There are many who think that the supply side theory being advanced by a large number of conservative Republicans is basically a fraud. The theory, which is attributed to something the economist Arthur Laffer wrote on a napkin says that by cutting tax rates, the economy will be so stimulated that tax revenues will go up, not down, over a few years. (Laffer has said that this is a misinterpretation of his idea.)
The most recent application of the idea is by President Trump in his tax bill of 2017. He argued that by lowering cooperate tax rates in particular and reducing tax rates on income mostly for higher income people, the economy, already close to full employment, would get such a boost that the growth rate of GDP would jump to 3% a year, far above the 1.5% to 2% predicted by many economists.
Trump’s bill passed the House and Senate on party-line votes, but there are many Republicans who refuse to support this argument, such as those at the Committee for a Responsible Federal Budget, who argue that Trump’s plan will add $1.5 trillion to the national debt.
Most Democrats, meanwhile, stick to Keynesian, demand-side theory which says that when the economy is hot (as it is now), government should raise tax rates. This will put a damper on the economy, preventing overheating, and create a surplus which can be used to reduce the national debt as a percentage of GDP.
Economist Paul Krugman, in one of his better columns in he NY Times on February 8th, 2018, describes the situation very clearly.
Excerpts from the Krugman column:
In 2011, House Republicans, led by Paul Ryan, issued a report full of dire warnings about the dangers of budget deficits. “The United States is facing a crushing burden of debt,” it declared, warning of a looming fiscal crisis that might soon “capsize” the economy. Citing the horrors of big deficits, Republicans refused to raise the federal debt ceiling, threatening to create financial turmoil and effectively blackmailing President Barack Obama into cutting spending on domestic programs.
How big were these horrifying deficits? In the 2012 fiscal year the federal deficit was $1.09 trillion. Much of this deficit, however, was a direct result of a depressed economy, which held down revenues and increased outlays on unemployment benefits and other safety-net programs. The deficit fell rapidly over the next few years as the economy recovered.
This week Republicans, having just enacted a huge tax cut, cheerfully agreed to a budget deal that, according to independent experts, will push next year’s deficit up to around $1.15 trillion — bigger than in 2012. True, this won’t quite match 2012’s red ink as a percentage of G.D.P.; but this time none of the deficit will be a result of a depressed economy.
Wait, it gets worse. In 2012 there were strong economic reasons to run budget deficits. The economy was still suffering the aftereffects of the 2008 financial crisis. Unemployment was around 8 percent. And the Federal Reserve, which normally takes the lead in fighting slumps, had very limited ammunition: It had already cut interest rates to zero, and its policy of “quantitative easing” — purchasing longer-term debt — was of questionable effectiveness. (And Ryan, among others, fiercely attacked the Fed’s efforts, which he claimed — wrongly — would “debase the currency.”)
The state of the economy in 2012 was exactly the kind of situation in which running budget deficits is actually a good thing, because they help sustain overall spending. By contrast, there is no comparable case for deficits now, with the economy near full employment and the Fed raising interest rates to head off potential inflation. (Maybe the Fed is moving too soon, but the contrast with 2012 is still extreme.)
If anything, we should be using this time of relatively full employment to pay down debt, or at least reduce it relative to G.D.P. “The boom, not the slump, is the time for austerity at the Treasury,” wrote John Maynard Keynes. But Republicans have turned that sage advice on its head. They are providing more stimulus to an economy with 4 percent unemployment than they were willing to allow an economy with 8 percent unemployment.
There have been many “news analysis” pieces asking why Republicans have changed their views on deficit spending. But let’s be serious: Their views haven’t changed at all. They never really cared about debt and deficits; it was a fraud all along. All that has changed is the fact that a Republican now sits in the White House….
…pretending to care about the deficit served several useful political purposes. It was a way to push for cuts in social programs. It was also a way to hobble Obama’s presidency.
….Republicans weren’t just vehemently opposed to fiscal stimulus; they were also vehemently opposed to monetary stimulus. Basically, they were against anything that might help the economy on President Obama’s watch.
Now Obama is gone, and suddenly deficits don’t matter.
…this is all about Republican bad faith. Everything they said about budgets, every step of the way, was fraudulent. And nobody should believe anything they say now.