Inflation is high, supply chains are mangled and incomes are stagnant. How can we get out of this hustle and bustle? The Federal Reserve is touting its arsenal of outlandish-sounding tools: interest rate changes, quantitative easing, and repurchase agreements, to name a few.
But the right way to grow our economy is much, much simpler: cutting federal income taxes.
In his new book, Taxes Have Consequences, economist Art Laffer examines the history of key changes to the federal tax code since the introduction of our federal income tax in 1913.
Since its passage, the top rate of federal income tax has fluctuated immensely. The highest marginal tax rate was up to 91% (in wartime) and up to 25%.
And during the last century there has been a remarkable, consistent and irrefutable trend. The economy improves whenever this upper marginal rate is lowered and vice versa.
Think of the Roaring ’20s – which actually started with a whimper. High taxes levied to fund US involvement in World War I dampened economic growth. But that all changed when Congress cut the top tax rate from 73% to 25% and the economy took off. Keyword “Great Gatsby”.
A similar situation occurred after World War II. Federal taxes remained high as the United States became involved in the Korean War, and gross domestic product grew a meager 2.5% in the 1950s.
After his election in 1960, John F. Kennedy pushed for a massive federal income tax cut, which was passed after his assassination. The result? GDP growth doubled to 5%.
Why Lowering Federal Income Taxes Helps the Economy?
First, taxing anything means people get less out of it. When you pass a 1,000 percent tax on strawberries, everyone will start eating other fruits. Most politicians know this and even opt for “sin taxes” on things like cigarettes to reduce smoking. If you increase taxes on cigarettes, you’ll have fewer Marlboro sales. If you increase income taxes, you get less total income. Always.
In the case of income taxes, higher rates deter people from working. Who wants to work harder when the government is taking 90% of what you earn?
Lower interest rates mean people can keep more of the money they earn. This motivates people to work more. It also means people have more money to spend – which is also good for the economy.
The top 1% of earners generate a lot of revenue and also spend a lot. But they respond to stimuli like everyone else. When taxes are high, high earners will try to compensate in non-taxable ways.
In the heavily taxed 1950s, the top tax rate was around 90%. People didn’t stop earning — they just changed the way their earnings flowed to avoid taxes. Instead of paying top dollar to their CEOs, companies took to offering huge perks — which were tax-free.
A high income tax rate also eats away at federal revenue. When the federal government raised the tax rate in the early 1930s, the top 1%’s total tax revenues fell from $9.8 billion in 1929 to $3 billion in 1932. As people pulled money out of the economy, to Avoiding taxes helped exacerbate the Great Depression.
There are many parallels between the economic malaise of the 1970s and today. High inflation and stagnant growth combined to create “stagflation”. Interest rates skyrocketed and unemployment reached double digits early in Ronald Reagan’s presidency.
How did we get out of there? Reagan worked with Congress and gained broad bipartisan support for tax reform in the 1980s. (Even Joe Biden voted for it.) These reforms led to economic growth in the late 1980s and 1990s.
More wealth circulating in the private sector boosts economic growth.
Lower taxes, better profitability.
Will Coggin has worked for several public affairs firms in Washington. This column was provided by InsideSources.com.