Some of you, those of you who are old enough to have lived through the Reagan Administration, will remember ‘trickle down’ economics. That was the notion that tax cuts for corporations and businesses (and also the wealthy) would create economic activity that would ‘trickle down’ to the middle and working classes.
The architect of that notion was David Stockman, a former Congressman and the Director of the Office of Management and Budget under President Ronald Reagan. (Stockman has since repudiated his own theory, making him a prophet without a flock.) In any case, what is incontrovertible is that Reagan’s tax cuts increased the deficit of the federal government substantially: during his, presidency, the national debt grew from $997 billion to $2.85 trillion.
So, why doesn’t ‘trickle down’ work?
It’s really not that hard to understand.
First of all, if you’ve ever studied economics, you’ve probably heard of the ‘multiplier effect.’ The effect can be demonstrated with a simple example.
Back in the late 1990s and early 2000s, the city of Boston had a project, formally known as the Central Artery/Tunnel Project, but which everyone knew as the “Big Dig.” This project brought in literally thousands of construction workers to the Boston area to work on the project. Each one of these had to be housed, and clothed, and fed, all in the Boston area. The landlords, the restaurants, the retailers who had to house, feed and clothe these workers all had a significant uptick in business as a result. This allowed them to do things like make home repairs, hire more waiters and waitresses, hire more retail staff, and so forth. Each of these hired staff also had more money to spend on things, and so the economic activity ‘multiplied’ and spread throughout the Boston economy.
This works only while the economic effects stay local. That is why infrastructure projects, like road and bridge repair, are such a boon to a local economy. All the economic activity stays local. And it’s also why trickle down doesn’t really work.
The problem is that both large corporations and the very rich are no longer confined to any geographic locality. Big corporations, like Exxon Mobile, Apple, General Motors, or AT&T went global a long time ago. Corporate profits are already at record highs. If companies were interested in investing their profits, they already have every opportunity to do so. If they were interested in raising wages, they have already had every opportunity to do so. Lowering corporate taxes might increase the already record high profits, but the fact is clear: lowering corporate profits does not metastasize as a large increase in economic activity.
And so with the wealth of individuals. As the Paradise Papers have already proven, the über-rich do not hold their money in investments in the United States. They hold them in places like Switzerland, Luxembourg, the Isle of Man, Bermuda, the British Virgin Islands, the Cayman Islands, Vanuatu and Cypress. Chrystia Freeland recently wrote a book called ‘Plutocrats’ that reported on the ‘rise of the new global super-rich and the fall of everyone else.’ Her book demonstrates, without a doubt, that the super-rich are no longer bounded by any geographic borders.
The notion that the tax cuts proposed by the Republicans would “pay for themselves” is pure fantasy. It would require the United States to produce a sustained growth rate of 6% to 7%, which not even China is able to achieve right now. As the New York Times recently put it in a memorable headline, “in [the] battle over tax cuts, it’s Republicans vs. Economists.”
We fell for trickle down once. Don’t fall for it again.