Reagonomics and Thatcherism: From Ideas to Policy

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Reagonomics and Thatcherism: From Ideas to Policy

May 1, 1990 16 min read Download Report
Abraham H.
Visiting Fellow

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jmWaganomics and Thatcherism: From Ideas to Policy

by Nigel Ashford The issue I wish to examine today is the role of ideas in public policy. How do ideas get transmitted from the intellectual realm to the public policy arena? And my focus today is on the determinants of the comparative influence of three.schools, of thought: monetarism, Austrian economics, and supply-side economics, and their impact on the economic policies of the Reagan and Thatcher Administrations. I am concerned with the policy-making p rocess, not with the policies themselves. Unfortunately, I don't have time to discuss the differences between these three main schools. That discussion would require a whole lecture in itself. But I hope some of their dif- ferences will emerge during the r est of my lecture. Economic Policies of Thatcher and Reagan Before turning to the question of those determinants of influence, I need to say some- thing about the differences between the economic policies of Reagan and Thatcher, be- cause of course they h a ve a great deal in common and are seen as representing a similar point of view, as they do share a free market, limited government perspective on the economy. Turning first to the Thatcher Administration, we see clearly that the number one priority was fi g hting inflation. It accepted the monetarists' view that we needed to control the money supply in order to reduce inflation, and we needed to reduce government borrowing, what we in the U.K call the Public Sector Borrowing Requirement. Thatcher accepted th e Milton Friedman argument that trying to reduce inflation would inevitably have some nega- tive side effects on economic growth, and thus on unemployment. But he said we could min- imize those negative effects by declaring in advance what our policy was g o ing to be and gradually reducing or controlling the money supply and reducing inflation. In 1979, Thatcher announced the MediumTerm. Financial Strategy, declaring that this is what the government would be doing in the next few years. So the emphasis there was on reducing in- flation through control of the money supply. No Supply-Side Assumptions. The Conservative government in Britain also believed in cutting taxation. But there was none of this emphasis on the supply-side aspect. It was ar- gued that any t ax cuts should be paid for either by reductions in public expenditure, which as we know in the United States is something very difficult to achieve, or through an in- crease in economic growth.There were no supply-side assumptions built into the Thatcher strategy.

Nigel Ashford is Bradley Resident Scholar at The Heritage Foundation and Senior Lecturer in Politics at Staffordshire Polytechnic, England. He spoke at The Heritage Foundation on November 7,1989. ISSN 0272-1155. 01990 by The Heritage Foundation.

So in the first budget in 1979, marginal income tax rates were cut from 33 percent to 30 percent, and for higher tax payers from 83 percent to 60 percent. There were even some people paying as high as 98 percent on investment income. So they cut the inco me tax, but to pay for it they increased what in the U.K. is called the Value Added Tax, a sales tax, from 8 and 12 percent to 15 percent. They were saying that as we're going to lose revenue from the income tax cuts, we must completely make up for it som e where else by an increase in the sales tax. There was no role here for the arguments about th 'e revenue effects of supply- side economics, no belief here about the counterinflationary effects of supply-side economics which supply-side economists in the U n ited States had noted. Significantly Different. Thatcher's approach was significantly different from Reagan's, with an emphasis on controlling inflation through reducing government debt and an ap- proach to tax cuts which ignored the supply-side effects. Y ou are more familiar, of course, with Ronald Reagan's position, which placed tax cuts as the number one priority, with a willingness to accept budget deficits if that was necessary in order to keep a low level of taxation. It was the monetarists within th e Administration - like Martin Feldstein at the Council of Economic Advisors, or Paul Volcker at the Federal Reserve Board - who were arguing strongly for a tax increase as a way of trying to over- come the budget deficit. It is the difference between the p olicies of Reagan and Thatcher that I am interested in explaining. Mrs. Thatcher clearly aligned herself with monetarism, Reagan aligned himself with supply-side economics. Austrian economics is a sort of also-ran in this game. I also want to explain why A ustrian economics had very little impact on either of them. I want to argue that these differences can be explained by five factors. First of all, academic credibility. Secondly, institutional support. Thirdly, media attention. Fourthly, promotion by poli t icians. And fifthly, evidence of electoral acceptability. Academic Respectability The role of academia is to give authority to ideas. Monetarism is positivist in its methodol- ogy, empirical in its style, and uses mathematical models to demonstrate and te s t hypotheses. It thus fits in very well with the whole style of the economics profession here in the United States and in Britain. It conforms to the ethos of the economics profession. And so monetarism has been able to establish itself as a subdiscipline within economics on both sides of the Atlantic. Its influence was recognized by giving Milton Friedman the Nobel Prize in 1976, and electing him president of the American Economic Association in 1977. By contrast, the Austrians are very critical of positi v ist economics. They adopt an a prio?i style, based on first principles, rather than on empiricism. They are dismissive of the use of mathematical models. Austrian economics has gained attention primarily among economic historians who are interested in the i r contribution to the economic calculation debate, and among political philosophers who are interested in Hayek's work as a modem restatement of classical liberalism. Austrian ideas with regard to macro-economic policy or economic policy making had very l ittle influence in academia. It is only in the latter part of the 1980s that one begins to see the emergence of graduate students and younger academics repre- senting the Austrian school.


