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Contemporary Issues Series 8

1-1-1984

Reaganomics: Success and Failure

Murray L. Weidenbaum Washington University in St Louis

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Recommended Citation Weidenbaum, Murray L., "Reaganomics: Success and Failure", Contemporary Issues Series 8, 1984, doi:10.7936/K70863GS. Murray Weidenbaum Publications, https://openscholarship.wustl.edu/mlw_papers/5.

Weidenbaum Center on the Economy, Government, and Public Policy — Washington University in St. Louis Campus Box 1027, St. Louis, MO 63130. Other titles available in this series:

I. Constitutional Regulatio11 of the U.S. Budget, Kenneth A. Shepsle

2. Deficits and Dollars: The Effects of Govemment Deficits in an il1temational Reaganomics: Economy, F. R. Warren-Houlton J Success 3. Dealing with Deficits and the Rise in Federal Spending, Murray L. and Failure Weidenbaum by Murray L. Weidenbaum 4. Regulation a11d the Public Interest, Murray L. Weidenbaum

5. An Ec0110111ist in Govemme11t: Views of a Presidential Ad1•iser, Murray L. Weidenbaum

6. Is the U.N. Becomi11g a Global Na1my? The Case of Coi1Swner Pi·otection Contemporary Guidelines, Murray L. Weidenbaum Issues Series 8 7. Business Manageme11t: Lessons from Experie11ce, Clifford M. Hardin

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Additional copies are available from: Center for the Study of American Business C918 Washington University Center for the Campus Box 1208 Study of St. Louis, Missouri 63130 \\ASHINGTON UNI\'ERSin American Business Phone: (314) 889-5630 11 IN STLOUIS WoshlnQton Un1vers ty • St Lou•s January 1984

Reaganomics: Success and Failure

by Murray L. Weidenbaum

After two-and-a-half years, the time seems appropriate to evaluate the Reagan economic program. I will do just that, indi­ cating failures as well as successes. In the process, I am likely to disappoint liberals and conservatives alike, but I will try to provide as careful and balanced an appraisal as I can. Let me begin the analysis with the fun­ damentals of Reaganomics announced by the White House in February 1981, in what we called the economic White Paper. In that key policy document, we stated that the basic objective of Reaganomics is to shift the balance of power from the Federal government to the rest of society. This important shift was to be accomplished by a four-pronged approach: (1) cutting tax rates, (2) slowing down the growth of Federal spending, (3) curtailing the burden of regulation, and (4) reducing the growth of the money supply. The hoped-for results were to be rapid and sustained economic growth coupled with declining inflation. Well, what has occurred in the way of translating the rhetoric into reality? What have been the

Dr. Weidenbaum is Mallinckrodt Distinguished Univer­ sity P.-ofessor and Director of the Center for the Study of American Business at Washington University in St. Louis. He is a former Chairman of the Council of Economic Adviset·s. Earlier versions of this speech were given in London on November 14, 1983, to a con­ ference sponsored by the International Herald-Tribune, and in St. Louis on November 17 to a conference spon­ sored by Centerre Bank, N.A. effects on the American economy? As we in various new tax "loopholes" being will see, actions have been taken in each of opened up. Also, the compromise would the four areas, but the results have been have eliminated the special spending very uneven. As a professor, I will grade the increases-such as the sugar sub­ Reagan economic program. But please be sidy-which were required to attain suffi­ patient. As in class, the grades will come at cient support for the tax bill from dissident the end. Democrats (the so-called "bollweevils"). In any event, as a result of the tax cuts, the Treasury's share of the national income Tax Cuts has been declining-from 21 percent in 1981 to 19 percent in 1983. The modest On the revenue side, the President urged increase in selected taxes last year (the infa­ the Congress back in February 1981 to mous "revenue enhancements") slowed enact a 25 percent across-the-board reduc­ down this trend but did not reverse it. That tion in personal income tax rates over three downward shift stands in marked contrast years plus a major liberalization of to the 1970s, which witnessed a rise in the business depreciation allowances. That was per capita federal tax burden. A two­ done. But, in the course of the legislative percent drop in the federal share of the process, a "bidding" war occurred, which national income may not sound like much, resulted in many costly items of special but let us remember that two percent of a legislation being added to the tax bill. These $4 trillion economy is $80 billion a year. included the temporary "all savers cer­ That could generate a substantial contribu­ tificates" designed to aid the hard-pressed tion to the national pool of private savings thrift institutions. More fundamental and to finance economic growth. expensive were the added structural But that is not how these developments changes such as indexing the personal were viewed in financial markets. There, income tax system. That is scheduled to the large tax cuts were interpreted as mean­ begin in 1985. Other add-ons include sav­ ing an extended period of deficit financing. ings incentives and reducing the so-called An extremely optimistic official economic marriage tax penalty. forecast-what came to be known as "Rosy Scenario" -aggravated the situation. Finan­ In the course of the legislative process, a cial markets responded with a significant "bidding" war occurred, which resulted i11 rise in interest rates which directly 111a11y costly items of special legislation increased interest on the national debt and, bei11g added to the 1981 tax bill hence, the budget deficit. The rise in inter­ est rates also weakened the capital­ Hindsight tells us that the Administration intensive sectors of the economy. That might have been better off if it had agreed decline in business activity also contributed to the early compromise suggested by key to higher deficits in the budget. Congressional leaders. These members of In one particular respect, the economic Congress wanted to make the third install­ fates have not been kind to Reaganomics. ment of the tax cut contingent on progress Reducing marginal tax rates and lowering in reducing the deficit. That would have the inflation rate have not so far generated obviated the "bidding war," which resulted the expected rise in the saving ratio.

