It’s Time For A Supply-Side Resurgence
The Biden administration’s multi-trillion-dollar stimulus and spending policies are exclusively demand-side measures aimed at supporting the consumer. But this focus is blinding the Biden team from mounting economic crises that are resulting from this anti-growth agenda.
Instead, the federal government desperately needs to implement a comprehensive supply-side agenda – low-taxes, affordable government spending, sound money, free international trade, and low-cost regulations.
Starting with spending, Keynesian logic is driving President Biden’s spending proposals that will, in total, expand the federal budget by nearly $6 trillion dollars. Pre-Covid, the entire federal budget was only $4.4 trillion.
The demand-centric economic models claim that this spending boosts demand, which then encourages greater production. The expanding production creates even more demand, which starts a virtuous cycle that ultimately promotes broad-based economic growth.
Even under the generous assumption that government spending is just as efficient as private sector spending, which is unlikely given the current size and expanded scope of the federal government, every dollar that the government spends means that the private sector has one less dollar to spend. And, this is true whether the government funds the spending through taxes or debt.
Consequently, there is no stimulus from government spending once the sources of the government funding are appropriately considered. Every positive impact that the government spending creates is completely offset by an equal and opposite negative impact from the reduced spending in the private sector.
But, this is not the end of the story. Government taxation and borrowing creates disincentives and distortions that disincentivize economic growth. These are the supply-side considerations that the demand-side models informing the Biden Administration ignore.
President Biden proposes funding his $6 trillion spending bonanza by increasing corporate income and capital gains taxes. Corporate income tax rates would go from around the global average to one of the highest corporate income tax rates among the developed economies. Capital gains taxes would increase to its highest rate in over a century.
These tax increases will disincentivize the investment that is necessary to incent the innovations necessary to promote broad-based prosperity and robust economic growth. Due to these effects, the Biden stimulus plan will ultimately de-stimulate the economy.
The Biden plan also fails in its distributional intent. While the President promised not to raise taxes on anyone making less than $400,000 annually, he cannot promise that the economic consequences will not harm people of all income levels. Empirical studies have found that workers bear a disproportionate share of the tax increases’ costs through more unemployment and sluggish wage growth.
And it will not simply be big companies and the rich who will directly pay more in taxes. According to the U.S. Chamber of Commerce, there are over 1.4 million small business organized as corporations. These smaller “Mom and Pop” businesses will be hit directly with the corporate tax hikes in the Biden plan.
As the Chamber notes, many of these small businesses suffered some of the worst consequences during the pandemic but “would also see their tax bills increase significantly. In turn, this would have a negative impact on small businesses’ investment and growth plans and, most critically, hiring and job creation.” Put differently, the Biden tax increases are counterproductive because they will create the very problems that their proposed spending increases are supposed to resolve.
Monetary policy, which is a much more complicated and esoteric policy area, suffers from a similar problem.
Over-simplifying, the Federal Reserve uses a demand-centric framework to actively manage the economy. Their actions are unintentionally creating an unstable pricing environment that causes wild swings in commodity prices, persistent asset bubbles and crashes, and a volatile dollar-euro exchange rate. These instabilities impose many adverse consequences on families and businesses (particularly small businesses) including suppressing returns for savers in safe assets, encouraging people to take on greater financial risks than they should, and distorting the economy’s capital structure.
Another important plank of the supply-side policy mix is a sound regulatory structure that ensures important social issues are addressed while imposing as low a cost as possible. Unfortunately, the President’s policies here would also take us in the wrong direction through regulations that would be economically costly, yet achieve few results.
For instance, his target of reducing GHG emissions between 50% and 52% below 2005 levels by 2030 is unachievable, yet will be incredibly costly for lower- and middle-income families who cannot afford significant increases in the price of energy.
Similarly, when President Biden indicated he would support “temporarily” waiving biopharmaceutical patent rights for Covid-19 vaccines, he undermined one of the U.S. economy’s key comparative advantages – a regulatory system that protects intellectual property (IP) rights.
Thanks to an environment that respects intellectual property, the U.S. has become a global leader in cutting edge industries such as the biopharmaceutical sector. Waiving these rights is political theater because the IP protections are not causing vaccine shortages in many developing countries. Worse, undermining property rights will discourage investment in U.S. high-tech sector over the long-term, threatening the creation of good paying U.S. jobs of the future.
Taken altogether, the Biden economic agenda is dis-incentivizing economic growth. Once the initial surge out of the shutdowns peters out, we will see a stagnant economy that exacerbates income inequality, reduces prosperity, and weakens long-term growth. Ultimately, the financial stability for millions of families will be threatened.
A principled supply-side economic agenda would rectify these problems. From a fiscal perspective, a supply-side agenda would replace the current complex anti-growth tax system with a streamlined system that has smaller compliance costs and imposes fewer distortions on the economy. As the evidence amassed by the U.S. Chamber of Commerce demonstrates, the real-world benefits from streamlining the tax system includes a more vibrant environment for businesses, large and small, that expands employment and leads to broad-based growth in incomes.
The flip side of taxes is spending. As I have argued previously, government spending is just like any other good. As more and more government services are provided, the value of that spending declines. Eventually, should the government budget continue to grow, its value will become less than the value of those resources in the private sector.
Judged against the goal of maximizing economic growth, the amount of government spending should be around 16% of the economy. Instead of this growth maximizing rate, federal outlays are now around 31% of the economy, which is all-time highs for the U.S. during peacetime. The unprecedented spending is why the total debt of the federal government is now larger than the entire economy (129% of GDP).
Reforming this clearly unaffordable amount of spending is an essential plank of a supply-side policy mix. This should be achieved by imposing strict controls over the growth of spending. Within this tight budget constraint, spending should be reprioritized to reflect pressing public needs (such as infrastructure) as opposed to the many wasteful and lower-valued projects.
While space limitations restrict a detailed discussion of the other policy areas, the basic logic is that the government should promote a rules-based environment that enhances the ability of private individuals to work and thrive.
The focus of monetary policy should be establishing a stable price level that does not punish savers nor distort the capital structure. This requires replacing the discretionary authority of the Federal Reserve with a rules-based system. There are many sound proposals, and most would be a large improvement over the current volatile system.
The current regulatory morass should be streamlined to minimize its costs on private businesses and individuals. Similarly, trade with other countries should be expanded to foster greater opportunity for all Americans.
In contrast to the current government-centric approach of the Biden Administration, a supply-side economic policy mix recognizes that market driven growth, freer international trade, and a stable price system are the sine qua non for creating broad-based and sustainable economic prosperity.
Wayne Winegarden is a Senior Fellow in Business and Economics at the Pacific Research Institute and the Director of PRI’s Center for Medical Economics and Innovation. His research explores the connection between macroeconomic policies and economic outcomes, with a focus on the health care and energy industries. He has over 25 years of experience advising Fortune 500 companies, medium and small businesses, and trade associations. Winegarden received my Ph.D. in economics from George Mason University.