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President Bush, like former President Ronald Reagan, has adopted a supply-side approach to the economy. But both found that cutting federal spending is far harder than cutting taxes.
By Martin Wolk Executive business editor
msnbc.com
updated 6/9/2004 7:18:50 PM ET 2004-06-09T23:18:50

The death of former President Reagan has triggered fresh debate over an economic legacy that has inspired a generation of policy-makers, including many behind President Bush’s "supply side" strategy of cutting taxes to boost growth.

Liberals and conservatives alike are scrambling to grab the mantle of Reaganomics as they position themselves for a bruising budget battle that is likely to be played out in the midst of this year’s presidential race.

Even Democratic partisans, who generally had little use for Reagan’s economic policies while he was in office, have been busy this week rediscovering the pragmatic side of the 40th president. Reagan, they point out, was willing to take the politically uncomfortable step of raising taxes in 1982 and 1983, reversing part of his historic 1981 tax cut when it became clear his policies were contributing to massive and growing federal budget deficits.

Bush, on the other hand, has made extending his tax cuts the top economic priority of his administration, without specifying how he plans to achieve his goal of cutting the deficit in half from current record levels.

“I think Bush is a poor imitation of Reagan,” said economist Peter Orszag of the Brookings Institution, who served in the Clinton White House. “Reagan clearly had an ideological agenda, but he was willing to adjust to changing reality in a way I don’t see the current administration even willing to consider.”

The Reagan era witnessed the triumph of supply-side economics, which argued that cutting high marginal tax rates would boost long-term growth by providing a greater incentive for workers and entrepreneurs.

At the time of Reagan’s inauguration in 1981, the top marginal tax rate was 70 percent, meaning workers in the highest income tax bracket would pay 70 cents in federal income tax on each additional dollar earned. That was cut to a maximum 28 percent by the end of Reagan's second term in 1989, rising to about 40 percent by the time Bush took office in 2001.

Some supply-side proponents led by economist Arthur Laffer postulated that tax cuts could actually pay for themselves, boosting federal revenue by encouraging entrepreneurial activity. That idea was denounced as “voodoo economics” by the senior George Bush before he became Reagan’s running mate and then vice president. Others belittled supply-side theory as “trickle-down” economics because it promoted tax cuts that accrued largely to the wealthy.

And indeed there was an “explosion of income inequality” in the 1980s, which Orszag says was not caused by Reagan’s policies but probably accelerated by them.

Over the years academic studies have shown that lower marginal tax rates indeed provide a positive incentive for workers, although detractors say that is offset by the loss of federal revenues, which generally increases government debt and causes higher interest rates over the long term.

In any case, the supply-side doctrine of lower taxes has been embraced by many conservatives in part because it fits in with their broad goal of shrinking the size of the federal government. Reagan, in his inaugural address, declared his intention to "check and reverse the growth of government," and his budget director David Stockman later said tax reductions were one way to accomplish that goal.

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But Bush, like Reagan, has found that cutting federal spending is far harder than cutting taxes. As a result some conservative critics have compared Bush’s economic policies unfavorably to Reagan’s, using this week’s reflections as an opportunity to revive complaints about the growth in federal spending.

“Bush has expanded domestic spending through costly programs,” said William Niskanen, chairman of the libertarian Cato Institute. “That is wholly contrary to the first element of Reagan’s economic recovery program.”

He cited the prescription drug benefit plan signed into law last year, as well as rising farm subsidies and new education mandates as examples of expensive new federal programs enacted on Bush’s watch, even with a Republican-controlled Congress.

Reagan also expanded spending, but mainly because of high interest payments on the federal debt and a huge expansion of defense programs, which Niskanen and other conservatives say was badly needed to meet -- and defeat -- the Soviet threat at the tail end of the Cold War.

“There is a very big difference between winning the Cold War vs. winning the war in Iraq,” said Niskanen, an economist who served in the Reagan White House. “Winning the Cold War was one of the bigger public achievements in the last century,” he said. “I regard the war in Iraq as an unnecessary war that has undermined the war on terorism. So I apologize to my children for the deficit. I did not apologize for the Reagan deficit.”

Bush faced very different economic challenges when he came into office than did Reagan. In 1981, the economy was suffering through a period of unprecedented “stagflation” with unemployment over 7 percent and mortgage interest rates of 15 percent. And things got worse before they got better as the Federal Reserve under the leadership of Chairman Paul Volcker engineered what most economists describe as an unavoidable recession that saw interest rates go even higher and unemployment peak at 11 percent. By the time Reagan left office in 1989, the inflation rate had fallen to under 5 percent and unemployment was 5.4 percent.

Since then the Fed has kept inflation well under control, and the economy has expanded steadily with the exception of two relatively mild recessions – a far cry from the economic turbulence of the early 1980s.

In fact when Bush campaigned on a platform of tax cuts in 2000 it was mainly because years of economic expansion had created a federal budget surplus that peaked at $236 billion that year. “I believe the surplus is the people's money and we ought to hand some of it back,” Bush said in one typical campaign stump speech.

By the time Bush signed a tax-cut package valued at $1.35 trillion in June 2001, it included “rebate” checks of up to $600 intended to jump-start a sputtering economy. And Bush followed up with tax cut packages in each of the next two years including a $350 billion program in 2003 that was more explicitly intended to boost the economy, which was emerging only slowly from its long period of torpor.

Analysts say it is little surprise that Bush has embraced supply-side doctrine, given that many of his economic advisers either served in the Reagan administration or were strongly influence by it. More importantly, Reagan’s iconic 1981 tax cut has become enshrined in Republican memories, even if he is less well-remembered for the tax increases , or for the landmark 1986 tax reform act that emerged out of a bipartisan desire to close tax loopholes.

“Broadly speaking that (1986) bill represents the fundamental difference between Reagan and Bush,” said Richard Kogan, senior fellow of the liberal Center on Budget and Policy Priorities. “This was very, very clearly leadership from the top on a bipartisan plan. The idea of bush designing a tax simplification plan that is revenue-neutral, and that he actively looks for bipartisan support -- that is a fantasy world. That is not where we are living.”

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