Economic Recovery Tax Act of 1981
The Economic Recovery Tax Act of 1981 (ERTA), also known as the Kemp-Roth tax cut, was a significant piece of legislation enacted under President Ronald Reagan’s administration shortly after he took office. The act featured substantial personal income tax cuts, totaling about 23 percent over two years, along with the introduction of inflation indexing and a reduction in the top marginal tax rate from 70 percent to 50 percent. Additionally, it established the Accelerated Cost Recovery System, which provided favorable depreciation schedules for businesses.
Guided by the principles of supply-side economics, proponents of the act believed that reducing taxes would stimulate economic growth, create jobs, and ultimately increase government revenues despite lower tax rates. However, economic experts predominantly challenged this view, primarily raising concerns about the potential for increased national debt. The implementation of ERTA contributed to significant budget deficits and a tripling of the national debt from 1982 to 1989.
The act also marked a pivotal shift in Republican budgetary priorities, emphasizing tax cuts over deficit reduction, a trend that persisted in subsequent administrations. The legacy of ERTA continues to influence U.S. fiscal policy and political discourse surrounding taxation and government spending.
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Economic Recovery Tax Act of 1981
Identification U.S. federal legislation
Date Signed into law on August 13, 1981
The Economic Recovery Tax Act of 1981 was an era-defining law promoted by the newly elected President Ronald Reagan that significantly reduced federal tax levels.
Ronald Reagan was elected president in November, 1980, promising significant tax cuts, and his campaign pledge was fulfilled less than eight months after he assumed office with the passage of the sweeping Economic Recovery Tax Act (ERTA, also known as the Kemp-Roth tax cut). Among the significant features of ERTA, personal income taxes were cut by around 23 percent over two years, they were indexed for inflation, and the top marginal tax bracket was reduced from 70 percent to 50 percent. In addition, a generous set of depreciation schedules (called the Accelerated Cost Recovery System) was initiated for businesses.
The tax cuts enacted by ERTA were the largest in history at the time and were guided by an unusually coherent political and economic ideology. The primary theoretical support for significant tax cuts was provided by the theory of supply-side economics , which was supported by President Reagan. Reagan argued that cutting personal income taxes would stimulate the economy, resulting in new jobs and other opportunities for Americans to create wealth. As a consequence, he believed, net governmental revenues would increase, because there would be more income to tax, despite the decrease in the rate of taxation. Economists overwhelmingly rejected this argument, and they were concerned that ERTA would significantly increase the national debt. Supply-side supporters, however, argued that budget deficits would not be a serious problem. Every House Republican stood behind ERTA, and a sizable group of conservative Democrats—dubbed Boll Weevils—voted with the Republicans in support of the tax cuts.
Impact
Through the successful passage of ERTA, Reagan’s philosophy regarding the size and scope of government set the tone for U.S. budget politics into the twenty-first century. Supporters credited the tax cuts with spurring economic expansion throughout the 1980’s and with reducing the scope of the federal government. Critics, however, argued that the tax cuts came at the expense of large budget deficits and a constantly increasing national debt. It has been estimated that ERTA cost the federal government more than $2 trillion in lost revenue over the period 1982-1991, which—because spending did not decrease alongside revenue—led to the largest deficits in the country’s history. Between 1982 and 1989, the national debt almost tripled, going from $1.1 trillion to $2.9 trillion. Budget politics in the United States after 1981 focused largely on the annual deficits contributing to this debt. Those politics also became more contentious, with budgetary votes becoming increasingly partisan and divisive after 1981.
ERTA also changed the perception of the budget priorities of the Republican Party. Prior to Reagan’s presidency, Republicans had historically pushed for tax cuts, but not at the expense of large budget deficits. As desirable as tax cuts were, balanced budgets were usually deemed more important. Beginning with the Reagan administration, however, the emphasis for many Republicans moved toward cutting taxes rather than reducing the deficit. This trend was greatly strengthened after George H. W. Bush’s presidency. Bush, concerned over the state of the debt, broke a campaign promise and raised taxes. He failed to win a second term in 1992.
Bibliography
Steinmo, Sven. Taxation and Democracy . New Haven, Conn.: Yale University Press, 1993.
Stockman, David. Triumph of Politics. New York: Harper and Row, 1986.
White, Joseph, and Aaron Wildavsky. The Deficit and the Public Interest: The Search for Responsible Budgeting in the 1980’s. Berkeley: University of California Press, 1989.