President Ronald Reagan's Economic Policies

How Reagan Ended the 1980s Recession

Ronald Reagan
••• Ronald Reagan Gives A Speech In Washington. Photo By Dirck Halstead/Getty Images

Ronald Reagan was the U.S. president from January 20, 1981 to January 20, 1989. He was the first conservative president in more than 50 years. His first task was to combat the worst recession since the Great Depression.

To do so, Reagan promised the "Reagan Revolution." It focused on reducing government spending, taxes, and regulation. His philosophy was "Government is not the solution to our problem, government is the problem." Reagan was an advocate of laissez-faire economics.

He believed the free market and capitalism would solve the nation's woes. His policies matched the "greed is good" mood of 1980s America.

1980-1981 Recession

Reagan inherited an economy mired in stagflation. It's a combination of double-digit economic contraction with double-digit inflation. To combat the recession, Reagan aggressively cut income taxes from 70 percent to 28 percent for the top tax bracket. He cut the corporate tax rate from 48 percent to 34 percent. He promised to slow the growth of government spending and to deregulate business industries. At the same time, he encouraged the Federal Reserve to combat inflation by reducing the money supply.

Reaganomics and Tax Cuts

In 1981, Congress cut the top tax rate from 70 percent to 50 percent. It helped spur growth in gross domestic product for the next several years. The economy grew 4.6 percent in 1983, 7.3 percent in 1984, and 4.2 percent in 1985.

Economic growth reduced unemployment for the next several years. In December 1981, it was 8.5 percent. The minimum wage was $3.35 an hour. In 1982, Congress passed the Job Training Partnership Act. It established job training programs for low-income people. The unemployment rate rose to 10.8 percent by December 1982.

It fell to 8.3 percent in 1983, 7.3 percent in 1984, and 7 percent by December 1985. Reagan cut the tax rate again, to 38.5 percent, in 1986.

Growth was a healthy 3.5 percent by the end of 1986, but the unemployment rate was 6.6 percent. It was still higher than the natural rate of unemployment. Reagan cut taxes again to 28 percent. Growth bounced up to 4.2 percent in 1987 and unemployment fell to 5.7 percent. Growth leveled out at 3.7 percent in 1988 and unemployment fell to 5.3 percent.

Reagan's economic policies are called Reaganomics. Reagan based his policies on the theory of supply side economics. It says tax cuts encourage economic expansion enough to broaden the tax base over time. The increased revenue from a stronger economy is supposed to offset the initial revenue loss from the tax cuts.

But according to the Laffer Curve, this only works if the initial tax rates are high enough. High taxes fall in the curve’s “Prohibitive Range.” Reagan's first tax cuts worked because tax rates were so high. The 1986 and 1987 tax cuts weren't as effective, because tax rates were already reasonable.

Also, Reagan offset these tax cuts with tax increases elsewhere. He raised Social Security payroll taxes and some excise taxes.

He also cut several deductions.

Reagan cut the corporate tax rate from 46 percent to 40 percent. But the effect of this break was unclear. Reagan changed the tax treatment of many new investments. The complexity meant that the overall results of his corporate tax changes couldn't be measured.

Reagan and Deregulation

Reagan was applauded for continuing to eliminate the Nixon-era price controls. They constrained the free-market equilibrium that would have prevented inflation. Reagan removed controls on oil and gas, cable television, and long-distance phone service. He further deregulated interstate bus service and ocean shipping.

In 1982, Reagan deregulated banking. Congress passed the Garn-St. Germain Depository Institutions Act. It removed restrictions on loan-to-value ratios for savings and loan banks.

Reagan's budget cut also reduced regulatory staff at the Federal Home Loan Bank Board. As a result, banks invested in risky real estate ventures. Reagan's deregulation and budget cuts contributed to the savings and loan crisis of 1989. The crisis ushered in the 1990 recession.

Reagan did little to reduce regulations affecting health, safety, and the environment. In fact, he reduced those regulations at a slower pace than the Carter administration did.

Reagan's enthusiasm for the free market did not extend to international trade. Instead, he raised import barriers. Reagan doubled the number of items that were subject to trade restraint from 12 percent in 1980 to 23 percent in 1988.  

Reagan Did Not Reduce Government Spending

Despite campaigning on a reduced government role, Reagan wasn't as successful as he was at tax cuts. During his first year, he cut domestic programs by $39 billion. But he increased defense spending to achieve "peace through strength" in his opposition to Communism and the Soviet Union.

He was successful in ending the Cold War. That’s when he uttered his famous quote, "Mr. Gorbachev, tear down this wall." To accomplish these goals, Reagan wound up increasing the defense budget by 35 percent.

Reagan did not reduce other government programs. He expanded Medicare. He increased the payroll tax to insure the solvency of Social Security. Under Reagan, government spending increased 2.5 percent annually. 

Reagan's first budget was for fiscal year 1982. As the chart below reveals, he incurred substantial deficits for each year of his presidency. As a result, the debt each year also increased. By the end of Reagan's two terms, the national debt had more than doubled.

Fiscal Year Deficit (in billions)   Debt  Deficit /GDPEvents Affecting Deficit
1980$74     $908   2.6%Recession. Iran oil embargo.
1981$79    $998   2.4%Reagan tax cut.
1982$128 $1,142   3.8%Reagan's 1st budget.
1983$208 $1,377   5.6% 
1984$185 $1,572   4.5%Increased defense spending.
1985$212 $1,823   4.8%
1986$221 $2,125   4.8%Tax cut.
1987$150 $2,340   3.1%Black Monday crash
1988$155 $2,602   2.9%Fed raised rates.
1989$153 $2,857   2.7%S&L Crisis.

Beating Inflation

Reagan captured the mood of voters when he said, "Inflation is as violent as a mugger, as frightening as an armed robber, and as deadly as a hit man." The inflation rate was 12.5 percent in 1980 and 8.9 percent in 1981. In 1982, inflation fell to 3.8 percent. Inflation remained below 5 percent for the remaining years of Reagan's presidency.

But Reagan can't take credit for combating inflation. That goes to Federal Reserve Chairman Paul Volcker. He steadily raised the fed funds rate to 18 percent in 1980. High interest rates ended double-digit inflation, but also triggered the recession.

Council of Economic Advisers

During his eight-year term, Reagan brought on board many well-known economists to the Council of Economic Advisers. New Chairmen included Murry Weidenbaum, Martin Feldstein, and Beryl Sprinkel. The Council also included William Niskanen, Jerry Jordan, William Poole, Thomas Gale Moore, and Michael Mussa. Niskanen was one of the founders of Reaganomics. The staff included Nobel Prize winner and New York Times columnist Paul Krugman and Harvard professor Larry Summers. Summers later became President Obama's Director of the National Economic Council.

Reagan's Early Years

Ronald Reagan was born on February 6, 1911. He received a Bachelor of Arts in economics and sociology from Eureka College in Illinois. He became a radio sports announcer, then an actor in 53 films. As president of the Screen Actors Guild, he became involved in rooting out Communism in the film industry. That led him to develop more conservative political views. He became a TV host and spokesman for conservatism. He was Governor of California from 1966 to1974.

In 1980, Reagan was nominated as the Republican presidential candidate. George H.W. Bush was the nominee for vice president. Reagan beat Jimmy Carter to become the 40th president of the United States. 

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