If Democrats want a more just economy, they need to focus on investment and innovation
The Democratic National Convention has formally launched the Biden-Harris ticket and refined the party’s platform. Party unity requires a reconciliation of diverse ideas for improving social and economic justice. Joseph R. Biden Jr., the Democratic Party’s nominee for president, has proposed a new tax plan and climate-oriented infrastructure plans; the progressive wing of the party has called for a wealth tax and mandatory employee representation on corporate boards.
As the first draft of an administration’s policy, a successful platform should rely on our country’s long experience. Plans for a more equal economy need to include careful consideration of how they affect the irreplaceable role of investment and innovation in order to best serve workers and those at the margins of society.
The Roosevelt Economy
The boldness and consequences of President Franklin D. Roosevelt’s initiatives provide relevant history. His administration produced massive stimulus programs to counter the widespread distress of the Great Depression; and his infrastructure, regulatory and taxation strategies prevailed for nearly five decades, with enhancements by both Democratic and Republican administrations.
In 1933, the National Industrial Recovery Act established federal control over vast areas of the country’s economy. More than 600 industrial codes, each approved by the president, set prices, hours of employment, wages, working conditions, product specifications and many other aspects of business, with criminal penalties for violations. Norman Thomas, who had been the Socialist Party candidate for president in 1932, praised the act in a New York Times article as “lay[ing] the foundation for an immense structure of State capitalism.”
Plans for a more equal economy need to include careful consideration of how they affect the irreplaceable role of investment and innovation in order to best serve workers.
The Public Works Administration, established by Title II of the NIRA, spent more than three billion dollars (almost one trillion dollars in today’s dollars) in its first two years on bridges, tunnels, post offices, hospitals and housing for low-income families. But in mid-1935 the unemployment rate was still 20 percent. At a private White House dinner, the president discussed his plans to increase taxes.
“It may even be necessary to throw the 46 men who have incomes in excess of $1,000,000 per year under the bus,” Mr. Roosevelt said. “In other words, limit incomes through taxation to $1,000,000.... Further, it may be necessary to see to it that vast estates bequeathed to one person are limited in size.”
He explained that he was trying to save capitalism and wanted to avoid communism, but he feared the young men who were “disciples of the new idea of fairer distribution of wealth.” Edmond Coblentz, publisher of The New York American, attended the dinner and offered Mr. Roosevelt the term “neocommunism” for his plan.
In 1935, Congress reauthorized the Public Works Administration and established a new, more expansive infrastructure program, the Works Progress Administration, intended to provide full employment by the end of 1935. The Revenue Acts of 1935 and 1936 raised tax rates on corporate profits, stock dividends, upper personal income brackets and estates. F.D.R.’s initiatives were widely popular. He won re-election in 1936 with 61 percent of the popular vote. In 1939, the unemployment rate had dropped to a still-high 17 percent.
World War II intervened. With 11 million Americans serving in uniform and factories producing war materials at maximum capacity, the civilian unemployment rate dropped to 1.9 percent by 1943. After the war, returning veterans were granted special mortgage assistance and educational benefits as the economy readjusted to peacetime production. They bought new houses in the suburbs, appliances and automobiles and generally fueled a booming economy.
High Taxes, Low Innovation
By the late 1950s, however, the weaknesses of the F.D.R. economy—inherited and sustained by Presidents Truman and Eisenhower—were becoming apparent. In 1958, Edwin Land, the president of Polaroid, advised President Eisenhower that “in the United States these days...we were not great builders for the future but rather we seem more preoccupied with stressing mass production of things we had already achieved.”
With the corporate tax rate at 52 percent and the top marginal personal income tax rate in 1959 at 91 percent, business offered so little opportunity for after-tax return on investment that investors shifted their money from corporate stocks into government bonds. Investment and innovation were stifled. Few firms bothered to replace obsolete machinery or invest in new buildings or product development. Family businesses, built over generations, withered. In 1959, at the apex of the post-war economy, the nation’s poverty rate was 22 percent. For black Americans, it was a staggering 55 percent.
The unemployment rate was 7.7 percent at President Kennedy’s inauguration in 1961—the highest rate since the end of World War II. Michael J. Harrington’s The Other America, a seminal book in the literature of social justice, appeared in 1962. It described a United States mired in poverty and inequality. These are hardly the markers of a healthy or just economy.
Three decades of high taxes, intense regulation and weakened patent protections had stifled innovation, as President Kennedy highlighted in several messages to Congress.
Three decades of high taxes, intense regulation and weakened patent protections had stifled innovation, as President Kennedy highlighted in several messages to Congress. The number of patent applications had plummeted as the Depression opened and never returned to 1930 numbers until 1965, and the annual rate of growth in applications did not return to pre-Depression levels until 1981.
John Kenneth Galbraith, a Harvard University economist who had worked in F.D.R.’s and Kennedy’s administrations, noted in his 1967 book, The New Industrial State, the declining power of labor unions resulting from shrinkage of the mining and steel industries in the United States. By 1977 the steel industry was in such dire condition that the staff of the Federal Trade Commission completed a lengthy report on the U.S. steel industry and international rivals. The report noted, among other things, the chronically low after-tax return on equity of the American manufacturers, which would have been correctable by the simple reduction of corporate income tax rates. The staff offered no such recommendation, nor was action taken.
