Trickle-down economics employs the theory that tax breaks and benefits for corporations and the wealthy will eventually benefit everyone. Economic tools like reduced income tax and capital gains tax breaks are offered to large businesses, investors, and entrepreneurs to stimulate economic growth.
Key Insights
- The trickle-down theory suggests that tax breaks and benefits for corporations and the wealthy will trickle down to everyone else.
- It involves less regulation and tax cuts for those in high-income tax brackets, as well as corporations.
- Critics argue that these benefits add to the growing income inequality in the country.
Delving Into Trickle-Down Economics
Trickle-down economics is often linked to supply-side economics and remains a focal point of political debate. This policy approach tends to disproportionately benefit wealthy businesses and individuals in the short term, but it is designed to enhance living standards for everyone in the long term.
Historical examples, such as President Herbert Hoover’s stimulus efforts during the Great Depression and President Ronald Reagan’s income tax cuts, illustrate its application. Supply-side economics advocates believe that less regulation and tax cuts for corporations and high-income earners stimulate company investment, leading to higher employment.
Core Elements of Trickle-Down Economic Policies
Typical trickle-down policies include corporate income tax reduction, tax cuts for the wealthy, and deregulation. The aim is to spur business investment through excess capital, leading to more factories, upgraded technology, and increased employment levels.
As wealthy individuals and corporations spend or invest more, this consumption creates an economy-wide demand for goods. As employment rises, further spending and investing drive growth in multiple sectors such as housing, automobiles, consumer goods, and retail. Ultimately, this chain reaction is expected to result in increased tax revenue that compensates for the initial tax cuts.
Trickle-Down Economics and the Laffer Curve
Economist Arthur Laffer, associated with the Reagan administration, developed the Laffer Curve, which depicts the balance between tax rates and government revenue. The curve reveals that overly low or excessively high tax rates can minimize government revenue. According to this model, appropriate tax cuts can actually increase overall tax receipts by fostering more taxable income activities.
Laffer’s theory—which gained the moniker “trickle-down”—saw empirical activity during Reagan’s presidency. From 1980 to 1988, the top U.S. marginal tax rate dropped from 70% to 28%, and federal receipts increased substantially. Nonetheless, the link between reduced top tax rates and broader economic benefits remains debated.
Critical Perspectives on Trickle-Down Economics
Proponents of the trickle-down theory argue that wealthy individuals and corporations, with reduced taxes, will channel their money into spending and investment, thereby sustaining free-market capitalism. However, critics contend that this approach can exacerbate income inequality, as lower-income earners do not receive equivalent tax benefits.
Many argue that tax cuts for the lower and middle-income groups could more effectively boost the economy, driving demand for goods and services, whereas corporate tax cuts might end up in stock buybacks or savings. Various factors drive economic growth, including Federal Reserve policies, international trade, and foreign direct investment.
For instance, a report by the London School of Economics in December 2020 reviewed half a century of tax cuts in 18 affluent nations and discovered recurrent benefits for the wealthy, but negligible impacts on unemployment or overall economic growth.
Trickle-Down Economics in Recent Policies
Presidential actions reflecting trickle-down principles have continued with figures like Donald Trump. The Tax Cuts and Jobs Act of 2017 reduced personal tax rates temporarily while making corporate tax reductions permanent, significantly benefiting the wealthiest Americans more than others.
Historical Examples of Trickle-Down Economics
Hoover’s Trickle-Down Approach
President Hoover believed in fostering business prosperity, anticipating benefits to cascade to ordinary citizens. However, his approach proved ineffective against the Great Depression, contributing to his electoral defeat in 1932.
Reaganomics
During Reagan’s presidency,
Related Terms: supply-side economics, Reaganomics, Laffer Curve.
References
- U.S. Congress Joint Economic Committee. “1996 Economic Report of the President”, Pages 43 and 149.
- Internal Revenue Service. “Publication 5318: What’s New For Your Business—Tax Reform 2018”, Page 3.
- Internal Revenue Service. “Publication 5307: Tax Reform Basics for Individuals and Families”, Page 1.
