Why were the Reagan tax cuts so successful? Why did the economy rebound so dramatically from the malaise of the 1970s?
The easy answer is that we got better tax policy, especially lower marginal tax rates on personal and business income. Those lower rates reduced the “price” of engaging in productive behavior, which led to more work, saving, investment, and entrepreneurship.
That’s right, but there’s a story behind the story. Reagan’s tax policy (especially the Economic Recovery Tax Act of 1981) was good because the President and his team ignored the class-warfare crowd. They didn’t care whether all income groups got the same degree of tax relief. They didn’t care about static distribution tables. They didn’t care about complaints that “the rich” benefited.
They simply wanted to reduce the onerous barriers that the tax system imposed on the economy. They understood – and this is critically important – that faster growth was the best way to help everyone in America, including the less fortunate.
Kimberley Strassel of the Wall Street Journal thinks that Donald Trump may be taking the same approach. Her column today basically argues that the President is making a supply-side case for growth. She starts by taking a shot at self-styled “reform conservatives.”
In May 2014, a broad collection of thinkers and politicians gathered in Washington to celebrate a new conservative “manifesto.” The document called for replacing stodgy old Reaganite economics with warmer, fuzzier handouts to the middle class.
She’s happy Trump isn’t following their advice (and I largely agree).
Donald Trump must have missed the memo. …Mr. Trump wants to make Reagan-style tax reform great again.
The class-warfare crowd is not happy about Trump’s pro-growth message, Kimberley writes.
The left saw this clearly, which explains its furious and frustrated reaction to the speech. …Democratic strategist Robert Shrum railed in a Politico piece that the “plutocrat” Mr. Trump was pitching a tax cut for “corporations and the top 1 percent” yet was getting away with a “perverted populism.” …Mr. Trump is selling pro-growth policies—something his party has forgotten how to do. …The left has defined the tax debate for decades in terms of pure class warfare. Republicans have so often been cast as stooges for the rich that the GOP is scared to make the full-throated case for a freer and fairer tax system. …Mr. Trump isn’t playing this game—and that’s why the left is unhappy. The president wants to reduce business tax rates significantly… He wants to simplify the tax code in a way that will eliminate many cherished carve-outs. …his address was largely a hymn to supply-side economics, stunning Democrats who believed they’d forever dispelled such voodoo. …Mr. Trump busted up the left’s class-warfare model. He didn’t make tax reform about blue-collar workers fighting corporate America. Instead it was a question of “our workers” and “our companies” and “our country” competing against China. He noted that America’s high tax rates force companies to move overseas. He directly and correctly tied corporate rate cuts to prosperity for workers, noting that tax reform would “keep jobs in America, create jobs in America,” and lead to higher wages.
Amen. That’s the point I made last week about investment being the key to prosperity for ordinary people.
Ms. Strassel concludes by putting pressure on Congress to do its job and get a bill to the President’s desk.
His opening salvo has given Republicans the cover to push ahead, as well as valuable pointers on selling growth economics. If they can’t get the job done—with the power they now have in Washington—they’d best admit the Democrats’ class-warfare “populism” has won.
I largely agree with Kimberley’s analysis. Trump’s message of jobs, growth, and competitiveness is spot on. His proposal for a 15 percent corporate rate would be very good for the economy. And I also agree with her that it’s up to congressional Republicans to move the ball over the goal line.
But I also think she’s giving Trump too much credit. As I point out in this interview, the Administration isn’t really playing a major role in the negotiations. The folks on Capitol Hill are doing the real work while the President is waiting around for a bill to sign.
Moreover, I’ve been repeatedly warning that there are some very difficult issues that Congress needs to decide.
Since big companies will benefit from a lower corporate rate, will there be similar tax relief for small businesses that file using “Schedule C” of the individual income tax? That’s a good idea, but there are big revenue implications.
Since Republicans (and this definitely includes Trump) are weak on spending, will they achieve deficit neutrality (necessary for permanent reform) by eliminating loopholes? That’s a good idea, but interest groups will resist.
Unfortunately, the White House isn’t offering much help on these issues. The President simply wants big tax cuts and is leaving these tough decisions to everyone else.
P.S. I should have been more specific in the interview. I said we would have a flat tax in my “fantasy world” but that I would settle for partial reform in my “ideal world.” I was grading on a curve, so I want to redeem myself. Here’s how things really rank.
