{"id":1154,"date":"2011-07-26T12:31:21","date_gmt":"2011-07-26T12:31:21","guid":{"rendered":"http:\/\/www.slyman.org\/blog\/?p=1154"},"modified":"2013-06-07T08:33:06","modified_gmt":"2013-06-07T08:33:06","slug":"reaganomics-and-prudent-taxation","status":"publish","type":"post","link":"https:\/\/slyman.org\/blog\/2011\/07\/reaganomics-and-prudent-taxation\/","title":{"rendered":"Reaganomics and Prudent Taxation"},"content":{"rendered":"

Many Americans today believe that tax revenues can be increased<\/em> by decreasing<\/em> tax rates; and that this works through stimulating GDP (Gross Domestic Product)<\/a> through competitive private enterprise, which increases taxable income, which increases tax revenues.  With several governments threatening debt default (including the United States of America); let's reflect on the legacy of Ronald Reagan and his economic policies, and see whether we can learn any lessons from the past that might help us now.<\/p>\n

Ronald Reagan once said,<\/p>\n

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“When a Republican dies and goes to heaven it looks a lot like Nassau County<\/a>”<\/p>\n<\/blockquote>\n

Let's take a look at what's happening in Nassau County<\/a> these days (link above<\/em>).  The county was recently heading toward bankruptcy, financially unbalanced by tax cuts enacted by a senior Tea Party executive.  Perhaps this is a local aberration—perhaps it's unfair for us to reinterpret Reagan's words in the hindsight of current events, when he was commenting on the state-of-affairs that existed in Nassau County during his<\/em> time.  Perhaps it was the Democrat, Thomas Suozzi<\/a>, who drove Nassau County over the edge before giving Ed Mangano a bad hand.  If so, you wouldn't know from looking at the figures:<\/p>\n

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“Just days before Suozzi's inauguration as Nassau County Executive in 2002, the Maxwell School of Public Affairs rated Nassau the “worst run county in the nation.”  Within his first year in office, Suozzi turned a $428 million deficit into a balanced budget, leading one of the most dramatic financial turnarounds in the country.”—Wikipedia<\/a><\/p>\n<\/blockquote>\n

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We've just examined one arguably atypical county, in isolation.  Let's look at some hard macroeconomic figures from the tenure of the last 13 presidents of the United States:<\/p>\n

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Historical Federal Receipt and Outlay Summary—TaxPolicyCenter.org<\/a><\/p>\n<\/blockquote>\n

TaxPolicyCenter.org has conveniently supplied figures in constant FY2005 USD<\/a> (normalised for inflation).  Even so, it's still hard to visualise a table of raw data like this, or to understand the connections between demographics, policy and economic results.  First, we'll deal with the old humbug that decreasing tax rates normally spurs GDP growth:<\/p>\n

\"Scatter<\/p>\n

There is a noticable positive<\/em> correlation between U.S. federal taxation rates and U.S. GDP growth rates, for the periods in question.  If we include figures from 1940–2010 inclusive, the few stray data points outside the main correlation series are cases where the United States was fighting large-scale wars funded by borrowing.  In other words, the central premise of so-called “Reaganomics<\/a>” is a fallacy: decreasing overall taxation rates from 18% decreases GDP growth rates and substantially decreases tax revenues from what they would otherwise have been (showing otherwise requires egregious cherry-picking of short-term data<\/em>).<\/p>\n

Based on the figures from TaxPolicyCenter.org that are normalised for inflation, here is a table of figures illustrating the fiscal discipline and economic results achieved by each U.S. president since 1940:<\/p>\n

