Economics of the Reagan Administration

Reagan’s primary goal upon taking office was to stimulate the sagging economy while simultaneously cutting both government programs and taxes. His economic policies, called "Reaganomics" by the press, were based on a theory called supply-side economics, about which many economists were skeptical. The four pillars of Reagan's economic policy were to reduce the growth of government spending, reduce income tax and capital gains tax, reduce government regulation of economy, and control money supply to reduce inflation.

Theoretical Justification

Influenced by economist Arthur Laffer of the University of Southern California, Reagan cut income taxes for those at the top of the economic ladder (the wealthiest of Americans), which was supposed to motivate the rich to invest in businesses, factories, and the stock market in anticipation of high returns. According to Laffer’s argument, this would eventually translate into more jobs further down the socioeconomic ladder. Economic growth would also increase the total tax revenue—even at a lower tax rate. In other words, proponents of “trickle-down economics” promised to cut taxes and balance the budget at the same time. Reaganomics also included the deregulation of industry and higher interest rates to control inflation; however, these initiatives preceded Reagan and were conceived in the Carter administration.

Reagan's Campaign and Skepticism

Many politicians, including Republicans, were wary of Reagan’s economic program; even his eventual vice president, George H. W. Bush, had referred to it as “voodoo economics” when competing with him for the Republican presidential nomination. When Reagan proposed a 30% cut in taxes to be phased in over his first term in office, Congress balked. Opponents argued that the tax cuts would benefit the rich and not the poor, who needed help the most. In response, Reagan presented his plan directly to the people.

Reagan was an articulate spokesman for his political perspectives and was able to garner support for his policies. Often called “The Great Communicator,” he was noted for his ability, honed through years as an actor and spokesperson, to convey a mixture of empathy and concern while taking humorous digs at his opponents. In his 1980 campaign speeches, Reagan presented his economic proposals as merely a return to the free-enterprise principles that had been in favor before the Great Depression. Americans found this rhetorical style extremely compelling. Public support for the plan, combined with a surge in the president’s popularity after he survived an assassination attempt in March 1981, swayed Congress, including many Democrats. On July 29, 1981, Congress passed the Economic Recovery Tax Act, which phased in a 25% overall reduction in taxes over a period of three years.

Implementing the Policies

Tax Decreases and Increases

During Reagan's presidency, federal income tax rates were lowered significantly with the signing of the bipartisan Economic Recovery Tax Act of 1981, which lowered the top marginal tax bracket (for the wealthiest Americans) from 70% to 50% and the lowest bracket (for the poorest Americans) from 14% to 11%. The Job Training Partnership Act of 1982 initiated one of the nation's first public/private partnerships and a major part of the president's job creation program. The Tax Reform Act of 1986 was another bipartisan effort championed by Reagan, further reduced the top rate to 28%, raised the bottom bracket from 11% to 15% (meaning the poorest Americans would pay more), and cut the number of tax brackets to four.

Conversely, Reagan signed into law tax increases of some nature in every year from 1981 to 1987 to continue funding such government programs as Tax Equity and Fiscal Responsibility Act of 1982 (TEFRA), Social Security, and the Deficit Reduction Act of 1984 (DEFRA). Despite the fact that TEFRA was the "largest peacetime tax increase in American history," Reagan is better known for his tax cuts and lower-taxes philosophy. 

Budget Cuts

Reagan's policies proposed that economic growth would occur when marginal tax rates were low enough to spur investment, which would then lead to increased economic growth, higher employment, and higher wages. Critics labeled this "trickle-down economics"—the belief that tax policies that benefit the wealthy will create a "trickle-down" effect to the poor. Questions arose whether Reagan's policies benefited the wealthy more than those living in poverty, and many poor and minority citizens viewed Reagan as indifferent to their struggles. These views were exacerbated by the fact that Reagan's economic regimen included freezing the minimum wage at $3.35 an hour, slashing federal assistance to local governments by 60%, cutting the budget for public housing and Section 8 rent subsidies in half, and eliminating the antipoverty Community Development Block Grant program. The widening gap between the rich and poor had already begun during the 1970s before Reagan's economic policies took effect. Along with Reagan's 1981 cut in the top regular tax rate on unearned income, he reduced the maximum capital gains rate to only 20% – its lowest level since the Hoover administration.

