Does Trickle-down Economics Work?

As the US presidential campaign moves into overdrive, an old liberal idea which has dominated advanced economies since 1981 is once again being peddled around. Whether or not it has any real basis in reality is of little significance to a Republican Party, which since the Reagan years, has championed the underlying idea of throwing money at the top of the economic pyramid. Of all the economic theories posited by the world’s political class, none has been more hotly debated than the idea that “a rising tide lifts all boats”.

When George H.W. Bush challenged Reagan for the Republican nomination in 1980, he labelled Reagan’s neo-liberal experiment “voodoo economics”, arguing that it only favoured the wealthy and privileged at the expense of inclusive and sustainable economic growth and income distribution. Not only do the proponents of trickle-down economics favour deregulation of industry and lower taxes for the rich (to stimulate investment and jobs), they also believe that suppliers of goods drive the economy, not the consumers.

In other words, according to the trickle-down gospel, if the government provides economic incentives to businesses and the rich by reducing the tax they pay on their earnings, incomes and profits, then they will “naturally and inevitably use the extra money to produce a higher level of economic growth, which will create more and higher-paying jobs, in a virtuous circle which ends up benefitting absolutely everyone – even the poor.” The only problem with this theory is that the desired results have remained as elusive as ever.

The super-wealthy love to argue that income from investments should be taxed less than wages. (Perhaps this is why Warren Buffett pays a lower tax rate than his secretary.) Further, they contend that the top earners are responsible for the biggest share of tax revenue, and thus when the wealthy spend more, the whole economy benefits.

Yet if you give money to the rich, doesn’t this simply make them richer and exacerbate the inequality TRIFECTA (wealth, income, opportunity)? If indeed the wealthy choose to apply a small part of this discretionary spending, doesn’t the ever-increasing concentration of wealth add significantly less to the economy in real terms? How many jobs and growth is created by one affluent person paying another of his kind $30 million for a beach side property?

Not surprisingly, in a recent economic speech, the gaffe-prone and erratic Donald Trump ostensibly threw his weight behind trickle-down economics, insisting that the best policy is to cut taxes on the rich and deregulate markets – and the gains will trickle down to everyone else. Haven’t all of this been tried and tested before, and seemingly failed?

Naturally Hillary Clinton has disparaged this trumped-up and discredited idea presented by a man who many believe has facilitated America’s crisis of capitalism turning into a crisis of democracy.

By Hillary Clinton’s own account, when her husband took office his first step was “to get rid of trickle-down economics and replace it with a build-out-from-the-middle, invest-in-growth strategy.” Former President Bill Clinton himself has found fault with the “uneven distribution of opportunity” and has consistently pointed out that under President Reagan, the national debt tripled and further increased 150 percent under President George W. Bush.

It is widely believed that the Reagan economic programme still governs America and much of the industrialized world, and has done great damage to essential sectors of those economies. Some would argue that even the most current government policies under President Barack Obama are still consistent with assorted trappings of trickle-down economics. Banks, mutual funds and investment funds that were once used to transform savings into economic growth and new jobs, are now simply bleeding the real economy and redistributing social wealth from the bottom to the top. The general feeling is that countries are no longer being governed by parliaments and legislatures, but by bank lobbyists. As a consequence, the crucial middle class has been adversely impacted with ever decreasing levels of prosperity.

Many progressive economists including Robert Reich believe that the major job creators in any economy are those who actually buy, the vast middle class and the poor. “If you reduce their share of the economy and yet productivity gains continue, they simply are not going to be able to buy enough to keep the economy going at or near full employment unless you have a huge net export market”, he explains.

Harvard economist Larry Katz believes this economic ideology to be wanting and compares it to a “deformed and unstable apartment building” where “the penthouse at the top is getting bigger and bigger, the lower levels are overcrowded, the middle levels are full of empty apartments and the elevator has stopped working.”

Paul Krugman, a Nobel Prize-winning economist has attempted to debunk the supply-sided theory that being nice to the wealthy and cruel to the poor is the key to economic growth. “But how is that possible?”, he wrote. “Doesn’t taxing the rich and helping the poor reduce the incentive to make money? Well, yes, but incentives aren’t the only thing that matters for economic growth. Opportunity is also crucial. And extreme inequality deprives many people of the opportunity to fulfil their potential.”

Meanwhile, as politicians continue to sing the praises of deregulated markets, global private wealth grew by about 15 percent last year, and America (with its entrenched supply-sided economic approach) has become the most unequal society among advanced countries. Even so, according to a recent survey, almost 90 percent feel that the gap between rich and poor is “getting wider and wider”.

According to the IMF, wealth is now concentrated at the top to a greater extent than ever. In a study a few years ago, the IMF found that as more money is pushed towards high income earners, economic growth actually slows down. The Nobel Prize-winning economist Joseph Stiglitz concurs and has described trickle-down economics as “absolutely wrong”.

I’ll be the first to agree that a certain degree of inequality is the price a country has to pay for innovation, as the incentive of great wealth fosters risk-taking, creativity and entrepreneurship. Put simply: a little inequality fosters innovation. However, there are limits. Does somebody require an annual income of $20 million to be innovative? Inequality is a drag on growth and this is the context in which government must use economic policy to buffer the social impact through the strategic redistribution of wealth and income.

For comments, write to [email protected] – Clement Wulf-Soulage is a Management Economist, Published Author and Former University Lecturer.