Just as supporters of Ronald Reagan's tax cut were beginning to panic, a liberal Democratic congressman from Detroit named William R. Brodhead tipped off a potentially historic breakthrough for supply-side tax reduction.
Rep. Brodhead, a member of the tax-writing House Ways and Means Committee, on March 10 introduced a bill to reduce immediately the present 70 percent tax on "unearned" income (dividends and interest) to 50 percent. That move suggested forthcoming bipartisan agreement on tax reductions that could smash all congressional obstacles and enact the heart of Reagan's economic policy.
The breakthrough could transcend this year's legislation. Behind the new stance by Brodhead and his Democratic colleagues on Ways and Means stands the prospect of ending traditional Democratic obsession with distributing the tax burden to restrict wealth. Instead of worrying about punishing the rich, they are now seeking a tax formula that will most benefit the economy even if the rich become proportionally richer.
In pressing to end the distinction between "earned" (wages and salaries) and "unearned" income, Broadhead hailed "the rechanneling of funds away from tax shelters and toward economically sound investments." It is a prohibitively high rate of taxation aimed at equalizing the tax burden that has forced the wealthy out of productive investments into nonproductive tax shelters.
This was precisely the reasoning used by Reagan's experts at the Treasury early this year when they urged the Kemp-Roth tax cut formula -- 10 percent cuts across the board each year for three years -- be extended by the quick drop in rates on "unearned" income. But supply-side politicians lost their nerve, fearing demogogic attacks on them for favoring the rich.
Reagan shunned the bold counsel of his economists and heeded the cautious admonitions of his politicians. Even Rep. Jack Kemp flinched. Ever since that decision, announced Feb. 13, the supply side had appeared to be fading. A constantly shrinking tax cut seemed destined for ever later passage.
But something was happening behind the scenes that not even the participants fully appreciated. As Democratic congressmen met to ponder an alternative to Reagan, they were tacitly accepting premises unthinkable six months ago: First, tax rate reduction this year is essential; second, it must benefit all classes of taxpayers; third, no economic expansion is possible unless business profitability is enhanced by tax revision.
A tip-off came during Ways and Means hearings March 4 when Chairman Dan Rostenkowski asked a panel of economic experts whether a quick drop in the 70 percent "unearned" rate would be desirable; the answer was yes. Brodhead, chairman of the liberal Democratic Study Group, with a 94 percent liberal voting record as measured by the Americans for Democratic Action, introduced his bill six days later.
Brodhead had not conferred with Rostenkowski, but he was not alone. Rep. Sam Gibbons of Florida, the committee's second-ranking Democrat, backs him. So does the sometime liberal enfant terrible of Ways and Means, 31-year-old Rep. Thomas Downey of New York. So does the committee's influential Rep. James Jones of Oklahoma, who is also House Budget Committee Chairman.
All this excited suspicions within the administration of a plot against Reagan-Kemp-Roth. But Kemp himself immediately joined Brodhead of Brodhead's bill but because of his rhetoric. While insisting that "I am not a supply-sider," Brodhead accepted the supply-side view of profound influence on investor decisions by the tax rate on the last dollar of income received.
What would Brodhead tell his labor union supporters back in Michigan if asked about this proposal? "I would tell them we have to reduce taxes on wealthy people to have more investment."
Vestiges of Democratic orthodoxy persist, such as desire by the Ways and Means Democrats to repeal tax shelters. But Downey told us that old liberal goal of "loophole closing" and the new 50 percent top ceiling "should not be locked together." Brodhead realizes that the new low rate on "unearned" income world, "in and of itself," discourage the use of tax shelters.
While they no longer oppose lower bracket tax cuts as prescribed by Kemp-Roth, the committee's Democrats still would like to trim cuts in the upper bracket rates on "earned" income. That is partly because of lingering concern over spreading out the tax burden, but mostly to keep down the tax bill's overall price tag. Thus, the Democrats are still inhabited by refusing to accept the revenue-raising dynamic in tax rate reduction.
While Brodhead says his cut in "unearned" rates "would result in a reduction of $4.5 billion in tax revenues." the Treasury puts the figure at $3.2 billion if no attention is paid to its galvanic effect on investment. Actually, Treasury experts believe that expanded investment would soon eliminate any significant revenue loss and that, before long, the Treasury would be harvesting an extra $3 billion annually. When the Democrats accept those astounding facts, their supply-side conversion will be complete.