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What Are They Thinking?
The lessons of Reaganomics.


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It is rare in politics and government for there to be an unambiguous demonstration of the efficacy of any policy. In the normal course of things, there are so many other factors that could explain a policy outcome, and so many compromises that accompany the implementation of most policies, that it is usually impossible to draw firm conclusions. But the commentary from the Democrats and many editiorialists and other commentators after the president’s State of the Union message — especially concerning his tax proposals — seems to show that even in the rare case where a lesson is unambiguously clear there are some who can’t bring themselves to accept it.

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Ronald Reagan’s economic and tax program of 1981 provides such a lesson, both for President Bush and for the Democrats. The president seems to have learned it; the Democrats and a number of editorialists and commentators seem to have forgotten.

In 1981, shortly after the adoption of President Reagan’s economic plan, which included substantial tax cuts, the country entered one of the most serious recessions since the Great Depression. All through the last quarter of 1981, and well into 1982, the economy languished with high unemployment as the Fed sought to stem the rampant inflation that was the economic legacy of the Carter presidency. According to David Stockman’s book, The Triumph of Politics, President Reagan was being urged — no, implored — by virtually everyone around him to abandon his economic plan and endorse a tax increase. Why? Because the economic theory of the time was that deficits — which Stockman was predicting would extend as far as the eye could see — would cause high interest rates, and these would choke off or prevent any economic recovery.

When I say almost everyone was pleading with the president to abandon his tax plan, I speak advisedly. According to Stockman, not only he but virtually all the president’s White House advisers thought taxes had to be raised, and they were supported by Republican congressional leaders, who were panicked at the prospect that continuing economic weakness would cost the party dearly at the polls in November 1982. The only senior adviser to Reagan who rejected this advice was Donald Regan, then the secretary of the treasury, who told the president that it made no sense to raise taxes in the middle of a recession. This advice Stockman dismissed as “ignorant twaddle.”

Ronald Reagan, however, was not to be moved. He wrote in his diary, “Now my team is pushing for a tax increase to help hold down the deficits. I’m being stubborn. I think our tax cuts will produce more revenue by stimulating the economy. I intend to wait and see some results.” He saw them, alright. A year later, as the economy roared back, he was able to say, “They don’t call it Reaganomics anymore.”

Sticking with his original plan wasn’t easy. The argument that deficits caused high interest rates was hard to counter. It had been Republican dogma for generations, and there was little evidence for or against this proposition. But Reagan — as much as he deplored deficits — saw that economic recovery was more important, and he believed that the resulting economic growth would eventually eliminate the deficits. In talking with Stockman, and defending Treasury Secretary Regan’s position, he said “Don is right. I never said anything but that [a balanced budget] was a goal. A balanced budget, yes. That’s where we have to be aiming to come out. Whether it comes then or is delayed or not — well, you’re still heading to the point where the lines cross.” As we now know, he turned out to be right. In late 1982, the economy began an expansion that, after a brief slowdown in the early 1990s, eventually produced budget surpluses.

What happened here was that rare case, where a politician stands his ground against the conventional wisdom of the time, and is proved right. Winston Churchill comes to mind. But for purposes of our current political debate, what Reagan did was prove, unambiguously, that deficits — which continued to grow during the remainder of his tenure — do not cause inflation (inflation continued to decline as the deficits rocked along), and do not cause high interest rates (interest rates declined throughout Reagan’s two terms, despite the deficits and despite the longest period of economic growth recorded up to that time.)

With this demonstration, one would suppose that the Democrats and the editorialists would have learned something. But apparently it is not to be. We still hear that the deficits caused by the Bush tax plan — which are considerably smaller than the Reagan deficits — will adversely affect the economy. For example, in presenting the Democrats’ reply to the president’s State of the Union message, Gary Locke, the governor of Washington State, said that the Bush program would cause deficits that will raise interest rates.

Rubinomics, an echo of the arguments Reagan faced down in 1982, still apparently holds the Democrats in thrall. But in light of the nation’s experience with Reaganomics, it is hard to resist the conclusion that what we are hearing is not economics or even Rubinomics, but partisan politics.

Peter J. Wallison is a resident fellow at the American Enterprise Institute. He is the author of Ronald Reagan: The Power of Conviction and the Success of His Presidency.



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