The Jan. 7 stock market collapse, coming one day after Treasury secretary-designate Donald T. Reagan's Senate confirmation testimony, is a warning bell in the night to Ronald Reagan's economic advisers.
Reagan told the finance committee the president-elect's campaign promise of tax cuts effective Jan. 1, 1981, is now inoperative. That reflected the consensus of Reagan's economic advisers that individual tax cuts should not be made retroactive to Jan. 1, but delayed until Sept. 1 in hopes of minimizing budget deficits. It was an unwelcome chill to hopes generated since the election.
If the stock market in any rational way reflects the nation's economic outlook, its stunning decline in Jan. 7 cannot be attributed to the "sell" order by a Florida tipster named Joe Granville. As a technician, Granville merely reacted to a market influenced by myriad developments -- including Regan's testimony. What happened Jan. 7, therefore, was a Don Regan crash, not a Granville crash.
Rep. Jack Kemp, political godfather of the tax-cut movement, quickly intervened with his friend and colleague, budget director-designate David Stockman, to plead for retroactivity. That in itself might not change policy, but the president-elect himself landed in Los Angeles Jan. 8 saying his own perference was for tax cuts as quickly as possible.
Nevertheless, the effective date of the tax cut remains undetermined, destabilizing an economy hungering for stability. The confusion casts doubt on how firmly Reagan's economic policy makers are committed to supply-side economics as a radical prescription for the nation's ills.
Shortly after Christmas, Reagan's policy makers decided to junk the president-elect's promised Jan. 1, 1981, effective date. New York City economic consultant Alan Greenspan, representing the forces of orthodoxy in Reagan's economic coordinating group, warned that aggregate borrowing -- private and public -- looms dangerously high for 1981.
What's more, a 10 percent tax cut retroactive to Jan. 1 but passed in mid-year would entail big taxpayer refunds in 1982, coinciding with the second 10 percent slash under the Kempt-Roth bill. That conjured up this apparition: a $100 billion deficit in 1982, triggering hyper-inflation. Even Stockman, the great hope of the supply-siders, began to feel that delaying the effective date until Sept. 1, 1981 might be necessary.
So easily is the radical initiative of supply-side economics exchanged for the sterile orthodoxy of high taxes that feed inflation but fail to balance the budget. Reagan's own advisers have forgotten the purpose of cutting tax rates: to so change the economic climate that the mere decision of the bill will generate new incentives for both ivestment and savings long before it is passed into law. If it works, the danger of massive budget deficits would end long before the 1981 tax refunds were mailed in 1982.
Reagan's coordinating group also decided that business tax cuts would be retroactive to Jan. 1 -- for fear of freezing investment plans -- but the tax reductions for individuals would not. That revealed that his advisers do not truly embrace the supply-side belief that lowered tax rates exert the same incentive to increase work as they do to increase investment.
Did Don Regan's revelation of delaying the tax cut really break the market? Combined with the gloomy forebodings instead of confident affirmations from Reagan's economic team and the oppressive gloom pouring from the Federal Reserve Board, his testimony might well have been the critical factor.
A neophyte unfamiliar with the terrain or the tactics, Regan sounded as though he were making tax cuts hostage to budget cuts. That has been the familiar trap entered by the previous four administrations, which have cut neither taxes nor budget, but instead have fomented huge deficits, soaring inflation and economic contraction.
That is why Kemp, who had kept a low profile on tax policy the past four months, pressed hard to avoid an immediate unraveling of Reagan economic policy. Stockman is by no means committed to the delayed tax cut. In testimony Jan. 8 that received far less attention than Regan's a day earlier, Stockman presented the supply-side argument that lowered tax rates offer the only opportunity to shrink the deficit.
Martin Anderson, Reagan's domestic policy chief, is no doctrinaire supply-sider but is determined to be what others call "the guardian of the sacred words" -- to make sure Reagan's campaign commitments are followed. "Sacred words" were uttered by Reagan on June 25, 1980, when he promised "a tax cut to be effective on Jan. 1, 1981."
Anderson believes Reagan's faithfulness to his promises is essential to convincing the markets that this is one president who truly means what he says. Don Regan gave the markets an opposite signal Jan. 7. It remains to be seen whether the firestorm on Wall Street the next day will be heeded by the Reagan administration.