Round One, the Campaign

Reagan had strong biases; he wanted both to limit government's role in the economy and to drastically reduce tax rates. Given his lack of interest in or knowledge about many details, however, often the judgments of his subordinates were necessary to translate those biases into

action. The president knew where he wanted to go; their job was to help him get there.

Ronald Reagan did not like the domestic federal government. Although he had toned down his rhetoric during his campaigns, he had long objected to not only the Great Society welfare programs but also the New Deal employment programs and the progressive income tax. As far back as the 1950s, while lecturing General Electric employees, Reagan had castigated

the myth that our graduated income tax has any resemblance to proportionate taxation. The entire structure was created by Karl Marx. It simply is a penalty on the individual who can improve his own lot; it takes his earnings from him and redistributes them to people who are incapable of earning as much as he can.^[19]

He viewed taxes and the welfare state as impositions upon a suffering public by Washington bureaucrats. His attitude is shown in how he explained the decline of the Republican party:

One reason came out of the Great Depression. There was a loss of confidence in the system itself. Democrats came in on the great surge of 1932 and they embarked on the great social reforms and so forth. If you look back in hindsight, you find that these social reforms really didn't work. They didn't cure unemployment, they didn't solve the social problems. But what came from that was a group of people … entrenched in government in the permanent structure, who wanted social reforms just for the sake of the social reforms. They didn't see them as temporary medicine as most people saw them, to cure the ills of the Depression. They saw them as a permanent way of life…. Now peacetime came and there was no question about the Democratic party having solidified its hold on the people.^[20]

In this view, much of the welfare state was essentially a scam. Unfortunately many people had been duped, yet Reagan knew better than to base a campaign on assaulting the progressive tax or the New Deal. He would attack taxes as too high rather than as too redistributive, and he would condemn government as wasteful and arrogant rather than denounce social security as bad in itself. However, the ability to temporize, to compromise for the moment, or to adjust one's rhetoric to the audience should not be confused with moderating goals.

It is difficult even now to judge what Reagan understood about the economy he wished to revitalize. His understanding of such institutional aspects as the role of the Federal Reserve Board was limited. Reagan once wondered to his aides why the Board didn't just lower the prime rate, which in fact it does not set.^[21] What he knew, he was certain about: government spending and taxes weakened the personal initiative that made capitalism a great engine of prosperity. When his own marginal

income tax rate as a movie star reached 90 percent, Reagan had seen no point in working more; from that extreme case, he concluded that people would work harder at lower levels of taxation. Disputes over timing of policies, effects on markets, and plausibility of forecasts would not shake Reagan's preferences; his decisions would be guided far more by the implications of each option for his overall agenda than by the disputed details.

The great contradiction in his own agenda involved the balanced budget. Reagan had preached against deficits for years, asserting flatly that they were the cause of inflation. How, then, was he to rationalize a Kemp-Roth style tax cut? His advisers helped confirm his belief that the problem could be managed.

In his major Chicago campaign speech on the economy, Reagan urged his audience not to "just take my word for it. I have discussed this with any number of distinguished economists and businessmen, including such men as George Shultz, William Simon, Alan Greenspan, Charls Walker, and James Lynn." All these men, former high officials in Republican administrations, made careers of influencing the policy of whichever Republican was in office. One of them, who had supported another candidate before 1980, recalled that Reagan's "fiscal policy left a lot to be desired—cut taxes and stand back, watch the Laffer Curve work. I let it be known that I was willing to help." Soon he was among the candidate's economic policy advisers. These establishment Republicans, whom we have dubbed neoclassicist, were just as convinced as Reagan that Democratic policies were in error, and in all the same ways: taxes, spending, and deficits were all too high; regulation was too intrusive; money was too loose. In spite of all the publicity for "supply-side" and "Kemp-Roth," Reaganomics, as one participant put it, "came out of the heart of the Republican establishment."^[22]

The most thorough rationale for Reaganomics was provided by economist and policy analyst Martin C. Anderson, who was Reagan's chief adviser on domestic policy. Anderson's job was to turn Reagan's ideas into defensible proposals.^[23] His "Policy Memorandum No. 1," dated August 1979, outlined the Reaganomics they were to follow throughout the campaign and Reagan's presidency.

