The Trickle-Down Hoax

In his recent Rose Garden speech (7/9), President Obama said that Republicans generally "believe that prosperity comes from the top down, so that if we spend [sic] trillions [sic] more on tax cuts [sic] for the wealthiest Americans, that that will somehow unleash jobs and economic growth."  In other words, Republicans believe that one of the best ways to foster a robust economy is to lower taxes on the "rich," since the increased spending of the rich will "trickle down" through all income brackets.  Moreover, the sub rosa implication of the president's remarks is that trickle-down (voodoo) economics is the centerpiece of conservative economic thought when at best it is a misconstrued justification for limiting taxes.

Yet the president has a few things to learn about the Republican platform.  First of all, "tax cuts" for the rich is not the centerpiece of conservative economic theory, and secondly, the trickle-down effect is not the basis for tax "cuts."

Nonetheless, Republicans have been dogged with the trickle-down label since the Reagan administration.  It is a smack-down that never ceases to draw blood.  The irony is that there is no trickle-down school of economic theory which maintains that the trickle-down effect is the main justification for limiting taxes on capital gains.  Nor is there a trickle-down school of economic thought that the trickle-down effect is the major path to economic growth.  Even in the heyday of supply-side economics during the Regan era (Reagonomics), only 12 members of the 18,000-strong American Economics Association called themselves supply-side economists.  Currently in American universities there is no major school of supply-side economics.

Yet there are many learned expositions of why trickle-down down doesn't work.  Critics of trickle-down economics have an easy target, beating up a theory that has no pedigree and that even David Stockman of the Regan era dismissed (although he seemed to be claiming that trickle-down was about all there was to supply-side Reagonomics).  The following from WSJ is typical take down of trickle-down:

By Michael S. Derby

Trickle-down economics, a centerpiece of conservative economic thinking for many decades, failed to deliver its promise of distributing wealth across the economy, a new paper from Harvard University's Kennedy School of Government says.

According to this theory, when government policies favor the wealthy - for example, via tax cuts for upper-income classes - the increase in wealth flows down to those with lower incomes. That's because the rich are more likely to spend the additional income, creating more economic activity, which in turn generates jobs and eventually, better paychecks for the less well-off. It's a school of thought that is closely linked to former President Ronald Reagan, and is frequently referred to as Reaganomics." [My emphasis.]

"School of thought"?  "This theory"?  Notice that the names are missing.  Names thrown in sometimes include Laffer.  He has certainly argued that higher taxes on top income earners do not correlate with higher revenues for the government.  That is hardly a full-fledged articulation of a trickle-down school of economic thought -- to the effect, as a reminder, that reducing taxes on the wealthy is the key to a robust economy because the wealthy then spend more, and what they spend will trickle down to cabbies and waitresses.

Amusingly enough, Thomas Sowell has been called an "ardent supporter" of trickle-down economics, yet it is Sowell himself who claims that there is no such school of economic theory.

But there has never been any school of economists who believed in a trickle down theory. No such theory can be found in even the most voluminous and learned books on the history of economics. It is a straw man.

Let it be admitted that the simple-minded idea that cutting taxes on the "rich" suffices to raise the standard of living of all concerned does not have a great track record.  Since there are many other factors at work in the economy at any given time, many of them offsetting, it would be amazing if a simple correlation existed.  Nonetheless, there have been studies that demonstrate the lack of correlation -- although such studies hardly prove what effect lower taxes would have given, other things being equal (the Achilles heel of a science without controlled laboratory experimentation):

The Clinton years saw the top bracket hold steady at a higher rate of 39.6%, but under the younger Bush's tax-cut policies, the rich are once again paying less. The drastic change in tax policy that has taken place since the early 1960s gives us a great opportunity to study and evaluate the claims that lower taxes for the rich translate to more wealth for the average American.

If all there is to the trickle-down "theory" is the claim that lowering taxes on the rich will be to everyone's benefit because "the rich are more likely to spend the additional income, creating more economic activity, which in turn generates jobs and eventually, better paychecks for the less well-off," then it is little more than a trope.  One is left with hardly more than vague images of free-spending millionaires leaving waitress big tips and leaving big smiles on the faces of car dealers as they drive off in their Bentleys and BMWs.

