A Supply-Side Tax Cut Myth
January 2, 2003
There is a lot of economic misinformation in the news pages of major newspapers. Some of the worst is considered conventional wisdom, assumed to be true by reporters, editors and readers alike.
A good example is the myth that Ronald Reagan and supply-side economists claimed the 1981 tax cut would lose no revenue. Based on the "Laffer Curve," they are said to have asserted higher economic growth would raise more revenue at lower tax rates.
In fact, every official estimate made by the Reagan Administration, in the budget and elsewhere, showed large revenue losses associated with the 1981 tax cut. Furthermore, these estimates were comparable to those made by independent agencies such as the Congressional Budget Office (CBO), which predicted federal revenues of $769 billion in 1984, after the tax cut, whereas the Reagan Administration predicted $771 billion.
Both estimates were wrong, but show that the Reagan Administration used standard revenue estimating methods in making its estimates.
Ironically, it was liberal economists who actually said that the tax cut might raise revenue.
- For example, Richard Musgrave of Harvard University told Congress's Joint Economic Committee in February 1981 that the supply-side effects of the Reagan tax cut might recoup 30 percent to 35 percent of the lost revenue, with demand-side effects bringing in another 18 percent.
- In a 1987 study, the CBO concluded that economic effects had reduced the net revenue loss of the 1981 tax cut by about 25 percent.
The main reason for the 1980s budget deficits was that inflation fell much more quickly than economists in 1981 thought possible -- falling from 12.5 percent in 1980 to just 1.1 percent by 1986. This lowered expected revenues by reducing bracket-creep, where taxpayers are pushed into higher tax brackets by inflation.
Also, spending was much higher than expected.
Source: Bruce Bartlett, senior fellow, National Center for Policy Analysis, January 1, 2003.
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