(Originally published in the Fall 2004 Business Law News, a quarterly publication of the State Bar of California.)

RONALD WILSON REAGAN, 1911-2004

A Business Oriented Retrospective

Edward B. Driscoll, Jr.

Mr. Driscoll is a freelance journalist who wrote this article as a courtesy to BSN. He may contacted through his Website, www.eddriscoll.com. Perhaps not incidentally, Mr. Driscoll is married to attorney Nina Yablok, who is an associate editor

and the incoming managing editor of the BLN.

Ronald Reagan viewed the business owner as a true American hero. To Reagan, it wasn’t the cowboy, so much as the entrepreneur, who made America great. In letter from October, 1967 he wrote:

We are equal before God and the law with a guaranty that no acquisitions of property during our lifetime or achievement no matter how exemplary should give us more protection than any of those of less prestige nor should it exempt us from any of the restrictions imposed on all of society by law.

But let there be no misunderstanding about the right of man to achieve above the capacity of his fellows. … We live … with conveniences beyond the wildest dreams of a King a hundred years ago because an individual thought of a horseless carriage, an ice box and later a refrigerator, radio, T.V., and machinery that lifted the burdens from our backs.

Why did so much of this develop so far and fast in America? Because we unleashed the individual genius of man, recognized his inherent dignity and guaranteed reward commensurate with ability & achievement.

Nick Schulz is the editor of Tech Central Station, a high-traffic Website that looks at how technology business and government intersects. He says that "Reagan believed in the ability of the businessman to solve problems without bureaucratic direction or meddling. Regulation was–at best–a necessary evil, but evil it was."

Schulz says that Reagan's approach to business regulation "was of a piece with his overall economic vision which was that man should be free to do what he wants to do, that unfettered competition is healthy and beneficial for all in the long run, and that innovation and growth are externalities we will all enjoy if men are free to choose".

More than once Reagan used the example of Alexander Graham Bell, and the development of telephone service in the United States as a prime example of entrepreneurship at its best. As anyone who traveled in Europe from the 1950s through the 1980s can attest, Americans were spoiled at the ubiquitousness and quality of our telephone system. In a radio broadcast in April, 1979 he said:

As recently as 1880 there were only 34,000 miles of telephone wires on the whole North American Continent. There were dozens and dozens of small telephone companies using several different kinds of equipment and there was no inter-connection between these different companies. The same situation prevailed in all the other so-called advanced nations.

If someone had openly advanced a plan to put a phone in every home, on every farm, in every hamlet and city, and hook them all together I’m sure someone would have said, “only government. has the resources to do that.”

Now strangely enough in most other countries government did take over the telephone system and to this very day the telephones in a great many countries are part of the postal system. In America the government wasn’t bulldozing its way into the free market place as it is today. For that we can be grateful. The scattered, competing phone companies were left to the magic of the mkt. place. And that magic worked as it always does.

Ultimately, Reagan looked to the entrepreneur as a role model even for the government. In January, 1985 he said: “We in government should learn to look at our country with the eyes of the entrepreneur, seeing possibilities where others see only problems.”

Of course businesses exist in a larger economy. And it is his economic philosophies, more than his love for business as an American icon, that are associated with his presidency.

In 1935 John Maynard Keynes’ The General Theory of Employment, Interest and Money was published. Students of economic would thereafter learn, almost as gospel, that when demand is low the economy suffers and depression ensues. When demand is high, all is well with the world.

Ronald Reagan majored in economics in college, but as he graduated in 1932, he studied in a somewhat pre-Keynesian world.

Once out of the world of academia, he worked in the economically idiosyncratic world of Hollywood. There he found that a nominal tax rate of over 90% was causing actor friends to ask the question “why bother?” More importantly, he found it was causing studio chiefs to also think “why bother” and if they didn’t bother, that meant that not only Reagan and his fellow actors would be out of work, but so would the directors, musicians, electricians, hair stylists and everyone who made a living in the movie industry.

It is not surprising, then, that he is known now for an economic approach that, at its core deals not with demand, which is viewed as a natural instinct, but with demand’s flip side—supply. Stimulate supply, said Reagan, by increasing the incentive to work and invest. Increased supply means more business, more jobs, more money and you don’t even have to worry about demand, because it’s always there.

Ironically, one of the best descriptions of the philosophy which is so closely tied to Ronald Reagan as to be dubbed Reagonomics, was penned by a prominent Democrat: Senator Lloyd Bentsen, when he was chairman of the congressional Joint Economic Committee, in a press release in May 1980—six months before Reagan was elected to the White House. Bentson’s release said:

For too long, we have focused on short-run policies to stimulate spending, or demand, while neglecting supply—labor, savings, investment and production. Consequently, demand has been over stimulated, and supply has been strangled in a noose of disincentives woven of unnecessary regulation, taxation, inflation and codes of conduct not respected by our foreign competitors. Only recently have some computer models of the nation’s economy been adapted to take those disincentives into consideration.

But we must quicken the pace if we are serious about controlling stagflation instead of having it control us. I am convinced that we don’t have to put people out of work to control inflation. The goal of the next decade should be to fight inflation and unemployment through supply side incentives to put more goods on the shelves. That’s the way to cut prices and boost employment.

