The Myth of Trickle-Down Economics

It’s a behavioral policy, not a redistribution policy.

The Myth of Trickle-Down Economics

Trickle-down economics is a myth among economists. The phrase is popular in the media, not peer reviewed papers—at least as of 2012. A full 72 years after the phrase emerged.

It’s a myth because no such philosophy or policy exists in peer reviewed economics journals. The use of the phrase in non-economist print often refers to a redistribution scheme, but the intent of the policy is actually a behavioral one. If you change the incentives for the wealthy to use their wealth in more productive areas of the economy, then they will. If you incentivize the wealthy to hide their money in government approved protected spaces, then they will. And when they do, the burden of paying the taxes will fall on the lower tax brackets.

When something in our physical environment remains unused, we view it as inefficient. When it comes to tax policies, we encourage the exact type of behavior that encourages things/wealth to go unused. Look at the tax policies in the 1950s as a great example. 11,000 pages of tax code with 10,998 pages of carve outs the wealthy were able to insert via politicians (because it was cheaper than other alternatives). Louis B Mayer got his own personal carve-out when he sold his share of MGM. It’s been this way for so long that anyone who advocates tax hikes for the rich hasn’t learned the lesson yet that what government says and what it does are often severely disconnected. I’ve developed the thinking that because government seems to operating within its own reality, I’d prefer they not have any power to operate in the reality that I occupy—more on that later.

The Wilson administration was one of the most left leaning administrations ever in American history. Here was a president who was a passionate racist and promoter of eugenics. It could be argued that Wilson was the president who held the least respect for individual autonomy in the name of the greater society, yet to develop his administration’s goals for the greater society his treasury secretary was the first to propose tax cuts for the rich. How could someone who is so clearly a progressive argue tax cuts for the rich? Why?

Because if they didn’t, the burden of paying for the government would have shifted to the poor—the exact society he was claiming to champion and protect. By lowering the tax rates, it reduced the risk of investment for those with the capital. They weren’t afraid to make money off their investments anymore. They weren’t going to be penalized for being productive. So, they did exactly what you’d expect. They were able to use it to develop businesses that led to the greater creation of jobs and greater wealth in the country. The outcome was predictable. The government got more revenue.

Why this became a policy associated with right leaning/conservative presidents is odd. It was a left leaning democratic administration that first proposed it (Wilson). Later, it was John F. Kennedy’s administration that resurrected it. Yet in the 80s and 90s the phrase became heavily associated with the Regan administration. While he may have helped the phrase achieve a more popular consciousness, his administration deserves no credit for the creation of the policy.

We have a political system where one party has to feign fierce opposition to the plans of the other. In the case of this particular economic activity, I’m not convinced how that would work. If Team Red decides they are pro reducing the tax burden for the wealthy, then what can Team Blue really say in response? It’s Team Blue’s policy that’s being promoted. Are the parties not allowed to leverage good ideas when they see it? After all, the Carter administration's deregulation led to a great deal of the prosperity America enjoyed in later decades and today. The greatest argument I think the other party could mention is that someone stole their idea...

And that’s not much of an argument.

So, in economic terms, why isn’t there such a thing as trickle-down? Because that’s not how it works. The tax cuts are designed to change behavior, not redistribute wealth. The wealth isn’t redistributed in the sense of being re proportioned through government programs. Rather, when the wealthy invest their money, they can create more opportunities for their wealth to add value in the market. To help make that value a reality, new businesses with employees are often created.

Routing water underground and making it inaccessible doesn’t help the agriculture and people who depend on water to survive. Maybe encouraging money to go underground is a bad idea as well.