Prosperity and Taxation: What Can We Learn from the 1920s?

Last November, I wrote about the lessons we should learn from tax policy in the 1950s and concluded that very high tax rates impose a very high price.

About six months before that, I shared lessons about tax policy in the 1980s and pointed out that Reaganomics was a recipe for prosperity.

Now let’s take a look at another decade.

Amity Shlaes, writing for the City Journal, discusses the battle between advocates of growth and the equality-über-alles crowd.

…progressives have their metrics wrong and their story backward. The geeky Gini metric fails to capture the American economic dynamic: in our country, innovative bursts lead to great wealth, which then moves to the rest of the population. Equality campaigns don’t lead automatically to prosperity; instead, prosperity leads to a higher standard of living and, eventually, in democracies, to greater equality. The late Simon Kuznets, who posited that societies that grow economically eventually become more equal, was right: growth cannot be assumed. Prioritizing equality over markets and growth hurts markets and growth and, most important, the low earners for whom social-justice advocates claim to fight.

Amity analyzes four important decades in the 20th century, including the 1930s, 1960s, and 1970s.

Her entire article is worth reading, but I want to focus on what she wrote about the 1920s. Especially the part about tax policy.

She starts with a description of the grim situation that President Harding and Vice President Coolidge inherited.

…the early 1920s experienced a significant recession. At the end of World War I, the top income-tax rate stood at 77 percent. …in autumn 1920, two years after the armistice, the top rate was still high, at 73 percent. …The high tax rates, designed to corral the resources of the rich, failed to achieve their purpose. In 1916, 206 families or individuals filed returns reporting income of $1 million or more; the next year, 1917, when Wilson’s higher rates applied, only 141 families reported income of $1 million. By 1921, just 21 families reported to the Treasury that they had earned more than a million.

Wow. Sort of the opposite of what happened in the 1980s, when lower rates resulted in more rich people and lots more taxable income.

But I’m digressing. Let’s look at what happened starting in 1921.

Against this tide, Harding and Coolidge made their choice: markets first. Harding tapped the toughest free marketeer on the public landscape, Mellon himself, to head the Treasury. …The Treasury secretary suggested…a lower rate, perhaps 25 percent, might foster more business activity, and so generate more revenue for federal coffers. …Harding and Mellon got the top rate down to 58 percent. When Harding died suddenly in 1923, Coolidge promised to “bend all my energies” to pushing taxes down further. …After winning election in his own right in 1924, Coolidge joined Mellon, and Congress, in yet another tax fight, eventually prevailing and cutting the top rate to the target 25 percent.

And how did this work?

…the tax cuts worked—the government did draw more revenue than predicted, as business, relieved, revived. The rich earned more than the rest—the Gini coefficient rose—but when it came to tax payments, something interesting happened. The Statistics of Income, the Treasury’s database, showed that the rich now paid a greater share of all taxes. Tax cuts for the rich made the rich pay taxes.

To elaborate, let’s cite one of my favorite people. Here are a couple of charts from a study I wrote for the Heritage Foundation back in 1996.

The first one shows that the rich sent more money to Washington when tax rates were reduced and also paid a larger share of the tax burden.

And here’s a look at the second chart, which illustrates how overall revenues increased (red line) as the top tax rate fell (blue).

So why did revenues climb after tax rates were reduced?

Because the private economy prospered. Here are some excerpts about economic performance in the 1920s from a very thorough 1982 report from the Joint Economic Committee.