Supply-side economics has achieved little academic respectabilit y. There are really only two academics associated with this particular approach, at least during the late 1970s and early 1980s. They are Robert Mundell at Columbia University and Arthur Laffer at the University of Southern California. On the whole, the s u pply-side economics has been dis- missed within the economics profession. Paul Samuelson once gave a famous lecture about "Why Everyone is Laughing at Laffer," which summed up the view of the academic estab- lishment towards sppply-side economics. Institu t ional Support We turn now to institutional support. The role here is played particularly by think tanks who transmit these academic ideas to the policy makers in a digestible form, in a form that people in policy making may actually read, where the releva n ce of these ideas to public policy is clear. The American Enterprise Institute provided an institutional forum in Washington, D.C., for monetarist ideas. The Hoover Institution gave a home to Milton Friedman and ap- pointed him as a senior fellow. Institu t ional support, however, was less significant in the United States because monetarism already had a degree of respectability within the academic profession. In Britain that was much less true. The Institute of Economic Affairs, the IEA - not to be confused with your own IEA here in Washington, which plays a somewhat different role - is a small free market think tank. In 1970, it produced a short pamphlet by Milton Friedman called 7he Counter-Revolution in Monetary 77teory. It was basically a 20-page summary of Milton Friedman's ideas on monetarism. I think it would just about pass Heritage's brief- case test in terms of its length and people's willingness to read it. This was the first real at- tempt to give monetarism some coverage in British academic and p o litical debate. Friedman then attended several conferences at the IEA, which also published several other of his shorter pieces of work, expanding his ideas on monetarism. The IEA also played an interesting role in bringing together Friedman with leading p oliticians such as Mrs. Thatcher, and leading journalists at IEA lunches. So there was some sort of, what you Americans would call, networking exercise with regard to Milton Friedman's ideas. Wide Audience. In 1975, the Center for Policy Studies was creat e d in Britain, which had as its primary focus explaining monetarism to the British public. It was founded by Sir Keith Joseph and Margaret Thatcher and it produced a series of pamphlets which was extremely widely read for political publications. As you kno w there are great difficulties in trying to ?et the mass public to read anything substantial. In fact, they were very successful in reach- ing a comparatively wide audience with their CPS publications. The Austrians really only have the Cato Institute as t h eir institution promoting Austrian economic ideas to policy makers. And Cato didn't come to Washington, D.C., until 1981, after the Reagan Administration had already arrived in town. So it was a bit too late for it to have any impact on the basic framewor k within which the Reagan Administration would operate. In Britain the IEA also published a series of pamphlets by Hayek, but it tended to em- phasize Hayek's interest in microeconomic issues rather than macroeconomic issues. For example, it gave attention to Hayek's views on trade unions, where there was a clear dif-


ference between him and Friedman. While Friedman argues that in the long term trade unions have no significant impact on the level of employment, Hayek says that they do have a significant effect. And this was particularly interesting in the U.K when it was going through a period of major industrial relations problems, a very high level of strikes. So the IEA introduced Austrian economics, but not on the macroecon omic sort of level which put them in conflict with the traditional monetarists.

