The Supply Side

The "Supply Side" approach to economic policy is an important idea, whether one agrees with it or not, if only because it has played such an important role in U. S. politics in the last two decades. At the same time, the role that it has played in politics makes it all the more difficult to evaluate in an economic model. In politics, clarity can be a disadvantage -- the more clear a proposal is, the more directly it can be attacked, rightly or wrongly. The Supply Side program has probably been laid out more clearly than most, by some of its proponents; but that makes it clear only by political standards. Moreover, the different proponents of Supply Side programs have sometimes had different views on some details -- nothing wrong with that, but which is the "real McCoy?" What I will have to say about supply side policies reflects my own best attempt to understand it in terms of the AS/AD model, a personal view. Since I disagree with some key points, I may be putting a negative spin on the Supply Side idea. You have been fairly warned.

The basic Supply Side idea is that Keynesian economists (and most others, for that matter) have concentrated too much on the demand side in their views on economic policy, but that government policy ought instead to focus on supply. By adopting policies that would encourage a faster rate of growth of productivity and real GDP, the Supply Siders argue, the economic problems of the country can be solved and they can be solved without the unfortunate side effects of demand-side policies. The government policies seen as encouraging faster growth are policies that make production more profitable, including especially tax cuts and deregulation. Lower tax rates, Supply Siders feel, would stimulate much more investment, and the investment would lead to higher productivity. Higher productivity, we know, would increase the LAS ceteris paribus. At the same time, deregulation (and some kinds of tax cuts) would make business more profitable, which would both directly encourage more production and, indirectly, further stimulate investment and productivity growth.

At the same time, it's pretty clear that Supply Siders don't understand Aggregate Supply in just the way it has been presented here. It seems fair to say that they focus on long run aggregate supply, and don't think the short run aggregate supply is an important factor. It seems pretty clear, too, that the Supply Siders don't believe that low unemployment will cause inflation, as the NAIRU concept says. Perhaps there just isn't any NAIRU or perhaps the idea is that a period of vigorous growth will push the NAIRU down so that much lower unemployment rates could be achieved without promoting more inflation. The spokesmen for Supply Side policies haven't said much about that.

Let's see how Supply Siders see the economic problems of inflation and unemployment.

Sidebar: Background and Links to Other Discussions of the Supply Side Tax Cut Issue

More Supply Side