It’s Time to Bury Supply-Side Economics

06/07/2012 12:54 pm EST


Howard Gold

Founder & President, GoldenEgg Investing

At this point, to continue to believe that tax cuts always lead to economic prosperity flatly ignores about two decades of evidence to the contrary, writes MoneyShow editor-at-large Howard R. Gold.

It's been the prevailing economic philosophy of the Republican Party since Ronald Reagan was elected president in 1980. Supply-side economics held that reducing marginal tax rates would spur economic growth, create jobs, and even generate tax revenue for the government.

And it makes sense in theory: If people keep more of what they make, they would logically work harder, spend more, and hire more people, right?

When you listen to supply-siders like Arthur Laffer, Stephen Moore, and Larry Kudlow, they always extol the Kennedy-Johnson tax cut of the 1960s-and especially President Reagan's tax cuts of the 1980s. But they rarely mention the 1990s or the 2000s.

Maybe that's because those two decades were almost a perfect controlled experiment that shattered their pet theories. President Bill Clinton raised marginal tax rates and the economy boomed and jobs were plentiful. President George W. Bush cut them, and we got only modest job growth.

In fact, there's more and more evidence suggesting that lowering marginal tax rates doesn't create many jobs at all.

For years I've tried to find any economist-left, right, or center-who could estimate the number of jobs created by the Bush tax cuts, but without success. So I'm taking a crack at it myself.

Using data from the Bureau of Labor Statistics' CES survey, I compared the number of jobs created in the years following the balanced-budget bill signed by President Clinton in August 1993, and after the second round of Bush tax cuts, which went into effect in May 2003. (Supply-siders think that was the real deal, not the earlier 2001 cuts.)

Nearly 20 million private-sector jobs were created from the August 1993 tax increase until the end of the Clinton administration in December 2000. The number following the Bush tax cuts, in a shorter time period (May 1993 to December 1997, when the Great Recession began), was above 7 million.

But when I actually counted the jobs created in various industries and eliminated those that clearly had nothing to do with lower marginal tax rates, I was left with a much smaller number: 2 million at most, a dreadful performance by any measurement.

This isn't an academic exercise. A 20% cut in marginal tax rates, including reducing the top tax rate to 28% from 35%, is a key plank of Republican presidential candidate Mitt Romney's economic growth plan (along with cuts in business taxes and reduced regulation, which I won't cover in this column).

One of Romney's top economic advisors, Glenn Hubbard, the dean of the Columbia Business School, wasn't available for an interview, nor could the Romney campaign provide another advisor by deadline. Top Bush economist Lawrence Lindsey also wasn't available.

Yet Hubbard, along with former Sen. Phil Gramm (Mr. Banking Deregulation of the late 1990s), penned an op-ed Thursday in The Wall Street Journal (subscription required) comparing the current recession with "the superior job creation and income growth" of-wait for it-the 1980s.

Again, no mention of the Clinton 1990s or the Bush tax cuts, of which Hubbard was a prime architect as chairman of the president's Council of Economic Advisors.

Isn't it curious how so many smart people have such complete amnesia about the last 20 years?

NEXT: A Growing Consensus That Tax Cuts Don't Work


Yet there's a growing consensus that cuts in marginal income tax rates don't deliver the goods:

  • Robert Moffitt and Mark Wilhelm found "no evidence" that high income US taxpayers increased their work hours in response to the 1986 Reagan tax cuts. This undercuts a central premise of supply-side economics, that cutting taxes gives people incentives to work more.
  • A 2010 report by the nonpartisan Congressional Budget Office found that cutting income taxes produced the least bang for the buck among 11 proposed policy options aimed at boosting employment.
  • David and Christina Romer, economists at UC Berkeley (she was President Obama's CEA chairman), found that changes in marginal tax rates had little effect on US economic growth in the 1920s and 1930s, either.

But the most striking evidence is the glaring contrast between the 1990s and 2000s.

A 2008 study by the liberal Center for American Progress and Economic Policy Institute showed that private investment, GDP, wages, household income, employment, and federal revenue all grew faster-sometimes much faster-during the high-tax Clinton years than they did during the low-tax Reagan and Bush eras.

