Three days ago I posted on part of Bruce Bartlett’s excellent chapter, “The Rise and Fall of Supply-Side Economics,” in his book, The New American Economy. I promised to get to the fall part.
First, though, there’s more interesting content on the “rise” that gives context to the “fall” part.
On deadweight loss from the the tax system, he cites work by Marty Feldstein and Ian Parry that finds a 30+ percent deadweight loss.
On taxation more generally, he documents the increasing consensus among tax economists in favor of lower marginal tax rates, elimination of special tax provisions that bias investment decisions, lower or zero taxes on capital, and a shift toward taxing consumption. My Hoover colleague and friend Ken Judd, a tax economist who’s a registered Democrat, told me that he was at a meeting of tax economists at the Treasury which many of the leading tax economists in the country attended, and you couldn’t tell from people’s comments whether they had an R or a D after their name. Bartlett also quotes my favorite quote from Bob Lucas on the subject:
The supply side economists, if that is the right term for those whose research we have been discussing, have delivered the largest genuinely free lunch that I have seen in 25 years of this business, and I believe we would be a better society if we followed their advice.
Even the Laffer curve, which Paul Samuelson ridiculed, has become “a generally accepted analytical device.” Bartlett also points to studies by the IMF confirming its relevance for tax rates on incomes and on trade.
There’s now agreement that hours worked are more responsive to marginal tax rates than economists used to think. Bartlett doesn’t mention this but this is especially true for married women, who tend to make all-or-nothing decisions about hours worked for pay.
Bartlett even quotes Paul Krugman in 1995 pointing out that the idea of “dynamic scoring,” that is, taking account of the effect of changes in tax rates on the size of the base being taxed, is reasonable.
The consensus on the damage done by high marginal tax rates even carries over to politicians and policy makers. As I put it in a 1989 article, “Are We All Supply-Siders Now?” in Contemporary Policy Issues, “a supply-side revolution has occurred in tax policymakers’ thinking.”
In the footnote in which he backs his claim that the Laffer curve is a generally accepted analytical device, he quotes work from Austin Goolsbee, now with the Obama administration. But I seem to recall Goolsbee, in a CNBC interview during the 2008 presidential campaign, pooh-poohing the negative effects of Obama’s proposed increase in marginal tax rates.
Now to the fall of supply-side economics. Bartlett’s case is two-fold. And half of it makes sense.
The part of it that makes sense is his argument that supply-side economics is so much a part of mainstream thought that it doesn’t need to be thought of as a separate school of thought. Although he doesn’t put it in these words, my words for his thought are, “Supply-siders who continue to push the term are simply engaging in product differentiation and trying to pick fights instead of taking yes for an answer.”
The part that doesn’t make sense is his example of George W. Bush as a person who oversold supply-side economics. Bartlett’s own facts show that Bush missed the fundamental insight about supply-side economics, which is the importance of getting marginal rates down. As Bartlett notes, “Bush himself was responsible for watering down the supply-side elements.” Doubling the child credit, in particular, is the opposite of a supply-side policy. Bartlett writes, correctly, “the vast bulk of Bush’s tax cuts in dollar terms involved rebates and tax credits that had no supply-side effects whatsoever.”
I agree with Bruce that Bush watered down supply-side economics and falsely claimed both that his tax cuts were mainly supply-side and that they would increase revenues. But all that means is that Bush was a lousy exemplar and a charlatan. That’s hardly an argument against supply-side economics. To take an example not entirely at random, if a new president is elected who says that he wants to get the U.S. out of Iraq, and then fails to do so, is that an argument that getting out of Iraq is a bad idea?
READER COMMENTS
Tom
May 21 2010 at 10:58am
“But I seem to recall Goolsbee, in a CNBC interview during the 2008 presidential campaign, pooh-poohing the negative effects of Obama’s proposed increase in marginal tax rates.”
Just as Christina Romer has changed her view on the multiplier effect. She went to publishing papers suggesting a 7% multiplier to promoting a 30-50% multiplier.
At least with Bush, the advisers, like Mankiw, told one story before, during, and after their stints in the White House.
AaronG
May 21 2010 at 11:17am
David,
Thanks for the posts on Bartlett’s book. I hope you’ll do a few more. I have a few questions/quibbles about this one:
1. You say Paul Samuelson ridiculed the Laffer curve. Could you elaborate on that? Surely he would agree that a 0% marginal tax rate and a 100% marginal tax rate would generate the same revenue except over the very short term. Since intermediate rates empircally generate positive revenue, there have to be portions of the tax rate-tax revenue curve with negative slope. Was he disputing the size of the dead-weight losses? Did he believe that even at the 70% marginal rates of the 70s that the wealthy would have only a weak dynamic response to changing tax rates?
2. You talk about Bush watering down supply side economics with his tax rebates and credits. I don’t remember those policies being sold using supply-side arguments. The rebates especially, in my recollection, were sold more on Keynesian arguments.
