Supply Side/Reaganomics/Trickle Down: Does it really work?

My friend Josh and I have a sort of perpetual debate going about the theory of "supply side" economics and whether or not it worked. Neither one of us specialized in Economics, but both of us work in the financial sector (he is an accountant, I am in banking). He contends that it works, and I argue that it did not, as we have been using supply side economics in roughly 20 of the last 30 years.



This post is my attempt at trying to understand supply-side economics.



Basically, supply-side economics supporters claimed that by cutting taxes on the top earners in our society that tax revenues would increase, as well as "trickle-down" to the general populace because the top earners are the ones that create jobs. In essence, supply-side economics cuts taxes to the top earners in order to increase supply, since our society runs on supply and demand.



Proponents used the Laffer Curve to theorize that in order to maximize federal revenue one couldn't go too low with tax rates, nor too high. This is true. But Reagan and his financial advisors (and every following Republican President that has used this since) misunderstood the Laffer Curve, thinking that every tax cut would increase revenue. But that is simply not true. If you decrease taxes too much, revenue goes down. Basically, tax rates were far higher during the Kennedy administration than they are now (50-60% vs. today's 35-40% for top-tier earners). They were cut, and revenues went up. But that was the maximization. It already happened in those days. Reaganomics worked for Reagan. But that was the highest part of the Laffer Curve. Continuing to cut, as Bush 43 did, led to our problems today. But this is just the Federal Revenue side of this.

On the public side of this, or the "trickle-down" side, which contends that increasing the revenues for the highest earners will trickle down into the pockets of even the poorest. The rich business owner will gain more in money, invest more of it into his company, hire more workers, raise wages, and the middle class will earn more, which goes to the Starbucks and McDonalds and to the companies that employ the lower class, and they too will get hired more and increased wages. Sounds great, doesn't it? But it doesn't work out that way in reality. Business owners have always looked for the bottom line. But unlike the '80s, when Reagan employed Reaganomics, when it was better for the bottom line to hire American workers and raise wages to keep them happier at your company rather than the competition's, now it has become cheaper to outsource. "Trickle-down" now longer works. It has become "trickle out."

Keynesian economics, however, advocate the laffer curve as well, but with a better understanding. They too advocate cutting taxes, but to the middle and lower class. This frees up more money in the classes that spend their money more freely. Money circulates more. The tax base increases, thereby increasing tax revenues. On the public side, Keynesian economics, a "mixed economy," is better described as "trickle-up." Sometimes, private enterprises screw it up for the macro-economics of a country, as we saw in last year's meltdown.

Keynesian economics utilizes the private sector pre-dominately, but realizes that once in awhile, the private sector needs guidance from the government and public sector. This is theory that saved us from the Great Depression and brought in the Golden Age of Capitalism (1945-1970). Keynesian economics is still capitalism, folks. It just uses the government to make sure that the economy "trickles-up" instead of down, which works better. It isn't the middle class that outsources. It is the upper-class. I'd take "trickle up" over "trickle out" any day.

Let me know if I missed anything. Again, this is just my non-economist's view of macro-economics.

Economy Stabilizing

Apparently the economy is starting to stabilize, and the recession may starting to be finally over.

The "Bush Recession" may finally be coming to an end, reports both CNN and FoxNews. Economists are putting the start of this recession at December 2007 (as much as the Obama-deranged would like to blame our current President of eight months).

NEW YORK (CNNMoney.com) -- Stocks sustained gains Wednesday after the Federal Reserve held interest rates near historic lows and signaled the economy has finally started to stabilize.

FOX NEWS: Economists date the start of the recession to December 2007 -- defining much of Ben Bernanke's term as Federal Reserve chairman -- and a majority in a Wall Street Journal survey agree that the recession is coming to an end.

As much as I disliked the bailouts and stimulus package, I have to say, they may have worked.

FOX NEWS: However, in the current recession, companies have been using the productivity gains to bolster their bottom lines in the face of declining sales. Many companies have been reporting second-quarter earnings results that have beaten expectations despite falling sales, due largely to their aggressive cost cutting.

So we are going to start seeing the economy move up for once. Thankfully.

But CNN warns:

"The Fed reinforced what investors already knew, that the economy has gotten a little better," said James Barnes, fixed income portfolio manager at National Penn Investors Trust.
"But until we see more news that either reinforces the belief that the recovery is here or says we've gone too fast too soon, you're not going to see a bigger reaction."

Hopefully this will mean that we'll be fully recovered within a year. If that is the case, I don't know if 2010 will look too good for Republicans.

If it takes longer, 2010 won't look good for Democrats.

We'll see.

AIG

Obama: Nationalize AIG or let it fail.

I read a great editorial today by Jack Cafferty, in which he says regarding the bank bailouts that I believe is applicable to the current controversy over AIG:

"Either nationalize the big ones in trouble or let them fail. It doesn't seem that just continuing to hand them money is working."

So let's talk about this. Tao discusses how AIG is circulating a "Doomsday Memo" about how our economy would collapse if we let them fail. I'm not so sure, because we just keep pouring in money and nothing seems to be getting better. We already own 80% of it! If we own 80% of it, let's just buy it and fix the thing ourselves!

Tao continues:

"It was the government's job -- as the primary lenders and financiers of these essentially bankrupt companies -- to dictate the rules of the game. Of course, they could have put strings on that money. They could have capped bonuses, or salaries overall. They could have capped it for everybody, instead of just the top five or twenty-five executives. They could have taken these companies into bankruptcy, where the executives would not be legally entitled to their salaries or bonuses.Yet, they did none of these things. Instead, AIG executives will walk away with $450 million in bonuses -- at a company that was such a colossal failure that it lost $99.3 billion last year and required a $170 billion taxpayer bailout. Worse yet, the executives in the division that caused this epic meltdown will get $165 million in bonuses."

...if these corporations are too big to fail, then they are too big to exist: a proposition also agreed to by the populists and progressives of the late 1800s/early 1900s, by Abe Lincoln, by Teddy Roosevelt, by FDR, by Harry Truman....understood that corporations that grow too enormous threaten our economy and our democracy, and should be broken up into smaller entities that can't do so much damage when they are mismanaged. The era of bank consolidation has to come to an end, and these monsters need to be broken into smaller companies just like Standard Oil was in the early 1900s. Ironically, some of our tax dollars were actually used by these bank conglomerates to buy other banks, instead of, say, giving out loans to consumers and businesses trying to buy things or make investments that would create jobs...we can start by doing what our progressive forbearers did: breaking up the big financial trusts, regulating them with vigor, holding them accountable. When a class of people has screwed up as terribly as big bankers have, we should take away their power and watch them like hawks for the rest of their time on this earth."

We broke up Microsoft for getting too big. Remember that? Time to do it again, this time with big banks and Wall Street.

Thomas Jefferson said "If the America people ever allow private banks to control the issuance of their currencies, first by inflation and then by deflation, the banks and corporations that will grow up around them will deprive the people of all their prosperity until their children will wake up homeless on the continent their fathers conquered."

Here's the case for the Government letting AIG fail instead of bailing it out.

According to this article from TIME, we don't need to bail it out. We don't need AIG. Our economy will recover and in fact be more prosperous if we let it fail. Here's an excerpt that I think illustrates beautifully what would happen if AIG were to fail:

"Think of the insured house. Many institutions hold insurance on the house; on the other side are insurance companies and the like making an opposite bet. If the house is destroyed, one group of institutions wins and the other group loses. Considering all institutions together, no money was truly lost..."

I've said it before. It AIG fails, something (or many somethings) will take its place and we will be okay.