Reagan Economics: Great Expectations

Edward J. Dodson

[Reprinted from Equal Rights, Spring 1981]

Backed by the free market and monetarist principles advocated by Milton Friedman and the "supply-side" projections put forth by Arthur Laffer, President Reagan has embarked upon an economic journey which is designed to return the nation toward classic "liberalism" and away from the "demand management" post -Keynesian era. Considerable doubt has been registered, particularly by the party in Opposition, as to the impact of the Reagan plan. What, then, can be expected from the proposed tax rate reductions and cuts in Federal spending proposed by the Reagan administration?

American fiscal and monetary policy can be traced directly to the famed English economist, John Maynard Keynes, who, in a letter to Franklin Roosevelt during December 1933, dictated the plan for recovery:

… as the prime mover in the first stage of the technique of recovery, I lay overwhelming emphasis on the increase of national purchasing power resulting from governmental expenditure … financed by loans and ... not merely a transfer through taxation from existing incomes. Nothing else counts in comparison with this.

Actually, until 1938, Roosevelt chose to ignore this brilliant economists's advice and attempted to maintain a balanced budget by keeping a lid on expenditures and raising taxes. Economists generally agree that deficit spending after 1938 had only minor impact upon the Depression. Rearming for war created the jobs and increased purchasing power.

Most economists agreed with Keynes that the driving force in the economy was "effective demand" and that aggregate demand could be stimulated by either reducing taxes or increasing government spending. Experience in the 1950s and pre-Vietnam 1960s supported the theory that this could be done without serious inflationary consequences. Understandably, economists have been hard pressed to explain the stagflation (i.e., high unemployment/high inflation) of the last decade.

Milton Friedman, on the other hand, has 1argely credited the Federal Reserve System for turning recession into Depression by deliberate contraction of the money supply at precisely the wrong time. Congress and President Hoover also deserve recognition for the passage in 1929 of the Smoot-Hawley tariff bill and an assortment of progressive tax legislation. America had truly entered the age of the managed economy.

The challenge to our generation, and the goal of the Reagan plan, is how we can get unemployed people back to work and increase aggregate demand without the government expenditures associated with war. And, at this point, the element of supply becomes the central issue -- along with terms such as "productivity" and "growth". Supply-side economists point out that demand management policies failed to produce stabilized economic growth and contributed to the inflationary rates of growth in wages and prices. Additionally, they state that the explosion of government redistributive programs prevented the achievement of demand management's primary stabilizer -- the cyclically balanced budget.

The Reagan program is designed to control aggregate private demand by urging the FED to follow a policy of "tight" money, increasing the money supply at a rate equal to the growth in real GNP. Monetary policy cannot alone control government demand, however, and Congressional spending has rendered fiscal policy to the level of inept rhetoric. Meaningful budget cuts will be extremely difficult to achieve in the environment of special interest. Finally, reductions in tax rates to business and individuals are expected to increase saving and investment in new plant and equipment. Economist Peter I. Bernstein recently expressed the view that:

American corporations are in desperate need of more equity as a base for the additional debt financing that is in turn essential to finance economic growth.

Since American industry is dependent on international trade for essential natural resources, we must become more productive if we are to compete in the international market.

The one question I have not yet heard addressed by the supply-side economists is the method to be utilized for control over monopolistic appropriation of any increases in productivity achieved. I am quite positive that the member nations of OPEC and our own domestic corporate resource owners do, indeed, have "great expectations" for the Reagan plan!