A Kind Word for Keynesian Spending Jude Wanniski November 14, 2001

Memo To: Democratic Spenders
From: Jude Wanniski
Re: Taxing and Spending

You may not realize it, but there is a big difference between "conservative Republicans" and supply-side Republicans. As you become locked in struggle with Republicans over the economic "stimulus" legislation, it may help to clear up these important distinctions. Conservative Republicans as a rule want smaller government. Some want minimalist government, with federal armed forces and practically everything else run by the private sector. Strictly speaking, supply-side economists should be neutral on the issue of the size of government. They should concentrate on making the economy as efficient as possible in its ability to produce a desired level of goods and services with as little effort as possible. Economists should think of "economizing" on labor by setting up systems that enable it to produce more with less. This generally means increasing the level of capital in the system. A primitive worker digs a hole with a stick, an advanced worker digs with a shovel, a modern worker digs with a backhoe. Supply-side economists take issue with Keynesian spending of government revenues, either tax dollars or bond receipts, only when it seems to be used ineffectively relative to the alternatives.

The supply model does not mean "tax cutting," per se. That is how the popular press identified us, as many economists who tagged along with the Reagan revolution knew only tax cuts as a way of making the government smaller. I've had serious GOP conservatives tell me they did not like the idea that a reduction in tax rates could produce more revenue for the government. They took issue with "the Laffer Curve" on the grounds that it suggested a way to add to tax receipts painlessly and so give the government more money to spend in ways that interfered with private decisions. The conservative agenda for smaller government is a legitimate one, just as the liberal agenda for a larger government is a legitimate one. Our constitutional democracy provides a framework in which those issues can be sliced and diced and resolved, with appropriate checks and balances. But these issues are separate and apart from questions of how to improve national living standards with the economic levers available to national policymakers.

There are times when supply-siders would recommend tax increases, times when we would recommend tax cuts, and times like now when some of us have argued neither would solve "the deflation problem," which requires a dollar devaluation against gold (the best proxy for all commodity prices and the clearest link to all other prices). In 1981, we argued for an increase in the gasoline tax, for example, because inflation had sharply reduced the purchasing power of gas-tax receipts, to the point where the interstate highways were full of potholes. The government must do the risk-taking when other factors discourage private risk-taking. Even now, we have supported the idea of using more government revenue for needed public works rather than hand out so-called "tax rebates" to individuals or to corporations. There are also times when a monetary authority that is trying to manage a floating currency needs to appreciate it against gold and other times, like now, when it must devalue to restore financial equilibrium. So you see there is more to supply-side economics than your read about in the papers. It is especially true of the particular branch of classical theory that we have developed at Polyconomics.

Economic growth cannot take place without risk-taking. If individuals are so discouraged about the prospects of investing – because of war or terrorism or lack of confidence in the future for any other reason – the government must take the risks on behalf of the people. This was the basis of Franklin Roosevelt's New Deal during the Great Depression. The national economy had been paralyzed by Republican errors in raising tariff rates and tax rates and the errors made by foreign leaders as they retaliated or simply reacted against these U.S. failures. When capitalism fails, the people will turn to socialism, and if socialism fails may even turn to communism – where the state taxes everyone at 100% and distributes the resources according to central plans. Supply-siders believe the Reagan tax-cuts were instrumental in encouraging rapid, non-inflationary economic growth – while socialist and communist regimes were imploding. When capitalism works well, alternative systems will be less attractive and lose political support.

When I think back on the last dozen years, Republicans began to lose their appeal when President Bush the Elder broke his "read my lips" campaign promise not to raise taxes. There was no need to raise taxes. The conservative wing of the GOP next shot itself in the foot, with the help of House Speaker Newt Gingrich, when it decided to abandon the idea that lower tax rates would increase growth, and eventually prove to be a good investment. Gingrich decided to base his arguments for tax cutting on the old-fashioned GOP case for smaller government, not supply-side dynamics. In a zero-sum argument, Democrats will always have the advantage, insisting their spending or their "targeted tax cuts" for the masses of ordinary citizens will prove a better investment of resources. In a perfectly functioning supply model, every proposal to cut a tax rate or increase a spending line would be debated within a perfectly functioning political system. We have not yet reached that state of perfection on either count. One of the failings is in the Democratic Party, which still resists the idea that some tax cuts will actually increase growth and tax revenues, even though this will permit higher levels of spending. Of course, the counterpart in the GOP is the resistance to the idea that some tax cuts will increase growth and tax revenues – because they will permit higher levels of spending and lead to bigger government.

In other words, supply-side economics should not be considered "conservative" or "liberal." Adam Smith was a supply-sider and so was Karl Marx. John F. Kennedy was a supply-sider and so was Ronald Reagan. Their common denominator was an interest in producing more supply with less effort.