Deconstructing the '90s Clinton Boom

Did the economy succeed because of tax hikes or in spite of them?


Call it the "Clinton Defense." Whenever Republicans criticize potential Democratic tax hikes—both Hillary Clinton and Barack Obama want to raise a variety of taxes on wealthier folks—the Dems quickly hit back, noting that the economy seemed to do just fine in the 1990s after President Clinton raised taxes. J.D. Foster of the conservative Heritage Foundation takes a look at that claim and makes some interesting observations and presents some fascinating factoids:

1) Clinton was dealt a great hand. The economy was entering its eighth quarter of expansion, oil was cheap (around $11 a barrel), inflation was low, there was greater certainty about the global economy because of the end of the Cold War, "and, of course, a tremendous set of new productivity-enhancing technologies involving information technologies and the World Wide Web burst on the scene." Talk about starting on third base.

2) The economy did OK during Clinton's first term. But it wasn't spectacular. From 1993 through 1996, real gross domestic product grew at an average annual rate of 3.2 percent, employment rose by 11.6 million jobs, average hourly wages grew by 0.8 percent, and market capitalization rose by 78 percent in real terms.

3) But then the economy really kicked into gear. In 1997, Congress passed and Clinton signed (despite initial opposition) a modest capital-gains-tax cut, one that would be worth about $30 billion in today's dollars after four years. This was not Reagan 2.0. Yet from 1997 through 2000, a period when the expansion should have shown its age, real GDP growth averaged 4.2 percent a year, 11.5 million more jobs were created, and real wages grew 6.5 percent. Oh, and the stock market doubled.

Foster—who coined the term "Clinton Defense"—concludes thusly:

Proponents of tax increases often reference the Clinton 1993 tax increase and the subsequent period of economic growth as evidence that deficit reduction through tax hikes is a pro-growth policy. What these proponents ignore, however, is that the tax increases occurred at a time when the economy was recovering from recession and strong growth was to be expected. They also ignore that the real acceleration in the economy began in 1997, when economic growth should have cooled. This acceleration in growth coincided with a powerful pro-growth tax cut.

The evidence is persuasive that the tax increase probably slowed the economy compared to the growth it would have achieved and that the subsequent tax cuts of 1997, not the tax increases, were the source of the acceleration in real growth in the latter half of the decade. As taxes are now above their historical average as a share of the economy, and are rising, Congress should look to enact additional tax relief to keep the economy strong.