The Adam Smith Institute, created in 1981, was another institute which was Austrian in its flavor. It produced a series of introductions to Austrian economics, and also a whole load of policy recommendations. The Adam Smith Institute was very significant, for example, in promoting privatization in the British context. What they didn't do very successfully, though, was to link these principles of Austrian economics with specific policy proposals. And so Austrian economics didn't get very widely accepted within Britain. For supply-side economics, the American Enterprise Institute gave a home to Jude Wan- niski in 1977, which enabled him to write his book, 77te Way the World Works. But most of the AEI economic establishment, including such notables as Herbert Stein, was very hostile to the conclusions of that book, and they made speeches and lectures attacking supply-side economics. So AEI as a whole was not a center of supply-side e conomics in the late 1970s or in the 1980s. Creating Institutions. So the supply-siders had to create their own institutions. One was the Institute for Research into the Economics of Taxation, formed in 1977 by NormanTure. But that gained very little atte n tion until Ile Heritage Foundation took it under its wing in 198 1, and then gave its work a much higher profile in Washington. Ture contributed the chapter on the Department of Treasury to the influential Mandate for Leadership report of The Heritage Fou n dation, in which he summed up the case for supply-side tax cuts. He was appointed Undersecretary forTax and Economic Affairs at Treasury. Another significant institutional support for supply-side economics was the Manhattan In- stitute, with George Gilder as the program director, giving a lot of attention to supply-side economics, which eventually led to his best selling book, Wealth and Poverty. In Britain there was no institutional support for supply-side economics. People didn't un- derstand what the te r m meant. It wasn't used by economists; it wasn't used by politicians. The first conference on supply-side economics in Britain was organized in 1986 by the Man- hattan Institute. There was no institutional base for supply-side economics within Britain. Me d ia Attention A third factor is that of the media. The media play the role of bringing these ideas to what may be called the attentive public, those people who take some interest in public policy af- fairs. Monetarists didn't have any problem with the medi a when they had a spokesman like Milton Friedman who loved publicity, who loved going on television, who loved the combat- ive style that gained media attention, no problems for Friedman having an interview in Playboy magazine in 1973, for example. He wrot e his regular column in Newsweek from 1966. And he produced the popular TV series and book, Free to Choose, shown in 1980 in the United States and Britain. The JEA played a very crucial role in introducing Friedman's ideas to the economic jour- nalists in Britain. The economic editors of the three quality newspapers in Britain all met


Milton Friedman through the IEA, became convinced and converted by his ideas, and gave exposure to those ideas, mentioning his name frequently in their columns and artic les in their newspapers. The most significant, I think, was Sam Brittan of the Financial 7"unes who made his own interesting theoretical contributions to monetarism. The second was Peter Jay, economics editor of the Times, whom you may have known as Briti s h Ambassador to the United States when he was appointed by his father-in-law, Prime Minister Jim Cal- laghan. And thirdly, there was Frances. Caincross, economics editor.of the Guardian. An in- teresting thing about all three of them is that none supporte d the Conservative party and yet they played probably the major role in terms of media exposure to monetarist ideas. The Austrians had virtually no media coverage. By contrast, it sometimes is suggested that supply-side economics is nothing but a media cre a tion. This is a big contrast between the two. Robert Bartley gave a good deal of exposure to supply-side economics on the editorial pages of the Wall Street Journal, where Jude Wanniski was employed and first started getting interested in these ideas. Irv i ng Kristol used his column in the Wall Street Joumal to articulate what he saw as the political benefits of supply-side economics as against traditional Republican economics. And there was a whole series of conservative journalists, like Tom Bethell, Bruc e Bartlett, and Warren Brookes, who published articles on these ideas in places like the New Republic, American Spectator, Reason, etc. By contrast in Britain, there was no media coverage of supply-side economics. No newspaper gave it any serious considera tion, and it wasn't until 1986 that the Sunday 771mes in Britain first started to explore and present supply-side economics in its relevance to Britain.

