Sunday, September 15, 2013

Morning in America & The Laugher Curve

Paul Krugman summarizes the business cycle aspects of the Reagan years:
So a quick summary of what happened during Reagan’s first term is that the U.S. economy experienced a much worse slump than almost anyone expected, then recovered by 1985 roughly to trend, with unemployment still somewhat elevated. On the whole, it was a bad record, with hundreds of billions of potential output wasted and a lot of gratuitous pain for the unemployed.But that, of course, is not how it played politically. Because output was growing fast and unemployment falling fast in 1984, as the election approached, it was Morning in America! Supply-side economics vindicated, Keynesianism destroyed! And this legend lives on to this day.
It is true that the tug of war between Volcker’s tight monetary policies - which he later turned around after he whipped inflation through a massive and prolonged recession – and Reagan’s fiscal stimulus was a mess. Apologists for the tax cuts, however, focused more on the alleged long-term effects from allegedly raising real GD growth. The only problem is that real GDP growth during the 12 years Republicans controlled the White House was just over 3 percent and this actually was slightly above the CBO’s estimate of potential GDP growth. Rather than leading to some alleged supply-side miracle, the tax cut lowered national savings and thanks to the Volcker monetary policy also led to higher real interest rates and less investment demand. In other words, the economy suffered from the standard out effect that models that abstract from Keynesian business cycles emphasize. No – supply-side economics was not vindicated by this period of really poorly designed macroeconomic policies. And yet the legend of the Laugher Curve continues in some circles.


Joe Steel said...

And the Reagan Disaster became the Reagan Legacy, its errors and blunders to be praised and repeated over the next 30 years by Democrats and Republicans alike.

It's Mourning in America.

spencer said...

Don't forget it also created the large structural foreign account deficit.