Trump Fans Seeing Reagan Economic Redux Forget Lessons of 1980s
(Bloomberg) -- Donald Trump is no Ronald Reagan. But then again, neither was Reagan.
Stocks and the dollar have risen since the Nov. 8 presidential election on hopes that Trump’s advocacy of big tax cuts, increased defense spending and deregulation will usher in another period of prosperity. The coming change will be a “profound president-led ideological shift” akin to Reagan’s, according to Bridgewater Associates founder Ray Dalio. Trump’s advisers and the billionaire himself have embraced the comparison.
Yet in their rush to buy, investors may be forgetting that the economy is in a different place now than it was then and that former Federal Reserve Chairman Paul Volcker was as much responsible for the good times in the 1980s as Reagan was.
Also lost in the afterglow of that period: A president now known as a legendary cutter of taxes increased some as well as budget deficits ballooned. He also didn’t go as far as some supporters wanted in rolling back federal regulations. And he abandoned a hands-off approach to the currency markets when a soaring dollar crushed American companies and sent the trade shortfall surging.
“Reagan was not Reagan, if I may put it that way,” said ex-Fed Chairman Alan Greenspan, who was tapped by the late president to head the central bank in 1987. “I admired him and thought he was an excellent president. But he has a reputation built up since he left office that was never quite what he was as president.”
That notoriety is built on the foundation of a much improved economy during his watch. Gross domestic product grew at an average annual clip of 3.6 percent from 1981 through 1988, versus a 2.8 percent pace in the prior eight years. Inflation more than halved, to 4.3 percent.
Reagan and Trump “are very similar at this stage,” tax-cut advocate Arthur Laffer, who has advised both men, said in an interview. “If the past is prologue, we’ve got a great eight years ahead of us.”
Trump himself has likened his evolution on some issues to Reagan’s political conversion. “Ronald Reagan was a fairly liberal Democrat and he evolved over the years, and he became more and more conservative,” Trump said on CBS’s “Face the Nation” in January. “And he ended up being a great president.”
His new economic team sounds like it wants to replicate Reagan’s success.
Treasury Secretary-nominee Steven Mnuchin told CNBC television on Nov. 30 that Trump will push for the “largest tax change since Reagan” with big reductions for the middle class and businesses. The aim: to achieve sustainable annual growth of 3 percent to 4 percent.
The trouble facing Reagan emulators is the U.S. is in a much different phase of the economic cycle than it was in 1981. The U.S. had just escaped a recession before Reagan took office and was about to enter another one that drove joblessness to 10.8 percent. That meant that GDP had a lot of room to run once it began to recover.
The economy today is in its 90th month of an expansion that is already the fourth longest on record. At 4.6 percent, unemployment is at or below the lowest level many economists believe is maintainable in the long-run.
“The fact pattern is different now so the effect of any of the policies might well be different,” said Neal Soss, vice chairman at Credit Suisse Group AG in New York, who noted that most analysts reckon that the economic benefits of a Trump plan would be modest.
Besides, it wasn’t Reagan’s sweeping 1981 tax cuts that revved up the economy, he said. It was the lower interest rates engineered by Volcker after he broke the back of double-digit inflation.
“When the economy picked up at the end of 1982 the Fed had a lot to do with that by cutting rates in meaningful amounts,” said Soss, who served as an assistant to Volcker from 1980 to 1982.
The Fed now is hiking -- not cutting -- rates and is expected to tighten credit at its Dec. 13-14 meeting. Chair Janet Yellen has cautioned Trump and lawmakers against providing the economy with too much of a budgetary lift.
“In contrast to where the economy was after the financial crisis, when a large demand boost was needed to lower unemployment, we’re no longer in that state,” she told Congress’s Joint Economic Committee on Nov. 17.
Greenspan sees the U.S. heading toward stagflation -- a stagnant economy saddled with rising inflation -- though it may enjoy a “mild euphoria” first. “But unless we induce productivity to accelerate, the euphoria will be short-lived,” he said.
He says the government needs to restrain entitlement spending on pensions and health care to free up money for companies to invest more and thus boost productivity.
Reagan did tackle entitlements in 1983 by backing higher taxes and Social Security benefit cuts that had been advocated by a commission headed by Greenspan.
Trump, in contrast, hasn’t shown much desire to rein in entitlements and has vowed to protect Social Security from cutbacks.
In spite of Reagan’s efforts, federal deficits and debt grew during his tenure -- something the avowed proponent of a smaller government later described as his “greatest disappointment.”
It was the growth of those debts that forced Reagan to support higher government revenues after his initial tax cuts.
A year after those reductions, he went on television to make the case for legislation that combined spending reductions with higher taxes, including on cigarettes and telephones.
“You had this legendary tax cutter saying we have to raise taxes, we have to cut spending because these deficits are killing us,” said Len Burman, director of the Urban-Brookings Tax Policy Center in Washington who worked at Treasury on Reagan’s 1986 tax reform plan.
Martin Feldstein, who served as White House chief economist from 1982 to 1984, blamed Congress for pushing Reagan into running larger deficits. The Harvard University professor voiced hopes that lawmakers will play the opposite role now by acting as a check on any tendency by Trump to run up government red ink.
John Snow, who served on a regulatory reform task force for Reagan, said the president also didn’t do as much on that front as he could have. “We came up with a lot of ideas, some of which got dealt with but unfortunately many did not,” said Snow, who counts himself a fan of Reagan and who later became Treasury secretary in the administration of President George W. Bush.
Trade deficits also ballooned under Reagan as a rising dollar sapped America’s competitiveness -- something that economists said could happen again. The U.S. was eventually forced to fashion the 1985 Plaza Accord with its allies to bring the greenback down.
Like the Reagan administration, the Trump team “will have to keep an eye on interest rates and the dollar,” said Snow, who is chairman of Cerberus Capital Management in New York. “Otherwise, they could adversely affect growth.”