Following his less-government intervention views, Reagan cut the budgets of non-military programs including Medicaid, food stamps, federal education programs and the Environmental Protection Agency. While he protected entitlement programs, such as Social Security and Medicare, his administration attempted to purge many people with disabilities from the Social Security disability rolls.

Deregulating the Economy

Reagan also focused on deregulating industry and weakening the power of labor unions. Banks and savings and loan associations were deregulated. Pollution control was enforced less strictly by the Environmental Protection Agency, and restrictions on logging and drilling for oil on public lands were relaxed. Believing the free market was self-regulating, the Reagan administration had little use for labor unions, and in 1981, the president fired 12,000 federal air traffic controllers who had gone on strike to secure better working conditions (which would also have improved the public’s safety). His action effectively destroyed the Professional Air Traffic Controllers Organization (PATCO) and ushered in a new era of labor relations in which, following his example, employers simply replaced striking workers. The weakening of unions contributed to the leveling off of real wages for the average American family during the 1980s.

Effects

Inflation and Unemployment Rates

President Ronald Reagan's tenure marked a time of economic prosperity for some Americans and the opposite for many others. Reagan’s economic policymakers succeeded in breaking the cycle of stagflation that had been plaguing the nation, but at significant cost. In its effort to curb high inflation with dramatically increased interest rates, the Federal Reserve also triggered a deep recession. Inflation did drop during Reagan's presidency, but borrowing became expensive and consumers spent less. 

In Reagan’s first years in office, bankruptcies increased and unemployment reached about 10%, its highest level since the Great Depression. Homelessness became a significant problem in cities, a fact the president made light of by suggesting that the press exaggerated the problem and that many homeless people chose to live on the streets. Economic growth resumed in 1983 and gross domestic product (GDP) grew at an average of 4.5% during the rest of his presidency. By the end of Reagan’s second term in office, unemployment had dropped to about 5.3%, but the nation was nearly $3 trillion in debt. An increase in defense spending coupled with $3.6 billion in tax relief for the 162,000 American families with incomes of $200,000 or more made a balanced budget, one of the president’s campaign promises in 1980, impossible to achieve.

Low income groups were also affected by the reduction of social spending, and inequality throughout the nation increased. The share of total income received by the top 5% highest-earning households grew from 16.5% in 1980 to 18.3% in 1988, and the share of the second highest fifth of households increased from 44.1% to 46.3% during this. In contrast, the share of total income of the lowest fifth of households fell from 4.2% in 1980 to 3.8% in 1988, and the second poorest fifth fell from 10.2% to 9.6%.

The National Debt

In order to cover newly spawned federal budget deficits, the United States borrowed heavily both domestically and abroad, raising the national debt from 997 billion to 2.85 trillion. As a result, the United States went from being the world's largest international creditor to becoming the world's largest debtor. Reagan described the new debt as the "greatest disappointment" of his presidency.

U.S. Culture: From Hippies to Yuppies

The Reagan years were a complicated era of social, economic, and political change, with many trends operating simultaneously and sometimes at cross-purposes. While many suffered, others prospered. The 1970s had been the era of the hippie, and Newsweek magazine declared 1984 to be the “year of the Yuppie.” Yuppies, whose name derived from “(y)oung, (u)rban (p)rofessionals,” were akin to hippies in being young people whose interests, values, and lifestyle influenced American culture, economy, and politics, just as the hippies’ credo had done in the late 1960s and 1970s. Unlike hippies, however, yuppies tended to be materialistic and focused on image, comfort, and economic prosperity. Although liberal on some social issues, they were economically conservative. Ironically, some yuppies were former hippies who gave up his crusade against “the establishment” to become a businessman.

Reagan's Address on Taxes

Ronald Reagan televised address from the Oval Office, outlining plan for Tax Reduction Legislation on July 1981.