Economic conditions rapidly improved after the act became law, lifting the United States out of the severe 1920-21 recession. Between 1921 and 1922, real GNP (measured in 1958 dollars) jumped 15.8 percent, from $127.8 billion to $148 billion, while personal savings rose from $1.59 billion to $5.40 -billion (from 2.6 percent to 8.9 percent of disposable personal income). Unemployment declined significantly, commerce and the construction industry boomed, and railroad traffic recovered. Stock prices and new issues increased, with prices up over 20 percent by year-end 1922.8 The Federal Reserve Board’s index of manufacturing production (series P-13-17) expanded 25 percent. …This trend was sustained through much of 1923, with a 12.1 percent boost in GNP to $165.9 billion. Personal savings increased to $7.7 billion (11 percent of disposable income)… Between 1924 ‘and 1925 real GNP grew 8.4 percent, from $165.5 billion to $179.4 billion. In this same period the amount of personal savings rose from an already impressive $6.77 billion to about $8.11 billion (from 9.5 percent to 11 percent of personal disposable income). The unemployment rated dropped 27.3 percents interest rates fell, and railroad traffic moved at near record levels. From June 1924 when the act became law to the end of that year the stock price index jumped almost 19 percent. This index increased another 23 percent between year-end 1924 and year-end 1925, while the amount of non-financial stock issues leapt 100 percent in the same period. …From 1925 to 1926 real GNP grew from $179.4 billion to $190 billion. The index of output per man-hour increased and the unemployment rate fell over 50 percent, from 4.0 percent to 1.9 percent. The Federal Reserve Board’s index of manufacturing production again rose, and stock prices of nonfinancial issues increased about 5 percent.

Now for some caveats.

I’ve pointed out many times that taxes are just one of many policies that impact economic performance.

It’s quite likely that some of the good news in the 1920s was the result of other factors, such as spending discipline under both Harding and Coolidge.

And it’s also possible that some of the growth was illusory since there was a bubble in the latter part of the decade. And everything went to hell in a hand basket, of course, once Hoover took over and radically expanded the size and scope of government.

But all the caveats in the world don’t change the fact that Americans – both rich and poor – immensely benefited when punitive tax rates were slashed.

P.S. Since Ms. Shlaes is Chairman of the Calvin Coolidge Presidential Foundation, I suggest you click here and here to learn more about the 20th century’s best or second-best President.

P.P.S. I assume I don’t need to identify Coolidge’s rival for the top spot.

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Four (Past) Presidents Debunk the Case for Higher Taxes

I’m currently in Iceland for a conference organized by the European Students for Liberty. I spoke earlier today on the case for lower taxes and I made six basic points.

• Taxes undermine prosperity.
• Taxes reduce competitiveness.
• Taxes are self-destructive.
• Taxes are unfair and corrupt.
• Taxes are immoral.
• Taxes “feed the beast.”

Sadly, not everyone agrees with my views, either in Iceland or the United States.

Regarding the latter, Robert Samuelson expressed a contrary position last month when writing about the tax debate in the Washington Post.

…we need higher, not lower, taxes. …We are undertaxed. Government spending, led by the cost of retirees, regularly exceeds our tax intake.

After reading his column, I thought about putting together a detailed response. I was especially tempted to debunk the carbon tax, which is his preferred way of generating additional tax revenue.

But then it occurred to me that could make an “appeal to authority.” In my Iceland presentation today, I cited very wise words from four former presidents on tax policy. And their statements are all that we need to dismiss Samuelson’s column.

We’ll start with Thomas Jefferson, who argues for small government and against income taxation.

We then take a trip through history so we can see what Grover Cleveland said about the topic.

Simply stated, he viewed any taxes – above what was needed to finance a minimal state – as “ruthless extortion.”

The great Calvin Coolidge said the same thing about four decades later.

Highly underrated president
byu/Dovister inLibertarian

Last but not least, the Gipper addresses Samuelson’s point about the difference between taxes and spending.

Reagan is right, of course. The burden of federal spending is the problem whether looking at pre-World War II data or post-World War II data.

Four good points of view from four good Presidents.

The only missing component is that I need to find a President who correctly explains that higher taxes will lead to higher spending and more red ink.

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Forget Reagan, Let’s Bring Back Coolidge

As you can see here and here, I’m a huge fan of Ronald Reagan.

But it’s not just that the Gipper had good rhetoric. He also did a decent job of restraining spending and he significantly lowered marginal tax rates.

Combined with other pro-market reforms and his stalwart willingness to rein in inflation, as well as the fact that his policies led to the collapse of the evil Soviet Empire, I don’t think it’s an exaggeration that Reagan saved America.