Promotion by Politicians The fourth factor is the endorsement by politicians. This is the most likely w ay in which the general public will become familiar with economic ideas. With regard to monetarism in Britain, it was very much picked up by and associated with Sir Keith Joseph. He had been a minister in the Heath government from 1970 to 1974. The Heath C onservative government was widely felt to have been a total disaster and failure. So Joseph asked himself this question, why was it? Why did we make such a mess of the economy when we were in power and able to do something about it? He went away on a summ e r holiday with a suitcase of books by Friedman and Hayek, read them on that holiday in Scotland, and then said, this is the answer - these are the ideas which explain why we made a mistake and what we need to do. Then he made a whole series of speeches, s p eaking at over a hundred meetings in three years, basically trying to explain monetarism in simple terms that people could understand. Those speeches gained a considerable degree of media coverage, because part of his argu- ment was attacking the governme n t of which he had been a member, and it's always good for news when people are fighting inside their own political party. It was Joseph who popularized the term monetarism. He made it almost a household word within the British context so that everybody ba d heard of monetarism even if he didn't always understand it. At that time in the mid 1970s Margaret Thatcher was Joseph's lieutenant, his number two, if one can imagine Mrs. Thatcher being number two to anyone. At that time it was Joseph who was being see n as the possible leader of the Conservative party. It was Thatcher


who learnt these ideas largely from Joseph, but what she did was to integrate monetarism into a broader framework of values such as thrift and hard work. And then she tied this up with trying to make it electorally popular after her success in winning the leadership of the Conservative party in 1975. Too Abstract for Americans. In the United States politicians did not try to explain monetarism to the American public. They thought it wa s much too abstract an idea for Americans to grasp.--I won't'say anything about the- relativa-qualities- of -education, but it was assumed that in Britain you could explain monetarism to the general public, whereas in the United States it was felt impossib l e to do so. But the point is that no American politician at- tempted it. On Austrian economics, no politician really picked up and tried to use these ideas. Mrs. Th@tcher did read Hayek. She was very impressed by his philosophical work on 7he Con- stituti o n of Liberty. She took on board some of his arguments on the trade unions, but she never tried to explain Austrian economics to any sort of wider audience, and neither did any American politician. With supply-side economics, with which you are probably mo s t familiar, you will know that it was Jack Kemp, then the Congressman from Buffalo, who was the first politician to try and spread the supply-side message, influenced by his conversations with people like Jude Wanniski and Arthur Laffer. In 1977 he introd u ced his Kemp-Roth Bill calling for in- come tax cuts as an alternative to the Democrat budget. Reagan's initial reaction was somewhat skeptical about these arguments. He was not an early supporter of this point of view. I know there has been some attempt b y Martin Ander- son to go back and say that Reagan did mention tax cuts and the revenue effect of tax cuts in a rather obscure newspaper column, but there was never an attempt in the 1976 campaign - in Reagan's campaign against President Ford - to place s u pply-side economics in any sig- nificant role. Convincing Reagan. Laffer accused Reagan of being too interested in what he called "deep root canal theory." What he meant by that is that somehow we can't cure America's problems without going through a diff i cult and painful process. As Americans might say, no pain, no gain. So Reagan wasn't entirely happy with this argument that tax cuts could be the solution to America's economic problems. Eventually, though, he became convinced. First of all because it fit t ed in with his own op- timistic upbeat view of America - if only the energies of the ordinary American people would be released, then they could come to grips with the problems that the United States faced. Secondly, he was impressed that most of the cons e rvative journals that he read - such as National Review or Human Events - were endorsing these ideas. And thirdly, it was becoming increasingly clear that these were popular ideas with the electorate, which would gain him votes in his campaign for the pre s idency. And once he had sort of grabbed this idea, he then became the Great Communicator of supply-side econonuics to a wider audience. Contrast this with Thatcher, who never really picked up on supply-side economics as a position. She did have a serious look at it in 1979 after the election victory. But she looked at it, and in the end it was disregarded. First of all, she asked Sir Alan Walters, her


