Reaganites Redux: Clinton Crew Fights Back, but Supply-Siders Have the Ball

Dan Gressel, supply-sider, takes a big slurp from his

steaming cup of herbal tea and launches into a detailed explanation of why the

markets and the flagging economy need a dose of tax-slashing economics. “For a

tax cut that would lose no revenue for the Treasury, I’d do three things,” he

enthuses. “I’d eliminate the estate tax, take [the] income tax down to 22 percent,

then make dividends deductible at [the] corporate level, which would

essentially get rid of the corporate income tax. With those three reforms, I

would have the economy booming again without a problem. The Jon Corzines could

then spend away to their hearts’ content.”

It’s 7:30 a.m., power-breakfast time at the Grand Hyatt, and

Mr. Gressel is talking up a storm. Sitting across from him is Sally Pipes,

president of the Pacific Research Institute, an obscure San Francisco–based

right-leaning think tank that champions personal freedom, limited government

and other libertarian issues. Ms. Pipes is nodding enthusiastically, following

every word of Mr. Gressel’s heartfelt pitch.

But it is Ms. Pipes who is there to make a pitch. She is

hitting Mr. Gressel up for some cash. Not that he seems to mind. He can afford

it-Mr. Gressel runs a large-enough hedge fund out of Greenwich, Conn.-and the

cause, as far as he is concerned, is a fine one. A card-carrying member of the

reenergized Club for Growth, he would be happy to write a check to help turn

back the clock, wipe out Rubinism and put the Corzines on the run.

“So,” the 47-year-old Mr. Gressel continues, “the revenue

goes up for the government, output goes up for the country, wages are up for

everyone-why would someone be against that? That’s what aggravates me when I

try to explain it.”

Mr. Gressel has the rumpled, somewhat frazzled look of the

economics professor he once was (his Ph.D. is from the University of Chicago;

he calls himself a “Chicago boy” with pride). But his mood is buoyant. After

eight years of Clinton-Rubin economics, he has fallen hard for President George

W. Bush and his Reaganesque style and language. Ms. Pipes-who with her large

head of well-tended hair is, appropriately enough, a dead ringer for Margaret

Thatcher-is right there with him.

“I think Bush is better than Reagan,” Mr. Gressel says. “He

had eight years watching Reagan work, four years watching Daddy screw up. He

realizes it’s more a managerial problem than a let’s-get-the-people-behind-me

problem. It’s trench warfare now-line by line, fight by fight, my guys against

your guys, tax-eaters against tax-earners.”

What a time to be a supply-sider.

As tax-cut fever slowly grips Washington, symptoms of a

similar strain are appearing on Wall Street. Which should not be much of a

surprise: What self-respecting bond-trader wouldn’t want to see his marginal

tax rate slip from 39 to 22 percent? Why wouldn’t a hard-driving broker scream

loudly for a cut in the capital-gains tax rate?

Strangely enough, though, Wall Street in the 90′s had been

decidedly agnostic when it came to supply-side theory. Call it the Bob Rubin

effect: By persuading Bill Clinton in 1992 that the bond market ruled and that,

in a perfect world, budgets would be in surplus and interest rates low, the

deficit-hawk sensibility came to dominate the Street’s economic thinking. Cut

taxes and you blow a hole in this hard-won surplus of ours, and back we go to

that dark Reagan age of yawning deficits and punitive interest rates, Mr. Rubin

preached. And how Wall Street listened.

Now, however, with the Clinton boom showing signs of wear,

and with Mr. Bush sounding more and more like Ronald Reagan and less and less

like his father, that good ole-time religion could be coming back into vogue.

Supply-side groups like the Club for Growth are making a comeback. The talk is

about size-not necessity.

Mr. Rubin has foregone

the pulpit for a corner suite in the Citigroup building. Mr. Corzine, his

former ideological partner in  arms at

Goldman, Sachs & Company, is now fighting a losing battle against the

supply-side tide from his perch in the U.S. Senate.

But fighting he is. Booming into the squawk box in his

Senate office, the junior Democratic Senator from New Jersey is getting a bit

worked up.

“To think that we should be moving back to a direction taken

in the early 80′s is just absurd,” Mr. Corzine says. And he’s been telling his

Senate colleagues as much. “They find it catchy when I say, tongue in cheek,

‘If I were back on Wall Street as a bond trader in my youth, I would be

shorting the market,’” he adds with a chuckle.

But on the Street, the supply-side message is beginning to

take hold, according to Mr. Gressel and his ilk-and it is their libertarian

prescription, they believe, that will be the cure for what ails the economy and

the markets. Driving much of the discussion is the Club for Growth, a

political-action group that aims to advance supply-side principles by

financially backing like-minded Congressional candidates.

With nearly 3,000 members,

the Club for Growth kicked up something of a storm in 2000 by raising $3

million, backing 16 Republican House candidates and seeing 10 of them win. And

their protégés in the House are a vocal lot of backbenchers, pushing their

colleagues and the administration for deeper cuts in the Bush tax bill, as well

as for the inclusion of a capital-gains tax cut.