\n\n\n\n\n\n\n\n\n\n\n\n\n\n\n\n
President
—Party<\/th>\n		Attributed
fiscal y.<\/th>\n		Annualised
surplus\/deficit<\/th>\n		Annualised
GDP growth<\/th>\n		Av.
Unempl.<\/th>\n<\/tr>\n
FR—D<\/td>\n1940–44<\/td>\n-17%<\/b><\/td>\n13%<\/td>\n-?-<\/td>\n<\/tr>\n
HT—D<\/b><\/td>\n1945–52<\/td>\n-2.5%<\/td>\n5.4%<\/b><\/td>\n≈4%<\/td>\n<\/tr>\n
DE—R<\/td>\n1953–60<\/td>\n-0.5%<\/td>\n0.7%<\/td>\n4.9%<\/td>\n<\/tr>\n
JK—D<\/b><\/td>\n1961–62<\/td>\n-1.0%<\/td>\n3.0%<\/b><\/td>\n6.1%<\/td>\n<\/tr>\n
LJ—D<\/b><\/td>\n1963–68<\/td>\n-1.1%<\/td>\n4.6%<\/b><\/td>\n4.4%<\/td>\n<\/tr>\n
RN—R<\/td>\n1969–74<\/td>\n-0.9%<\/td>\n1.8%<\/td>\n5.1%<\/td>\n<\/tr>\n
GF—R<\/td>\n1975–76<\/td>\n-3.8%<\/b><\/td>\n0.8%<\/td>\n8.1%<\/td>\n<\/tr>\n
JC—D<\/b><\/td>\n1977–80<\/td>\n-2.4%<\/td>\n3.1%<\/b><\/td>\n6.5%<\/td>\n<\/tr>\n
RR—R<\/td>\n1981–88<\/td>\n-4.2%<\/b><\/td>\n2.7%<\/td>\n7.5%<\/td>\n<\/tr>\n
GB—R<\/td>\n1989–92<\/td>\n-3.8%<\/b><\/td>\n1.8%<\/td>\n6.3%<\/td>\n<\/tr>\n
BC—D<\/b><\/td>\n1993–00<\/td>\n-0.6%<\/td>\n3.7%<\/b><\/td>\n5.2%<\/td>\n<\/tr>\n
GB—R<\/td>\n2001–08<\/td>\n-2.0%<\/b><\/td>\n1.9%<\/td>\n5.3%<\/td>\n<\/tr>\n
BO—D<\/td>\n2009–<\/td>\n-9.2%<\/b><\/td>\n-0.2%<\/td>\n≈9.1%<\/td>\n<\/tr>\n<\/table>\n<\/div>\n

Excepting times of emergency caused by foreign aggression, from 1940–2008, every Democratic president achieved >2% annualised GDP growth and increased the debt by less than GDP has grown; whereas every Republican president during the same period failed by this measure.<\/p>\n

While every U.S. president since 1940 has operated on deficit spending, a rapidly increasing GDP can compensate for the rising debt burden by increasing the United States' power to repay debts previously undertaken.  The key factor in deciding policy is whether GDP growth compensates for the deficit (net borrowing); and whether it is likely to continue compensating for budget deficits in the future.  Now let's look at the cumulative figures<\/span>—i.e., the current U.S. national debt:<\/p>\n

\"Graph<\/a><\/div>\n

In terms of budget deficit and GDP growth differential, President Ronald Reagan achieved poor results despite a demographic boost from post-WWII baby-boom children joining the workforce during his tenure in office<\/a> and a massive reduction in oil prices<\/a>.<\/p>\n

In the 1988 vice-presidential debate, Senator Lloyd Bensen (D-Tex) quipped:<\/p>\n

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“If you let me write $200 billion worth of hot checks every year, I could give you an illusion of prosperity, too.<\/a>”<\/p>\n<\/blockquote>\n

Why would President Reagan promote a theory he must have known<\/span> was unsustainable given the massive amounts of borrowing he was undertaking to fund his policies?  And why do Reagan's followers promote distorted versions of this ideology, as though harking back to a golden age?<\/p>\n

