Some reporters seemed overly eager to assume his guilt, while dredging up ancient myths about how Mr. Stockman had blown the whistle on Reaganomics as nothing but a snare and delusion. The Washington Post’s Jeff Birnbaum wrote that “Stockman was the face of Reaganomics.” He cited one disgruntled Democrat griping about his “obviously phony economic forecasts” and another (Massachusetts Rep. Barney Frank) claiming Mr. Stockman was “intellectually a little dishonest.”
In December 1980, while Mr. Stockman was in Michigan for the holidays, he came to the First National Bank of Chicago to recruit me. He was accompanied by William Greider, a writer for The Washington Post, who a year later would publish an Atlantic Monthly article on “The education of David Stockman.”
One reason Mr. Stockman wanted me on the team was that I had enumerated $51.4 billion in spending cuts (10 percent of the budget) in an August 1978 article in Fortune, “Curbing the federal spending spree.” I also argued the importance of lower marginal tax rates in a Wall Street Journal article, “Individuals and the tax question.”
The January 1981 economic transition team initially consisted of Mr. Stockman’s congressional staff and me, then Larry Kudlow and John Rutledge, with periodic visits from Alan Greenspan and Allan Meltzer. We met in Mr. Stockman’s congressional office. After the Carter team vacated its offices, we were joined by Paul Craig Roberts, Murray Weidenbaum and Dick Darman. The economic plan had been largely assembled by then, in a black binder.
The printed version, dated Feb. 18, 1981, was titled “America’s New Beginning: A Program for Economic Recovery.” The economic assumptions of that plan had been dramatically revised at the last moment despite protests of the monetarists (Messrs. Meltzer and Rutledge) and supply-siders (Mr. Kudlow, Mr. Roberts and I).
Contrary to folklore, the controversy had been entirely about inflation, not at all about any allegedly “rosy scenario” for real gross domestic product (GDP). Real growth averaged 3.9 percent per annum in both the original and the revised scenarios. Our forecast of 1.1 percent real gross national product (GNP) growth for 1981 assumed recession and was accurate. Our estimated annual growth for 1983-86 was 4.5 percent, and the actual figure turned out to be 4.6 percent.
Only the inflation forecasts were changed. Originally, inflation was forecast dropping to 4.2 percent in 1983 and to 2.6 percent by 1986. It turned out inflation fell even quicker, to 4.1 percent in 1983 and 2.2 percent in 1986. In 1981, however, Mr. Greenspan and Mr. Weidenbaum did not believe inflation could come down quickly. All inflation forecasts were then increased by at least 2 percentage points to 7 percent in 1982, for example.
Higher inflation helped Mr. Stockman by making future deficits appear smaller, on paper, because inflation was assumed to push more people into higher tax brackets but (implausibly) to not inflate nonindexed spending or raise interest rates. Thanks to self-serving whitewash by Mr. Stockman, Mr. Darman and others, the convenient Keynesian exaggeration of inflation in 1981 has been twisted into a fable in which three young supply-siders somehow forced OMB Director Stockman and Council of Economics Advisers Chairman Weidenbaum to go along with “wildly optimistic assumptions.” The optimism was about inflation, and we, not they, were right.
The other big hoax about the era is that budget deficits rose because tax revenues fell dramatically, contradicting those supposedly rosy predictions of supply-side economists. What are the facts? Federal revenues amounted to 17.2 percent of GDP from 1950 to 1959, 17.9 percent from 1960 to 1969, 18 percent from 1970 to 1979, 18.3 percent from 1980 to 1989, 18.6 percent from 1990 to 1999 and 18.5 percent last year. Tax revenues are always weak during the first few years after recessions (such as 1983, 1992 and 2002). But the notion that sharply reduced marginal tax rates in the 1980s left the government starved for funds is a boldfaced lie.
In October 1990, the elder President Bush allowed marginal tax rates on upper incomes to be increased. Individual income tax receipts promptly dropped to 8.8 percent of personal income in 1991-92, from 9.4 percent in 1988-90.
Why did budget deficits soar in the early 1980s? First and foremost, the Federal Reserve quite deliberately raised the Fed funds rate from 9 percent to 18.9 percent between July and December 1980 and kept it above 14 percent through June 1982. Whether necessary or not, that collapsed the economy and pushed the Dow Jones industrial average down to 777 in 1982 and also greatly increased the government’s interest bill.
Second, as Mr. Stockman told Mr. Greider, “The defense numbers got out of control.” Defense spending exceeded 6 percent of GDP in 1983-87, in peacetime, compared with 4 percent today, when we are embroiled in a costly war. If all that military hardware ended the Cold War, it was a bargain.
Contrary to Mr. Birnbaum, Jack Kemp, not Mr. Stockman, was “the face of Reaganomics.” Mr. Stockman quickly became the face of Kaufmanomics. Alluding to Wall Street guru Henry Kaufman’s fear of “inflationary deficits,” Mr. Greider wrote that “Stockman agreed” Mr. Kaufman was right.
Aside from the exaggerated inflation forecasts, Mr. Kaufman and Mr. Stockman promulgated two other fallacies that gained favor with Blackstone Group co-founder Peter G. Peterson, who later hired Mr. Stockman. The 1981 fallacy was that it was the prospect of future budget deficits rather than the reality of the Fed that doubled the Fed funds rate a year before the tax cuts were even enacted and three years before they were phased in.
The 1982 fallacy was that budget deficits would absorb national savings, curb business investment and thus “abort” the recovery. Mr. Stockman’s team released figures purporting to show deficits would absorb 128 percent of savings, which is logically equivalent to eating 128 percent of your dinner.
David Stockman never studied economics with care, in school or out, so he made several big mistakes in 1981 when chatting with Mr. Greider. Mr. Stockman is an ambitious but honest man who made mistakes 25 years ago and may have made mistakes again. Yet in this case and others, I suspect that efforts to criminalize “high-profile” accounting errors in the post-Enron era may have gone too far.