In August 1993, President Clinton signed a law that boosted the top personal income tax rate dramatically, to 39.6% from 31%. But rather than die out, the nascent economic recovery picked up speed and never looked back. By the time this giant boom ended, the US economy had added nearly 20 million private-sector jobs in every sector from manufacturing to retail trade to finance to information technology.

Of course, higher taxes didn't cause this boom. That's the whole point: other economic forces were so powerful that marginal tax rates didn't matter!

And they didn't matter a decade later when President Bush signed the second of two tax cuts in May 2003, accelerating the 2001 act's provisions, reducing the top rate to 35%, and cutting capital gains and dividend tax rates.

But something else was brewing: In July 2003, the Federal Reserve cut the federal funds rate to 1% and kept it there for a year. By doing so, the Fed pumped hot air into a speculative real estate bubble, with far-flung effects. As Martin N. Baily, Susan Lund, and Charles Atkins wrote in a 2010 paper for the McKinsey Global Institute:

"From 2003 through the third quarter of 2008, US households extracted $2.3 trillion of equity from their homes in the form of home-equity loans and cash-out refinancings. Nearly 40% of this-$897 billion, an amount bigger than the 2008 US government stimulus package-went directly to finance home improvement or personal consumption." (Italics added.)

The two Bush tax cuts caused an estimated $1 trillion loss of federal tax revenues-and each year the revenue shortfall is an additional $100 billion. It's the "gift" that keeps on giving.

NEXT: How Many Jobs Did the Bush Tax Cuts Create?


So here's how I'm calculating the jobs created by these cuts.

First, to the 7.33 million net new private-sector jobs, I'm adding back a million jobs lost in manufacturing and technology, for about 8.3 million new jobs created.

Job Growth under Bill Clinton and George W. Bush
(job increases in thousands)
  After Clinton
tax hike
After Bush
tax cut
Total Private Employment 19,586.0 7,333.0
Manufacturing 437.0 (812.0)
Information 1,031.0 (169.0)
Retail Trade 2,321.4 674.0
Wholesale Trade 812.9 422.1
Leisure & Hospitality 2,201.0 1,458.0
Transportation 887.9 372.1
Finance (incl. real estate finance) 1,008.0 236.0
Professional & Business Services 5,300.0 2,131.0
Construction 1,986.0 784.0
Residential Constr./Contractors 214.4 295.3
Health & Educational Services 2,925.0 1,971.0
(Selected categories, so may not add up.)
Source: Bureau of Labor Statistics, CES data

Then I'd subtract the 2 million new jobs in health and education, which grew steadily in both the Clinton and Bush years with no impact from tax policy. I'd also remove the 400,000 jobs added in residential real estate and homebuilding, obviously a result of lower interest rates and the housing bubble.

Then, I'd subtract 2 million new jobs in professional and business services, also the result of a structural move to a service economy. Five million of those jobs were added under President Clinton.

That leaves us with 4 million jobs added in cyclical industries like retail and wholesale trade, leisure and hospitality, transportation, and securities, as well as nonresidential construction. My best guess is that half of those jobs were the result of the housing bubble, cash-out refinancing, and rock-bottom interest rates, while the rest may have come from the additional animal spirits and cash in consumers' pockets as a result of the Bush tax cuts.

My unscientific estimate, then, is that the Bush tax cuts were responsible for maybe 2 million jobs at most. Pathetic is an understatement.

I welcome your input and would be glad to revise this number in a future column if you provide a better estimate.

Supply-side economics is not the only economic philosophy that has come up short in the Great Recession. As I wrote here last year, neither Keynesian stimulus nor Friedmanesque monetary policy have done the job.

Surely, supply-side economics worked better when the top tax rate was slashed from 70% to 28% under President Reagan. It might be more justified at the state level, where crippling tax burdens have made some states uncompetitive. And raising taxes too high would likely hurt growth, so it may work better in reverse.

But clearly, this is a theory with diminishing returns that has outlived its usefulness. Because after the last two decades, believing that cuts in marginal personal tax rates will create jobs and revive our economy is like still believing the sun orbits the earth.

Howard R. Gold is editor at large for and a columnist at MarketWatch. Follow him on Twitter @howardrgold and read his commentary on politics and economics at

Related Articles on MARKETS