Clinton's Criticism of "Trickle-Down Economics" Is Misplaced for a Number of Reasons

The presidential debate last week was the first debate I actually watched during this election cycle. It was the three-ring circus I was expecting it to be. As usual, there were many topics on which Donald Trump inaccurately spoke, whether it was NAFTA, the Trans-Pacific Partnership, stop-and-frisk, or how he would reduce debt (Spoiler: His current plan would increase debt more than Hillary's plan). Even with all of the inaccuracies coming from Trump, Hillary kept going after Trump for advocating for "trumped up, trickle-down economics."

The Left has historically used the term "trickle-down economics" pejoratively to refer to capitalism, supply-side economics, or laissez-faire economics. However, for purposes of this discussion, we will go with the definition of "using tax breaks (e.g., capital gains tax cut) or other forms of public policy (e.g., subsidies, such as TARP or the Chrysler bailout) for large businesses, investors, and entrepreneurs to stimulate economic growth." The idea behind trickle-down theory is that because those who have the greatest resources have the greatest potential to generate productive output, everyone benefits from the increased economic output, i.e., it trickles down.

Before going into whether this theory works, there are a few points I would like to state. The first preliminary point, which is brought up by economist Thomas Sowell, is that after looking at page after page of economic theory, the idea of "trickle-down theory," i.e., taking from Group A to give to Group B in the hopes that Group A will benefit, has not been advocated by any economist. As Sowell continues, why not just give directly to Group A and cut out the middleman?

That set aside, let's go to my second point, which is how "trickle-down economics" is associated with supply-side economics or capitalism. While that is the common mischaracterization, particularly for a number of those on the Left, the truth is that there is not a single economic policy or even economic school of thought that necessarily embodies "trickle-down." For a given policy to be "trickle-down," two main criteria have to be fulfilled: 1) It has to disproportionately benefit the very rich in the short-run, and 2) It is designed with the intention of improving upon the standard of living for all in the long-run. One of the main reasons why "trickle-down economics" is frequently associated with capitalism is because people conflate being pro-business with being pro-free market. AEI scholar Mark Perry helps explains the difference between the two:

"Businessmen like free markets until they get into a market; once they are in it, they want to block entry to others. Pro-marketeers want free markets at all times. The more conservative pro-marketeers are fearful of criticizing business, because they assume they will be seen as criticizing the free market. But we need to stand up and criticize business when business is not helping the cause of free markets." 

This leads to my third point. In an American context, "trickle-down economics" often comes in the shape of rent-seeking and crony capitalism, or the term I prefer to use here is "crapitalism." Giving handouts and goodies to the rich is not what is commonly advocated by libertarians, or even conservatives, for that matter. The idea behind having liberalized markets is that freer trade generates net economic welfare for the rich, middle-class, and poor alike through voluntary exchanges and the wonderful idea of spontaneous order.  As economist Steve Horowitz expresses:

"There are many economists who argue that allowing everyone to pursue all the opportunities they can in the marketplace, with the minimal level of taxation and regulation, will create generalized prosperity. The value of current taxes is not just cutting them for higher income groups, but for everyone. Letting everyone keep more of the value they create through exchange means that everyone has more incentive to create such value in the first place, whether it's through he ownership of capital of finding new uses for one's labor." 

This is true, whether or not we are talking about reducing the tax rate for the corporate tax for the rich or whether we are removing onerous occupational licensing regulations so that poor individuals are more free to start a business. This is not about favoring the rich, but creating as free of a market economy as possible, in which if the rich want to get richer, their enterprise needs to produce even more value for their consumers. This distinction between "trickle-down economics" and capitalism is actually confirmed by the International Monetary Fund's 2015 paper on income inequality, in which they find that "the benefits [of increasing income share of the rich] do not trickle down." While I will point out that this paper focuses on developing countries, which are places with less stable institutions and more corruption, it does bring up the point of helping increase the income shares of the poor. I brought this point up a couple of years ago when discussing income inequality and economic growth: the problem is not the the rich are rich, per se. It is that the poor do not have as much opportunity. While this is topic which can be spoken about at greater length at another time, as already alluded to earlier, we need to provide the poor with incentives to pursue greater wealth, and a lot of that can occur via less regulations and taxes. As the World Bank brought up in a 2013 report, "institutions and policies that promote economic growth in general will on average raise incomes of the poor equiproportionally, thereby promoting 'shared prosperity' (Kraay and Dollar, 2013)."

"Trickle-down" is a politically effective mischaracterization of tax cuts and other economic policies that defy neo-Keynsian tax-and-spend policy, which glosses over the irony that these same politicians believe that taking money from the rich and distributing it to the poor in the form of stimulus programs will also "trickle down." The term "trickle-down" deflects that the reality that there is a certain point where the tax rate or is too high or that there have been enough times where tax rates have been reduced while tax revenue has increased. As Thomas Sowell states, it ignores that "there are limits to how high they can push taxes rates on people with high incomes, without causing repercussions that hurt the economy as a whole."

The question here is the extent to which tax policy has harmed incentives for individuals to pursue more opportunity to become richer. There could be quite the debate on how to address the tax code's bias against savings and investment, or on how fiscal policy affects economic growth. There also could be a discussion on how public policy can provide the poor with greater opportunity to work hard and become richer. But alas, that sounds too reasonable for this election cycle. While Trump makes for a good caricature of "old money," Clinton deprived the American people of another opportunity to discuss ways where public policy can help expand economic welfare for all Americans. It would be nice to see substantive discussions about how to create economic growth, but my guess is that we will see more debates about the ever-misleading "trickle-down economics", the demonization of freer trade, and about Trump's tax returns or Clinton's email controversy while ignoring issues that affect the American people.