A recent JEC study demonstrates that supply incentives—even those which do not stimulate demand or widen the deficit—can lead to job creation, productivity gains and reduced inflation.

Even the staunchest critics of Reagan and his economic policies admit that he had a way of making GOP party economics sound exciting and positive, as opposed to the severe, austere “tighten your belts” approach of previous GOP candidates. In the years between his stint as Governor of California and his campaign for the Presidency, he honed his sales pitch for supply-side economics. In an interview with Reason magazine in July 1975, he said:

But they are fools in thinking that business somehow is getting a special break. Who pays the business tax anyway? We do! You can’t tax business. Business doesn’t pay taxes. It collects taxes. And if they can’t be passed on to the customer in the price of the product as a cost of operation, business goes out of business. Now what they’re going to do is make it easier for demagogic politicians–and you’ve got plenty of them in the state legislature–to say to the people, look, we need money for this worthwhile project but we’re not going to tax you, we’re going to tax business, now that we can do it by a one vote margin. So they’ll tax business and the price of the product will go up and the people will blame the storekeeper for the rise in the price of the product, not recognizing that all he’s doing is passing on to them a hidden sales tax.

If people need any more concrete explanation of this, start with the staff of life, a loaf of bread. The simplest thing; the poorest man must have it. Well, there are 151 taxes now in the price of a loaf of bread–it accounts for more than half the cost of a loaf of bread. It begins with the first tax, on the farmer that raised the wheat. Any simpleton can understand that if that farmer cannot get enough money for his wheat, to pay the property tax on his farm, he can’t be a farmer. He loses his farm. And so it is with the fellow who pays a driver’s license and a gasoline tax to drive the truckload of wheat to the mill, the miller who has to pay everything from social security tax, business license, everything else. He has to make his living over and above those costs. So they all wind up in that loaf of bread. Now an egg isn’t far behind and nobody had to make that. There’s a hundred taxes in an egg by the time it gets to market and you know the chicken didn’t put them there!

In 1982, seeing the light at the end of the economic woes of the 1970s, President Reagan addressed Congress on “The State of Small Business”. This speech clearly shows Reagan’s respect, and even love for the American business owner, as well as his, sometimes unfulfilled intentions with regard to streamlining business regulations. Although the entire speech is too long to quote here, many of the points he addressed are as relevant in 2004 as they were in 1982. A somewhat subjective collection excerpts from that speech concludes this retrospective.

I. The Role of Small Business in the Economy

The roots of the American economy are to be found in the history of small business. In America's early years virtually all businesses were small.

Most small firms are labor intensive, and over half of our labor force is currently employed by small businesses. Small businesses remain among the leaders in employment creation. According to research at the Massachusetts Institute of Technology, between 1969 and 1976, more than 86 percent of new jobs were provided by small businesses employing fewer than 500 employees. Some eighty percent of new jobs were provided by firms having 100 employees or less. Almost 66 percent of the new jobs were provided by businesses with fewer than 20 employees, and of the jobs provided by small businesses, 75 percent were attributable to firms that were less than five years old.

Given our nation's economic difficulties we cannot afford to ignore the resources and potential contributions of small business enterprises. Their innovative spirit, their flexibility to meet new challenges, are crucial to our economic progress. At the same time, the employment and entrepreneurial opportunities presented by this sector are too important to be less than fully realized. The bottom line is quite straightforward: America needs small business formation and growth.

II. The Foundations of Small Business Policy

The fundamental tenets of small business policy are thus quite clear. Government should promote a strong, vibrant, private economy with policies that primarily rely upon free market forces to organize and allocate our economic resources. Economic growth and full employment must be restored while reducing inflation and interest rates, and, at the same time, Federal impediments to the free and efficient use of resources must be reduced or eliminated. The end result should be an economy characterized by free and open markets giving all of its participants the opportunity to contribute to, and share in, the high and rising standard of living such a system will produce.

The cornerstone of our initiative for the small business sector is our four-part Economic Recovery Program.

1. A cooperative effort with the independent Federal Reserve Board to achieve a moderate and steady monetary policy to end inflation. Our goal is to reduce high interest rates and remove disincentives produced by the interaction of inflation with the tax code.

2. A regulatory reform program to reduce the inefficiencies and enormous costs that are holding back production and raising prices.

3. An incentive-oriented tax policy designed to increase work effort, saving, and investment.

4. A stringent budget policy designed to return resources to the private sector for investment and growth.

III. Problems and Policies of Particular Interest to Small Business

Access to Capital

There are many impediments reducing access to adequate capital, and unfortunately some of these work to the particular detriment of small business. Saving in recent years has been depressed by the interaction of inflation and the marginal tax rates. Inflation pushes taxpayers into higher income brackets which are subject to progressively higher rates of taxation. The result has been reduced incentives to save and to work. Small business has suffered not only from the general lack of saving, but also because entrepreneurs have historically looked to family and friends to supply the equity investment funds used as seed capital to form new businesses. When saving becomes difficult, these sources are materially diminished.

