FU - FairAndUNbalanced.com

Supply Side theory was elegant in the simplicity of its logic. It was almost like a rebirth of Adam Smith in a different form. Best of all, this permutation offered what all of humanity wants: the ultimate free lunch. Under some conditions, you can cut taxes and expect an increase in tax revenue as a result.

It wasn't really a new idea. John Maynard Keynes, the very same economist that four generations of Republicans have hated, had proposed something similar over three quarters of a century ago.

But Professor Arthur Laffer is mostly credited with Supply Side. He dusted off the old idea and sketched it out over dinner for prominent Republicans in the 1970s.

The basics may be counter intuitive, but it comes together with some explanation:

If you tax income at zero, you get zero revenue from it.
Duh.

If you tax income at 100%, a confiscatory tax, nobody has an incentive to work.
Duh and duh.
So you also get zero revenue.

Well, almost zero. There are some things folks do just because they like to do them:

Some writers love to write, for instance. Most bloggers blog with no compensation. Religious conservatives devote a great deal of time and effort condemning gay people, poor folks, and President Obama with very little actual income to show for it. Okay, I'm being snarky, and there are religious conservatives who do none of these things.

For the most part, people who earn an income do so because want the income. Take away the income, they would stop doing the things that create the income. Steel workers don't go to the mill for the happy experience of playing with their bessemers.

So a zero tax rate produces no income. A one hundred percent, confiscatory, tax rate produces no revenue, or very close to no revenue. That means the point at which the greatest amount of revenue will be produced is somewhere in between. Right?

Statisticians, and that includes economists, really love bell shaped curves. If there is a nice flowing line that goes higher as you go away from zero, and also goes higher as you go away from 100 percent, you would think it would be a bell shaped curve.

One problem is that there is no study that reveals such pristine data. That may be partly because there are no pristine situations that are not cluttered with other variables.

A one hundred percent tax rate occurred in slave days, since all income that slaves produced went to others. Yet slaves continued to work because non-monetary incentives were applied. Scars from those incentives can be seen in very old photographs from those times. Early Christianity was made up of societies in miniature, communes. Income went to the group. One biblical story tells of death, presumably because of guilt at holding out. So fear, force, loyalty to a group, and the promise of a better life in heaven can sort of disturb the pristine environment in which theory often must exist.

On the other side, zero percent of a lot of wealth does produce nothing. The zero turns out to be more likely than the lot of wealth that isn't taxed. Zero tax rates can be found in very few societies. Somalia comes to mind as one of those few. The anarchy that comes from a lack of any government larger than a Norquist bathtub tends to keep economic progress pretty low. Lack of police protection, no running water, minimal electricity, and lots and lots of unpaved roads tend to drive an economy downward.

There have been some attempts to research and graph something like a bell shaped curve of tax rates and revenue. So far that sort of correlation has been hard to document.

The bell shaped curve of a clean relationship remains theoretical.

Attempts to apply the supply side principle to the tax code of the United States have not met with sterling success. President Ronald Reagan convinced Congress to cut taxes on the very wealthy. The anticipation was that tax revenues would rise. They didn't. Eventually, President Reagan increased taxes on working Americans, and the lost revenue was made up.

That doesn't mean Supply Side theory is invalid. It could be that the bell shape does exist with a higher tax rate at the peak than President Reagan had imagined. That would mean that if President had raised taxes instead of lowering them on the very wealthy, tax revenues would have increased, but only up to that maximum point.

Supply Side theory, unsupported by evidence, is still an intuitive truth to economic conservatives. They have extended it beyond its original form. Instead of some high point in a bell shaped graph, we are told by at least some conservatives that the happy anticipated result of increased revenue is a universally reasonable expectation. There is no possible tax reduction that will not produce an increase in revenues.

Supply side theory, unsupported by evidence, has become theology.

The conservative response to the Reagan deficits of yesterday, and Obama deficits of today, is that they are caused by spending. We have a spending problem, not a revenue problem. The difficulty with that lesson is that a huge part of the Obama deficit is an obvious result, rather than a cause, of the economic catastrophe that overtook the United States near the end of the Bush Presidency.

For many of us, a government that helps those in sudden, unanticipated need, is a moral responsibility that comes with economic recovery.

There is another reason as well.

Unlike the muddy lack of documentation of Supply Side economics, the counter-intuitive theory of John Maynard Keynes from 75 years ago, has been reinforced by lots and lots of experience.

Keynes stated that if Investment exceeds Saving, there will be inflation. If Saving exceeds Investment there will be recession. One implication of this is that, in the midst of an economic depression, the correct course of action should be to encourage spending and discourage saving. This runs contrary to the prevailing wisdom, which says that thrift is required in hard times. In Keynes's words, "For the engine which drives Enterprise is not Thrift, but Profit."

- From the John Maynard Keynes website.

A switch in policies from austerity during the Hoover administration to mild stimulus under Roosevelt ended the downward direction and started a slow recovery. In 1937, a brief emphasis on austerity interrupted the recovery and brought a downturn. A massive stimulus brought about by the war effort of World War II broke the back of the Great Depression.

The Obama stimulus ended the downward spiral of the Republican recession. The last economic quarter that ended just before Obama took office showed an economic contraction of 3% a year. Nobody at the time realized that the shrinking was actually 3 times as bad. The stimulus was criticized at the time by keynesian economists such as Paul Krugman as far weaker than was needed. But it produced a continuous growth almost immediately. In the final quarter of last year, a slowdown in government spending caused a mini-recession.

But there is a more massive lesson of Keynesian economics that comes from where the opposite has been tried. In the European Union, the key word has been austerity. If we just reduce the crushing burdens of continuous deficits, the economy will recover.

At first, US conservatives pointed to Europe as the excellent example of recovery the United States ought to follow. They haven't been saying that for a while. Want to guess why?

The European experiment in cutbacks to battle recession has been derided by folks on my side of the spectrum. It is an attempt to starve the patient back to health. It is akin to a family facing hard times that cuts back on using the family car to get to and from work.

Like John Maynard Keynes, lo those generations ago, we observe that reducing deficits works during prosperous times. Recessions are cured, not caused, by increasing deficits. Cutting spending deepens recessions.

But conservative ideals prevailed in Europe. This week all that austerity brought a startling result. Britain's Financial Times carries the story.

It turns out that all the cutbacks during the recession has affected British economy. It has flattened it. But at least austerity has had an unexpectedly strong effect on Britain's deficit.

It has actually made it worse.

Yup. Austerity, all the cuts in spending, have increased Britain's deficit.

That actually was a bit of a shock. Two months ago, the Conservative government, in the person of chancellor George Osborne was crowing about reducing the deficit by a percent. That would be one percent. The economy was tanking, but if austerity was curing the deficit, surely economic recovery was just around the corner. One percent.

Turns out there was some accounting maneuvering at work in anticipation of annual revenues from corporations. Record global profits are a bit reduced in Britain as the economy continues to suffer. And the amount government gets in revenues is tanking along with the economy. So the part of government that keeps track of these things, the Office for Budget Responsibility, is projecting a worsening deficit.

Estimates by a variety of think tanks are forecasting a breathtaking 7% annual increase in deficits.

We hear pretty often from politicians that government ought to tighten its belt during hard times, just as families do. As policy, it looks like comparing government to families is - how to put this gently - stupid as all hell.

The Supply Side economic miracle of increasing tax revenue by cutting taxes never worked out. But the austerity economic miracle nobody thought was possible has materialized in Britain.

Slashing the deficit has increased the deficit.