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The Bitter Fruit of Inflation: Dow 29500


May 2, 2022

The following article appeared in today’s WSJ. The above is the article which the article refers to. Following the article is an opinion piece from the NYT critical of the Laffer Curve.

Economists are similar to stock pickers. They always have an answer but too often they are not held to account for their previous reductions. What Mr Laffer says sounds reasonable but what do other economists have to say about it? Economics too often provides a point forecast — we are smart enough to deal with probabilities of outcomes.

The WSJ article:

The debacle of the 1970s reveals how disastrous surging prices can be for the economy and markets.

The recent report showing negative economic growth for the first quarter of the year is a painful reminder of the damage that inflation can do. The current 8.5% inflation rate is the highest in 40 years. But few policy makers or Federal Reserve governors seem to have learned the lessons from the last bout of surging prices—how it started, the economic wreckage it caused, and how we got out of it. We wince when we hear investment gurus arguing that because inflation often means rising consumer demand, it is good for the economy and stock market. Really? Let’s rewind to 1974, the early stages of that long stretch of inflation. That year one of us, Mr. Laffer, wrote on these pages what became a controversial and influential article with the headline “The Bitter Fruits of Devaluation.” Inflation is, of course, a form of currency devaluation.

Two years earlier the Nixon administration had intentionally devalued the dollar in the mistaken belief that a cheaper dollar would spur growth and employment while reducing the U.S. trade deficit. The Laffer article warned that this policy would wreak economic havoc and cause a stock-market train wreck. That’s precisely what happened.

Those who suffered the most were middle-class workers hit by rising prices, especially for energy, surging way ahead of wage increases. Between 1972 and 1981—under Presidents Nixon, Gerald Ford and Jimmy Carter—hourly earnings for workers went from $4 to almost $7, a roughly 70% gain. But after accounting for inflation, workers were getting poorer because the purchasing power of wages fellby roughly 12%. Is it any wonder that Ford and Mr. Carter were voted out of office? That’s exactly what workers are facing today with wages up 5.6% over the past year but consumer prices up 8.5%. Then as now, the White House and the Fed said the inflation would be temporary and blamed it on global factors beyond their control.

What about the stock market and Americans’ wealth? Mr. Laffer’s warning of a bear market turned out to be spot on. The Dow Jones Industrial Average briefly climbed above 1000 in the mid-’60s and then bottomed out at 777 in the summer of 1982—a 22% reduction in stock values in nominal terms.

But investors, like workers, care about their real return. Adjusted for inflation, the industrial average (and the S&P 500) fell during that period by more than 70%—the worst 15-year stock performance since the crash of 1929. President Ronald Reagan and Fed Chairman Paul Volcker had to sweat the 11% inflation out of the system through a return to a stable-dollar regime along with supply-side tax cuts that encouraged the production of more goods and services. A bull market ensued, with the Dow Jones Industrial Average rising to more than 30000 between 1982 and 2022. Over that 40-year period inflation averaged a benign 3%—until the arrival of President Biden and the Modern Monetary Theory crowd. So what are the lessons from the 1970s economic tsunami? First, inflation is a double whammy on Americans’ salaries and lifetime savings. The demand-siders are wrong. Their argument is that Mr. Biden’s multitrillions of government spending and welfare programs are putting more money into people’s pockets that is translating into higher consumer demand, which means higher corporate profits. This argument isn’t panning out. In the past 12 months workers have seen the purchasing power of their paychecks decline by 3%—a faster pace than at any time in at least a decade. For shareholders, those frothy profits that companies have been reporting may be illusory. Over the past year stock markets have fallen slightly in nominal terms, but when adjusted for inflation the values are down more than 10%.

The 1970s collapse in worker incomes and the stock market wasn’t due only to galloping inflation. The decade also was an era of increasing regulation, a vast expansion of the welfare state, wage and price controls—which made inflation worse—and rising global tariffs. Because the capital-gains tax isn’t indexed for inflation, many shareholders paid taxes on purely inflationary gains—a real tax rate of more than 100%.

With Mr. Biden in the White House, doesn’t this constellation of policies sound familiar? This month, even with the economy contracting by 1.4% in the first quarter, the Biden White House’s budget requested $2.5 trillion in tax increases, including a tax on trillions of dollars in unrealized capital gains. The White House and Speaker Nancy Pelosi are still peddling their $5 trillion Build Back Better bill. Imagine how much higher inflation would be today had Sens. Joe Manchin and Kyrsten Sinema not saved the day by blocking that bill. Every business cycle is unique, and comparing one era to another often yields incorrect conclusions. We don’t think it is too late for a sharp policy reversal to prevent a recession and market contraction.

Here is our current warning of bitter fruit: If Mr. Biden doesn’t change course and the bear market cycle from the late ’60s through the early ’80s returns, the Dow Jones Industrial Average would fall from its recent peak of 36800 to less than 29500 in 2038. Adjusting for inflation the index would drop even further. Still think a little inflation—which often metastasizes into a lot of inflation—is good for investors? Mr. Laffer is chairman of Laffer Associates. Mr. Moore is a co-founder of the Committee to Unleash Prosperity and an economist with the Heritage Foundation. Mr. Laffer was a member of Reagan’s Economic Policy Advisory Board and Mr. Moore served in the Office of Management and Budget under Reagan.

