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GOP health care plan: Supply side is back

Cases and Controversies

Published: March 17, 2017

The long-awaited Republican plan to replace the Affordable Care Act is still looking for friends. Critics on the left dislike the loss in coverage. Critics on the right dislike its distorted incentives. If former speaker John Boehner were still in Congress, he would likely resurrect his line comparing its popularity to garlic milkshakes.

Despite the Congressional effort to establish new legislative land speed records in trying to get it passed, the bill in its present form is unlikely to receive a vote, much less be enacted. Deep dives about risk pools and cost curves can wait until we have a better idea about the bill that Congress will actually settle on.

But one facet of the bill will likely remain—a tax cut in the high nine figures that favors the wealthiest taxpayers. Indeed, more than one commentator has described it as a tax cut bill with some health care changes thrown in.

The bill offers the first opportunity to revisit the wisdom of slashing taxes in top income brackets. Since cutting taxes for the wealthy seems to be one of the few core principles left in Republican orthodoxy, this will by no means the last time this comes up.

The stated argument in favor of such tax cuts—based on so-called supply side economics—says that they encourage growth by encouraging investment. If businesses have more money, they will invest it in business expansion, buying more capital goods and/or hiring more workers to make more stuff.

The supply side school assumes that producers make things based on how much money they have lying around rather than on how much they believe they can sell. Contrast that with more classic economic theory which holds that demand is the primary economic driver.

Supply side has plenty of theoretical problems. Not only does it purport to upend traditional understandings of economic decision making, its emphasis on tax cuts as a mechanism for increasing the amount of investment capital makes little sense, given how income tax works. Money invested in production is removed from the tax stream, so the marginal income tax rate shouldn’t matter in making it available for investment. If a business has money coming in, it can always use that money to increase production.

But even if supply side inspired tax cuts might make sense under some circumstances, they make no sense in the economy as it currently exists. We are living in a time of abundant capital. The Federal Reserve Bank’s discount rate, both an influence and an indicator of the supply of investment capital, currently stands at a tiny 1.25 percent and has increased only a quarter percent in the last year.

If an established business wishes to expand, the money is cheaply available. Interest rates are running less than the rate of inflation in some areas like construction, encouraging people, governments and business to borrow now rather than wait on projects.

Contrary to President Donald Trump’s insistence that he inherited “a mess,” most economic metrics look pretty good, although some concerns lurk beneath the surface. But whatever difficulties the economy faces, a short supply of investment capital is not among them.

Meanwhile, there are reasons to believe that pushing ever greater volumes of investible capital into the economy carries its own risks. For instance, former Labor Secretary Robert Reich makes a persuasive case that the 2007 economic crisis, precipitated as it was by speculative bubbles, was at least in part due to wealthy people looking for places to park their cash.

Of course, other reasons exist for the popularity of tax cuts in Republican ranks. Chief among them is rich people wanting to keep more of their money. Somewhat more noble are arguments based on personal freedom, although those don’t explain why the freedom of wealthy people should be entitled to priority.

Some people—maybe even a majority of voters—might find those arguments persuasive. But they are not the dominant reasons given.

This may all seem impossibly and irrelevantly wonky. We know that Republicans always advocate for more tax cuts, so who really cares about their reasoning? I would submit that the reasons people give for what they do matter, even when those reasons may be pretextual. Ideas have a way of taking over.

We should not delude ourselves into believing that Congress is cutting taxes for millionaires to provide necessary stimulus to the economy or that such a cut is the best way to accomplish it. If Congress’ highest priority in its health care bill is a tax cut, we should be honest about why.