Surprise! Tax cuts cause income inequality, not economic growth

Posted Wednesday, September 19, 2012 in Analysis

Surprise! Tax cuts cause income inequality, not economic growth

This graph (courtesy of New York Times) demonstrates clearly the bottom-up growth of the American economy. Tax increases spur economic growth and job creation; tax cuts are associated with subsequent job loss and economic decline.

by Gina Hamilton

If you really think about it, the Republican insistance that tax cuts will grow the economy seems absurd in the extreme. Yet Republicans keep saying it, even though study after study, and American history itself, keeps proving them wrong.

It does not seem to matter to them that, historically, the economy grew in the most sustainable way when tax rates were high and income inequality was low. More American jobs, historically, were created when the marginal tax rate was at its highest point, in the late 1940s and early '50s. Coupled with tax cuts, when they occurred, was an increase in unemployment, from World War II to now.

That's not to say there weren't recessions or slow periods in the Truman, Eisenhower, Kennedy, and Johnson years; there were. But historically, it was a time of massive government spending programs, which had a stimulative effect on the whole economy, as well as a strong private sector. Both things — a strong governmental spending policy and a strong private-sector economy — did not seem incompatible at all. They grew up together while we were establishing agencies to increase human knowledge ... like NASA, the National Science Foundation, and the CDC ... AND while we were working for the common good, creating Medicare, family assistance and food-stamp programs, college grants for poor children, the Peace Corps, and so on, and virtually every other public works project that didn't originate in the Great Depression.

As a result, there were superhighways for General Motors cars to drive on; the computer that would change all our lives fundamentally was slowly being born; satellites that would one day bounce television and telephone signals from one side of the earth to the other at the speed of light were beginning to ring the globe; children were routinely being immunized against dreaded diseases and living to see their 10th birthdays thanks to antibiotic manufacturing and a growing health-care sector. 

The notion that America was the land of promise was virtually undeniable, even in the shadow of the flip side of American ingenuity — the silos filled, not with grain, but with intercontinental ballistic missiles that could, we all knew, wipe out not only the U.S. and U.S.S.R., but every living thing on the planet in less time than we could bicycle home from the newly built playgrounds growing up in suburban neighborhoods that sprang to life in the aftermath of the Second World War.

But the military-industrial complex was an American industry too, and employed millions of people.

The latest in a growing chorus of scholarly reports is by the nonpartisan Congressional Research Service, and was released on Sept. 14.  In the report, the author ties tax rate, productivity, savings and investment, gross domestic product, and the share of the national wealth of labor and the top fraction of a percent of taxpayers, who historically paid the top marginal rates in income and capital gains.

The report is another fascinating read into the peculiarity of American behavior and recent monetary policy. In the immediate postwar period, all healthy indicators in the economy were up ... there was almost full employment, savings and investment rates were high, housing starts were strong, business starts were strong, the ratio between "job creators" and labor was reasonable, GDP was up ... and the highest marginal tax rates were north of 90 percent.

As tax rates fell, however, the benefits to the economy did not improve. As the report says in dry economic terms, "The results of the analysis suggest that changes over the past 65 years in the top marginal tax rate and the top capital gains tax rate do not appear correlated with economic growth. The reduction in the top tax rates appears to be uncorrelated with saving, investment, and productivity growth. The top tax rates appear to have little or no relation to the size of the economic pie."

In other words, cutting taxes is not a way to grow the economy, nor has it been the American experience over the last 65 years.

The study did find a correlation between reducing the top tier of income tax and capital gains taxes and income inequality, however ... a very strong one.

Despite yet another report demonstrating American economic history, count on the Republican ticket to dismiss it. It would simply be too hard for these dyed-in-the-wool Friedman fans to reconsider long-cherished theorems, and perhaps try something new.

Or something old. Something about, say, 65 years old.

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