My buddy from grad school, Steve Horwitz, has a column for CapX that looks at the argument over “trickle-down economics.” As he points out (and as captured by the semi-clever nearby image), this is mostly a term used by leftists to imply that supporters of economic liberty want tax cuts for the “rich” based on a theory that some of those tax cuts eventually will trickle down to the less fortunate.
People who argue for tax cuts, less government spending, and more freedom for people to produce and trade what they think is valuable are often accused of supporting something called “trickle-down economics.” It’s hard to pin down exactly what that term means, but it seems to be something like the following: “those free market folks believe that if you give tax cuts or subsidies to rich people, the wealth they acquire will (somehow) ‘trickle down’ to the poor.”
But Steve points out that no economist actually uses this argument.
The problem with this term is that, as far as I know, no economist has ever used that term to describe their own views. …There’s no economic argument that claims that policies that themselves only benefit the wealthy directly will somehow “trickle down” to the poor.
So why, then, do leftists characterize tax cuts as “trickle-down economics” when no actual advocate uses that term or that argument?
There are a couple of possible answers, one of which is malicious and one of which is mistaken.
- First, they’ve latched on to a politically effective way of characterizing tax cuts, so it’s understandable that they want to continue with that approach.
- Second, their argument for Keynesian economics actually is a version of trickle-down economics since the people who get money from so-called stimulus programs spend the money, which means it gradually trickles to other people (that part is true, but Keynesians fail to understand that government can’t inject money into the economy in this fashion without first taking money out of the economy by borrowing from private capital markets). And since they believe the economy is driven by people spending money (rather than people earning money) and having it trickle to other people, maybe they assume that advocates of tax cuts believe the same thing.
In reality, of course, proponents of lower tax rates are motivated by a desire to improve incentives for people to earn additional income with more work, more saving, and more investment. That’s the basic insight of supply-side economics. It has nothing to do with how they spend (or don’t spend) their income.
With that out of the way, I want to address the part of Steve’s column where he suggested that policies which benefit one group are never helpful to other groups.
I don’t think that’s worded very well. If we lower the capital gains tax on people making more than $10 million annually, that is a policy that obviously benefits only the rich, at least when looking at direct or first-order effects.
But the impact of less double taxation should boost economic performance, even if only by a modest amount, and that will benefit everyone in society.
By the way, this works both ways. If we do something that is particularly beneficial for the poor, such as cutting back on occupational licensing requirements, that presumably doesn’t generate any direct benefit for rich people. But they will gain (as will middle-class people) as the economy becomes more productive and efficient.
Steve understands this. He closes his column by making a very similar argument about the economy-wide benefits of more economic liberty.
…allowing everyone to pursue all the opportunities they can in the marketplace, with the minimal level of taxation and regulation, will create generalized prosperity. The value of cutting taxes is not just cutting them for higher income groups, but for everyone. Letting everyone keep more of the value they create through exchange means that everyone has more incentive to create such value in the first place, whether it’s through the ownership of capital or finding new uses for one’s labor.
Now that we’ve dispensed with the silly left-wing caricature of trickle-down economics, let’s discuss how there actually is a sensible way to think about the issue.
Way back in 1996, I gave a speech in Sweden about the impact of fiscal policy on economic growth (later reprinted as a Heritage Foundation publication).
As part of my comments, I spoke about the damaging impact of the tax code’s bias against saving and investment and explained that this lowered wages because of the link between the capital stock (machinery, technology, etc) and employee compensation.
I also quoted John Shoven, a professor at Stanford University who wrote a paper back in 1990 about this topic for the American Council for Capital Formation. And here we actually have an example of an economist using “trickle-down economics” in the proper sense.
The mechanism of raising real wages by stimulating investment is sometimes derisively referred to as “trickle-down” economics. But regardless of the label used, no one doubts that the primary mechanism for raising the return to work is providing each worker with better and more numerous tools. One can wonder about the length of time it takes for such a policy of increasing saving and investments to have a pronounced effect on wages, but I know of no one who doubts the correctness of the underlying mechanism. In fact, most economists would state the only way to increase real wages in the long run is through extra investments per worker.
Amen. Capital and labor are complementary goods, which means that more of one helps make the other more valuable.
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There are so many holes in this line of thinking, this guy should be running a donut shop. The rich will always hoard. I am not for all out Socialism, although if it always fails, then why does China own this entire planet? Capitalism has as many faults and creates more poverty. That is undeniable. But it is not this black and white. There can be regulated capitalism. Capping individual income at $10 million a year would not only force a trickle down, it would actually create a steady stream. I know the right wingers (the so-called party of Christians that love accumulating wealth and material possessions, ironic I know) will call it socialism, but then again they are so-called Christians. Wolves in sheep’s clothing.
When the middle, working class has money, they spend it. Usually paycheck to paycheck. That is the essence of what an economy is. That is what an economy would cheer for if it was a sports fan; more people with the ability to afford more things. The more people that earn a great living, the more goods and services they will be able to afford and purchase. It is no coincidence that nearly the past 40 yrs has seen ever increasing income inequality. Those tax cuts for the 1% and corporations, which hit its stride under the Reagan administration, is solely responsible for the hardships and another near great depression we have seen in recent years. What it really boils down to for staunch capitalists is greed and hatred. They do not want anyone having what they have or being able to live their lifestyle. When to the contrary, most people could care less about extreme wealth, they just want to be comfortable. The wealthy will not stand for this fair, and simple mindset that is common sense capitalism.
