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Larry Beinhart Headshot

Recessions & Recoveries: The Real Story

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There appear to be, roughly, three types of recessions.

There are post-war recessions. These are easy to understand. There's an abrupt decline in military spending, demobilization reintroduces a large number of people into the work force, and businesses supplying the war machine need time to switch to consumer products.

We've had them after World War One, World War Two, Korea, and Vietnam.

They tend to end more or less by themselves as society adjusts to a peacetime economy.

There are recessions due to fiscal policy. Either cuts in government spending, as in 1937 and 1973, or a hike in interest rates to tighten the money supply, as was done in 1949, 1958, 1960, 1969, and 1980.

Historically, these have been relatively brief and shallow. They end when the deliberate policies that brought them on are reversed.

Finally, there is the sequence of boom and crash. The first of these was in 1929, and the collapse that followed was called the Great Depression. The others were 1990, 2000, and 2007, the one we're in now, starting to be called the Great Recession.

Except for 2,000, these also included massive bank failures.

Economists, historians, and, as we move into the present, journalists and pundits, offer a mixed multitude of reasons for each of them.

But now that we've had four of them (including the crash of 2,000), we can see a pattern emerging.

Coming out of World War One we had a top marginal tax rate over 70%. From 1921-25 it was cut, in steps, down to 25%. There was a boom, particularly in the fiscal sector. The crash came in 1929.

When Ronald Reagan came into office in 1981, the top marginal rate was, once again, 70%. Reagan started cutting in 1982, down to 50%, then to 38.5% in 1987, and 28% in 1988. There was a boom in the fiscal sector. In the mid-eighties the collapse began, and over 1,600 banks failed. There was a huge bailout.

It was followed by the recession of 1990.

George H.W. Bush raised the rate to 31%. It cost him re-election. Then, under Bill Clinton, the top rate went up to 39.6%.

That was followed by the longest sustained period of economic growth in modern times. However, in 1997, the Republican congress pushed Clinton into cutting the capital gains tax from 28% down to 20%. It was called The Taxpayer's Relief Act. It marks the moment when the dot.com boom turned into the dot.com bubble. It burst in 2,000, and, along with the 9/11 attacks, there was another recession.

George W. Bush launched another round of tax cuts. The top rate went down to 35%. Capital gains rates were cut to 5%.

This was followed by the Bush boom. There was huge growth in the fiscal sector, but "mysteriously," it was a jobless recovery. The boom was hollow. It was a bubble. It led to the Crash of 2007, with massive bank failures, followed by our current recession.

How does this type of recession end?

In 1932, Herbert Hoover raised taxes. He did it to balance the budget. In 1933 the economy changed direction and began moving upward.

In 1991, George H.W. Bush, disturbed by the huge deficits that followed Reagan's cuts, raised taxes. The economy subsequently turned around.

After the 2,000 recession there was no tax hike. There were tax cuts. Corporate profits rose, there was a boom in real estate and in the fiscal sector generally. But there was no recovery. The recession continued for normal people. There were no new private sector jobs. Median income went down. Manufacturing continued to decline.

The historical record suggests that this recession won't end until there is a tax increase.

Economies are complex. There are always a multitude of factors that effect booms and busts, growth and recessions. It is also a commonplace that conjunction does not necessarily imply causality.

Nonetheless, if the same sequence takes place a multitude of times in different circumstances and the sequence takes place four out of five times -- tax cut, fiscal sector boom, bubble, crash, bank failures and recession or depression -- it makes a very good case for causality.

The one exception -- the fifth significant tax cut -- took place in 1964 and 1965. Tax cut enthusiasts always refer to them as the Kennedy tax cuts, but they took place under Lyndon Johnson. They also always cite them as a great stimulus to the economy.

They certainly didn't improve anything. The economy stayed flat. The Dow Jones stayed flat. It's possible that the difference between 90% and 70% was not enough to unleash a search for short term profits over long term growth and an ensuing frenzy of speculation.

Those cuts do mark the moment when economic improvements in the life of ordinary people began to slow down, then flatten out, and, in the very long term, begin to decline.

Our public policy dialogue has little basis in fact or rationality.

Much of it, even in universities, is bought and paid for. There is no interest group willing to pay foundations, endow universities, buy radio ads for commentators, who will advocate higher taxes. But there's lots of money willing to invest in propaganda that calls for lower taxes and claim that they're good for the economy.

So you won't hear calls for higher taxes. You won't find politicians who dare to propose higher taxes.

Hopefully the expiration of the Bush tax cuts will work as tax hikes. That will mark the beginning of a real recovery.

My primary qualification to write about these things is that I am not an economist. Most economists, as Paul Krugman recently observed, are theologians. They put theory first and then look for, or imagine, facts that will fit them.

There is a lot of debate at the moment about what will end the recession and what effect tax policy has. Untutored as I am, I was free to look up the history and put historical charts of recessions, GDP, the Dow Jones average, fiscal policy, and tax policy in parallel columns.

The historical facts are that high top marginal tax rates correlate with a very healthy economy. That high tax rates on the rich don't impede growth. For whatever reasons, they promote growth. Low taxes on the rich are unhealthy. Tax cuts for the rich are dangerous.