What Is Supply-Side Economics?

First some definitions.  All of economics involves a dance between supply and demand.  And government policies toward these two variables can have a profound effect.  Keynesian economics is all about the demand side.  If in a period of high unemployment a government spends more revenue than it takes in from taxes, this will spur demand and help the economy recover.  Virtually every country in the world practices Keynesian economics by regularly running fiscal deficits.  Problem is that even in good times they still persist in running deficits, and this has a very dark side.  It results in too much demand and inflation in prices, and it also increases federal debt.  The other side of the equation is supply.  This affects the producer of goods and services.  Companies that are hiring in good times, and laying off in slow periods.  Let's look closer into the supply side.

Many critics of supply-side economics argue that it favors only the rich.  The argument goes that most people that run and/or invest in business are already wealthy, so why would we have policies that benefit only them?  This complaint is short sighted and just plain specious.  Economic journalist the late Warren Brooks did an analysis of Reagan's supply-side policies , and focused on how much more taxes Americans would have paid if the Reagan tax cuts had not happened.  He found that the average filer with an income of less than $10,000/yr would have paid $500 more in taxes, or 134%  higher.  People with incomes between $10,000 and $30,000 would have paid roughly $2000 more, or 79% higher.  People with income of $60000 would have paid $6000 more.*  As you can see, these were not tax cuts for just the rich.

Harvard economist Lawrence Lindsey showed that taxes paid by the rich were substantially higher than they would have been if the top tax rate had remained at 70%.  In a famous study published by the Journal Of Public Economics he found that for all of Reagan's income tax cuts, between one sixth and one quarter of expected revenue loss was "recouped by changes in taxpayer's behavior."  But what was most remarkable about Lindsey's findings was that the tax cuts for the richest Americans raised revenues.  He found that about $17.8 billion more was collected from these wealthy individuals than had been predicted.  Lindsey concluded, "Some of the more extreme supply-side hypothesis were proven false.  But the core supply-side tenant -- that tax rates powerfully affect the willingness for taxpayers to work, save, and invest, and thereby also affect the economy -- won as stunning a vindication as has been seen in the last half century of economics.**

In short, the student of economics should conclude that fiscal tools of both supply and demand need to be used to insure a strong economy. 

*  Warren Brooks, "The Tax Capitalization Hypothesis", Policy Review, Winter 1987

**  Lawrence B. Lindsey, "Individual Taxpayer Response to Tax Cuts: 1982 -84: With implications for the revenue maximizing tax rate," Journal of Public Economics, 1987, Vol. 33,issue 2, 173-206.