Create tax breaks for companies that have profit sharing with their employees. Encourage that profit sharing. It is simply common sense and the most “American” thing a business could do. Punish anyone that ships jobs overseas for cheap labor. Force them to keep those jobs in America. Close the loopholes that allow Americans to hide money overseas in order to avoid taxes in this “country they love so much”. Regulate the capitalism. The wealthy will stay wealthy; and the blood, sweat and tears crowd (majority of real Americans) will have their American dream.
Hillary Clinton propounds insidious trickledown economics. It sounds good to all too many people but it does not work and cannot work. Cannot work because it is totally out of sync with the dynamic of economic growth, prosperity and personal success.
Clinton’s notion of economic growth and prosperity is that the government takes wealth from Americans and Americans’ businesses, deducts a generous management fee, then trickles down the leftovers on the American people.
All this does is rob people of their wealth. It transfers a major portion of it from the productive economy into the nonproductive government bureaucracy, thus short circuiting the wealth creation and prosperity process.
Wealth does not trickle down from on high but springs up. Wealth creation and economic expansion are the result of purposeful individual human action born out of ambition, dreams, hard work and the desire to fill human needs.
This trickledown paradigm deceives people into believing that prosperity and success is something that is handed to them rather than something is brought forth through them. It can only produce stagnation, frustration and decline. But all is not lost. It sure can buy a lot of votes from struggling frustrated folks. The genius of this scheme is that folks can never get enough of the trickledown and are always looking for the next fix, as you can never get enough of what doesn’t work
Analogies are always simplification of real world activities. “Trickle-down” is an obvious pejorative to mock capitalism.
If you were to use the wine-glass analogy through the life of a company, you would conclude that “trickle-down” is way off the mark.
During start-up, the entrepreneur uses his or borrowed money to fund operations, so those at the bottom (suppliers, contractors, part-timers) are getting paid for their services, while he has nothing but risk.
During build-out, the entrepreneur does have a share of revenues, but still needs to meet the demands of his suppliers, so his glass is partially full while theirs is topped up.
During the mature phase, the entrepreneur’s glass is full and larger than the smaller glasses below, however, the wine is his glass is one quarter of the total amount in the glasses below. That is because companies do not tend to retain more than 20% of revenues as profits. Anything more is immediately reinvested in further growth.
In decline, those at the bottom, who still have jobs, are fully paid; while the entrepreneur feels the pinch.
Those using the “trickle-down” analogy are only looking at companies in their mature phase. Rewards during this phase must compensate the “winners” enough that others will try to emulate their success.
does not disrupt
Jay
The beauty of the capitalist system is that “cash” is never idle. Cash is a claim on resources. If, like Apple, someone keeps their money in a bank (as cash), the bank loans that claim on resources to someone else with more immediate needs, until the original owner reclaims the resources.
The profit motive directs available resources on to the next thing. Insurance will have to adapt, as will anyone who drives for a living. As long as prices are allowed to reflect the revised value of the resource, some new use will emerge.
I agree that disruption is coming and the current safety-net will be inadequate. That’s why I have promoted the Unconditional Basic Income as a replacement. One advantage is that a UBI does disrupt the market the way that welfare and minimum wage laws will.
Reblogged this on Elementary Politics News.
I applaud the attempt, but actual behavior doesn’t always follow theory. Apple has 100 billion in cash it is not going to invest it in new bridges or airports. It is also not going to invest it by giving all its employees huge pay raises or make them each so efficient through technology (capital improvements) that they each are now worth 200 times their current cost and are going to be given a large share of that efficiency in the form of pay raises. if they could increase this efficiency via technology they would cut their employment and keep the margin improvement. Taxation regardless of economic theorist is a redistribution of wealth applied by government to be spent on what the collective good deems (through our congress). That includes individual and corporate welfare. Yes, there are somethings that companies cannot garner enough capital to invest in or risk such as the transcontinental railroad (nor does the government/the people have a bunch of free land we bought cheap from the French or took from Mexico sitting around to give them as a reward for laying down tracks or something else). The point being we don’t have cheap ways to “invest” in enterprises like that anymore. Fundamentally, our productivity per man hour is the most important determinate of the economic health of this nation. We are not going to stop globalization or technology. I work in tech and there are whole industries moving toward realignment and extinction. Case in point, driverless cars–how does insurance companies fit into this when accidents are smaller than rounding errors in actuarial tables, who owns the vehicles (no car loans if manufacturers own them), what about accident attorneys, repair shops, delivery drivers, electric cars (no more gas stations). Let’s stop this nonsense of talking about increasing or cutting taxes at the top, the middle, or the bottom and start having a dialogue as a nation on what is important to us to prepare people for a future in which human labor is greatly diminished.
[…] Source: The Myth and Reality of Trickle-Down Economics | International Liberty […]