2 3 Rather, personal saving has been a declin­ large amount of budget cuts presumably to ing percentage of personal income. be specified at a future date. What ensued reminds me of the words of the old song, Spending Cuts "Tomorrow, I'll be leaving, but tomorrow never comes." Overall, federal spending has But what about all the spending cuts? On been rising, from 23 percent of GNP in the surface, the growth in federal spending fiscal 1981 to 25 percent in fiscal 1983. has slowed down, but only in what econ­ What these numbers mean is that taxes omists call nominal terms. Government were cut substantially more than originally spending has increased rapidly in real planned and expenditures far, far less-and terms-that is, when we boil out the effects not cut at all in real terms. The result is of inflation. Important shifts in prior­ now large and growing budget deficits. ities-that is, among specific budget I suggest that these undesirable results categories-were made. These shifts were are not an inherent failing of the basic mainly from welfare to warfare. Never­ policy of Reaganomics. After all, the White theless, government spending is a larger Paper called for both large tax cuts and factor in the American economy today than large budget reductions. But the short­ it was in January 1981. coming in execution turned out to be I know that this finding may come as a critical. The resultant large budget deficits surprise to those who read so much about represent an unresolved contradiction in all those budget cuts. During my first year the conduct of Reaganomics. in the Reagan Administration, I used to describe the budget restraint effort with an The large budget deficits are 110t a11 inhere11t old budget office motto, "Good budgeting is faili11g of the basic policy of Reaganomics, the uniform distribution of dissatisfaction." but rather represent a11 tmresolved I stopped saying that because only a few of contradiction in the co11duct of the spending agencies-and their allies­ Reaganomics are greatly dissatisfied. To be sure, tens of billions of dollars of reductions have occurred in proposed The annual flow of red ink has risen from Federal expenditures. Yet those unprec­ $62 billion in fiscal 1981 to $110 billion in edented cuts (mainly reductions in pro­ fiscal 1982 and to the neighborhood of $200 posed increases) have been made entirely in billion-a very rough neighborhood-in a few civilian areas, such as grants to state fiscal 1983. Similar flows of red ink are and local governments and selected social anticipated in 1984 and 1985. Financing welfare programs. But those decreases such large deficits during a period of were more than offset by simultaneous expansion will mean competing with private rapid expansions in military outlays, farm investment for the limited supply of saving. subsidies, and interest payments, and by The White House has blamed the Con­ the continuing and almost inexorable rise in gress for not reducing the swollen budget, so-called "entitlement" outlays. while members of Congress respond that The initial budget report of the new the President has submitted the deficit Administration (issued in March 1981) had a budgets in the first place. The fact of the line for "unspecified savings," supposedly a matter is that both the President and the