That being said, he may not be the greatest president of the 20th century.

I’ve already shared a famous Calvin Coolidge video to show he said the right things. But, even more important, he did the right things.

Here’s some of what Amity Shlaes wrote about Coolidge for today’s Wall Street Journal.

…while Reagan inspired and cut taxes, he did not reduce the deficit. He did not even cut the budget. But if you look back, past Dwight Eisenhower and around the curve of history, you can find a Republican who did all those things: Calvin Coolidge. …The 30th president cut the top income-tax rate to 25% (lower than the 28% of the historic Reagan cut of 1986). Coolidge reduced the national debt and balanced the budget. When he departed the White House for his home in Northampton, Mass., he left a federal budget smaller than the one he found. …”I am for economy, and after that I am for more economy,” Coolidge told voters… The jovial Harding had vetoed only six bills. Coolidge vetoed 50. “It is much more important to kill bad bills than to pass good ones,” Coolidge once advised his father.

That last sentence should be repeated as often as possible. Indeed, it’s the reason why I mocked USA Today for calling Congress unproductive.

Since I’m guessing more than 90 percent of legislation undermines our liberty, we’re far better off when lawmakers do nothing.

Anyhow, you won’t be surprised to learn that the Gipper appreciated Coolidge.

President Reagan recognized Coolidge’s achievement, and upon taking office in 1981 he had a neglected Coolidge picture restored to a place of honor near Lincoln and Jefferson in the Cabinet Room.

And if you want to see some evidence of Coolidge’s superb economic stewardship, here’s a look at what happened with both economic output and the burden of government spending.

One final point. Just like Reagan was far from perfect, the same is true of Coolidge. I’ve never studied the economics of the 1920s, but it seems likely that some of the policies of that decade (perhaps excess credit expansion by the Federal Reserve?) helped set the stage for an economic downturn.

Though it’s also clear that the statist policies of Hoover and Roosevelt turned the downturn into a Great Depression.

Bush and Obama are sort of the modern version of Hoover and Roosevelt, though fortunately not nearly as bad.

Obama, for instance, raised the top tax rate from 35 percent to 39.6 percent as part of his class-warfare agenda. Hoover, by contrast, boosted the top rate from 25 percent to 63 percent and FDR then pushed it to 77 percent.

P.S. I already gave Amity’s new book on Coolidge a plug as part of my post about the flat tax-sales tax debate at Hillsdale. But in case you didn’t get the hint, here’s where you can order it.

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Can You Name the Greatest President of the Past 100 Years?

It’s tempting to say Ronald Reagan is the best President of the past century, and I’ve certainly demonstrated my man-crush on the Gipper, but earlier today at the Mont Pelerin Society (it’s currently Friday night in Australia) I had the privilege of listening to Amity Shlaes of the Council on Foreign Relations make the case for Calvin Coolidge.

So I dug around online and found an article Amity wrote for Forbes, which highlights some of the attributes of “Silent Cal” that she mentioned in her speech. As you can see, she makes a persuasive case.

… the Coolidge style of government, which included much refraining, took great strength and yielded superior results. …Coolidge and Mellon tightened and pulled multiple times, eventually getting the top rate down to 25%, a level that hasn’t been seen since. Mellon argued that lower rates could actually bring in greater revenues because they removed disincentives to work. Government, he said, should operate like a railroad, charging a price for freight that “the traffic will bear.” Coolidge’s commitment to low taxes came from his concept of property rights. He viewed heavy taxation as the legalization of expropriation. “I want taxes to be less, that the people may have more,” he once said. In fact, Coolidge disapproved of any government intervention that eroded the bond of the contract. …More than once Coolidge vetoed what would later be called farm allotment–the government purchase of commodities to reduce supply and drive up prices. …Today our government has moved so far from Coolidge’s tenets that it’s difficult to imagine such policies being emulated.

But if you don’t want to believe Amity, here’s Coolidge in his own words. This video is historically significant since it is the first film (with sound) of an American President. The real value, however, is in the words that are being said.

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