30 Apr 1998 Budget Watch #35: April 30, 1998

It’s rare enough that policy makers get one thing right in a given year. But last year, they actually got two things right: They not only cut the capital gains tax, but maintained a sound monetary policy that kept inflation low. The combination of capital gains tax cuts and low inflation produced the lowest capital gains tax rate in decades, spurring economic growth and pushing the stock market to new highs.
The nominal capital gains tax is now at a six-decade low of 20%. Adjusting for inflation, the real capital gains tax rate in 1997 was just 28%, a low not seen since 1963 (based on a three-year investment with a nominal return of 30%). As a result, economic growth soared. In 1997, the real annual economic growth was 3.8%. By contrast, between 1989 and 1996, economic growth hit or exceeded the post-World War II average of 3% only once — 3.5% in 1994.

Economic growth was also strong between 1982 and 1986, aided by disinflation and two cuts in the capital gains tax rate (in 1978 and 1981). Entrepreneurship, investment and economic growth responded accordingly. But just as the real capital gains tax rate approached lows not seen in decades, Congress approved the 1986 Tax Reform Act which included a provision boosting the nominal capital gains rate by 40% — from 20% to 28%. This tax hike was exacerbated by the fact that the early Greenspan Fed had difficulty controlling inflation.

It was not until 1997 that we saw a lower capital gains tax rate team up with solid monetary performance. In fact, we may be in the best capital gains/inflation environment since the 1920s.

In 1921, Treasury Secretary Andrew Mellon and President Warren Harding saw to it that the top capital gains tax rate was cut from 73 percent to 12.5 percent. At the same time, inflation was not only in check, but prices fell for much of the 1920s. As a result, the real capital gains tax rate actually was lower than the nominal rate for much of the decade and the economy grew robustly.

Imagine the entrepreneurial explosion if capital gains taxes were eliminated altogether.

Two weeks ago, a 500-pound beam fell from the upper deck in Yankee Stadium. Thankfully, no one was hurt, but taxpayers’ wallets will get hit hard.

The Yankees want a new stadium and so do the crosstown New York Mets. This beam could not have fallen at a more opportune moment for team owners and players. In his new budget announced on April 24, New York City Mayor Rudy Giuliani has proposed canceling a promised phase-out of the city’s commercial rent tax in order to fund new ballparks. The costs to New York taxpayers could easily top $1 billion. However, the rest of the nation is by no means off the hook. If municipal debt is utilized for financing — with interest free of federal taxes — then taxpayers across the nation will subsidize new homes for the Yankees and Mets. Indeed, these federal subsidies go to all stadiums, arenas and ballparks using state and/or local government debt. A 1996 report by the Congressional Research Service estimated that annual federal subsidies for 21 stadiums registered about $150 million in 1989. The current number is higher and growing, as more subsidized stadiums and arenas are constructed. From the late 1980s into the early 2000s, upwards of $15 billion could be spent on stadiums and arenas for the four major-league sports, with government financing almost two-thirds. Taxpayers will pay dearly, with millionaire team owners and players the only real beneficiaries.

The president who blamed 12-years of trickle-down economics for creating a “Decade of Greed” that left the poor even poorer appears to have presided over a meaner, greedier “Decade of Greed.” Since the beginning of President Clinton’s term in office the Dow Jones Industrial Average has soared from 3,301 to 9,000. But last year, the poverty rate hit 13.7%, up from 12.8% during President Reagan’s last year in office. There were also 1.4 million bankruptcies filed in 1997, compare to only 613, 465 in 1988. Meanwhile the median household income has dropped to $34,076 from $35,073 in 1988. During President Clinton’s “Decade of Greed,” the poor actually do appear to be getting poorer. Source: “Avarice in the ’90s? Depends Who Says,” by Rowan Scarborough, The Washington Times, April 26, 1998