It may be the most famous dinner in economic history. Arthur Laffer was a professor at the University of Chicago. In December 1974 he dined at the Two Continents Restaurant in Washington, D.C., with Donald Rumsfeld, chief of staff to President Ford; Dick Cheney, Rumsfeld's deputy; and Jude Wanniski, associate editor at The Wall Street Journal. According to Wanniski, Laffer grabbed a napkin and pen and sketched out the Laffer Curve, illustrating the trade-off between tax rates and tax revenues. In a few more years the tax-cut philosophy dubbed supply-side economics would dominate fiscal policy under President Ronald Reagan.
The global darling of supply-side economics was Ireland. The island nation was a European backwater for decades, a poor, depressed nation best known for its millions emigrating and for Guinness Stout. But in the 1980s and 1990s, Ireland started cutting taxes, and in the 1990s and 2000s it was growing at a phenomenal rate. The top marginal tax rate on personal income went from 65 percent in 1984 to 42 percent by 2000. More importantly, the corporate tax rate was cut in stages from 50 percent in 1986 to 12.5 percent by 2003. Ireland posted an average growth rate of more than 7 percent a year from 1997 to 2007, the quickest pace among the 30-plus members of the Organization for Economic Cooperation and Development. Ireland was the Celtic Tiger, the Irish Miracle.
When the current U.K. Chancellor of the Exchequer, George Osborne, was MP for Tatton and Shadow Chancellor, he penned an op-ed in the Times of London in 2006. Osborne called on Britain to learn how to run an economy from Ireland. "In Britain, the Left have us stuck debating a false choice," he wrote. "They suggest you have to choose between lower taxes and public services. Yet in Ireland they have doubled spending on public services in the past decade while reducing taxes and shrinking the State's share of national income." Two years later, supply-siders Arthur B. Laffer, Stephen Moore, and Peter J. Tanous wrote in their book, The End of Prosperity: How Higher Taxes Will Doom the Economy—If We Let It Happen: "The greatest supply-side economic success story of recent times (other than the Reagan Revolution) is the Irish Economic Miracle."
Oops. By now, everyone in the global economy is aware that the Celtic Tiger has been declawed and the Irish Miracle a mirage. Ireland is an economic and financial disaster with a government budget deficit for 2010—including the cost of bailing out its banks—at 32 percent of gross domestic product. The nation's embattled government under Prime Minister Brian Cowen is negotiating the terms of a bailout from the European Union and the International Monetary Fund.
The significance of Ireland for public policy goes far beyond the tragedy of the nation. Ireland should signal the death knell of the lets-welcome-all-tax-cuts and the-market-will-take-care-of-the-rest recipe of supply-side economics that gained political prominence starting in the 1970s. Ireland is also a warning to those in Congress who believe cutting taxes and deregulating financial services is the path back to prosperity.
Yes, the logic behind supply-side economics is simple and persuasive. Lower tax rates give entrepreneurs, management, and workers an incentive to expand business, invest more, and log additional hours by raising the after-tax rate of return. In Ireland's case, the economy benefited from its close proximity to Europe and the U.K., which made it easy for the low corporate tax rate to attract foreign capital. "Everyone agrees that there are benefits to lower tax rates," says Daniel Shaviro, tax professor at New York University law school. Adds Varadarajan V. Chari, professor of economics at the University of Minnesota: "By offering very favorable tax treatment, it could attract a lot of capital relative to the size of the country."
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