The New Political-Economic Orthodoxy

For a decade or more the Republican Party has been dominated by a mystical belief in the power of tax cuts. They’ve been given credit for increasing tax revenues and producing the boom of the late 1990’s. Is there anything they can’t do?

I think of it as a mystical belief because it doesn’t seem to be amenable to persuasion or provable.

I’m afraid that the Democratic Party is being overwhelmed by a new, mystical belief of its own, similarly immune to persuasion and completely without proof: the belief that tax increases produce economic growth. That view is expressed in David Leonhardt’s rather breathless treatment of the Obama economic plan to be published in the New York Times Magazine:

The second criticism is that Obama’s tax increases would send an already-weak economy into a tailspin. The problem with this argument is that it’s been made before, fairly recently, and it proved to be spectacularly wrong. When Bill Clinton raised taxes on upper-income families in 1993, his supply-side critics insisted that he would ruin the economy. As we now know, Clinton presided over the longest economic expansion on record, the fastest income growth most workers had experienced in a generation and the disappearance of the federal-budget deficit. His successor, Bush, then did exactly what the supply-siders wanted, cutting upper-income tax rates, and the results were much worse. Economic growth wasn’t quite as strong or nearly as widespread, and the deficit returned. At the very least, Clinton’s increases did no discernible economic damage. Rubin, citing academic work on tax rates, made the case to me that rates under an Obama administration would not be nearly high enough to stifle innovation.

There’s a name for this line of reasoning: it’s the post hoc propter hoc fallacy—the mistaken idea that because one thing happens after another that the thing that happened later was caused by the first thing.

Neither Republicans nor Democrats seem to understand what happened in the 1990’s. The boom of the late 90’s wasn’t caused by the tax cuts of the 1980’s or the tax increases of the 1990’s. They were the final payoff of decades of investment, mostly the investments of American companies in productivity technology. I can direct you to scads of magazine and newspaper articles from about 1985 through about 1995 complaining that all of the investments that companies were making in technology weren’t producing any results.

But a number of things happened nearly all at once. Lots of people had computers on their desks. Microsoft finally produced an operating system with a graphical user interface that had a fair degree of reliability (Windows 95). Some bright guys at the European Center for Nuclear Research had formulated the ideas that lead to the creation of the World Wide Web built on the bones of another decades-long investment (the Internet). Some other bright guys at the National Center for Supercomputer Applications wrote the program that would make the guys at CERN’s idea useful, Mosaic, the first popular web browser.

People began to interact using computers in new ways. The dot com boom was just one of the remarkable developments of this. Equally if not more important it made a series of changes in business practices resulting in greatly enhanced productivity possible.

The final factor was the Y2K scare which resulted in billions more being spent by companies replacing and upgrading their computer and telephone equipment.

Result: the boom of the late 90’s.

Government’s contribution was critical in this boom but it wasn’t the tax cuts of the 1980’s or the tax increases of the 1990’s that made that contribution. It wasn’t something that was managed or planned at all. It was the years of investment in the ARPA net, its release into the public domain (after a fashion), and the wise decision to leave well alone.

I’ve been stewing for weeks about how to say this in a non-confrontational way but I think I’ll just blurt it out: could somebody please explain to me how Sen. Obama’s economic plan could possibly stimulate economic growth? I don’t get it. I’m not challenging him; I’m just saying that I don’t understand.

Mr. Leonhardt mentions the growth proposals twice (as best as I can determine) in the piece linked above. Here:

Among the policy experts and economists who make up the Democratic government-in-waiting, there is now something of a consensus. They agree that deficit reduction did an enormous amount of good. It helped usher in the 1990s boom and the only period of strong, broad-based income growth in a generation. But that boom also depended on a technology bubble and historically low oil prices. In the current decade, the economy has continued to grow at a decent pace, yet most families have seen little benefit. Instead, the benefits have flowed mostly to a small slice of workers at the very top of the income distribution. As Rubin told me, comparing the current moment with 1993, “The distributional issues are obviously more serious now.” From today’s vantage point, inequality looks likes a bigger problem than economic growth; fiscal discipline seems necessary but not sufficient.

In practical terms, the new consensus means that the policies of an Obama administration would differ from those of the Clinton administration, but not primarily because of differences between the two men. “The economy has changed in the last 15 years, and our understanding of economic policy has changed as well,” Furman says. “And that means that what was appropriate in 1993 is no longer appropriate.” Obama’s agenda starts not with raising taxes to reduce the deficit, as Clinton’s ended up doing, but with changing the tax code so that families making more than $250,000 a year pay more taxes and nearly everyone else pays less. That would begin to address inequality. Then there would be Reich-like investments in alternative energy, physical infrastructure and such, meant both to create middle-class jobs and to address long-term problems like global warming.

and in the section I quoted above about taxation. That’s it. Pretty thin gruel.

So, I’d genuinely appreciate an explanation of just how Sen. Obama’s plan would produce more economic growth than leaving the money in the hands of private individuals and companies would. Please take into account deadweight loss.

If you want the opposing view of the Obama economic plan, you can take a look at James Pethokoukis’s piece in U. S. News and World Report.