Reagan’s tax policy neither the right-wing or left-wing

Many declared Reagan’s 1981 tax cut to have been one of the seminal economic accomplishments in history. I did not see any tributes to Reagan’s legacy as a tax increaser, however, an important part of his legacy that conservatives would like to forget.

Reagan’s record on raising taxes began almost the moment he entered politics. Elected governor of California in 1966, he inherited a large budget deficit from his predecessor, Pat Brown. Although a conservative, dedicated to shrinking government, Reagan nevertheless found the magnitude of spending cuts that would have been necessary in 1967 to be beyond reach. This led him to endorse a $1 billion per year tax increase, equivalent to a $17 billion tax increase today – an enormous sum equal to a third of state revenues at that time. Journalist Lou Cannon recounts the circumstances:

“No amount of budget reductions, even if they had been politically palatable, could have balanced California’s budget in 1967. The cornerstone of Governor Reagan’s economic program was not the ballyhooed budget reductions but a sweeping tax package four times larger than the previous record California tax increase obtained by Governor Brown in 1959. Reagan’s proposal had the distinction of being the largest tax hike ever proposed by any governor in the history of the United States.”

The top income tax rate was raised from 7 percent to 10 percent, the sales tax rate went from 3 percent to 5 percent, the cigarette tax was increased from 3 cents to 10 cents per pack, the alcohol tax was raised from $1.50 to $2 per gallon, the bank and corporate tax rate went up from 5.5 percent to 7 percent, and the inheritance tax rose from a range of 2 percent to 10 percent to a range of 3 percent to 15 percent.According to Cannon, this was essentially the Democrats’ wish list of tax initiatives, with the sole exception that it did not institute tax withholding, which Reagan adamantly opposed. In Cannon’s words, “An economist who analyzed the tax bill without knowing its political background might conclude that it had been crafted by a New Deal Democrat.”

In 1970, Reagan proposed yet another big tax increase of $1.1 billion, which would have been used to finance property tax relief. Incomes above $32,000 would have been subject to a new 11 percent tax rate, and three years later a new 13 percent bracket would have applied to those with incomes above $36,000. The bill would have also instituted tax withholding, which ironically led to its defeat in the Senate by a single vote. However, many of these provisions were enacted the following year. The 1971 legislation raised taxes by $508 million (about $6 billion today), including an increase in the top income tax rate to 11 percent, a rise in the bank and corporate tax rate from 7 percent to 7.6 percent, and institution of an alternative minimum tax and tax withholding. State taxes were raised another $1.1 billion in 1972 (about $12.5 billion today). This legislation included another increase in the sales tax rate from 5 percent to 6 percent and a further rise in the bank and corporate tax rate from 7.6 percent to 9 percent.

Reagan had little to say about these tax increases in his memoirs except to claim that he gave back $5 billion to taxpayers. However, in many cases, the tax relief consisted of tax rebates and one-shot tax cuts. In the end, it is clear that Governor Reagan presided over an astonishing expansion of taxes in California. According to the California Department of Finance, state revenues tripled from $2.9 billion in the 1966/67 fiscal year to $8.6 billion in the 1974/75 fiscal year, Reagan’s last.

After leaving the governorship, Reagan ran for the Republican presidential nomination in 1976. No mention was made of the many tax increases he enacted in California. Instead, his principal focus was on cutting spending, which ultimately sank his chances for the nomination when he proposed dumping $90 billion in federal spending (almost $700 billion today) on the states in order to balance the budget.

Over the next few years, Reagan came under the influence of Rep. Jack Kemp (R-NY), Wall Street Journaleditorial writer Jude Wanniski, economist Arthur Laffer and other proponents of “supply-side economics.” While skeptical at first, in 1979 Reagan endorsed the Kemp-Roth tax bill, which would have cut statutory income tax rates by about 30 percent across the board. After winning the White House in 1980, Reagan sent the Kemp-Roth proposal to Congress and it was enacted in August 1981.

Almost immediately upon enactment of the 1981 tax cut, Reagan came under enormous pressure to do something about the federal budget deficit. While his preferred approach was to cut spending as much as necessary, it was not politically possible to so. His aides began pressuring him to support a tax increase. Conservative activists were appalled that Reagan would even consider such a thing, but he eventually endorsed the Tax Equity and Fiscal Responsibility Act of 1982. According to a Treasury Department analysis, it raised taxes by close to one percent of GDP, equivalent to $150 billion per year today, and was probably the largest peacetime tax increase in American history.

This was just the first of many tax increases that President Reagan endorsed and signed into law. There were 11 major tax increases during his administration. And this doesn’t count the fact that Reagan intentionally delayed the start of tax indexing, which was part of the 1981 tax bill, until 1985 so as to capture a lot of anticipated bracket-creep for the Treasury. In fact, it was the failure of inflation to come in as fast as White House economists expected that created much of the deficit problem. I estimate that lower than expected inflation and the loss of bracket creep was responsible for about half the budget deficit in 1981 and 1982.It’s also worth noting that the Tax Reform Act of 1986, which was revenue-neutral in the long run, was a fairly substantial revenue-raiser its first year, increasing taxes by $18.6 billion or 0.41 percent of GDP.

According to a table in Reagan’s last budget (FY 1990), the cumulative legislated tax increase during his administration came to $132.7 billion as of 1988 ($367 billion today). This compared to a gross tax cut of $275.1 billion. Thus Reagan took back about half the 1981 tax cut with subsequent tax increases.

As with his California tax increases, Reagan had little to say about them afterwards. In his diary, he says only that the 1982 TEFRA bill “is the price we have to pay to get the budget cuts.” He later tried to repudiate his consistent support for tax increases after 1981. But it’s clear that getting control of the deficit in the 1980s required both spending cuts and higher revenues.

In the end, Reagan’s tax legacy fits neither the right-wing nor left-wing pigeonholes. Although he cut taxes when he could, he raised them when he had to. That’s something self-styled Reaganites today should remember.

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