Kudlow, praising Rudy Giuliani's endorsement of a flat tax (which endorsement was quickly rescinded), insisted that the Bush tax cuts had validated the Laffer Curve:

Tax receipts have absolutely boomed in the aftermath of President Bush’s 2003 tax rate reduction package. That’s a fact. As a consequence, the budget deficit has fallen substantially. Moreover, at lower marginal tax rates there’s a good chance the budget will be balanced in the next year or two, despite chronic overspending.

[...]

The older I get, the more militant I become on this subject. Lower tax rates do expand the economic pie. Lower tax rates do boost revenues. Art Laffer had it right, and he’s got twenty-five years of pro-growth evidence to back him up.

Speaking to the Heritage Foundation in January, Arthur Laffer celebrated Reagan's tax cuts - but didn't mention their failure to produce any actual economic benefit, nor the fact that Reagan's successors were forced to raise taxes again. (Read that Laffer lecture, by the way, if you want a window into the minds of people who openly revel in degraded minimum wages and declining unionization.) Meanwhile, Heritage Foundation analyst Brian Riedl has been striking back against what he calls "myths" about the Bush tax cuts. Riedl insists that the cuts were good for the economy:

Myth 9: The tax cuts haven't boosted the economy. Fact: The 2003 tax cuts lowered rates for income, capital gains and dividend taxes. Business investment, the stock market, job numbers and economic growth -- all of which had been stagnant -- immediately surged.

The Center for American Progress, by contrast, reported in November that the US economy has been seriously underperforming when compared to similar points in previous business cycles:

According to proponents of Bush’s economic policies, the tax changes that reduced corporate income taxes and personal income tax rates were supposed to increase overall investment.

By this criterion, Bush’s economic policies have failed. Business investment typically recovers strongly after recessions, averaging over 20 percent on average at this point in the business cycle. Investment during the current cycle has only increased 7.7 percent, ranking as only the eighth most successful cycle out of the ten cycles since 1948. Business investment has under performed all past cycles since 1957.

Meanwhile, inequality has deepened, the tax code has become significantly more regressive (despite the claims of tax cut supporters), and the cost of extending the tax cuts would be staggering.

That last paper, by the Center for Budget and Policy Priorities, reinforces the point made in the CAP report: supporters of the tax cuts are dishonestly using the business cycle as cover for their claim that the cuts worked:

Every recession in modern U.S. history has been followed by an economic expansion, regardless of whether taxes were cut, increased (as in the early 1990s), or left unchanged. The recent tax cuts were not responsible for the current recovery, just as the tax increases of 1990 and 1993 were not the reason the economy recovered from the downturn of the early 1990s, instead of remaining permanently stagnant.

Moreover, compared with other post-World War II recoveries, the current recovery is not an exceptional one, and by some measures is well below average.

Some of the original supply-siders, meanwhile, are growing uncomfortable with the demons their political Pandora's box released. Bruce Bartlett, who has not been shy about denouncing the Bush administration, published an op-ed in the Times last week complaining that the original, more narrowly conceived supply-side concept has turned into a kind of unhinged tax-cut mania:

Today, supply-side economics has become associated with an obsession for cutting taxes under any and all circumstances. No longer do its advocates in Congress and elsewhere confine themselves to cutting marginal tax rates — the tax on each additional dollar earned — as the original supply-siders did. Rather, they support even the most gimmicky, economically dubious tax cuts with the same intensity.

Bartlett argues that the original focus on carefully-targeted marginal tax cuts has been dumbed down into the mantra that, in President Bush's words, "You cut taxes and the tax revenues increase." According to Bartlett, the supply-siders never actually believed that cutting taxes would raise revenues: only that it wouldn't reduce revenues as much as Keynesian economists predicted it would. Bartlett insists that the supply-siders won, that Keynesianism has been discredited, that mainstream economists accept that high taxes limit economic growth - and that it's time to retire the old tax-cutting rhetoric, which is fighting battles that don't need to be fought.

If you're really interested in the economic debates, check out Mark Thoma's recent post on the Bartlett piece, which turns into a fascinating exchange among Thoma, Bartlett, and Paul Krugman, who objects to Bartlett's mischaracterizations of Keynesianism (and, implicitly, to the notion that we're all supply-siders now). In a larger sense, there may be some definition problems as to who or what really represents supply-side thinking. But there's no question that the intense tax-cutting rhetoric of the economic right has lost none of its self-righteous fury, even in the face of deficits, inequality, and the plain facts.

Labels: economic conservatives, supply-side, taxes

  ¶ Posted by Paul Curtis 9:52 AM