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Posted on Tue, May. 20, 2003 |   |
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Innovation fuels the supply side The Kansas City Star Most people consider taxes to be a dry subject, but last week's column on tax cuts -- the bigger the better, I argued -- drew numerous responses ranging from cheers to catcalls. As usual, the catcalls were the most interesting. Some readers were worried about the federal deficit, which would be larger if President Bush gets anything like the tax cuts he wants. Some dismissed the president's plan as another exercise in "trickle-down economics" aimed at benefiting the rich. That won't help the economy, they said, because the rich won't spend the money. Several readers wondered whether I'd ever opened an economics textbook. By and large, the comments shared a "demand-side" perspective, an assumption that consumer demand is the proper starting point for economic analysis. That's certainly the traditional approach. When I took macroeconomics 30 years ago, most lectures began with the professor drawing a demand curve on the blackboard. Agreed: A healthy economy must have buyers as well as sellers. But too much emphasis on the demand side provides a limited framework for understanding how our economy really works, and why it continually serves up so many amazing products and innovations. Was consumer demand responsible for the personal computer? Hardly. Until the product appeared in the market, there was no demand. At the economy's cutting edge, where growth takes place, it's the supply side that leads. "Supply," said the classical economist Jean-Baptiste Say, "creates its own demand." Another analyst, Jane Jacobs, is better known for her work on how cities function and grow. But on some economic issues, she was working the same side of the rhetorical street as Say. Her notion was that economies grow by creating new work out of existing work. She may not have intended it, but her way of viewing growth helps illustrate the critical importance of the supply side of the economic equation. One of her examples was the story of Ida Rosenthal, a New York dressmaker. Rosenthal began designing new undergarments because she didn't like the way customers looked in her dresses. To improve the fit of her dresses, she invented the brassiere and gave it to customers as an accessory. The product proved popular, and soon the bra-making part of Rosenthal's business eclipsed the dressmaking part. The resulting company is now known as Maidenform Inc. Jacobs observed that a great deal of growth is not driven by consumer demand, strictly speaking. It follows its own logic. "The new goods and services being added," she noted, "may be irrelevant to what customers of the older work want." Rosenthal's original clients were not pleased when she abandoned dressmaking, but the growth of her overall enterprise triggered new jobs and new divisions of labor in other companies and industries, such as shipping, sewing, banking, packaging and textile manufacture. In a growing economy, one thing leads to another in a natural process that recalls cell division in a living organism. To refer to this as "trickle down" is obtuse beyond words. Economic growth is the working of human creativity in a free economy. As with everything else, the more you tax this process the less of it you'll get. By accelerating marginal-rate cuts and eliminating double-taxation of dividends, Bush's plan aimed at increasing returns on investment. The idea was to encourage more entrepreneurs to assume the risk of "adding new work to existing work." The House and Senate had much different ideas about how to go about this, and we'll know in a few weeks how much of Bush's plan will emerge from the legislative blender. But the main point is that the taxes Washington imposes on the rewards accruing to risk are like a tax on the future. If you want a brighter future, increase the rewards for those willing to work, save and invest. Who knows what they'll dream up next? To reach E. Thomas McClanahan, call (816) 234-4480 or send e-mail to mcclanahan@kcstar.com. |
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