That being the case, economist Kenneth Galbraith was right when he claimed that the trickle-down "theory" of economic growth is just a sanitized version the "horse and sparrow" theory of economic growth.  If you feed the horse enough oats, there is bound to be some left behind for the sparrow.  And again, if that is all there is to the trickle-down "theory," then it deserves the criticism leveled by the New Zealand Labour Party MP Damien O'Connor that all it amounts to is "the rich pissing on the poor."

The economist Thomas Sowell has repeatedly pointed out that not only is there no comprehensive trickle-down economic theory by an economist, but the claim that it is the trickle-down theory that is the sole justification for limiting taxes on the "rich" is absurd.  In his (7/11) article in IBD, in response to the president's speech, Thomas Sowell issued the following challenge:

Name any economist, outside of an insane asylum, who had ever said any such thing.

In the first place, as Sowell has indicated, the trickle-down trope promotes an image of money flow that is back-asswards.  Money invested in business enterprises goes first to employees, contractors, and suppliers.  If the enterprise is successful, then the profits trickle up to owners and stock holders (or in the case of  Gates, et al., gushers up).  However, in the absence of a profit motive, which is reduced in the aggregate by a raise in marginal tax rates in the upper tiers, this activity does not occur.  The argument for "reducing" taxes kicks in when taxes are so high as to stifle the incentive for entrepreneurial risk for those with access to capital.  It is a risk capital (hence jobs growth) argument and not a trickle-down argument or trope that is the basis for limiting taxes.

Sowell goes on to point out that wealth and income are not the same.  Wealth, per se, is not taxed until death.  It is income that is taxed.  As Sowell says, "If Obama wants to talk about raising income taxes, let him talk about it, but claiming that he wants to tax 'the wealthiest Americans' is a lie and an emotional distraction for propaganda purposes."

The trickle-down trope is not the justification for lower taxes.  It never has been.  It never has been the centerpiece of conservative economic thought, and it is at best a misconstrued argument for limiting taxes.

From Hayek to Friedman to Sowell, the main thrust of conservative economics is that money in the private sector is much more productive than money in the public sector and that the path to growth is to keep government (taxes-spending) to a minimum.  It may be, as Stockman and others contend, that Republican presidents from Reagan to Bush are open to the charge that their policies fit the trickle-down trope more than core conservative economic theory, but that is hardly a criticism of core conservative economic theory, nor is it an argument that there is a school of conservative economic thought that endorses trickle-down economics.

A good example of the application of core conservative economic principles to current economic conditions is "Reduce Government, Expand the Economy" by Mark LaRochelle, writing for Human Events.  Here is a key passage from the article:

In 1992, government at all levels employed 18.164 million people, compared to 21.969 million today. Paring back to 1992 levels means shedding another 3.8 million bureaucrats. Cutting spending and taxes back to 1992 levels means, on the federal level, cutting taxes nearly 30 percent, while cutting spending more than 40 percent. That would reduce the deficit a whopping 65 percent.

These cuts would inject into the private sector $622 billion that would otherwise have been taxed away, and release another $732 billion that the government would otherwise have borrowed, amounting to a "stimulus" of more than $1.3 trillion - enough to hire all 16.5 million (12.7 million currently unemployed plus 3.8 million former bureaucrats) at $82,000 per year -- while reducing, rather than increasing, the deficit.

Yes Mr. President, the Republicans do have a theory of economic growth with a pedigree from Hayek to Friedman to Sowell, and perhaps it will trickle down to your myrmidons.  In the simplest possible terms, it calls for the government to butt out of businesses, where it doesn't belong.  From Solyndra to Evergreen Solar to SpectraWatt, the government should butt out of the private sector.

The recipe for growth is to shrink the government sector as much as possible and let the private sector keep and invest its hard-earned cash.  By contrast, the "butt-in" statist capitalism economic philosophy of the Obama administration practically guarantees crippling cronyism and fosters a stultifying entitlement mentality in the citizenry.  As Benjamin Franklin said, "Those who desire to give up freedom in order to gain security will not have, nor do they deserve, either one."