4 5 Congress have been shy when it comes to segments of the environmental movement real budget cutting. Because of the inability which previously had avoided engaging in to cut spending in the face of rising deficits, partisan political controversy. it has become fashionable in Washington to In any event, in August 1983 the Vice debate whether deficits matter and whether President announced the termination of the tax increases do more harm than budget Task Force on Regulatory Relief, which he deficits. If the powers that be would make had headed since the early days of the the tough decisions required to curb Administration. The Task Force was estab­ government spending, Administration lished to provided leadership for the spokesmen would not have to dance around Reagan Administration's regulatory reform the fundamental budget quandary in that efforts. It set in motion the initial and fashion. useful regulatory review efforts. Simultaneously, in another key area of Regulatory Reform government involvement in business deci­ sion making, several serious backward Let us turn to the third pillar of steps have been taken since January 1981. I Reaganomics-reducing the burden of am referring to new restrictions of foreign government regulation. The major accom­ trade. Many of these actions have reduced plishment in the regulatory reform area has imports, but some have curtailed our ex­ been undramatic, but significant. For the ports. These contradictory actions have first time in decades, no new major ranged from cajoling the Japanese to regulatory activities have been started. In impose limits on their exports of fact, many burdensome regulations have automobiles to the U.S., to direct limits on been modified or rescinded as the result of imports of steel and meat, to preventing instituting a comprehensive program of U.S. firms from participating in building regulatory review, including the require­ the natural gas pipeline between Western ment for performing benefit/cost analysis of Europe and the Soviet Union. proposed regulations. Savings from these regulatory relief efforts are approximately The Admi11istration's trade policy has its $10 billion a year in current operating shortcomi11gs, but they are overwhelmed by expenses plus a one-time saving of another the Col'lgress' willi11g11ess to pa11der to $10 billion in capital outlays. virtually every protectim1ist i11terest Unfortunately, progress on regulatory reform has slowed very substantially in recent months. The largest regulatory body, Pressures for further restrictions on the Environmental Protection Agency, has imports are very strong. A current example gone through a period of turmoil in the is the Congressional proposal to rigidly course of which many key officials limit Japanese automobile imports via resigned. The new head of the agency has detailed "domestic content" rules. At first cautioned that the present is not an appro­ blush, that may sound fair-until you stop priate time to seek basic changes in and think about it. How many jet airplanes regulatory statutes. Moreover, the actions would we export if each consumer nation and statements of former Secretary of the required that a major portion of every Interior James Watt aroused many airliner it bought had to be produced

6 7 domestically? Clearly, the Administration's consumer level, purchases of art and gold trade policy has its shortcomings, but they and postage stamps once again are looked are overwhelmed by the Congress' willing­ upon as consumption activities, rather than ness to pander to virtually every protec­ primarily investments in what had been a tionist interest. continually rising price level. On balance, I cannot really say that, as a Employees are learning that their wages, result of policy actions since January 1981, salaries, and fringe benefits are vitally the federal government will be intervening dependent on the future success of their less in the American economy than in the i companies. Although not universally, and 1970s. At best, we can describe crosscur­ always grudgingly, workers are increasingly rents, in terms of shifts since January 1981 willing to accept changes in work rules and in the composition of government interven­ job practices necessary to ensure their com­ tion. If you sense a note of disappointment pany's future. But the new sense of realism in these words, that is not accidental. is quite recent. It could readily be reversed if the Federal Government decides to bail Slower Monetary Growth out declining industries, whether through an "industrial policy" or through protec­ With regard to monetary policy-the tionism. fourth part of the Reagan program-the Administration strongly supported the An Appraisal of Reaganomics Federal Reserve System's efforts in 1981 and 1982 to bring down inflation by reduc­ Let me now turn to an appraisal of ing the growth in the money supply. The Reaganomics. I remind my listeners of a Fed accomplished that objective and, thus, point that I made repeatedly in 1981 and also deserves the credit for the decline in 1982, when I was in office. I do not equate nominal or market interest rates. Surely the Reaganomics with supply-side economics large budget deficits have not helped. The and certainly not with the simple-minded Fed should get all the credit for bringing view that tax rate cuts will reduce budget down inflation-but also for bringing down deficits. Rathel-, the Reagan economic pro­ employment! We must acknowledge, of gram is a blend of contributions from course, that progress on inflation was several contemporary schools of conser­ accompanied by a substantial rise in vative thought. unemployment. The most optimistic projec­ tions show the unemployment rate in !11 rea/terms, the estimates for Preside11t January 1985 to be higher than it was in Carter's swm1so11g budget are lower tha11 the January 1981. estimates co11tai11ed i11 the Reaga11 On the positive side, inflation is down Admi11istratio11's most rece11t budget report from double digits to about 4-5 percent and is likely to stay there for a while. There is The tax cuts-focusing on the need to also a new sense of realism in economic reduce those punishingly high marginal decision making in the United States today. rates-were, of course, based on the Ill-conceived company investments and notions described as supply-side economics. expense commitments are no longer Monetary policy, however, was expressed in automatically bailed out by inflation. At the terms of controlling the money supply, a

