During the late 1970s, the U.S. inflation rate soared, peaking at about 13 percent.
While conventional wisdom noted that inflation and unemployment tend to run in opposite directions, the unemployment rose with it, peaking at more than 10 percent. Prices were rising and the economy was stagnant. The term “stagflation” was born: inflation in the midst of economic stagnation.
Policy makers were baffled. The traditional tools used by government didn’t seem to provide a solution. Using fiscal policy, an increase in government spending could stimulate growth, but it would add to inflation. And if taxes were cut, the result would be the same, because both fiscal policy is geared to influence demand.
Monetary policy could be used, but the results would be the same. Expansive monetary policy would stimulate growth but add to inflation. A restrictive monetary policy would tend to reduce inflation, but would slow economic growth. Monetary policy is also geared to influencing demand.
Economists hit upon a different approach. Instead of stimulating demand alone, it might be better to stimulate demand and supply together, they reasoned. Growing supply would increase economic growth while putting downward pressure on prices.
The way to accomplish this “supply-side solution” was to cut taxes for all Americans including the highest income earners who could create the capital needed for the expansion. At the same time, counter-productive regulations were also reduced.
The corporate tax rate was also reduced to create capital for non-inflationary growth.
Once the economy was expanding, the majority of the benefits would first be realized by the business sector. As business expanded and hired more workers, the benefits would be felt by more and more Americans.
Opponents dubbed this approach “trickle-down economics” which, they said, simply hides the fact that tax cuts are being given to the rich, who really don’t pay their fair share anyway. As a result, they argued, this new “supply-side” idea simply wouldn’t work. Giving tax breaks to the wealthy and hope the benefits trickle down to the rest of us is simply a myth, they claimed.
But in 1981, under the new Reagan administration, Congress reduced tax rates for all Americans, including the highest income earners, and for corporations. This meant that the middle class had more disposable income which, when spent, stimulated demand. Corporations and the higher income earners had more capital to invest which would increase supply.
Businesses and higher income earners used their increased income to make investments and supply the capital needed for growth. The increase in demand from consumers, followed by the increase in supply from business led to rapid, non-inflationary economic growth.
In 1984, the annual U.S. growth rate exceeded 7 percent. Inflation fell rapidly from 13 percent to less than 3 percent. America’s unemployment rate was cut in half by the end of the decade. In fact, the U.S. economy went on a 25-year growth surge, save for a couple of small recessionary hiccups in 1991 and 2001.
Surprise! Trickle-down economics works.
Regarding “fair share” argument, there has never been a clear definition for that term. In 2017, the top 20 percent of income earners paid about 84 percent of all income taxes.
Almost half of American households paid no federal income taxes at all. How much more should the top income earners pay?
President Donald Trump has followed the Reagan, supply-side approach. He convinced Congress to cut taxes for all Americans, including the highest income earners and reduce the corporate tax rate. At the same time he eliminated thousands of unneeded regulations. The benefits are being realized by both business and the middle class.
Already economic growth has exceeded 3% since Trump took office. Growth hit 4% last April. The unemployment rate has fallen to under 4%. Every group seems to have benefited as the unemployment rate is at historical lows for minorities, women and teenagers.
Meanwhile, inflation remains in the 2% range.
In other words, trickle-down economics is working and it was just what the country needed. Prior to Trump’s victory, the American economy hadn’t seen annual growth of at least 3% since 2005. The U.S. hasn’t experience 4% annual economic growth since 2000.
Americans have forgotten what economic prosperity feels like. Americans will remember because of supply-side, trickle-down economics.
Michael Busler, Ph.D. is a public policy analyst and a Professor of Finance at Stockton University in Galloway, New Jersey, where he teaches undergraduate and graduate courses in Finance and Economics. He has written Op-ed columns in major newspapers for more than 35 years. @mbusler www.facebook.com/fundingdemocracy