\"Colour-coded<\/div>\n

—President Ronald Reagan inherited a poor but improving economic situation from President Jimmy Carter, which Reagan's policies subsequently made worse in some important ways (especially for the poor).  Only after Reagan started reversing his tax cuts did the American economy begin to improve<\/a>.  Compare this with Bill Clinton's excellent economic performance<\/a> (a continuous period of broad-based economic growth interrupted only by a Republican-induced government shut-down<\/a>), and then further with the terrible results of George W. Bush's retrogressive policies beginning in 2001<\/a>, which have not yet been rectified by President Obama<\/span>.<\/span><\/p>\n

Perhaps Reagan's grand economic vision was just a political cover for his anti-competitive political, macroeconomic and military-industrial end-game policies against the Soviet Union—perhaps for him it was all part of a grand gambit.  Perhaps Reagan's strong dollar policy (which helped restore the dollar's credibility and restore international demand for the U.S. dollar as a reserve currency), along with the United States's increasing dependency on foreign credit, were a diplomatic manoeuvre giving foreign countries an interest in America's success as a further foil against Soviet expansionism, in preparation for more direct diplomatic overtures<\/a>.  Perhaps Reagan's increased military-industrial spending was designed to exploit Soviet paranoia so as to bankrupt the Soviet state<\/a>.  If so, the gambit worked and it's now time to implement a sustainable strategy—we can credit President Reagan with helping to end the cold war early, but not<\/em> with being some sort of economics prodigy.  It has been said of Communism that the theory is great as long as you don't have to deal with real people in the real world (where the system is prone to corruption through centralisation of power, and where nobody maintains anything because nobody owns it<\/em>).  Reagan's own tax ideology, taken to irrational extremes or repeated without re-evaluation, is no more sustainable than pure Communism.  No matter how we look at Reagan's tax policy, it was no economic panacea<\/em>.  Reducing tax can impede GDP growth<\/em>, especially in an industrialised nation with a sensible body of law and an overall taxation rate around 18%.<\/p>\n

How can reducing tax rates impede GDP growth?<\/h2>\n

If the tax ideology of the Mad Hatter's Tea-Party was correct, GDP growth rates, opportunities for ordinary people and perhaps even long-term tax revenues would all be monotonically decreasing functions<\/a> of tax rates, so that a tax rate of zero percent (or very little above zero) would most rapidly increase GDP ad infinitum<\/em> so as to optimise the economy.  This idea is obviously untrue.<\/p>\n

\"Theoretical<\/a><\/div>\n

It would be truer to suggest that for any given social culture and economic\/competitive & political\/policy environment (i.e., for any given nation at a particular point in time<\/em>), there is an optimal rate<\/em> of taxation— so that any rate significantly above this optimum will reduce tax revenues by reducing production incentives and impeding the innovation of the competitive private sector<\/span>, whereas reducing tax below the optimal rate will reduce both GDP growth and tax revenues<\/em> by reducing the proportion of private enterprise that is taxed, thereby:<\/p>\n

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  1. Frightening investors with high structural deficits<\/strong> and ultimately, defaulting on debts unless the situation is promptly rectified.<\/li>\n
  2. Making less resources available for helping innocent victims<\/a><\/strong> of the free market's foibles (who might otherwise attain financial independence as productive members of society) or stabilising the irrational herd instincts of free-market participants (necessary, for example, since throwing money at rich people in the middle of a crisis does not force them to trade it with the rest of us or take on new employees), or for levelling the economic playing-field<\/a> so that everyone believes that hard work is worthwhile for them.<\/li>\n
  3. \n

    Limiting the effectiveness of necessary regulation<\/strong>.  Ineffective regulation promotes harmful temporary “growth” in unsustainable industries that damage long-term growth by undercutting and displacing genuine market participants.  Unsustainable tax cuts encourage the development of speculative business ventures with little real merit to the world at large.  Lax regulation has been a major factor in every recent American financial crisis, including the latest and greatest financial disaster in living memory:<\/p>\n