Supply-Side Tax Cut Legislation: A Betrayal of the Middle Class, the Poor, and our Nation

I’m afraid that I will be tough on my conservative colleagues in this article.  I generally look for arguments in support of both sides of an issue, but rarely in my reading have I found an issue, in this case the effects of supply-side tax cut legislation following 1981 and 2001, that appears to be so negatively one-sided in its outcomes. In short, the two modern day supply-side periods, 1981-1992 and 2001-2008, ran-up massive levels of national debt, economically underperformed the non-supply side period (1993-2000) by a number of indicators, gave signficant financial benefit to the wealthiest of Americans while providing paltry to negligible benefit to middle America and the poor, contributed to the growing skewed distribution of wealth in this country, has left us financially weakened during a time of economic crisis, and contributed to the depletion of our entitlement program coffers that have been badly spent down through government borrowing to support deficits.  The means used to get the public to the polls to vote against their own economic well-being as well as that of our nation is deplorable as individual biases have been gamed. Hot button issues such as gay marriage, abortion, and stem cell research have been used to define the morality of America and get individuals to pull the lever in the voting booth.  Interestingly, poverty, so often cited within the Christian Bible, was not one of the moral issues.

Introduction

There has been much recent attention to national debt and deficits including demonstrations from Teabaggers who protest government spending and higher taxes.  (As a note, crates of tea were thrown into Boston Harbor in protest of taxes, not teabags.  I would be surprised if this recent anti-tax movement would have adopted the term Teabagger if they understood the pre-existing use of the word – as explained to me by some our younger adult citizens).   And where has this concern been for much of the past 30 years?  Our burgeoning national debt has been in the making since 1981 with the initiation of tax cut legislation commonly referred to Supply-Side or Trickle Down economic policy.  The term Trickle Down has been attributed to Will Rogers who stated during the Great Depression that “money was all appropriated for the top in hopes that it would trickle down to the needy”.  Supply-Side theory did not originate during the Reagan years but was popularized through the economist Arthur Laffer and his curve that predicted that decreased taxes would stimulate the economy and increase income to the government.  Supply-Side, or Trickle Down, theory has also been known in the past as the ‘Horse and Sparrow Theory’ – ‘If you feed the horse enough oats, some will pass through to the road for the sparrows’.  The economist John Kenneth Galbraith attributed the Panic of 1896, in part, to the Horse and Sparrow Theory.

The problem that exists with the current spending is not the spending itself, but rather the hole that we began in.  It has been said that there are two times when it is appropriate for a government to assume debt, war and recession when the government steps up as the spender of last resort.  As pointed out by our recent Nobel Laureate in Economics, Paul Krugman of Princeton University, the current spending is necessary to buoy the economy during this economic downturn, but the debt will need to be addressed once our economy is out of the woods.  Indeed, numerous stimulus packages have been enacted around the world that have mitigated job losses and prevented the collapse of our financial institutions.  We have also learned of the risks of pulling stimulus from the economy too quickly during recovery.  Both lessons learned during the Great Depression.

Skewed Wealth and Income Distribution in America

Prior to examining the issue of supply-side tax policy and debt it is important to briefly discuss wealth and income distribution in the US.  With the exception of Switzerland, the US has the highest concentration of wealth in the top 10% of the population than any other industrialized democracy.  The top 1% of this country holds 43% of the financial wealth, the top 5% holds 69%, and the lower 80% holds only 7% (financial wealth is defined as one’s net worth minus the net equity in their home).  The top 1% of households hold 38% of all privately held stock, 61% of financial securities, and 62% of business equity.  Additionally, the top 1% of America accounts for half as much income (20%) as does the entire bottom 80% of America (41%).  With so much financial wealth and income concentrated in a small fraction of our population progressive tax rates, that impose a higher tax rate on upper level income, have been used to help fund our national budget.  Lincoln was the first to impose a progressive tax rate where individuals making $10,000 paid a higher tax on upper income than those making less than that amount.  Interestingly, the value of $10,000 in those days amounts to about $225,000 in today’s dollars, very similar to the level used during the Clinton years and proposed by president Obama.  Now, onto debt.