8 9 concept fundamental to monetarist thought. Surely, the initial policy of monetary The budget cuts were conventional conser­ restraint succeeded in bringing down infla­ vative economics. Regulatory reform was tion. We must recall that inflation was the an objective shared enthusiastically by all number one problem according to virtually conservatives-and many others. every public opinion poll taken in the Taking up each of the four pillars of United States in 1980. During the past year, Reaganomics, I find that the results to date ..., however, the Federal Reserve System has constitute a mixed bag. Tax burdens are I followed a more eclectic approach, one certainly lower than they would have been closer to its earlier tradition of concern in the absence of the actions taken since with money market conditions and interest January 1981. rates. Leading monetarists contend that the It is in the second area-spending reduc­ Fed is no longer following a monetarist tions-that the Administration's accom­ approach, but rather that it has returned to plishments have fallen far short of expec­ Keynesian stop-and-go policy. Certainly, tations. When we compare the projections money supply movements since January of real spending for 1982-86 in President 1981 cannot be described as adhering to the Carter's swansong budget with President guidelines in the Reagan Administration's Reagan's current numbers (also adjusted economic White Paper of February for inflation), we find that the Reagan 1981-gradual and persistent reduction of spending numbers are higher than the the growth of the money supply. Moreover, Carter projections for the same with the President's reappointment of Paul period-and that the gap is widening. Volcker as Chairman of the Fed, the Admin­ In the regulatory reform area, key istration implicitly has endorsed the actions changes that were anticipated have not that he and his colleagues have taken. occurred. Anticipated revisions of the However, the White House apparently has extremely burdensome environmental resumed the practice of publicly needling statutes to make them more cost-effective the Fed, an activity that generally has been counterproductive. /11 the regulatory area, the Admi11istratio11 With the benefit of hindsight, it is clear has taken several steps forward w1d perhaps that the costs of carrying out the Reagan the same number of steps backward economic program have been significantly greater than originally anticipated. Interest were not even recommended to the Con­ rates-especially real rates-are far higher gress by the Administration-in part than initially projected, and so is unemploy­ because of anticipated Congressional ment. Yet the progress on inflation has been resistance. Moreover, protectionist actions greater than most observers expected and, offset many of the genuine administrative at least for a while, the economy is on a improvements made to reduce the cost of growth trajectory once again. complying with government rules. In the The international aspects of the Reagan regulatory area, the Administration has Administration's domestic economic taken several steps forward and perhaps policies are troublesome. The basic prob­ the same number of steps backward. lem has arisen as a result of the interaction It is more difficult to evaluate the fourth in 1981-82 of tight monetary policy and pillar of Reaganomics, monetary restraint. easy fiscal policy. Unlike most previous

10 11 experiences, the budget deficits were not On reflection, that was a tall order, financed by monetizing them via infla­ encouraging reliance on easy answers. All tionary expansions in the money supply. this provides some economic lessons for the Rather, the Treasury competed with private future. Perhaps the overriding lesson is the investment demands for the limited supply need to make tough choices among of saving, thus pushing up interest rates, desirable alternatives-in other words, to particularly real interest rates. Although set priorities. For many people, supply-side the movement was not exactly parallel, the economics was seen as the latest version of value of the U.S. dollar in foreign exchange .r the promise of a free lunch. In any event, markets rose over this same period, reflect­ I visions of rapidly rising revenues dampened ing the increase in interest rates in the I for many the ardor to cut government United States. spending. All this forced many other nations to I higher levels of interest rates, in order to We must label as wishful thinking the stem capital flows to the United States. At notion that the way to cut govemme11t times, that ran counter to the needs of their spendi11g is to cut taxes. The most effective domestic policies, which called for stimulus way to cut spe11di11g is the more to begin a process of recovery from reces­ conventional route, to reduce appropriations sion. Particularly in the developing nations, the result of rising interest rates and a Thus, a more specific economic lesson stronger dollar meant that it was more from the past three years is clear: We must expensive to service their international label as wishful thinking the notion that the indebtedness and that the burden of repay­ way to cut government spending is to cut ment also was heavier. taxes. In its extreme form, this idea had By no means should we attribute all been expressed as the "only way to reduce economic problems to the American budget spending is to reduce revenues." As many deficits. Nevertheless, the prospect of those of us had suspected, and recent experience outsized deficits becoming a durable fixture has confirmed, the most effective way to on the economic scene has set in motion a cut government spending is the more con­ variety of adverse trends, in both the ventional route, to reduce appropriations. United States and elsewhere. The domestic Easier said than done-or many a slip be­ costs to the United States have included a tween the cut and the lip. striking loss of competitiveness on the part of American products in relation to foreign goods. Conclusion The powerful interactions between domestic and international developments On balance, how do I grade Reaganomics are not truly appreciated by the American thus far? I must confess to a certain public. Nevertheless, they have generated amount of ambivalence. I do, however, find some of the special costs that have arisen the general thrust of Reaganomics as at­ under an ambitious economic program tractive as ever. attempting simultaneously to accelerate It is always pertinent to advocate reduc­ defense spending, cut taxes, and slow down ing the tendency to look to the Federal inflation. Government to solve all of our societal ills.