economic advisor with whom you are now familiar after recent events, to investigate these ideas; and h e came back and said, in effect, you can ignore them. Secondly, they were still very controversial. In America there wasn't a great deal of academic and intellectual support for these ideas, and there was virtually no one in Britain supporting them. And t h irdly, I think the same thing that was true of Reagan was also true of Thatcher. She felt it was a soft option, that we need to go through a difficult period to wring out inflation from the British economy before we could do anything like tax cuts. Here i s an example of the extent to which the British Conservatives ignored supply-side effects. In 1986 we discovered that the revenue from the highest marginal rates of taxation - that had been cut from 83 percent to 60 percent - had increased. No great surpri s e now, but it was a big surprise in Britain, because the government never mentioned that fact. We only discovered that revenue had increased because of a question posed by a British opposi- tion Labor Member of Parliament who thought that the figures woul d reveal the opposite: how much seriously revenue had declined as a result of this tax cut. The Treasury did not have that information. They had to go and conduct the research to find out the evidence for it. So it was certainly not seen as being an import ant part of the Conservative case for tax reduction.

Electoral Acceptability Now then to the fifth factor explaining the differences. This is the question of electoral ac- ceptability. I don't mean by this that the electorate have a firm grasp of economic theories, only that they are willing to allow certain ideas to be tried, to be attempted. The ideas are not simply dismissed as being totally off the wall. In Britain, inflation was seen as the greatest problem in 1979, running at about 25 percent and ris i ng. The only serious attempt that had been made to try and reduce inflation had been by the imposition of prices and incomes policies, which had been attempted both by Labor and Conservative governments. And the one thing that they had in common was that t hey had all failed. People were looking for some way of dealing with inflation, and the only people who were coming up with a proposal were those supporting a monetarist point of view that Thatcher was articulating. In the United States the popularity of s upply-side economics was probably first demonstrated with the success of Proposition 13 in California, the spreading tax revolt, the success that Republican candidates found they had using the tax issue in 1978 and 1980. One of the crucial events for Reag a n occurred in 1980 when he was running for the presidency. He did very poorly in the Iowa caucuses. The campaign was convinced to put on a TV blitz emphasizing tax cuts in the New Hampshire primary, which swept him to victory. That encouraged the campaign to make supply-side cuts a central theme of the 1980 elec- tions.

The Determinants of Economic Policy To sum up, there were three different schools of economic thought trying to compete for the conservative economic agenda. I have suggested that there were five factors which you can identify as significant in determinin g which of those schools was successful in Britain


and in the United States. First of all, academic respectability. Secondly, institutional sup- port. Thirdly, media coverage. Fourthly, endorsement by politicians. Fifthly, an appearance of electoral acceptability. It is the differences in these factors which I think help to explain the different policies of the Reagan and Thatcher Administrations. What I am arguing here is that ideas do affect public policy, though they rarely do it directly. They af f ect public policy through their interaction with interests, with institutions, and with personalities. But we need to understand the role of ideas if we are to explain the differences between politicians who are normally seen as ideologically close, Ronal d Reagan and Margaret Thatcher.




Abraham H.

Visiting Fellow


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