The first thing to note, therefore, is that the recently enacted tax reductions and the new higher Keogh Plan and IRA allowances will provide a powerful stimulus to saving. Business tax reductions for 1982, for example, will increase business saving; this is money that business will not need to borrow from financial markets. Personal tax reductions should promote substantial reallocation of income from consumption to saving, in addition to the normal saving increase from income growth alone. Year-over-year, there should be an increase in total private saving from 1981 levels in excess of 60 billion dollars.

The Economic Recovery Tax Act will improve small business access to capital in other ways as well. For example, the amount of earnings which may be retained in closely held corporations without being penalized by the accumulated earnings tax has been increased from $150,000 to $250,000. The change makes it possible for the men and women who own small firms to accumulate a larger amount of investment capital without incurring an accumulated earnings tax. Another feature of ERTA is an increase in the maximum number of shareholders in Subchapter S corporations from 15 to 25 plus allowance of certain kinds of trusts to be treated as shareholders in such corporations. The provisions strengthen the attractiveness and utility of the Subchapter S provisions.

We recognize the need that small business has for new mechanisms of constructive finance. We also recognize that some of the mechanisms available, such as participating debentures, may require accommodative tax changes if they are to be effective.

Federal economic and financial policy plays a crucial role in small business viability. Thus, it is important that Federal departments involved in these areas be consistently sensitive to small business needs. I am directing the Commissioner of the Internal Revenue Service to include representatives of small business in advisory groups which review administration of the tax system.

Tax Incentives

Within ERTA there is also an extensive list of special provisions targeted specifically to small business. Small businesses will benefit from the lower tax rates on the two lowest income brackets, the simplification of LIFO inventory accounting, the increased allowance for accumulated earnings, more liberal treatment of stock option plans, the liberalization of Subchapter S provisions, expanded expensing of depreciable assets, the larger allowance for the investment tax credit on used property, and the expanded funding allowances on Keogh plans and IRAs. And family-owned and closely held small business owners are assured of continuity of ownership through the liberalized estate and gift tax laws. The aggregate amounts of the tax relief afforded by these tax provisions can involve significant reductions in marginal tax rates and thus provide powerful incentives for growth and development.

Regulation

Major increases in business regulation began during the last decade. The Occupational Safety and Health Act, the National Environmental Protection Act, the Employee Retirement Income Security Act, and others, have served important national objectives but have also introduced distortions in the operations of the free market, impeded competition, and increased costs of the regulated businesses. Most of these regulations have stipulated the same compliance requirements for small business as for large corporations. The relative burden is much greater, however, because compliance costs cannot be spread out over larger quantities of output. In short, small business has found itself at a competitive disadvantage because of the existence of efficiencies of scale in regulatory compliance.

The problem is a particularly difficult one. On the one hand, regulations frequently address important social objectives which cannot be dismissed lightly. On the other hand, their application to small business is frequently of only marginal importance to the social objectives involved, or they are applied in ways which are inappropriate in a small business context.

Nevertheless, difficult as the job may be, this Administration is committed to a major effort in regulatory reform. The problem has been approached with a two-pronged effort: regulatory relief and use of regulatory flexibility. So far regulatory relief has been the major policy tool. During this first year, regulatory relief has been actively pursued in every regulatory agency and the number of new regulations issued has been significantly reduced.

The Presidential Task Force on Regulatory Relief has announced a number of existing regulations for in-depth Federal agency review which are considered by small businesses to be most onerous. Agencies will be expected, following their review, to propose changes in these regulations in order to lessen the regulatory burden on America's small businesses. It also is timely to accelerate the review of all existing regulations imposed on the business sector to determine whether maximum flexibility is being provided to accommodate the uniqueness of small businesses. Legislation enacted by the last Congress, the Regulatory Flexibility Act, provides the mechanism for undertaking this effort. The objective will be to assure that existing regulations do not unnecessarily impede growth and development of small businesses. At the same time, we will keep in place those regulations that are beneficial to society -- such as health and safety in the work place, and a healthy environment.

Research and Development, and Innovation

Innovation by independent, small firms is central to a natural reduction of industrial concentration. The Federal government is the largest single purchaser of industrial research and development in our economy. Until recently, government purchased more research and development than all other buyers combined.

For small business firms, cash availability is a serious limitation on the amount of research and development they can undertake. The Economic Recovery Tax Act provides an incentive for research and experimentation by allowing a 25 percent tax credit for certain research and experimentation expenditures in excess of a three-year moving average base period. The credit will be in addition to the immediate expensing or 60 month amortization of research and experimentation expenditures permitted under present law. Thus, small businesses' ability to finance their own programs should be materially improved.

In conclusion, the importance of the small business sector cannot and should not be ignored. For me, small business is the heart and soul of our free enterprise system. The small business sector has played, and continues to play, an important part in providing innovative drive and employment growth in the American economy. To help small business realize its full economic potential, this Administration is pursuing an economic policy aimed at getting the American economy growing again, together with programs designed to assure unrestricted access by everyone to economic resources and markets.

A full transcript of this speech can be found at http://www.reagan.utexas.edu/resource/speeches/1982/30182b.htm