Most modern economists agree that the stimulus from federal highway, housing and space programs did not overcome the negative effects of high tax rates and regulation that discouraged investment and innovation. The Santa Clara University economist Alexander J. Field writes in A Great Leap Forward that the strong G.D.P. numbers that followed World War II were driven by technologies developed in the 1920s and early ’30s, meeting pent-up demand after years of depression and war. The Nobel Prize-winning economist Angus Deaton arguess in The Great Escape that the post-war “golden era” had passed by the mid-1970s.
By 1980, the former heartland of American industry had become the Rust Belt. Nearly five decades of high personal and corporate taxes had suppressed investment, innovation and job growth. Unemployment averaged 7.2 percent that year, and the inflation rate was 12.5 percent, which meant that the dollar was losing one-eighth of its purchasing power every year, raising the “misery index” for the employed, the unemployed and anyone living on a fixed income.
In the 1980 election, the children and grandchildren of those who had voted for F.D.R. voted for a different approach.
In the 1980 election, the children and grandchildren of those who had voted for F.D.R. voted for a different approach. President Ronald Reagan’s initial tax reductions were the first significant departure from the tax and regulatory policies initiated by Franklin Roosevelt. The economic conditions produced by Mr. Reagan’s tax and regulatory relief were widely popular. He won re-election with 59 percent of the popular vote, a landslide as stunning as Roosevelt’s 1936 victory.
Business and the Common Good
The church recognizes the relationship between innovation, economic growth and economic justice. In his 2015 encyclical, “Laudato Si’,” Pope Francis praises the contributions of business that “sees the creation of jobs as an essential part of its service to the common good” (No. 129). Elsewhere, he describes the “noble vocation” of business as “serve[ing] the common good by striving to increase the goods of this world and to make them more accessible to all” (“The Joy of the Gospel,” No. 203).
While cautioning against blind reliance on “unseen forces and the invisible hand of the market,” he sees this creative work as fundamental to building a just society. “Growth in justice requires more than economic growth, while presupposing such growth” (“The Joy of the Gospel,” No. 204). Francis also acknowledges the benefits of innovation. “We are the beneficiaries of two centuries of enormous waves of change: steam engines, railways, the telegraph, electricity, automobiles, airplanes...robotics, biotechnologies and nanotechnologies,” the pope writes in “Laudato Si’.” “It is right to rejoice in these advances and to be excited by the immense possibilities which they continue to open up before us” (No. 102).
While cautioning against blind reliance on “unseen forces and the invisible hand of the market,” Pope Francis sees this creative work as fundamental to building a just society.
Every generation has produced brilliant, inventive people. But these unprecedented 200 years of enormous change came only with the rise of economic freedom. Each of the technological advances required not only an inventor’s genius but also an investor’s capital placed at risk. Two centuries ago, concepts from Anglo-Saxon, Teutonic and admiralty law converged to permit the first modern corporations. That freedom allowed larger numbers of savers to associate formally and assemble larger amounts of money for investment, and it meant that small savers could own shares of large enterprises. The same legal developments gave states and individuals the ability to enforce laws or claims against a single corporate entity, without pursuing hundreds or thousands of individual owners into their home jurisdictions. These corporations capitalized the New England mills that centralized cottage industries into efficient factories. Expensive steam-powered machines replaced treadmills and waterwheels, and the mechanized economy of the North defeated the slave power of the South.
Growth and Taxes
Today, the success or failure of either party’s economic policies, especially on taxes, will affect that party’s prospects in 2024. Christina D. Romer was the chair of President Obama’s Council of Economic Advisors in 2009-10. She and her economist husband, David D. Romer, studied every legislated tax change from 1945 to 2007 and published a peer-reviewed paper, “Macroeconomic Effects of Tax Changes: Estimates Based on a New Measure of Fiscal Shocks,” in The American Economic Review in June 2010. They found:
The most striking finding of this exercise is that tax increases have a large negative effect on investment.... The estimated impact of tax increases on consumption in these studies ranges from roughly no effect to a substantial negative effect.... In short, tax increases appear to have a very large, sustained, and highly significant negative impact on output [gross domestic product].... The key results are that both components [investment and consumption] decline, and that the fall in investment is much greater than the fall in consumption.... [T]he more intuitive way to express this result is that tax cuts have very large and persistent positive output effects.
The Tax Foundation projects that the Biden tax plan will reduce full-time equivalent jobs by 585,000. As the research of the Romers explains, even tax increases aimed at financing government programs (as compared to paying down debt) reduce the amount of capital committed to investment and to a lesser extent consumption. This constrains the growth that Pope Francis sees as a prerequisite for justice and for the development of the “immense possibilities” of invention that so excite him. Unemployment and inequality rise. Social mobility decreases and mortality rates increase. The negative impact on G.D.P. and job recovery will haunt the unemployed for years into the future. These are not the markers of a just society.
Many people in this country are anxious, frustrated and angry. They want solutions. The response should be solutions that work. In a fight for justice, policy should rest on knowledge, and truth should be the weapon of choice. Our nation’s history and the research of leading economists confirm that steps back toward destructive policies, however popular, would stifle innovation and growth, with the greatest detriment and injustice falling upon those living at society’s margins.