The Voodoo of Dubya-nomics

Whe

n Congress passed President Bush's tax bill last week, it had all the major elements he wanted: an immediate general income-tax-rate cut, a big tax break for dividends (plus another for capital gains he didn't request), and new deductions for small businesses. The total cost over 10 years, $350 billion, is less than half the $726 billion Bush asked for, but much of the gap is accounting tricks. The President need not worry that this bill won't cost enough.

Bush's victory is intellectual as well as political. This bill reflects an extraordinary, even radical shift of the tax burden from the rich to the middle class. And in the weeks leading up to the bill's passage, Bush made a remarkably detailed and sophisticated case for it, most notably in Albuquerque, N.M., on May 12. Detailed, sophisticated and wrong — which makes his victory all the more impressive.

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Here is Bush's case in brief. It begins with a little history. When he took office, he said, "we were in a recession," but "it looked like we were kind of starting to come out." Then came 9/11. After that came revelations that major corporations had "cooked the books." Although "we're overcoming" these setbacks, he noted, "too many of our people aren't working. We're growing, but we're not growing fast enough." And how does he account for the deficit? "We have got a deficit because this economy went into a recession," and "we have got a recession because we went to war. And I told the American people...we're going to spend whatever money is necessary to make sure we win." In other words: Don't blame me for a weak economy.

To solve the problem, Bush called for a plan based on this principle: "If your economy is too slow, you need to increase demand for goods and services." Increased demand leads to new jobs. And the most efficient way of creating new jobs is to "focus on small business" because "small-business owners" create the most jobs. Most small businesses don't pay corporate income tax. Instead, their profits are treated as income to their owners. So cutting ordinary income-tax rates is "really pumping capital into ... small business." The new tax bill also quadruples, to $100,000, the amount a small business can deduct each year for new equipment. Bush called this limit a "cap on investment."

How else do you help the little guy? You eliminate "the double taxation of dividends," said Bush, because that will boost the stock market, thereby "helping our average citizens realize wealth." (Ultimately, Bush had to settle for halving the top rate for the dividend tax.) All in all, he says, accusations that his plan "only helps the rich" are "just empty rhetoric."

So what is wrong with all this? In a nutshell, it doesn't make sense even in its own terms.

Start with the history. Can the weak economy be blamed on Bush's predecessor, on al-Qaeda, on Enron? A recession, as Bush says, "mean[s] three quarters of negative growth." The economy grew through the end of 2000, then growth turned negative in the first three quarters of 2001, including three weeks of Clinton and more than eight months of Bush. That is what allows Bush to say he inherited a recession.

But growth turned positive in the last quarter of 2001, beginning Oct. 1, so it is bizarre to blame the recession on the events of 9/11--which occurred 19 days before the recession officially began to turn around. It is even more bizarre for Bush to blame the recession on money spent fighting the war on terrorism. War spending is historically a way out of a recession, not into one.

What Bush describes as his key principle is a classic if crude statement of Keynesian theory. A tax cut works, he said, by putting more money into people's pockets — which they will spend and thus create jobs. For 25 years, Republicans have sneered at this as "demand-side" economics. If Bush now embraces it, he ought to remember the corollary: that a tax cut should go mainly to low-income people, who are more likely to spend it. And the President should stop pretending he regrets the huge deficits his tax cuts produce. Deficits are essential to a demand-side stimulus. If he cut government spending to pay for the tax cuts — which he is not even attempting to do — this would reduce demand as much as the tax cut would increase it.

Of course, everyone loves a stimulus. In his push for a larger, quicker tax cut, Bush asked, If a $350 billion stimulus is good, why isn't a $750 billion stimulus even better? If tax cuts are good in seven years — his previous tax bill phased in cuts over a decade — then why not more now? Here is a question for him: If a stimulus is always good, and the bigger the better, why have taxes at all? Why not finance the entire government on borrowed money? Once you acknowledge that this won't work — that a stimulus can be too large or badly timed — you can start thinking about how to tell a good stimulus from a bad one. President Bush has yet to begin that journey.