Reaganomics

Ronald Reagan's election in 1980 brought to power an administration committed to implementing the supply-side economic program -- a collection of propositions about the economic effects of tax cuts, deregulation, and reduced government expenditure that contradicted several decades of economic evidence and was opposed by most academic economists at the time. The administration's chief economist, David Stockman, later acknowledged in a famous Atlantic interview that supply-side economics was "a Trojan horse to bring down the top rate" -- a politically saleable rationale for cutting taxes on high-income households.

The Economic Recovery Tax Act of 1981 reduced the top marginal income tax rate from 70% to 50% (reduced further to 28% by the Tax Reform Act of 1986). It cut capital gains taxes, accelerated depreciation for business investment, and reduced the estate tax. The Congressional Budget Office projected that the cuts would substantially increase the deficit, and they did: the federal deficit grew from $79 billion in 1981 to $208 billion in 1983. The promised growth acceleration -- the "rising tide" that would lift all boats and increase revenues despite lower rates -- did not materialize at the promised scale.

The distributional consequences were immediate and lasting. A study by the Urban Institute found that the 1981 tax cuts, combined with simultaneous reductions in social programs, transferred income from the bottom four-fifths of the income distribution to the top fifth. The top 1% received benefits averaging $140,000 per household per year; families in the bottom 20% lost an average of $240 per year (Pechman, 1987).

Supply-side economics was originally sold as a way to reduce the deficit. When it became clear that it was going to increase the deficit substantially, the story changed: deficits don't matter. The argument had moved to wherever the conclusion required it to be.Adapted from Paul Krugman, Peddling Prosperity (1994)

Reagan's domestic economic program was accompanied by a military buildup that contradicted the fiscal conservatism proclaimed by the administration's rhetoric. Defense spending rose from 4.9% of GDP in 1980 to 6.2% in 1986 -- an increase that, combined with tax cuts, drove the deficit expansion that supply-side theory had promised to prevent. The United States, which had been a net creditor nation, became a net debtor nation for the first time since World War I.

The political legacy of Reaganomics was perhaps more important than its economic legacy. By successfully framing government as the problem rather than the solution, Reagan shifted the political terms of debate in ways that constrained subsequent administrations. The Clinton administration's welfare reform, budget surpluses, and financial deregulation were all responses to a political environment that Reagan had helped create. The intellectual and rhetorical apparatus of supply-side economics continues to shape tax policy debates four decades later, despite a consistently negative empirical track record.