Reagan’s Ghost: Liberal pundits miss the boat when talking tax reform.

In their attempt to strangle President Bush's tax-reform plan before it even reaches the cradle, liberal journalist-strategists have conjured up a strange political weapon: the ghost of Pres. Ronald Reagan. Bush announced after his election victory that he would create a commission to report in the spring of 2005 on how to simplify the tax code; recent reports say he will probably not send a proposal to Congress until 2006 at the earliest. Still, because they sense Bush's eventual plan will be one they detest, left-leaning writers Jonathan Chait and Nicholas Confessore have begun attacking conservative reform plans as contrary to the principles of the Tax Reform Act that Reagan signed into law in October 1986.

Among these plans are the “Five Easy Pieces” of tax lawyer Ernest Christian and “Option 5” from Pamela Olson, Bush's former assistant Treasury secretary for tax policy; both call for eliminating or sharply cutting taxes on investment income. The 1986 tax reform, by contrast, lowered tax rates on earned income but raised rates on capital gains and limited the availability of tax-deferred individual retirement accounts (IRAs). Confessore and Chait assert that the new plans, because they would reduce taxes on capital, violate the spirit of Reagan. (Neither author, it should be noted, has shown in the past a crusading spirit in defense of the Reagan legacy.) Confessore inveighs in a New York Times Magazine cover story that the Bush reform “is shaping up to be not merely a departure from the spirit of the 1986 reform — but a wholesale repudiation of it.” And Chait writes in a <?xml:namespace prefix = st1 ns = “urn:schemas-microsoft-com:office:smarttags” />New Republic cover story entitled “Tax Fraud” that “Bush's goal is different from—and, in many ways, the opposite of—tax reform. . . . It has become difficult to find Bush supporters who even approve of Reagan's tax reform, let alone harbor any desire to repeat it.”

These are curious arguments. Reagan was indeed human, and it would be absurd for today's conservatives to follow every one of his policy prescriptions to the letter. More important, though, if conservatives are to be guided by Reagan's principles and example, they should scrutinize legislation he actually proposed more than the end result that came out of the legislative meat grinder at a time when one or both houses of Congress were controlled by Democrats. And on tax reform, it is simply wrong to say, as conservative essayist Andrew Ferguson did in The Weekly Standard, that the final legislation in 1986 “is best understood as a creature of Reaganism.” In fact, the bill Reagan ended up signing was radically different from the proposal he sent to Capitol Hill in May 1985. Tax cuts turned into tax hikes, and deductions he wanted to get rid of were restored. “There were a lot of shenanigans; key elements of the bill sent to the Hill were gutted,” says Stephen J. Entin, Reagan's deputy assistant Treasury secretary for economic policy who is now president of the Institute for Research on the Economics of Taxation.

TWO PEAS IN A POD

The irony is that the policies entailed in Reagan's proposal looked like, well, much of what Bush is apparently considering. Here are some places where the plans are similar.

Capital gains: To Chait, the capital-gains rate hike in the 1986 law was an example of Reagan's “closing loopholes”; Chait then blasts Bush's plans for “creating massive loopholes for investment income.” But like the new plans, Reagan's original 1985 proposal would have cut the capital-gains tax. He had reduced the rate from 25 percent to 20 percent in his 1981 tax cut and wanted to reduce it to 17.5 percent in his new tax reform. In his televised address unveiling the plan, Reagan proclaimed: “To marshal more venture capital for new industries—the kind of efforts that begin with a couple of partners setting out to create and develop a new product—we intend to lower the maximum capital-gains tax rate to 17-1/2 percent.”

IRAs: Confessore writes of the GOP's radical notion of “supersize IRAs, in which people who already have lots of money to save—that is, high earners—could shelter large amounts of income.” But again, expanding IRAs is exactly what Reagan set out to do in 1985. He had already made them universal in his 1981 package. After that, all Americans, no matter how high their income, could get up to a $2,000 annual deduction from taxes on their earned income for money put into IRAs, and the money would not be taxed until their retirement. And Reagan proposed doubling that for many households, by giving a nonworking spouse the right to shelter the same amount. Reagan seemed to agree with the view that IRAs are not a form of social engineering, but mechanisms, as NR's Ramesh Ponnuru has written, “to shelter . . . saving from double taxation.”