12 13 The whole gamut of social welfare "enti­ The resultant large deficits have con­ tlements" needs to be controlled. High tributed to the high interest rates that have marginal tax rates need to be reduced. Our bedeviled our domestic economy as well as military establishment needs to be strength­ international financial conditions. Budget ened. The private sector needs to be cuts are still high on the agenda of unfin­ elevated in terms of its role in society. ished business. Inflation needs to be kept under control. For regulatory reform, I grade the Admin­ Yet, as we have seen, the specifics of the istration C. It did not face the key statutory Reagan economic program are not entirely problems in the regulatory area. It under­ consistent with that litany of objectives. mined public confidence in environmental The present state of the economy is not controls, and it-albeit reluctantly-em­ devoid of serious problems. In fact, quite a braced many protectionist measures. few of them are more severe than they were In the monetary area, I give the Admin­ in 1 anuary 1981. istration a B +, mainly for supporting Paul On balance, I find the most satisfactory Volcker's leadership, albeit with a bit of way of appraising the Reagan economic counterproductive public needling from program is in terms of the four pillars of time to time. the program. Thus, the high marginal income tax rates have been reduced. But If we have learned anything in the field of that action did not generate the increases in economic policy in the last three years, it is private saving that it was designed to to be wary of simple solutions. I have no achieve. If the personal saving rate had panaceas to offer, other than the strong risen-instead of falling-the huge deficits belief that there are no pmtaceas could have been financed with less upward pressure on interest rates. To tax policy, I give a B. What, then, is the overall grade for Reaganomics? According to my calcula­ tions, it is a disappointing C+. But, of A Report Card on Reaganomics course, this is in the nature of midterm grades which, it is always hoped, inspire Taxation B the student to do much better in the Federal Spending D remainder of the course. Moreover, some Regulation c historical perspective is essential. The Monetary Policy B+ grade that I gave the preceding Administra­ Overall C+ tion was far lower. Let me offer a final point. If we have learned anything in the field of economic With reference to government spending, I policy in the past three years, it is to be find it hard to say that, on balance, any wary of simple solutions. Many difficult progress has been made. For the failure to problems face modern societies. We can cut government spending, I must award a deal with those problems only by making grade of D. Thus, I am in effect giving fiscal hard choices. I have no panaceas to offer, policy an overall grade of C. Clearly, fiscal other than the strong belief that there are policy is the Achilles heel of Reaganomics. no panaceas. The alternative is to embrace

14 15 yet another set of economic nostrums. For example, the continuing pressure for a return to the gold standard shows that the panacea approach to economic policy is alive and well. At the other end of the political spectrum, the burst of interest in "industrial policy" or reindustrialization is another example. It is simply the old, activ­ ist government wine (or vinegar) with another label, but not really of a different vintage. i I see no alternative-in the public sec­ tor-to making the budget cuts that earn the tax cuts. In the private sector, the responsibility for increasing international competitiveness is on management and labor in each industry, who are responsible for increasing productivity and controlling costs. The long-run future of the American economy will be determined by our own ability to take tough actions in both the public and private sectors. That is the basic lesson that we should have learned since January 1981.

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