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July 13, 2005
The Laffer Curve Strikes Again

It seems that every twenty years or so, politicians have to get a reminder on economics regarding the relationship between effective tax cuts and tax revenues. Presidents Kennedy and Reagan both cut marginal tax rates and wound up sparking economic growth that generated billions of extra revenue. Within hours of hearing the leading Democratic presidential candidate excoriate President Bush for following their lead, the White House now shows that the budget deficit has dropped significantly and more tax has come into federal coffers than expected:

For the first time since President Bush took office, an unexpected leap in tax revenue is about to shrink the federal budget deficit this year, by nearly $100 billion.

On Wednesday, White House officials plan to announce that the deficit for the 2005 fiscal year, which ends in September, will be far smaller than the $427 billion they estimated in February.

Mr. Bush plans to hail the improvement at a cabinet meeting and to cite it as validation of his argument that tax cuts would stimulate the economy and ultimately help pay for themselves.

Based on revenue and spending data through June, the budget deficit for the first nine months of the fiscal year was $251 billion, $76 billion lower than the $327 billion gap recorded at the corresponding point a year earlier.

Where did all this extra revenue come from? Did it come out of the pocketbooks of the working man? No -- the largest gains in tax revenue came from corporate profits. Even for the gains made in receipts from individual taxpayers, the increases mostly were delivered from investment gains and business earnings. Little of it came from income withholding.

This data demonstrates that far from the hysterical Democratic rhetoric screeched through the media for the past five years, the Bush tax cuts wound up getting more money from the rich, not the middle class or the poor, despite targeting capital gains and marginal tax rates. Why? The lower tax thresholds allowed more people to keep their money, resulting in broader spending -- which creates demand for more manufacturing and services -- or in this case, broader capital investments, which also creates jobs.

We've seen this dynamic before. In the 1980s, when Reagan proposed the same kind of plan, Bush's father called it "voodoo economics", an embarrassing appellation that eventually softened to Reaganomics. That transition occurred when it became clear it worked. Putting money back into the markets where it creates goods and services, and jobs, almost always results in better and more reliable tax revenue. Democrats (and some Republicans) found themselves on the wrong side of history then, and when Bush 41 forgot that lesson in 1990, he paid for it with a recession and an early exit from the White House.

Bush has more to learn about economics, however. He needs to address the second part of the strategy, which is to reduce overall spending for the federal government, at least for those departments not related to the war effort. But this result proves once again Bush's wisdom in going back to Reaganomics to allow the market to use money in the most efficient manner. This way, everyone wins.

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Posted by Ed Morrissey at July 13, 2005 12:00 PM

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» Laffer from CommonSenseDesk
Captain Ed discusses the currency of the Laffer curve. [Read More]

Tracked on July 13, 2005 2:01 PM

» Quick Shots: Same Ol' Song and Dance from Decision '08
Captain Ed looks at the still-declining deficits and higher tax receipts and concludes: yep, the Laffer Curve's alive and well... [Read More]

Tracked on July 13, 2005 9:14 PM

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