Newt Gingrich, Ronald Reagan and the Myth of Reagan's Success with Supply Side Economics

Charles: My name is Charles Howard.

This is my third in a series of videos with Steve Leser from Democrats for Progress.

Today, we are going to discuss supply side economics and the two frontrunners for the Republican nomination. Steve, what impact does Ronald Reagan play in the economic beliefs and proposals of Newt Gingrich and Mitt Romney?

Steve: Hi, Charles, and thanks for interviewing me.

It has been 32 years since Ronald Reagan took office at 1600 Pennsylvania Avenue. His economic policies and the perception that they were successful have dominated American economic policy ever since.

Newt Gingrich is touting his involvement in the implementation of Reagan’s supply side economics as part of the reason people should vote for him. Mitt Romney also refers to Reagan’s economics as the underpinnings of his economics proposals.I think it makes sense at this point to look at whether Reagan and his supply side economics were as successful as we’ve been led to believe.

The cornerstone of his [Reagan's] policies and supply side economics is the implementation of lower taxes in general, but particularly important is a lower tax rate for the top income bracket.

When Ronald Reagan took over in January of 1981, those earning the highest income paid 70 percent of the topmost portion of their income in taxes. Over the course of his administration, he lowered that rate to 50 percent and then to 28 percent.

Since Reagan left office, the top tax rate has oscillated between 28 percent and 35 percent, where it now stands. That seven-percent variation is insignificant in comparison to the rates between 1945 and 1980 which ranged between 70 and 94 percent.

I think it is fair to say – and a lot of people across the political spectrum are going to howl at this – that Reaganomics, at least as far as tax policy goes, remains in place today even under President Obama.

Charles: I have two questions at this point, but let’s take them one at a time.

First, I remember the way things were in the late 70s and early 80s. Things were really bad. Inflation was high, oil prices were high, unemployment was high. The way it seems is that Reagan took office, lowered taxes and things got better. Is that not the case?

Steve: That is such an important question.

There is a Latin phrase that applies here, and it is: post hoc, ergo propter hoc. This phrase describes a logical fallacy wherein someone suggests that because something occurred before something else, it necessarily caused the second thing to happen.

For instance, I am walking outside and I drop a penny and then a minute later it starts to rain. If someone were to conclude that my dropping the penny caused it to rain, I think we would all agree that would be a ridiculous suggestion of causation.

There is a similar situation with the economic recovery of the mid-1980s and the policies of the Reagan administration. Here are the facts.

In 1973, the first of two 1970s era energy crises exploded on the world scene with OPEC instituting an embargo against the US and its allies in retaliation for US support of Israel during the Yom Kippur war. At the start of the embargo, the price for a barrel of oil was around $20 a barrel in 2008 dollars.

By the way, for all of the prices I am going to discuss, I am going to use what the equivalent of the prices would be in 2008 dollars so it is easier for us to understand the effect of what happened.

The price of a barrel of oil promptly doubled and then some as a result of the embargo to nearly $45 a barrel. The effects of that first crisis on oil and gas prices hadn’t ended by 1979 when a second crisis ensued from Iran’s Shah coming to the US for medical treatment and the hostage crisis that occurred when our embassy personnel in Tehran were taken hostage.

At that time, the price of a barrel of oil shot up to $100 a barrel in 2008 prices. The price of a gallon of gas went up to an equivalent of $4 a gallon. The hostage crisis ended in 1981 the day that Reagan was inaugurated, and almost immediately the price of a barrel of oil and of a gallon of gas began to drop.

By 1984, the price of a barrel of oil had come down from the equivalent of $100 to $60 a barrel and the price of a gallon of gas had gone back down from the equivalent of $4 a gallon down to $2.80 a gallon

Now we all know what the effect of a massive increase or decrease in the price of gas and oil does to the economy. In economic terms, a huge increase or decrease in the price of oil and gas is known as a supply shock.

Supply shocks cause major shifts in the direction of the economy.

It is no coincidence that the economic recovery for which Reagan is credited follows the decrease in the price of oil almost exactly. Here are a couple of graphs that emphasize the point.

Here is a graph of oil prices from 1960 to 2010. The orange line is the line that shows the prices in their 2008 equivalents. You can see that prices take off in 1973 and spike again in 1979 and then start to decline sharply in 1981. They are significantly lower by 1984 and continue lower and stabilize in 1986.

Here is a graph of gross national product from 1979 to 1988 from tradingeconomics.com. You can see that the turnaround in the economy occurs in the 1983-1984 time frame and continues through the rest of Reagan’s Presidency.

I’m not saying Reagan deserves no credit for the turnaround; what I am saying though is that it was not his economic policies that improved the economy. What credit he deserves, he deserves for his foreign policies that produced somewhat of a cooling off of the situation in the Middle East and a resulting moderation in the price of oil and gas.

Reaganomics and supply side economics did not cause the recovery in the 1980s; a reduction in the prices of oil and gas did.

Charles: So the Reagan economic policies did not cause the recovery of the 1980s.

My second question – remember I had two questions – my second question is: over time, has the record validated those policies? Are we better off as a country as a result of Reaganomics and supply side economics?

Steve: We’re clearly not better off as a result of supply side economics. Well, let me back up slightly. If you are in the top five percent of wealth and income, you are better off. One would expect that because the lower taxes were aimed mostly at people in that bracket.

The problem is that the rest of the 95 percent of the country has done either worse or barely broke even after the change. Here is a graph that emphasizes the point, from afferentinput.blogspot.com. Suppose starting in 1979, we distribute $100 among 100 people as it would be distributed according to the distribution of wealth in the country then and since. Continue reading Mitt Romney, Newt Gingrich and the Myth of Reagan’s Success with Supply Side Economics