Deductions: Chait characterizes Reagan's fight as a “death struggle against tax lobbyists,” while complaining that “Bush's tax reform strategy was literally devised by a tax lobbyist,” [emphasis in original] which referred to Ernest Christian. But according to the Washington Post, the Bush administration may be planning to re-launch a battle against the very tax lobbyists Reagan couldn't defeat. The Post has paraphrased unnamed Bush advisers who said “the administration is considering eliminating the deduction of state and local taxes on federal income tax returns and scrapping the business tax deduction for employer-provided health insurance.” Which is exactly what Reagan planned to do: He was particularly passionate on scrapping the state and local deduction, which he saw as a subsidy to high-income filers in high-tax states. Long before the “red-blue” divide was discerned, the Gipper was using a “red state” strategy to sell his tax reform. “My friends, some state governments outside Oklahoma have not yet learned to say no to special-interest groups and higher taxes,” Reagan remarked in June 1985 in Oklahoma City. “I just don't think the people of Oklahoma or other low-tax states like Texas, Montana, or New Hampshire should be forced to pay for their lack of resolve. Do you?”

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GUCCI GULCH LOGROLLS REAGAN

Reagan's tax cuts on investment income did indeed become tax increases on the Hill; but that was really the result of parochial politics rather than economic theory. Chait contends that “the remarkable thing about the 1986 tax reform is that it put into practice purely academic notions of how public policy ought to work,” such as the idea that wages and investment income should be taxed at the same rate. In fact, the capital-gains hikes and IRA income limits that resulted were a triumph not of ideas but of “Gucci Gulch”—the name given to the army of Washington lobbyists by Wall Street Journal reporters Jeffrey Birnbaum and Alan Murray in their 1987 book, Showdown at Gucci Gulch. It was members of Congress from both parties scrambling to preserve their favored deductions—rather than any grand doctrine of taxation—that was ultimately responsible for the tax hikes on capital gains and IRAs.

 In the Democratic-controlled House, wrote Birnbaum and Murray, congressmen from high-tax states like New York joined forces with those from oil states like Oklahoma to defeat the repeal of both the state and local deductions and oil-industry write-offs. But the House raised the top capital-gains rate by only two percentage points and left IRAs universal; IRAs had become popular middle-class savings vehicles, and no major tax-reform plan had proposed income limits on them. Even a Democratic bill introduced by Sen. Bill Bradley and Rep. Richard Gephardt in 1982 had left universal IRAs intact.

It was, ironically, in the Republican Senate that the real damage to Reagan's tax reform was done. In 1986, liberal Republican Bob Packwood of Oregon was chairman of the Senate Finance Committee. Before allegations of sexual harassment forced him to resign, Packwood was celebrated in journalistic lore as saving tax reform in the Senate by drawing up a plan with an aide over two pitchers of beer at Washington's Irish Times pub. The Packwood plan did reduce rates slightly below even what the president had asked for—in return for hiking capital-gains taxes up to the rates of “ordinary income” and instituting a maze of income restrictions and eligibility requirements for people to get tax deductions for IRAs. But, as reported in Showdown at Gucci Gulch, Packwood did this in large part to preserve the business deductions he favored: those for employer-provided health care and for timber, a major industry in Oregon. “On behalf of the insurance industry,” Birnbaum and Murray reported, Packwood “participated in trade-show films and put his name to newspaper advertisements that promoted the preservation of tax-free fringes.”

The authors also recounted that after Packwood's changes, Reagan's support was far from assured: White House aides “were worried about the plan's repeal of the capital-gains tax break and its cutback in IRA deductions.” But deputy Treasury secretary Richard Darman prevailed on the administration to go with the bill because of the lower rates. (Darman, of course, also prevailed on Reagan's successor, George H. W. Bush, to go along with Democrats in raising the rates the 1986 act had lowered.)  

In a July 1986 speech in Dothan, Ala., Reagan made one last pitch to Congress to preserve universal IRAs and not create disincentives for investment. Nearly 20 years later, the president and Congress have the opportunity to fix the mistakes of 1986—and pass elements of the real Reagan reform that was swept aside.

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