Studying Ronald Reagan: Part 1 Voo-Doo Economics

Have you ever heard the phrase trickle-down economics? The term gained popularity when Ronald Reagan passed his massive tax cuts to the wealthy in 1981. While the term trickle-down was used by the enemy of that agenda, the right referred to it as supply-side economics. No matter the term the primary idea was that the wealthiest in society create all the jobs, therefore if you give them the money it will “trickle-down” to all members of society. So how did trickle-down economics pan out for us here in America? 

Before engaging in an argument that can be split a million ways about the “success” of the 80’s, let’s open the tool box and see how to dismantle this. Ah, Velocity of Money, that will do the trick. If we remember the velocity of money is the rate at which money changes hands. Later we will dive into why money changing hands is the core of an economy. It is known that someone making less than $50,000/year will spend 100-110% of any tax cut or stimulus given to them. It is also known that a wealthy person with millions of dollars will spend 0-30% of any tax cut or stimulus given. This is really easy to visualize, if you are barely scraping by, that stimulus could help you eat, pay bills, or cloth your children, of course you will spend it immediately. On the reverse side, image what a millionaire did with their $1200 stimulus check, they put it right into their bank. That money won’t see the light of day, or should I say the light of the American Economy again. 

This is one of the major reasons we see massive inequality start to take hold during and after the Reagan Era. Once the wealthy got that chunk of the economy they have no incentive to give it back.

Income Gains Widely Shared in Early Postwar Decades - But Not Since Then

Notice on this chart from the Center on Budget and Policy when those lines really started to separate – 1981. Reagan didn’t change this chart with tax cuts alone, he also completely annihilated unions and any laws protecting workers. 

Let’s dive into his actual tax cuts.

The first tax cut (The Economic Recovery Tax Act of 1981) among other things, cut the highest Personal Income Tax rate from 70% to 50% and the lowest from 14% to 11% and decreased the highest Capital Gains Tax rate from 28% to 20%.

The second tax cut (The Tax Reform Act of 1986) among other things, cut the highest Personal Income Tax rate from 50% to 38.5% but decreasing to 28% in the following years [2] and increased the highest Capital Gains Tax rate from 20% to 28%.

If you caught our tax piece on how the wealthy avoid taxes, your ears probably perked up when you noticed that Reagan first cut the Capital Gains tax, Bush then followed in his footsteps dropping it back to the 20% we see today. This was one of the effective ways to let the wealthy pay far less taxes than workers. When we think about socialism for the wealthy after FDR, this is a prime example. Lobbying the government to change a law so that you make more money. That is socialism, a real competitor would earn it in the market. Funny how the wealthy “capitalist” seem to be so well versed in using the Government to enrich themselves. 

You might have also noticed that the top Marginal Tax rate was 70% before Reagan and 28% after Reagan. That is a radical change. This is the beginning of the extreme wealthy and aristocracy of families like the Walton’s. Imagine owning the bakery, butcher shop, toy store, electronics store, mechanic shop, pharmacy, and garden center in every town in America, then only having to pay a maximum tax rate of 28%. And that is the worst case scenario, they typically avoid all taxation as we have just seen with President Trump paying $750 in taxes in 2016. So the Walton’s and Jeff Bezos are funneling money out of every small town and large city in America, with a majority of the wealth never returning to the system. Think of the economy as a bathtub, the wealthy are putting massive holes in our tub and no one is making them add some water back. With the Reagan tax codes they could drain money from the rest of the country at a rate never seen in America.