Dear reader,
Every student of economics knows John Kenneth Galbraith. He was a prominent Canadian-American economist, diplomat, and author, known for his influential ideas on economics and his role in US politics throughout the mid-20th century. In 1992, he published an interesting book, The Culture of Contentment, which yours truly happened to read during the global financial crisis of 2007-08. The book has an interesting line: “If the horse is fed amply with oats, some will pass through to the road for the sparrows.” That’s Galbraith’s satirical way of describing what used to be or continues to be, one of the most powerful and most popular economic theories the world has ever seen—trickle-down economics.
Galbraith’s statement perfectly captures both the theory’s premise and its fundamental flaw. Like the sparrows waiting for horse droppings, the working class and the poor, especially in the 1980s and 1990s, were told to wait patiently for wealth to trickle down from the elite—a wait that has now stretched over four decades.
The story of trickle-down economics represents one of the most successful—and controversial—economic experiments in modern history. Born from supply-side economics (minus jargon this means increasing the supply of goods and services in the economy to fuel economic growth) and popularised during the Ronald Reagan administration in the 1980s, this theory promised that tax cuts for corporations and the wealthy would ultimately benefit everyone through increased investment, job creation, and economic growth.
What emerged instead was an unprecedented concentration of wealth that has shaken the very foundations of global society, from the US to India.
To understand the intellectual foundations that helped build this absurdity, we should go back to a restaurant and a napkin from the 1970s. Yes, you heard me.
Meet economist Arthur Laffer and his famous “Laffer Curve”. Economic historians say the Laffer Curve, a concept illustrating the relationship between tax rates and tax revenue, was famously sketched by Laffer on a napkin during a meeting in 1974. The incident took place at Hotel Washington in Washington, D.C., where Laffer was dining with influential political figures, including Dick Cheney and Donald Rumsfeld.
What’s the curve all about? Simply put, it says that at a zero per cent tax rate, the government collects no revenue, and at a 100 per cent tax rate, it also collects no revenue because there will be no incentive for individuals to work. Between these two extremes, there exists an optimal tax rate that maximises revenue. In other words, the Laffer Curve suggests that there’s a sweet spot for tax rates where the government collects the most revenue and that raising taxes too high can actually lead to less revenue. Reducing taxes, therefore, was estimated to increase government revenue by stimulating economic growth.
The seductive simplicity of this argument caught the attention of conservative politicians and think tanks, particularly during the economic stagflation of the 1970s.
The theory gained its most influential champion in Reagan. And his regime embraced what George H.W. Bush once memorably dubbed “voodoo economics”, also known as “Reaganomics”, which soon became popular globally, influencing businesses and policymakers everywhere. In the US, the Economic Recovery Tax Act of 1981 slashed the top marginal tax rate from 70 per cent to 50 per cent, followed by another cut to 28 per cent in 1986. Thus began the beginning of a four-decade experiment that would dramatically change the American economy and inspire similar policies worldwide.
This “new deal” (with apologies to Franklin D. Roosevelt) was pretty straightforward: lower taxes on the wealthy would lead to increased investment, which would create jobs and raise wages for everyone (“lift all boats” as John F. Kennedy famously said in the 1960s).
But did that help America? Data tell a different story. Between 1979 and 2019, the after-tax income of the top 1 per cent grew by 160 per cent, while the bottom 50 per cent saw their income grow by just 28 per cent–barely keeping pace with inflation. Major tax cuts since 1980 failed to generate the promised economic growth. There were further cuts in the 2000s. The 2017 Tax Cuts and Jobs Act, the most recent large-scale implementation of trickle-down principles, is a stunning example. Despite promises of increased business investment and wage growth, the majority of corporate tax savings went to stock buybacks and shareholder dividends. One study said worker bonuses averaged just $28 per employee, while corporate stock buybacks exceeded $1 trillion in 2018 alone.
Shocking, isn’t it?
The Great American Failure Story, however, didn’t reach other parts of the world with the required urgency. Actually, the most interesting and remarkable aspect of trickle-down economics was not its policy framework but its marketing success. Through a coordinated effort of think tanks, media outlets, and political propaganda (“political messaging” as Western thinkers kindly call it), the theory achieved what Galbraith called “the most brilliant transfer of wealth from the poor to the rich in modern history”.
By then the influence of trickle-down economics had spread far beyond American shores. The International Monetary Fund, the World Bank, and the Asian Development Bank (ADB) often made tax cuts and deregulation preconditions for financial assistance to developing nations. I still remember the days when the streets of my home State, Kerala, were filled with protests against ADB’s calls for administrative reforms that involved tax cuts and decontrol. This was a period when India was happily experimenting with LPG (liberalisation, privatisation, and globalisation), and we were told that “inequality was good for growth”. Few noticed that the slogan eerily resembled Gordon Gekko’s motto from the film Wall Street (1987): “Greed… is good”.
Now, in hindsight, we see all the faultlines very clearly. Thomas Piketty’s study “Capital in the Twenty-First Century” told us how the global adoption of trickle-down policies skyrocketed inequality globally, creating a new “Gilded Age”. His research showed that the share of national income going to the top 1 per cent has increased in nearly every country studied since 1980.
One of trickle-down’s central claims was that lower taxes on businesses would lead to job creation. But many comprehensive studies showed that there was no correlation between lower tax rates and job creation. In fact, many companies that paid the lowest tax rates actually reduced their workforce while simultaneously increasing executive compensation.
The human cost of this failed experiment extends beyond pure economics. Research has shown strong correlations between income inequality and various social problems, including decreased life expectancy, higher rates of mental health issues, reduced social mobility, and increased political polarisation. This should sounds familiar in India.
There are signs of change, though. International organisations like the IMF, once strong proponents of trickle-down policies, have begun to acknowledge that inequality can harm economic growth. The COVID-19 pandemic has further exposed the limitations of trickle-down economics: the contrast between stock market performance and “Main Street” struggles told us a lot about the disconnection between financial markets and real economic well-being. This has led to renewed calls for economic policies that directly support working families rather than hoping for indirect benefits to “trickle down”.
The future may require a rethinking of how we structure economic incentives. Economist Joseph Stiglitz argues that the question isn’t whether trickle-down economics failed but rather how to build a more equitable and sustainable economic system that works for everyone, not just the top tier.
That’s exactly the sentiment that eminent economist Ashoka Mody also tackles in this long, superbly analytical piece in the latest issue of Frontline, “The great inequality myth that rules India”, where he looks at how, for decades, policymakers, and businessmen sold India the hoax that making the rich richer would lift all boats. And how history has proven them catastrophically wrong. It’s a must-read piece. I thoroughly enjoyed it because it is also a story of how our everyday lives were turned upside down in the past few decades, thanks to the trickle tickle.
What are your views on the failure of trickle-down economics? Is it time India sought alternatives? Read Ashoka Mody’s piece and write back as always with your comments.
For Frontline,
Jinoy Jose P.
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