Supply-Side Legislation and National Debt

USDebt 1940-2008

It has been said that a picture is worth a thousand words.  The above figure is a graphical depiction of our country’s national debt between 1940 and 2008.  Several iterations of this graph are available including that displayed in the acclaimed documentary I.O.U.S.A.  Gross debt includes the money the government owes itself, eg programs such as Social Security.  The upper graph shows the national debt over time in terms of 2008 dollars.  The lower graph expresses the debt as a fraction of our Gross Domestic Product (GDP).

The highest level of debt this country assumed was incurred during WWII and amounted to over 120% of GDP.  This spending was attributed to pulling us out of the Great Depression.  From the end of WWII through 1980, under both Republican and Democratic administrations, the debt was reduced to about 30-40% of GDP.

The rise in national debt following 1980 is dramatic and coincides with the initiation of supply-side tax cut legislation.  The national debt in 1980 was less than $1 Trillion, an amount that was criticized by then candidate Reagan who promised that the stimulative effects of tax cut legislation would produce a balanced budget by 1984.   The highest federal income tax rate was lowered to 28%, thus effectively ending the progressive tax rate on upper level income.  Instead, the tax cut policies continued to drive up debt and outran economic growth when expressed as a fraction of GDP.   By 1992 our national debt had more than quadrupled to $4 trillion, the largest sustained run-up of debt in US history.

President Clinton signed the Omnibus Budget Reconciliation Act of 1993, deficit reduction legislation, which passed Congress without a single Republican vote.  It cut taxes for fifteen million low income families (who need to spend the money and thus support the economy), made tax cuts available to 90% of small businesses, and raised taxes on the wealthiest of taxpayers – a surcharge of an additional 3.6% was applied to taxable income above $250,000.  Despite claims that this legislation would be disastrous to the economy, there followed a strong economic run including creation of over 20 million jobs during Clinton’s 8 years in office.  Budget surpluses were achieved between 1998-2000 and in 2000 the budget was balanced without using the Medicare trust fund for the first time since Medicare was created in 1965.  The national debt of $5.7 trillion was reduced by $360 billion during these three years including $223 billion in 2000 alone, the largest one year reduction of debt in our history.  Estimates of projected surplus over the next 10 years varied but amounted to perhaps as much as $3 trillion dollars.

At first opportunity under a Republican president and a Republican controlled Congress the Economic Growth and Tax Relief Reconciliation Act of 2001 was enacted that again reverted to the supply-side approach that ran up debt under presidents Reagan and Bush 41.  The legislation had a price tag of $1.6 trillion dollars.  The promise was that the budget surpluses achieved during the 1990’s would be preserved for years to come.   After but one year deficits reappeared and by the end of 2008 our country had experienced the largest increase in national debt under any president in US history.

Tax Cut Legislation, Not Increased Spending, Was the Major Contributor to the Deficits

It has been argued that spending was the major culprit that drove up debt during the presidency of G.W. Bush.  An analysis of Congressional Budget Office data by the Center on Budget and Policy Priorities showed that the tax cuts, not spending, was the major contributor to the deficits.  Changes in law enacted since since 2001 increased the federal deficit by $539 billion in 2005.  In the absence of such legislation the nation would have had a surplus in 2005.  The tax cuts were the largest single contributor to the deficit, three times the cost of all domestic programs increases.  A reanalysis of the data through 2007 gave the same results.

The Financial Benefit of the Tax Cuts Was Heavily Skewed to the Top 1% of America

The wealthiest American families benefitted the most from the tax cut legislation.  The average benefit to the upper 1% of households exceeded what most citizens make in a year with negligible benefit to middle America and the poor.  In 2007 the upper 0.3% of households that had incomes above $1 million received an average benefit from the tax cuts of $120,000; the top 1% of households received an average benefit of $45,000; the middle 20% and bottom 20% of families received paltry average benefits of only $740 and $20, respectively.

