Reaganomics

“The best sign that our economic program is working,” former President Ronald Reagan once quipped during his second term, “is that they don’t call it ‘Reaganomics’ anymore.” Indeed, the phenomenal success of Reaganomics can be discerned easily by examining the performance of the U.S. economy before he arrived, while he was in office and after he departed.

Before Reaganomics arrived, economists had to invent a new term — “stagflation” — to describe the performance of the U.S. economy during much of the 1970s, particularly the conditions that Mr. Reagan inherited in January 1981. “Stagflation” was commonly defined as “slowing growth in the economy accompanied by a rapid rise in prices.” During the last two years of the Carter administration, the economy expanded by an average annual rate of 0.6 percent. Meanwhile, consumer prices soared by 13.3 percent in 1979 and 12.5 percent in 1980. When Mr. Reagan took the oath of office, the prime rate was 20 percent. The Dow Jones industrial average stood at 971, which was not much higher than the level it reached 16 years earlier in January 1965 (901) when Lyndon Johnson was inaugurated.

Unquestionably, two major across-the-board reductions in federal income-tax rates represented the most prominent feature of Reaganomics. When Mr. Reagan arrived, the top marginal federal income-tax rate was 70 percent. His first tax cut, enacted in 1981, reduced the top rate to 50 percent, and his landmark tax reform of 1986 lowered it to 28 percent. Probably the most underappreciated — but extraordinarily important — component of Reaganomics was the political cover Mr. Reagan provided then-Federal Reserve Chairman Paul Volcker to wring the inflationary pressures from the economy. At great political cost to himself, Mr. Reagan steadfastly, and rightly, insisted on “staying the course” throughout the deep, Volcker-instigated recession of 1981-82. By late 1982, when the recession finally ended, unemployment had reached a postwar high of 10.8 percent. But inflation, which averaged nearly 13 percent during 1979 and 1980, had been vanquished to less than 4 percent during 1982.

Throughout the next six years of the Reagan presidency, the economy soared. From the fourth quarter of 1982 through the final quarter of 1988, compounded, inflation-adjusted growth averaged more than 4.7 percent per year, a stunning achievement. Meanwhile, the unemployment rate plunged from 10.8 percent to 5.3 percent, as an average of more than 3 million jobs per year were created over the six-year period. By way of contrast, Bill Clinton, who inherited an economy that grew by more than 4 percent during 1992 with inflation less than 3 percent, never achieved a single year during which economic growth reached 4.7 percent, much less averaging more than 4.7 percent over a six-year period.

While it is true that the Cold War-related budget deficit did increase during the Reagan presidency, it is worth noting that it steadily declined from its 1983 peak of 6 percent of gross domestic product (GDP) to 2.8 percent in fiscal 1989, Mr. Reagan’s final budget. Moreover, when a surplus finally was achieved in fiscal 1998, it was clearly made possible by Mr. Reagan’s Cold War victory, which permitted defense spending to plunge from a high of 6.2 percent of GDP in 1986 to 3.1 percent in 1998.

Even after he left office, Mr. Reagan’s policies contributed to economic growth. Having increased by 130 percent during his presidency, the Dow Jones industrial average continued to soar afterward, irrefutably in response to the economic policies he instituted. Likewise, it is no accident that the two post-Reagan recessions have been among the shortest and mildest in U.S. history. After all, not only has the top marginal income-tax rate remained below 40 percent, more than 30 percentage points under the rate Mr. Reagan inherited; but the “Gipper” was also the first president to appoint Alan Greenspan as Fed chairman. Quite a legacy indeed.