Advancing a Free Society

Obamanomics Meets Incentives

Tuesday, September 14, 2010

One memorable phrase from the Reagan administration is "supply-side economics." These catchy yet misleading words pertain not to supply versus demand but rather to incentives, good or ill. For income taxes the key point is that cuts in marginal tax rates spur the economy partly through enhanced supply (greater work effort, higher productivity) and partly through expanded demand (increased investment in plant & equipment and in R&D).

Reagan cut the average marginal income tax rate to 21.8% in 1988 from 29.4% in 1981. The GDP growth rate between 1982 and 1989 was a strong 4.3% per year, and I estimate that 0.6% per year of that seven-year growth came from the tax cuts. Similarly, George W. Bush cut the average marginal rate to 21.1% in 2003 from 24.7% in 2000. The GDP growth rate between 2001 and 2005 (including negative effects from the 2001 recession) was a respectable 2.7% per year, and I estimate that 0.5% per year of that four-year growth reflected the tax cuts.

Continue reading Robert Barro in The Wall Street Journal