Economic Policies with Tax Cuts for the Wealthy and Corporations as Their Centerpiece Failed to Produce Strong Economic Growth

Tax cut legislation was supposed to stimulate the economy.  However, these policies failed to produce strong economic growth by a number of measures.  I have heard it stated that the economic growth during the 1990’s was the result of the preceding supply side policies under presidents Reagan and Bush 41.  However, as it has been argued, even during this recent economic downturn, that tax cuts have a rapid impact on the economy, it would seem unreasonable to argue for a delayed effect.  A comparison has been made between the two supply-side periods, 1981-1992 and 2001-2008, and the economic policies of the 1990’s that reversed supply-side policy.  Real investment growth, real US GDP, average annual real median household income growth, wage levels and employment growth all did better during the 1990’s than in either of the supply side periods.  A conclusion of the study was “Without better investment growth being associated with supply-side policies, a critical link in the theory of supply-side economics is broken – and it is difficult to draw any plausible connection between supply-side tax cuts and any observed positive economic performance”.  Also as discussed above, budget surpluses were achieved during the 1990’s whereas we experienced historic run-ups of debt during both supply-side eras.

Class Warfare on the Middle Class and the Poor

A higher level of tax on upper level income of the wealthy has been called class warfare and the war on the wealthy.  It indeed has been class warfare, but the other way around.  Regarding income distribution since 1979, the upper 1% of America has experienced a 7% increase whereas the lower 80% of America has realized a 7% decrease.  The effect of this change in income distribution, as pointed out by Larry Summers, is equivalent to every household in the lower 80% of America writing a $10,000 check each year to the upper 1% of America.  Additionally, Warren Buffet, a multi-billionaire investor, has described a two class tax system in our country.  He noted that his 2006 tax rate on $46 million in income was only 17.7% whereas his secretary’s combined tax rate was 30%.  This is because income from stock dividends and capital gains which make up a disproportionate share of the income for the wealthy are taxed at a lower rate than ordinary income.  Indeed it has been class warfare where the supply-side tax policies have helped the rich get richer and the poor get poorer.

Concluding Remarks

I write the above having been in the top 1% of income earners in this country.  Those of us who have achieved that level did so because the American system gave us that opportunity and we seized it.  During the 1990’s when I owned and operated my own business, I had no problem paying 3.6% more on upper level income back into the system that allowed me to do well and to keep it well.  In fact, it was my opinion that not doing so would not only constitute greed but would show a lack of appreciation for the American system that allowed us to do well.  I believe a return to the fiscally responsible legislation similar to what we had in place in the 1990’s would be to the benefit of all.

So for those of you who go Teabagging, most of you are undoubtedly already the recipients of tax breaks contained in the recent stimulus legislation that passed the House of Representatives without a single Republican vote, even though the tax cuts largely favoring the wealthy remained in place.  If your feeling is that your country is being taken away, best I can tell it has been, right under your very noses for much of the past 30 years.

Selected Reading

1.  Take a Walk on the Supply Side, Ettlinger and Irons, Economic Policy Institute and Center for American Progress, September, 2008

2.  CBO Data Show Tax Cuts Have Played Much Larger Role Than Domestic Spending Increases in Fueling the Deficit, Carlitz and Kogan, Center on Budget and Policy Priorities, January, 2005

3.  Who Rules America? Power in America – Wealth, Income, and Power; Dornhoff, UC Santa Cruz Dept of Sociology, Sept 2005 (updated October 2009)

4.  President Clinton Announces Another Record Budget Surplus, CNN White House Correspondent Kelly Wallace, September 27, 2000

5.  Bush Administration Adds $4 trillion to National Debt, CBS White House Correspondent Mark Knoller, September, 2008

6.  Our Two Class Tax System, Dorothy Brown (Professor Tax Law, Emory University), New York Times, March 2009

7.  Tax Cuts: Myths and Realities, Center on Budget and Policy Priorities, May, 2008

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