Supply Side Revolution - Beneficial to the Working Class?



The supply side revolution was a movement in the late 1970s in which governments, particularly in the US and UK, opted to reduce taxes for the wealthy in order to produce a “trickle-down” effect which would boost the whole economy. This article will explore whether these policies worked as intended, or if they have just been a vessel for the rich to get richer.


Figure 1: Laffer Curve (Riley, 2018)


The Laffer curve was a concept developed by an economist called Arthur Laffer. As seen in Figure 1, the Laffer curve describes the relationship between the tax rate and the tax revenue collected. Arthur Laffer predicts that at a certain point, the tax revenue will begin to decrease due to disincentive effects on working and investment, as well as incentive effects towards avoiding paying the tax, e.g., paying in cash, moving money abroad, or “cooking the books”. Laffer curves can be influenced by different ideologies. For example, Democrats believe the US is below the optimal point, meaning tax increases would be needed, while the Republicans believe the opposite. There is also the economic argument that while tax revenue may drop, it may still be beneficial for the economy to keep tax rates low. However, how does this affect the working class?


Figure 2: % change in income shares (Pettinger, 2017)


Taxes are used to redistribute wealth throughout a population. In a progressive tax system, the more you earn, the higher your tax rate, meaning you pay proportionally more of your income. This type of system is used in almost every country, however, not as frequently as in the past. In the 1970s, top marginal income tax rates in the US and UK were 70% and 83% respectively, with modern rates sitting at 37% and 45% respectively. These huge reductions in tax rates were implemented by Ronald Regan and Margaret Thatcher. Changing these tax rates has accelerated income inequality massively since 1979, as seen in Figure 2. These policies have resulted in the top 1% taking up 10% more of the income share, at the direct expense of the bottom 80%. As a result, it is likely that the tax cuts have resulted in a negative outcome for low-income households. However, there is a possibility that even though the share of income has fallen, their real incomes have increased still. Figure 3 shows that inflation adjusted incomes have become fairly stagnant for lower incomes families, only increasing by $500 over 18 years (0.097% growth per year) compared to the upper class which has increased $81,300 over 18 years (2.8% growth per year). As a result, the upper class have become significantly richer over time compared to the lower class.


Figure 3: Changes in incomes and share of incomes (Horowitz et al., 2020)


This result is likely to be more significant than first expected. Despite the figure being adjusted, the consumer price index (CPI), which is used for inflation metrics in the USA, does not account for house prices, which have increased over 42% between 2010-2020 (Jones, 2020) as well as average rent costs increasing 36% (Lupa, 2019). As a result, it is likely that low-income earners have suffered more. However, according to the US Census, 10.5% of people were in poverty in the US, which is the lowest amount since estimates were originally published in 1959 (Semega et al, 2019). This produces an interesting set of figures which appear to contradict each other.


This conundrum is a result of the definition of poverty. There are a wide range of definitions of poverty in the US, such that almost every article or even official US statistics uses a different one each time, whichever suits their needs best. The US census uses a definition of “if a family's total income is less than the family's threshold, then that family and every individual in it is considered in poverty” (US Census, 2020). The family threshold is $31,275. This means that the lower income households are almost always classed as being in poverty, with the average US household income for lower income families being $28,700, which has barely changed over the last 20 years as seen in Figure 3. This is a worrying trend which is also seen in wealth levels in Figure 4, which, for the lower class, have actually been decreasing on average over the last 35 years.


Figure 4: Changes in wealth and share of wealth (Horowitz et al., 2020)


The best way to combat this trend is through redistribution through schemes such as social security as a short-term fix. Currently, social security keeps more than 27 million people out of poverty (Fessler, 2019). These funds help poor families meet their requirements financially, however, this does not fix longer term structural inequality. The federal government will need to intervene to try and reduce the increasing size of the inequality and poverty traps. This can be done through school funding, educational training and retraining programmes, and community engagement programmes.


Recently, the BLM movement has shone a light on issues affecting minority communities, which, on average, have a median household income of $41,361, compared to a median household income of $70,462 for white, non-Hispanic households. The poverty rate for black households was almost 21% compared to 8% for white, non-Hispanic households. This is of grave concern and will require a huge investment from the government to overcome the large structural unemployment facing these communities.


Overall, the supply-side economics of the Reagan and Thatcher era has resulted in a large redistribution of income from the poor to the rich. As this has continued to be in place over the last 50 years, we now have a series of generational, structural issues which will require fixing through a delicate spending and redistribution scheme from governments. This is not something that can be fixed in a single government term. Instead, it requires a long-term strategy and vision to implement.


References


Fessler, P (2019), “U.S. Census Bureau Reports Poverty Rate Down, But Millions Still Poor”, NPR, Available at: https://www.npr.org/2019/09/10/759512938/u-s-census-bureau-reports-poverty-rate-down-but-millions-still-poor?t=1609933215168&t=1610120146750&t=1612450382823


Horowitz, J.M et al (2020) “Trends in income and wealth inequality”, Pew Research Center [Online]. Available at: https://www.pewsocialtrends.org/2020/01/09/trends-in-income-and-wealth-inequality/


Jones, J (2020) “Cities With the Largest Increase in Home Prices Over the Last Decade”, Construction Coverage [Online]. Available at: https://constructioncoverage.com/research/cities-with-the-largest-increase-in-home-prices-since-2010


Lupa, I (2019) “The Decade in Housing Trends: High-Earning Renters, High-End Apartments and Thriving Construction” RENTcafe Blog. Available at: https://www.rentcafe.com/blog/rental-market/market-snapshots/renting-america-housing-changed-past-decade/#pricegrowth


Pettinger, T (2017) “Supply side Economics – Pros and Cons”, Economics Help [Online]. Available at: https://www.economicshelp.org/blog/3176/economics/supply-side-economics-pros-and-cons/


Riley, G (2018) “Laffer curve”, Tutor2u [Online]. Available at: https://www.tutor2u.net/economics/reference/laffer-curve


Semega, J et al (2019) “Income and Poverty in the United States: 2019”, US Census Bureau. Available at: https://www.census.gov/library/publications/2020/demo/p60-270.html#:~:text=This%20is%20the%20fifth%20consecutive%20annual%20decline%20in%20poverty.,and%20Table%20B%2D5).&text=Between%202018%20and%202019%2C%20poverty%20rates%20for%20people%20under%20the,16.2%20percent%20to%2014.4%20percent


US Census (2020), “How the Census Bureau Measures Poverty”, United States Census Bureau, Available at: https://www.census.gov/topics/income-poverty/poverty/guidance/poverty-measures.html#:~:text=If%20a%20family's%20total%20income,Index%20(CPI%2DU)