Although the club is

headquartered in Washington, its genesis was on Wall Street, where the bulk of

its financial support still originates. The club dates back to 1982, when

Richard Gilder of Gilder, Gagnon, Howe & Company, a small but influential

money-management firm, threw his and his supply-side friends’ financial support

behind conservative businessman Lewis Lehrman, who then came close to upsetting

Mario Cuomo in the race for New York Governor. Thus was born the Political Club

for Growth, which was run through 1998 as an informal grouping of Mr. Gilder’s

friends and colleagues, most of whom were investors or businessmen (Ron Lauder

is a member; Jets owner Woody Johnson isn’t, but he has attended the occasional

meeting). Steve Forbes, Newt Gingrich, Dick Armey, even Bill Clinton in 1991,

amongst many others, would present their supply-side bona fides to club members

in exclusive meetings held in Mr. Gilder’s offices.

Even through the Rubin years, the club was there-watching,

waiting. In early 1999, it began to expand, opening up a Washington office,

hiring a political director, Stephen Moore, and renaming itself the Club for

Growth. Since then, growth in membership has been rapid; indeed, the membership

rolls have expanded by 50 percent since George W. Bush eked out his Florida win

and took the oath of office.

“Why the resurgence?” asked Thomas (Dusty) Rhodes, the

club’s co-chairman with Mr. Gilder. “Because business is not good. How do we

help business? We increase the after-tax return on investment. How do we do

that? We lower taxes.” A former Goldman Sachs partner, Mr. Rhodes, who is now

president of National Review , is

among the club’s most vocal and insistent voices. He is perhaps the anti-Rubin.

And don’t talk to him

about the danger of deficits, either. “Who says the deficit has to matter?” he

asks. “By closing the deficit, the Clinton administration overtaxed. Where does

it say that the federal government has the right to tax in excess of what it

needs and then to spend that money as it chooses? It’s just not right.”

Mr. Rhodes’ deeply moral view on taxes made him stick out

among his more pragmatic colleagues at Goldman-and in 1992, feeling a bit frustrated,

he cut short his 20-year career on the Street. “Wall Street proper has never

been a great proponent of supply-side economics,” says Mr. Rhodes. “What it

tries to do is give balanced contributions to both parties and lobby

accordingly. Wall Street, as well as corporate America, will lobby for what is

[in] its specific interest-a change in the partnership law, this little tax

quirk-as opposed to saying, ‘Let’s push for a policy that is good for the

country as whole’.”

Indeed, a scroll down the club’s membership list reveals a

wealth of hedge-fund guys, research pros and private investors, but hardly a

one from the bulge-bracket firms such as Goldman Sachs, Morgan Stanley and

Merrill Lynch. In fact, the names for the most part border on the obscure.

David Malpass, a Bear Stearns economist, is a member. So is Chuck Kadlec of

Seligman Advisors, author of the appropriately optimistic Dow 100,000 . Then there is Bruce Bent of the Reserve Funds, a

family of money-market funds; K. Tucker Andersen of Cumberland Associates;

Alliance Capital Management president Roger Hertog; Charles Brunie, formerly of

Oppenheimer Capital; and, of course, Mr. Gressel of Teleos Asset Management, a

former president of the club. True believers all, they sniff at the ideological

squishiness of their bulge-bracket brethren.

“Wall Street these days is full of Jon Corzines,” says Mr.

Gressel. “They still believe in socialism.”

No doubt about it, some

ideological gains have been made, thanks in part to the evangelism of the Club

for Growth boys. But that should come as no surprise, given that President Bush

and his tax-cutting plan have been front and center these days. With recession

talk growing and the markets still woozy, what Wall Streeter do you know-save

for Bob Rubin and perhaps Pete Peterson of the Blackstone Group-that is not in

favor of a little tax-cut pick-me-up?

The real question is whether or not the club’s increased

visibility portends a return to the days when supply-side thinking was the rule

and not the exception on Wall Street. And if so, what are the implications for

the markets?

“The supply-side movement used to have some real depth to

it,” says the Quadrangle Group’s Steve Rattner. “But I don’t see that same

depth on the Street these days. Yes, people are applauding the tax cuts, but

they are doing so for different reasons than classical supply-side arguments.”

They’ll do it because they think the tax cuts will stimulate the markets, not

out of a deep-seated belief in the economic philosophy, he believes.

Indeed, even in Washington, the debate is over the size and

scope of the tax cuts, not over the economic philosophy driving it. Which is

what scares the old socialist himself, Senator Corzine, who has been issuing

dire warnings of imminent market doom if too large a tax cut is passed.

Just recently, he

addressed the Senate Democratic Caucus and urged them to take cautionary note

of the recent steepening of the yield curve. (Translation: The curve itself

reflects a pattern of changing interest rates on bonds of differing maturities;

the steepening of it signifies that short-term yields are moving down while

longer-term yields move up.)

“It’s a pretty dramatic restructuring of the yield curve,”

Mr. Corzine told The Observer . “And

while this certainly reflects future inflationary expectations [following the

rate cuts], some also has to be related to fiscal policy. People have real

fears that we may be reigniting the policy mix of a previous era, when interest

rates were a lot higher.”

He continued on: So what if many of his Democratic

colleagues seem to be sipping the supply-side Kool-Aid? This bond trader would

be a seller. “I don’t know where Dusty is coming up with these ideas,” said Mr.

Corzine. “If there is anything we have learned, it is that supply-side

economics has grave, grave shortcomings. We have an object lesson of over a

decade of fiscal responsibility, initiated by Bush and continued by Clinton,

that led to lower rates and an investment boom that was healthy for all aspects

of the economy. What we have now is a backward-loaded fiscal plan that could be

extraordinarily destabilizing for the dollar, certainly [for] debt markets and,

in the end, for equity markets as well.”