Wednesday, July 7, 2010

Lowry review.

In last weekend's Washington Post, National Review's Rich Lowry reviewed a book on the rise of neo-conservatism in the 1970s and the subsequent triumph of conservatism. The review recounts well-known history -- the turn of some New York intellectuals against communism, President Carter's failures, etc -- in considering the Right's success after 1980.

While Lowry's article focuses on foreign policy, it's worth noting the role of supply-side economics in the conservative ascendancy. Without supply-side's appearance in the 1970s, hawkish foreign policy, which had a long pedigree, would not have led to sweeping political success.

It's important to remember that before it was refocused in the 1990s solely on foreign policy, neo-conservatism was a wider intellectual movement, a component of which was supply-side economics. In 1975, Irving Kristol, the godfather of neo-conservatism, published in The Public Interest the first popular supply-side treatise, Jude Wanniski's "The Mundell-Laffer Hypothesis," explaining the chaos unleashed by the newly-floating dollar and how to fix it.

It was this view, taught to Wanniski by Professors Robert Mundell and Art Laffer, detailed in Wanniski's book, The Way the World Works (written on a fellowship at the American Enterprise Institute arranged by Kristol), that captured U.S. Rep. Jack Kemp's interest. Kemp later conveyed supply-side's framework to presidential candidate Ronald Reagan.

Mundell's view, in contrast to the predominant Keynesian framework, was that monetary policy should focus solely on maintaining a stable currency price against gold, leaving fiscal policy to stimulate employment. Realizing spending stimulus was unproductive in an open economy with flexible exchange rates -- increased borrowing led to higher interest rates which caused the current account deficit to rise, thereby sending stimulus dollars offshore -- Mundell and Laffer focused on tax policy, specifically marginal tax rates, as the crucial lever to reduce unemployment. In sum, sound money and marginal tax rate cuts, the familiar supply-side policy mix.

This novel approach enacted by Kemp and Reagan led to an astounding reversal of the 1970s stagflation and historic expansion of employment, financial markets, and GDP.

This success, clearly, was the key to conservative electoral victories in the 1980s.

Moreover, it likely was central to the era's foreign policy successes. The tremendous U.S. military build up of the 1980s simply would not have been possible without the revenues thrown off by the economy's expansion. As I recall, after the Cold War a former Soviet official noted that the U.S. ability to finance large budget deficits even as interest rates declined was deeply demoralizing to the communist world.

One great irony of the Cold War is that it may have been floating currencies, fiercely opposed by supply-siders, that finally undid the Soviet system. Its centrally planned economy was able to cope, however poorly, when the world's prices were stable. When currency values became highly unstable after 1971, the Soviet system could no longer mimic the West's market-driven pricing system. While capitalist economies were flexible enough to adapt to floating currencies, the top-down Soviet system was hamstrung, hastening its collapse.

If conservatism is to have another ascendancy anytime soon, it will be because conservatives once again unify under supply-side economics.

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