The memorandum denied that "any attempt to increase employment would lead to more inflation, and that any attempt to reduce inflation would result in more unemployment." Doubts about the "iron law" relating the two, wrote Anderson, had recently "blossomed into rampant skepticism and full disbelief, even among economists." He cited a 1978 Federal Reserve Bank of Minneapolis study in saying it was "possible to reduce inflation and stimulate economic growth without having an economic bellyache, recession, or depression."

The memo blamed inflation, the economy's greatest problem, on the "massive, continuing budget deficit of the federal government." But the deficit was a function of revenue and expenditures, so the most effective way to reduce the deficit was "to reduce the rate of growth of federal expenditures and to simultaneously stimulate the economy so as to increase revenues in such a way that the private share grows proportionately more than the government share." Economic growth could be stimulated by reducing taxes, which were "stifling the incentive for individuals to earn, save, and invest." Growth could also be stimulated by an income tax cut of the Kemp-Roth type, with lower top marginal rates and lower capital gains and corporate income taxes. Then the tax code should be indexed to prevent the "insidious" effects of bracket creep. The last part of this supply-side stimulus package would be extensive deregulation. Anderson cited Washington University economist Murray Weidenbaum's estimate that federal regulations cost business over $75 billion in 1977—and that those costs were passed on to the consumer in higher prices.

As the economy was stimulated without increasing inflation, given a supply-side rather than a demand-side analysis, federal spending would be controlled. "It is not necessary to cut federal spending from its current levels," Anderson told his candidate, "but it is necessary to reduce the rate of increase in federal spending." That rate would be reduced first by attacking the "legendary" amount of "fraud, waste, and extravagance in federal programs." Anderson's own best-known work on urban renewal enabled him to believe that some programs were wasteful and extravagant in the sense that they did not provide sufficient benefits for the money. Citing an OMB estimate that annual waste might be as high as $50 billion, he suggested citizen task forces, as Reagan had used in California, to search out waste in all programs. Anderson also recommended a transfer of programs back to the states, eliminating one layer of administrative costs, and concluded that the recommended steps could bring the budget to balance. Then balance should be locked in with a constitutional amendment that might also include other procedural proposals, such as a line-item veto and super-majorities (three-fifths or two-thirds) for new spending, in an economic bill of rights.

Anderson's memo became an internal working document. We can see much later policy—choices, justifications, even what others considered diversionary tactics like the item veto—in that paper. It shows that Reaganomics was not something Jack Kemp and David Stockman sold the president. Absent were numbers: an argument that the whole thing could add up over a period of years.

The campaign's economic and political advisers recognized that media attacks on the program's plausibility had to be blunted. Alan Greenspan,

for example, predicted in a letter to Anderson on June 10, 1980, that Reagan would face "a degree of scrutiny to the details not accorded other presidential candidates of recent years" and suggested that the campaign should develop budget plans with detail comparable to budget resolutions. Credibility might have been pursued by changing some premises. Reagan, however, would not budge on defense increases or tax cuts. Defense was more important than the budget; "nothing was so vital, in Reagan's thinking, as the strengthening of United States defense capabilities."^[24] Reagan was adamant about tax cuts. When told by some advisers that the tax cut would be easier in five years, the candidate reportedly replied, "I don't care." Because they were not allowed to change the premises (and not all of them wanted to), the advisers had to find another way to make the program add up. They solved their problem (sort of) with help from Democrats.

