THE PRESS MONDAY, AUGUST 3, 1981. Reagan’s tax cuts

Press, 3 August 1981, Page 16

THE PRESS MONDAY, AUGUST 3, 1981. Reagan’s tax cuts

President Reagan’s success in getting his tax-cut bill through Congress runs directly counter to the adage that “the President proposes but Congress disposes.” But this is not out of place because the tax cuts themselves run counter to the broad lines which American economic policy has followed for two decades or longer. Mr Reagan is boldly aiming to extricate the economy from the inflation, lagging growth and high unemployment which more conventional policies, applied through the 19705, have apparently been powerless to end.

Mr Reagan’s policies are founded on a belief that reductions in tax rates will, in association with other measures, increase employment and the output of goods without, at the same time, increasing the rate of inflation. The belief — it may be a hope — is that tax cuts will stimulate people to produce and save, so increasing the supply of goods and services and reducing inflation. The key question is whether tax cuts will indeed boost productivity enough to offset the inflationary effects of increased demand and of a higher government deficit. Advocates of Mr Reagan’s policies argue that the tax system has in recent years been biased against work and investment, and that if the after-tax, after-inflation return for hours worked or savings invested is increased workers and investors alike will have powerful incentives to become more productive. At the most basic level, the success or failure of Mr Reagan’s policies will hinge on whether the tax cuts do indeed make people work more and make them more able and eager to invest in productive enterprises. If the tax cuts do release a new, vigorous entrepreneurial spirit in the United States, Mr Reagan’s policies seem assured of at least relative success. But whether people’s expectations and behaviour will change in response to his Administration’s policies will remain, for some months at least, an open question.

The conventional wisdom is that inflation can only be curbed by battening the economy down — by slowing down the rate of growth of the money supply and by curbing government spending. Mr Reagan does plan to slow the rate of growth of the money supply and to curb government spending, but to annul or ameliorate the recessionary effects of these conventional steps by encouraging economic growth through his tax cuts. The tax cuts, it is admitted, may temporarily increase the deficit, but if the predicted growth does eventually occur, the inflationary effects of a higher deficit will be offset. This depends on it being a realistic prospect that cuts in tax rates will actually increase total tax revenues. This will happen if tax evasion and avoidance become less attractive, or no longer worth the bother or risk, and if economic activity is so encouraged that more tax revenue will result because, although the tax rates are lower, they are

levied on a larger base. Tax cuts may not be inflationary, but only if real production grows to the extent hoped for as a result of them.

But the risk remains that cutting tax rates will produce markedly less revenue and that even though the tax cuts are associated with budget cuts, the deficit will rise. This will mean the tax cuts will fuel inflation by stimulating demand more than they stimulate real increases in production. Critics of Mr Reagan’s economic programme are continuing to contend that inflation will only be brought under control by keeping the economy cooled down and by encouraging investment in highly productive enterprises by more selective means than across-the-board tax cuts.

The further controversial aspect of an economic programme based on tax and budget cuts is that the budget cuts may have a serious effect on the livelihoods of the less fortunate and needy in the United States. The Administration has promised that its spending cuts will not affect the truly needy and that the necessary social safety net will be left intact. There remains some scepticism that there will be holes made in it by the budget cuts through which some of the needy will fall. These misgivings about the social effects of Mr Reagan’s economic policies are reinforced by the manner in which the tax cuts will favour the wealthy over the less well-off. Being across the board, the tax cuts will make the tax system less progressive. This may well intensify resentment against economic inequalities in American life which could have unpredictable consequences.

The Administration’s hope is that its paying less regard than other recent administrations to the distribution of America’s wealth will not have adverse consequences because, as President Kennedy’s maxim had it, “a rising tide lifts all the boats.” The hope is that if everyone’s economic condition improves through growth, greater inequalities will not matter. The possibility that its policies may exacerbate social and economic tension in the United States introduces an added note of uncertainty into any assessment of Mr Reagan’s policies. If the policies fail to achieve other effects expected of them, this may turn out to be a crucial uncertainty.

President Reagan himself is certainly aware of queries and doubts about the economic and social effects of his policies. This may have cooled somewhat the euphoria which followed Mr Reagan’s success in getting his tax cuts through Congress. But his optimism is strong; earlier he declared confidently that “we can act in hope.” If his hopes prove misplaced, his own political future will be only .one of the casualties. If his hopes prove . sound, his Administration will be seen as the most important since that of Franklin Roosevelt.