Commentary

Economic Legacies

How much do presidents’ policies really affect the economy? The presidential candidates are in the process of laying out their proposed economic policies, and even though these policies greatly differ, each candidate says his or her policies will lead to greater prosperity and more employment. The fact is that the president only has limited powers to affect what happens, but he or she still can make a real difference. Future economic growth will be influenced by tax rates, government spending, regulatory policy, and trade policy, all of which require joint action by both Congress and the president. All branches of government are severely limited without some cooperation from the other branches, including the courts, as to what they can accomplish. The Federal Reserve largely controls the rate of inflation, and is most often responsible for the country falling into a recession.

Court rulings and tort actions can greatly affect the ability of business to function properly and create new jobs. There are uncontrollable variables, such as the weather, earthquakes, wars, and the trade and growth policies of other countries, which are outside the control of anything the president or Congress do, but can greatly affect U.S. economic growth. Once elected, the presidents and members of Congress often act very differently from their promises during the campaigns — most often taxing and spending more than they said they would, and almost always this is a mistake.

New presidents inherit the tax, spending, trade, and regulatory policies of their predecessors, and it takes a year or more for them to put their policies in place. Thus, the accompanying table provides a snapshot of economic legacies by showing the performance of the economy during the year that each administration departed. Under Reagan, the economy improved the most, and under Carter most measures declined.

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When President Carter took over from President Ford, the economy was growing rapidly after a severe recession, but inflation was very high. Carter then appointed the hapless G. William Miller as Fed Chairman, who managed to give us record inflation (13.3 percent CPI) in 1979. The Carter economic team flailed about, changing policies every few months, which resulted in a recession in 1980 and set the stage for a major recession in 1982, as the new Fed Chairman (appointed by Carter near the end of his term) Paul Volcker ratcheted down monetary growth to wring inflation out of the economy.

President Reagan, upon taking office, backed Volcker’s “tight” monetary policies, and recommended massive tax cuts to get the economy moving. The Democrat-controlled Congress failed to approve much of Reagan’s proposed spending growth rate reduction, but did back his military spending increase to about 6 percent of GDP. Once the Reagan tax cuts were put in place, the economy took off, resulting in an astounding 7.2 percent growth rate in 1984. Reagan was criticized for increasing the deficits in his first few years, but the fact is the nation has always used debt financing to fight wars. The Cold War was no exception, and his bet paid off.

Presidential candidates and their advisers need to remember that it is the private sector that creates most productivity increases and real jobs, and hence real economic growth.”

The first President Bush blew much of the Reagan legacy that was handed to him by failing to fulfill his campaign promise of the “flexible freeze” on spending and of “no new taxes.” The Greenspan Fed also made mistakes and, coupled with Bush’s economic policy mistakes, caused a mild recession in 1990.

President Clinton capitalized on the Bush economic mistakes — “it’s the economy, stupid” — even though the economy had been growing the two years prior to the election. Clinton made the mistake at first of increasing taxes, even though he had promised not to, and then reversed course once the Republicans took over Congress by signing their capital gains tax rate reduction. The new Republican Congress joined with the weakened Clinton administration to restrict spending growth, resulting in a substantial drop in spending as percentage of GDP, most of which was due to a drop in military spending. The economy did grow rapidly during much of the Clinton administration, in part, because of his free trade policies and spending restraint, but the growth in taxes as a percentage of GDP and new mistakes by the Greenspan Fed put the economy in recession just as Clinton was leaving office.

The current President Bush correctly reduced tax rates to bring the economy out of the recession and to restore growth, but until recent months failed to properly restrain spending growth through vetos. The result has been a growing economy, but one operating below potential. His economic legacy will not be fully known for a couple of years, but if he continues to fight spending growth, the deficit should be near zero, and growth should pick up next year as the economy works through the credit mess, which was largely caused by the Greenspan Fed.

Presidential candidates and their advisers need to remember that it is the private sector that creates most productivity increases and real jobs, and hence real economic growth. Economic policies that reduce tax, regulatory and trade barriers on productive activity, as well as low inflation, lead to strong economic growth and good economic legacies.

Richard Rahn is the Chairman of the Institute for Global Economic Growth and an adjunct scholar at the Cato Institute.