After estimates using CBO's economic forecast showed that the package would not balance the budget before 1985—and that assumed a smaller defense buildup and smaller corporate tax cut than eventually occurred, together with a 6 percent cut from "waste, fraud, and abuse"—the Senate Budget Committee, fortuitously, came out with its more optimistic economic estimates. Reagan advisers adopted these numbers that the Democrats could hardly attack. The Senate numbers on defense were nearly what Anderson had projected anyway; by accepting them and assuming slightly higher "waste" savings, Reagan's advisers fixed it so that the basic plan would yield a surplus by FY83.

Reagan's Chicago statement added one element to Anderson's year-old memo: a sound, stable, and predictable monetary policy. No one said much about the possibility that monetary restraint could knock the economy for a loop: supply-siders believed the tax cut would overcome the monetary squeeze; neoclassicists were more worried about inflation; and Democrats thought Carter's chairman of the Federal Reserve supposedly was pursuing the same policy as the neoclassicists. In drafting the speech, the various constitutional proposals of Anderson's economic bill of rights were removed; the point of the speech was to defuse, not provoke, controversy. Proposals unlikely to pass would not convince a skeptical public that the Republicans had a practical plan.

The September 9 plan promised "waste" savings of 7 percent (2 percent in FY81, 2 percent in FY82, and 1 percent each following year) by the end of FY85. Beyond the promise, the plan announced an even more optimistic "goal" of 10 percent savings. "If these goals are reached the efforts will be redoubled, because certainly more than 10 percent of the money the federal government spends every year is misspent."^[25] How would this waste be found? By appointing administrators who shared Reagan's philosophy of spending control; freezing federal employment

(which actually had not grown in years); creating citizen task forces; and having a special transition team, directed by former OMB Director Caspar Weinberger, find "specific ways to search out and eliminate waste and extravagance." There was no word about the exact programs.

Who believed this? Clearly Anderson believed some of it, but the new goal went beyond his original caution. The candidate believed it. When we asked if anyone believed in the waste-fraud-and-abuse, a mainstream adviser replied, "They believed it's there, they didn't believe there was much money in it. The president still believes it. It was a political thing in the September speech, the only way to get balance in the plan." The speech in fact took most of the budget off the table:

This strategy for growth does not require altering or taking back necessary entitlements already granted to the American people. The integrity of the Social Security system will be defended…. This strategy does require restraining the congressional desire to "add on" to every old program and to create new programs funded by deficits.^[26]

Unless inflation adjustments were defined as "adding on" to old programs, any plausible interpretation of "entitlements already granted," added to defense, meant that Reagan's 10 percent cut from waste was more like taking 30 percent from what was left.

The September 9 package nevertheless did dampen some skepticism. Although the numbers really did not look plausible, they were not impossible; the press at least did not mock the spending projections. The trouble was that to make all of Reaganomics work part of Reaganomics had to fail. Its first point was to stop inflation, but the economic projections assumed inflation would drive revenues up enough to compensate for the tax cut. Herbert Stein put the case well:

There was one major flaw in this picture. The economic assumptions used … implied 8.7 percent per year annual inflation from 1980 to 1985. This was inconsistent with the Reagan promises for conquering inflation, but it was a major source of revenue. Basically, their forecasts abstained from the supply-siders' unrealistic estimates of the revenue-raising effects of a tax cut and relied instead on the revenue-raising effects of an all-too-realistic, but undesired, inflation. The argument was as unrealistic as the supply-side argument, but it was unrealistic in a more conventional way.^[27]

In other words, a policy that promised to balance the budget in order to reduce inflation was going to attain budget balance by assuming the very inflation that balance was supposed to eliminate!

The funny numbers on September 9, 1980, put into perspective David Stockman's later mea culpas about unrealistic forecasts. Not only Reaganomics but also the willingness to fudge in order to attain the good

things in the package, worrying later how it would add up, "came from the heart of the Republican establishment"—the advisers who cleared that speech. The best that can be said in their defense is that the Federal Reserve got the price level to drop a lot faster than anyone thought. A substantial part of the Reagan deficit came from the lack of revenues premised upon the effects of bracket creep no one, in or out of the Reagan camp, expected to drop so suddenly.