US Economy

Congress is counting on America having 'amnesia' about Reagan's tax cuts, Yale expert says

Key Points
  • A Yale University expert criticized the Republicans' proposed tax plan, saying Congress was counting on America having "amnesia" about President Ronald Reagan's "voodoo economics"
  • Critics of Reagan's tax cuts in the 1980s argue that the move created huge national debt
  • The proposed tax changes could bring about a budgetary crisis like one seen during Reagan's term, Stephen Roach said
  • Contrary to the Republicans' assurances, the tax cuts are not likely to be self-financing, he added
Are US tax cuts 'voodoo economics'?

A Yale University expert on Friday delivered a stinging criticism of the Republicans' proposed tax plan, saying Congress is counting on America having amnesia about the results of President Ronald Reagan's economic policies.

"This the same 'voodoo economics' that we heard repeatedly in the 1980s, and I guess the Congress is counting on the fact that we're all suffering from amnesia," said Stephen Roach, senior fellow at Yale's Jackson Institute of Global Affairs, referring to President George H.W. Bush's disparaging description of Reagan's tax cuts.

"But there are a few of us who are not," he added.

After Reagan took office in 1981, he implemented two tax overhauls in a bid to bring the economy — then facing a recession — up to speed. The president spearheaded an effort in 1981 to reduce income taxes for Americans across the board, and a second act in 1986 to simplify the tax brackets.

Some have credited Reagan's first policy with spurring the economic boom in the 1980s.

But critics argue the move created huge debt: During the course of Reagan's eight-year term, credit levels ballooned from $994 billion to almost $2.9 trillion.

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The GOP tax plan could bring about a similar budgetary problem: The U.S. Congressional Budget Office estimates the cuts will add approximately $1.3 trillion to the deficit over the next decade, according to Roach, also ex-chairman of Morgan Stanley Asia.

"Now, the Republicans of course say this is a self-financing tax cut ... They've told us this repeatedly over the past 25 to 30 years. It's never worked out that way," Roach said.

Reagan's 1986 tax reform was designed to be revenue-neutral. That is, any loss in revenue from the cuts had to be counterbalanced by revenue gains so that total tax proceeds remained constant.

One way his administration tried to achieve that goal was by increasing the maximum tax rate on long-term capital gains from 20 to 28 percent at the same time it lowered the rate on ordinary income from 50 to 28 percent.

Total revenue then fell less than $1 billion in four years; in contrast, his 1981 cuts led to a $208 billion reduction in revenue.

And although Republicans today similarly assure Americans that the planned tax cuts will be self-financing, the specific argument they're presenting holds no water, according to Roach.

While Congress has said that the economic expansion arising from the move will fundamentally cover the budgetary losses incurred from the cuts, Roach said that the connection between growth and tax cuts that Congress is proposing is "tenuous" and "a real stretch."

Expansionary policies are necessary for the United States to restore its competitiveness in the global economy, but fiscal prudence must not be forgotten at this time, Roach asserted.

"We are lacking in savings. For a savings-short U.S. economy, you can't just legislate an extraordinary wishlist of ambitious programs without thinking about the funding issues," Roach said.

"We're really flirting with potentially a very serious problem in terms of funding that will have very ominous consequences for the U.S. markets and the economy," he said.

Speaker Paul Ryan: Tax inversions will 'take off' if we don't cut corporate taxes

House Republicans on Thursday passed the tax cut bill with 227 votes for and 205 against.

Among other things, the plan will slash corporate tax rates from 35 to 20 percent and reduce personal income tax brackets to four from seven — efforts that Congress has said will benefit the economy.

"Getting from the last of the country pile, meaning the highest industrial world tax rate, to one of the best tax rates, we really are convinced that that's going to give us faster economic growth and higher wage growth," House Speaker Paul Ryan told CNBC on Wednesday.

But Roach suggested the move could come from ambitions unrelated to economic prudence.

"In a frenzy to finally try to do something — and they've failed repeatedly so far this year — the conservative Republicans are forgetting their own sense of fiscal discipline," Roach said.

The U.S. economy beat growth expectations for its latest quarter, hitting a 3 percent expansion rate compared to a predicted 2.5 percent. A rise in inventory investment and a reduced trade deficit helped offset slowdowns in consumer spending and construction.