3. Your analogy to Barack Obama and the Iraq war policy doesn’t seem very strong. The difference in Obama the candidate’s and Obama the president’s stance on the war doesn’t require that Obama the candidate was a liar. It seems more likely that Barack the president got more information that led him (like most of the other insiders) to believe that pulling American troops out of Iraq at this point would be more damaging that keeping them there. As outsiders, we will never be sure whether Obama the candidate was a liar or naive unless he admits to being a liar. In your story, Bush must have been lying if he sold his tax policies on supply-side grounds.
Norman Pfyster
May 21 2010 at 1:28pm
I would agree with Aaron that your Obama-Iraq analogy doesn’t carry the weight you want it to; it’s at least as reasonable to see the gap between pre-office and in-office positions as evidence that the pre-office position was in fact wrong. You can, of course, reconcile the two positions by noting that with no Americans dying in Iraq, the cost side of the analysis to stay has decreased from previous time periods.
John Thacker
May 21 2010 at 3:55pm
Bruce Bartlett has, I’m afraid, let politics and his private opinions distort his views. I say this because of his loud but incorrect insistence to me that no Democrats voted for Medicare Part D.
What’s worse, he started out (correctly, in my view) attacking Bush and Republicans for flaws in Medicare Part D, and then attacked Republicans recently for not voting for Obamacare. In the latter case, he used exactly the same arguments that Bush, Frum, and other Administration types used in pushing Medicare Part D (largely the “if you don’t get behind this and make it slightly better, something worse will pass.”)
Doc Merlin
May 22 2010 at 12:02am
Macroeconomic orthodoxy follows political power, now the new boss (and congress since 2006) isn’t a supply sider, this the supply siders are out.
mulp
May 22 2010 at 3:18am
Well, we know from Reagan to Clinton to Bush that tax rates are not “over the Laffer hump” because Clinton’s tax hikes increased tax revenue from Reagan’s, and Bush’s tax cuts reduced tax revenues.
I am still waiting for the Bush tax cuts which did cut marginal rates, to create jobs and a better economy relative to the higher Clinton marginal rates.
And as short term capital gains affects only speculators – capitalists accumulate productive capital to reap the returns – the reduced capital gains tax rates in 1997 and under Bush did have the supply side effect of increasing the pump and dump asset price inflation. Spurred on by the tax exemptions on interest, plus the low tax rates for hedge funds to seek capital gains for highly leveraged high risk investments.
Give the high marginal rates on labor compared to the lower rates on pump and dump, it should be no surprise that the decade after 1997 was marked by reduced labor and increased pump and dump.
As a rough measure, here are the employment-population rations and Federal tax revenues for the Clinton and Bush years side by side:
61.5% 17.32% 64.3% 19.36%
62.1% 17.77% 62.8% 17.42%
63.1% 18.23% 62.4% 16.00%
63.0% 18.54% 62.2% 15.84%
63.6% 18.96% 62.4% 17.04%
64.0% 19.58% 63.1% 17.97%
64.2% 19.54% 63.4% 18.24%
64.6% 20.35% 62.7% 17.48%
The Clinton tax hikes in 1993 (on top of the Bush 1990 tax hikes) both increased employment and tax revenue, while the Bush tax cut after tax cut after tax cut after tax cut reduced tax revenue and employment.
And the economy isn’t doing so well with the real marginal rates low for so many, low for the low income workers, and low for the high income earners who pay lower tax rates than middle and upper income wage earners who pay the highest tax rates. But their tax rates are lower now than when Clinton was president and more people were employed.
Steve P
May 22 2010 at 12:16pm
mulp,
Aren’t you neglecting the huge tax cut during the Clinton years that took the form of NAFTA? I’m not sure that Clinton was a net tax raiser as you are implying.
Charlie
May 23 2010 at 4:34am
From Henderson article:
“x percent cut in tax rates walkthrough its effect on the incentive to work, to save and invest, and to avoid and evade taxes-lead to much less than an x percent cut, and perhaps even to an increase, in tax revenues.”
I haven’t read the book, but I heard Bartlett speak in 2005 at a Heritage forum for staffers on the hill. He seemed to think a “supply-sider” at the time was someone who emphasized that tax cuts pay for themselves against all evidence. Whereas, he (and Mankiw) typically throw out the number 2 for 1. Meaning at current rates, for a cut of $1 in taxes the gov’t needs to cut spending 66 cents to not effect the budget.
Bartlett was pretty worried about budget deficits at the time, so much so that the other two speakers teased him afterwards about how they were just happy he didn’t call for higher taxes. He didn’t think much of tax cuts that weren’t accompanied by spending cuts. He struck me as a thoughtful and principled rather than partisan economist. Of course, this got him in trouble with the right and he lost his job at NCPA not long after. Se la vie.
Russell Rousseau
May 24 2010 at 1:37pm
Not a soul would have argued with Bush about his tax cuts for the wealthy not being SS tax cuts at the time. But in retrospect, what doesn’t works can always be blamed as not being consistent with SS economics.
No, sorry Mr. Henderson, Bush tried the theory out and it failed dismally. It’s going to be a long time before any government gets to try it out again. Now it time to move on and try some more socially responsible approaches.
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