President Reagan is probably best known for three major accomplishments: rekindling the American spirit of entrepreneurship, defeating the Soviets in the Cold War leading to the eventual collapse of the USSR, and creating the most robust peacetime economic expansion in American history. In this posting, we’ll focus on topics more applicable to Reagan’s economic accomplishments. Reagan’s economic philosophy has been referred to by many names including Reaganomics and Supply Side Economics.
Arguably Reagan was dealing with a much more complex economic environment in 1980 than we have today. Reagan was faced with high unemployment, high inflation, high interest rates, a slow-growing economy and a high government deficit as a percentage of GDP. Today we primarily have high unemployment, a slow-growing economy and a high government deficit. However over the last two years the policies implemented by the Obama administration have not significantly reduced unemployment, have dramatically increased the government debt and have started to increase both inflation and interest rates. Note that inflation and interest rates were not a problem when Obama entered office.
During Reagan’s 8 years in office, the United States had the largest peacetime economic expansion in history along with creating approximately 35 million new jobs. President Reagan helped the U.S. achieve this economic boom through implementing sweeping economic reforms that contrary to the Keynesian economic policies of the liberals in Congress at the time (and Obama today). Reagan stated, “Government’s view of the economy could be summed up in a few short phrases: If it moves, tax it. If it keeps moving, regulate it. And if it stops moving, subsidize it.” His solution to our economic malaise would be to correct those three governmental behaviors. Reagan’s approach would include implementing across-the-board tax cuts, simplified government regulations, and sound monetary policies.
Reagan’s trademark tax policy was based upon the Laffer Curve. This concept made popular by Professor Laffer explained why high tax policies never maximize revenue to the federal government. Liberal tax policies assume in order to raise revenue all the government needs to do is to increase tax rates. Of course they assume that individuals wouldn’t adjust their behavior in response to the tax increase. This failed assumption ultimately causes their tax increase to fail to create more revenue for the government and acts as an anchor around the waist of the economy. The concept of the Laffer Curve acknowledges that individuals will alter their behavior in response to tax policy. Laffer identifies an ideal marginal tax rate that maximizes revenue and economic growth. As the rate goes higher, the economy doesn’t grow as fast and individuals choose not to work harder because too much of their additional income is taken in taxes. As the tax rate goes materially lower, the marginal revenue to the government is decreased because the additional stimulus to the economy of the tax cut is less than the percentage decrease in taxes.
Reagan found that equilibrium of the Laffer Curve existed at about the 28% marginal tax rate. Thus as part of the turnaround, President Reagan would reduce the maximum marginal tax rate for individuals and corporations to 28%. Reagan would also simplify the tax code again by eliminating many of the tax loopholes and exemptions. At the same time, he would help the lower-income families by increasing the personal exemption, the standard deduction, and the earned income tax credit (EITC). Although the liberals always whine every time taxes our cut, these approaches when previously implemented by Reagan doubled federal tax revenues from $517 billion in 1980 to more than $1 trillion in 1990.
In the area of deregulation, Reagan would primarily unwind many of the regulations created by Congress since he left office. Reagan believed in keeping federal regulations simple and enforceable. Reagan also believed in shifting most regulations to the States. This new Federalism would have the Federal government impact policies through block grants of funds to the states which allowed each state to decide how to implement their own programs. This approach would be a more effective way to address healthcare (including Medicare and Medicaid), illegal immigration, and environmental health and safety issues. During Reagan’s two terms his administration cut the Federal Register of regulations to almost half the size it was when he was inaugurated. Since the Federal Register has swollen beyond the size that it was when Reagan entered office in 1980, clearly his objective would be to reduce the complexity in those regulations by at least half. With simplified regulations, the government could more effectively actually enforce these policies and avoid disasters like the Dodd/Frank Fannie Mae/Freddie Mac meltdown in 2008.
In the area of monetary policy, Reagan would also make major changes which would require replacing the current Chairman of the Federal Reserve. Reagan would support the reduction of the current authority of the Federal Reserve including implementing an annual audit of the FED. We would see a return to the taxpayers of the unused TARP funds and a stop of the Quantitative Easing programs by the FED. In addition, Reagan would encourage the FED to slow the growth of the money supply to head off the tsunami of inflation that is building under Obama’s policies. Of course some of these monetary moves will cause a short-term economic adjustment and downturn while the economy settles to a normal pricing equilibrium free of the manipulation by the federal government. However the increase in the stability of the U.S. Dollar and heading off of major inflation problems will lead to a huge influx of investment and capital into the United States which will more than offset the short-term economic adjustment.
Although Reagan had his detractors at the time and we would have them again today, President Reagan’s policies created growth that lasted for 92 months without a recession. During this period of unprecedented growth, Reagan dramatically decreased unemployment, reduced interest rates and reduced inflation. The foundation of all of Reagan’s economic policies was his belief in the power of the individual. It is the individual, not the government, who creates all jobs, all growth, and all value in our economy. As Reagan said, “There are no constraints on the human mind, no walls around the human spirit, no barriers to our progress except those we ourselves erect.” Wouldn’t it be great to again have a President who has more faith in us than he has in the government bureaucracy?