Alan Reynolds

Only the inflation forecasts were changed. The original forecast had inflation dropping to 4.2 percent in 1983 and to 2.6 percent by 1986. As it turned out, inflation fell even more quickly, to 4.1 percent in 1983 and 2.2 percent in 1986. In 1981, however, Greenspan and Weidenbaum did not believe inflation could come down quickly. All the inflation forecasts were then increased by at least 2 percentage points -- to 7 percent in 1982, for example.

Higher inflation helped 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 non-indexed spending or to raise interest rates. Thanks to a lot of self-serving whitewash by Stockman, 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 Advisors 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 increased 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 Stockman told 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 Birnbaum, Jack Kemp, not Stockman, was "the face of Reaganomics." Stockman quickly became the face of Kaufmanomics. Alluding to Wall Street guru Henry Kaufman's fear of "inflationary deficits," Greider wrote that "Stockman agreed" Kaufman was right.

Aside from the exaggerated inflation forecasts, Kaufman and Stockman promulgated two other fallacies that gained favor with Blackstone Group co-founder Peter G. Peterson, who later hired 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. Stockman's team released figures purporting to show that 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 Greider. 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.

Alan Reynolds

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