- Fantasy World: A central government so small (like the Founders envisioned) that we don’t need any broad-based tax. In other words, we can get rid of the income tax and replace it with nothing.
- Ideal World: We replace the convoluted, punitive, and corrupt internal revenue code with a simple and fair flat tax.
- Sad Reality World: I’ll accept the scraps off the legislative table, but my fingers are crossed that we at least get some permanent, supply-side reforms.
P.P.S. I’m very hopeful that lawmakers will get rid of the deduction for state and local taxes. Not only would that provide some revenue that can be used for pro-growth changes, but it also would get rid of a very unfair distortion that enables higher taxes in states such as Illinois, California, New York, New Jersey, and Connecticut.
P.P.P.S. I have no objection to family-oriented tax relief and other policies that target middle-class taxpayers. Such provisions are politically useful since they expand the coalition of supporters. But I want policy makers to understand that economic growth is the best way of helping everyone – including the poor. That’s why supply-side provisions should be the primary focus of any tax package.
P.P.P.P.S. The class-warfare crowd doesn’t like lower tax rates on upper-income taxpayers. They argue that rich people won’t pay enough and that the government will be starved of revenue. Yet they have no answer when I show them this IRS data. Or this data from the United Kingdom. Or this data from France.
P.P.P.P.P.S. Notwithstanding the title of today’s column, I don’t think Trump is a principled supply-sider like Reagan. But it might be accurate to say he’s a practical supply sider like President John F. Kennedy.
[…] my decades of trying to educate policy makersabout the downsides of class-warfare tax policy, I periodically get hit with the argument that high […]
[…] my decades of trying to educate policymakers about the downsides of class-warfare tax policy, I periodically get hit with the argument that high […]
[…] core principle is that taxes create distortions by reducing demand and supply. Which is why it’s not a good idea to impose high tax rates on behaviors that contribute to prosperity, such as work, saving, […]
[…] my decades of trying to educate policymakers about the downsides of class-warfare tax policy, I periodically get hit with the argument that high […]
[…] my decades of trying to educate policymakers about the downsides of class-warfare tax policy, I periodically get hit with the argument that high […]
In other words, the wealth of nations takes time to build, but is enormous. Redistribution is immediate but ultimately corrosive to growth.
What will the voter-lemming choose?
Politicians largely adapt to that reality — and the reality that big government benefits their profession even though it ultimately condemns the nation.
If voters want people to sell them the pipe dream of both redistribution and high growth, then they will find such politicians, pick them out of obscurity, and elevate them to high office. Amongst a pool of three hundred million brains, voters will even find politicians who do truly believe in that pipe dream. That wrong pipe dream. And so voters will ultimately sleep in the bed they make.
Rare is the electorate that does not fall for this standard pipe dream. That is why more intelligent people need to stay mobile.
Redistribution=A fixed factor, ultimately limited to be less than one (with one being complete communist taxation).
Growth=A virtually infinite, exponentially compounding factor.
What wins in simple arithmetic?
Look at the very different trajectory of those who save and invest (that is, they participate in growth) vs those who spend it all (that is, they go for the fixed factor).
By the way, virtually every American can save and invest. It’s more a matter of attitude, rather than income. It is not only the proverbial millionaire next door. There are billions of people throughout the world that save on incomes much smaller than the average American income (PPP income too).
But even those who do not save, or never plan to, can still benefit greatly from national growth — if they can just let go of the redistribution and envy — a very difficult feat indeed — if they can just postpone immediate redistribution for infinitely compounding higher growth and start understanding the simple arithmetic of exponents dwarfing fixed factors in the mid-long term.
Dan, you are right on the money, as usual.
PLEASE add to this analysis. The Trump/GOP proposals fail in one critical respect than can and should be remedied before enactment.
Trump/GOP proposals would double the Standard Deduction (and possibly increase the Child Tax Credit).
This would REDUCE even further the already endangered minority of people who pay ANY income tax (48%) and worse, the top quintile who pay an astounding 88% of the individual Income Tax (while earning only 53% of all the income).
Instead, we MUDT begin to INCREASE the Income Taxpaying group by pahsing out 1) the Standard, Deduction, 2) ALL itemized Deductions, 3) The deduction for Personal Exemptions, 4) especially all Refundable Tax Credits, as well as 5) the exclusion of the cost of employer-provided hrealth insurance.