The Dangerous Folly of Lafferism

Bestowing the Presidential Medal of Freedom on a discredited economist was another gross Trump injustice.

June 25, 2019

Mr. Rattner served as counselor to the Treasury secretary in the Obama administration.

Having diminished so many other great American traditions, President Trump has now moved on to debasing the Presidential Medal of Freedom by awarding it to the most destructive force in economic policy since Herbert Hoover.

That would be Arthur Laffer, popularizer of the Laffer Curve, which purports to prove that tax cuts can pay for themselves by stimulating economic activity.

Famously, Mr. Laffer put forward his concept in the 1970s not by means of the scholarly approach followed by legitimately distinguished economists but by drawing a simple sketch of his curve on a cocktail napkin.

Mr. Laffer’s argument was that higher taxes discourage work, so raising taxes results in less government revenue. Or, as Mr. Laffer preferred to think about it, cutting taxes could increase government revenue.

Instead, the new honoree unleashed nearly four decades of mostly runaway deficits and exploding national debt.

As a young New York Times reporter, I was present at the emergence of Mr. Laffer and his preposterous theory. I thought it was ridiculous then and take little pleasure in having my skepticism proved correct.

But don’t take my word for it. The theory has been derided by economists from the left and the right. A 2012 survey of 40 prominent economists failed to find a single one in agreement with Lafferism.

Seven years earlier, the Congressional Budget Office, under the leadership of a conservative, Douglas Holtz-Eakin, calculated that a 10 percent cut in federal income tax rates would result in a significant net revenue loss.

Then there’s the historical evidence.

The nation’s first foray into Lafferism came with Ronald Reagan, whose initial huge tax cut, in the Economic Recovery Tax Act of 1981, reduced revenues by 9 percent over the first two years, exactly the opposite of what Mr. Laffer predicted.

That led to tax increases in 1982, 1983, 1984 and 1987, ultimately reversing about half of the initial tax reductions. Even those hikes proved insufficient.

After promising no new taxes (“read my lips”), President George H.W. Bush was forced by stubbornly high deficits to raise them, undoubtedly contributing to his election loss to Bill Clinton.

Regrettably, that wasn’t the end of Mr. Laffer’s influence. When President George W. Bush was considering what proved to be another round of ill-advised tax cuts, Vice President Dick Cheney, who had been present at the creation of the famous napkin drawing, reportedly said, “Reagan proved deficits don’t matter.”

Unfortunately, that’s not all the fiscal damage that Mr. Laffer has done. When Sam Brownback was governor of Kansas, Mr. Laffer convinced him to eliminate income taxes for approximately 330,000 of the state’s top wage earners. The state’s budget quickly swang from surplus to deficit, resulting in drastic cuts to funding of important programs and weakening Kansas’s economy. In 2014, voters revolted; Mr. Brownback was barely re-elected, and by 2017, his own party had reversed most of the tax cuts, overriding his veto. (Mr. Brownback now serves in the Trump administration as ambassador at large for international religious freedom.)

Other examples of Mr. Laffer’s wackiness abound. In April, he declared that President Obama was responsible for the Great Recession. Never mind that the downturn started a full year before Mr. Obama took office; Mr. Laffer argues the stock market began falling in anticipation of Mr. Obama’s arrival and that led to the recession.

O.K., but then there’s the housing bubble fueled by irresponsible subprime mortgage lending, the explosion of derivatives and the dangerous overleveraging of the financial system, all of which began long before Mr. Obama’s ascension.

Destroying the notion of fiscal responsibility continues to be Mr. Laffer’s main focus as further articulated in his 2018 book, “Trumponomics: Inside the America First Plan to Revive Our Economy,” written with Stephen Moore, who recently withdrew from consideration for nomination to the Federal Reserve amid widespread criticism of his economic policy positions and revelations about his personal life.

In it, the authors argue that the Trump tax plan would raise economic growth to at least 3 percent to 4 percent while not worsening budget deficits. Well, here we are, with growth in the current quarter likely to be down to well less than a 2 percent rate and the budget deficit exploding.

That’s in part because revenues in 2018 were $275 billion less than what the Congressional Budget Office projected before the tax cut was passed. All told, the deficit is likely to exceed $1 trillion in the next fiscal year, on its way to $2 trillion over the coming decade.

Of course, Mr. Laffer’s paean to Mr. Trump couldn’t have had anything to do with an award received by the likes of Warren Buffett and the economist Robert Solow, recipient of the Nobel Memorial Prize in Economic Science. Or could it?

Steven Rattner, a counselor to the Treasury secretary in the Obama administration, is a Wall Street executive and a contributing opinion writer. For latest updates and posts, please visit and follow me on Twitter (@SteveRattner) and Facebook.

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