How Did We Get Good Growth in the 1950s Despite High Marginal Tax Rates?

By David Henderson.

"In my latest OLLI talk, “Economic Growth: Crucial but Uncertain,” which I posted and talked about on Substack, I didn’t discuss one question that one of the participants asked. I didn’t think to do so because John, the A/V guy, made certain cuts and, for some reason, that question and my answer aren’t on the video.

I took the audience on a quick tour of the top marginal rates through the 20th century: from 7% when the first income tax was implemented; to 77% under Woodrow Wilson; down to 25% under Treasury Secretary Mellon (working his way down in the Harding and then Coolidge administrations; up to 63% under Herbert Hoover then 79% during peacetime FDR and up to 94% during the last part of the war under FDR;  then down to 91% for most of the 1950s and early 1960s; then down to 70% under LBJ (as part of the Kennedy tax cut); then down to 50% early in the Reagan administration and 28% late in the Reagan administration; then up to 31% under George H.W. Bush; etc.

Of course I gave a more summary statement than the above, but the audience got the point.

One of the audience members, a guy named Ed, said, “Don’t the high marginal tax rates in the 1950s mean that high tax rates don’t matter that much for economic growth since growth was pretty good in the 1950s?”

I answered that the highest marginal tax rates kicked in at a very high income level and that one needed to adjust for inflation to see how irrelevant they were for over 90% (and probably over 95%) of income earners. (I’m using “earner” in the broad sense; if I own stock that gave me a handsome dividend income, I count that income as earned.)

I could have given a better answer if I had had the data handy, and I’m about to do that. But I completely left out another answer: the economy was much less regulated in the 1950s than now. It was much easier to get a permit to build a house, a bridge, a pipeline, an office building. Also the liability revolution that Walter Olson has written about so well had not yet happened, so that producers didn’t have to waste a lot of effort on idiot-proofing their products. Etc. All those positives can easily upset the negatives of high marginal tax rates for a small percentage of the population. (One caveat: we didn’t have deregulation of airlines, trucking, or railroads and that did hurt somewhat.)

Now to the data on taxes. The Tax Foundation gives the data on tax brackets and tax rates from 1862 to 2021 here.

Look at the marginal tax rates for 1954. For married couples filing joint, if you had $400,000 or more in taxable income, your marginal tax rate was 91%; for singles, it kicked in at $200,000. That rate with the same income brackets was the same from 1954 to 1963.

But $400,000 in 1954 was $4.66 million. Moreover, the whole real income distribution is higher now, probably at least twice as high. So that would be like imposing a 91% marginal tax on a married couple with $9.32 million in taxable income.

To be sure, marginal tax rates were well above today’s rates even for much lower incomes. Consider 1954 again. For a married couple with taxable income of $24,000, the marginal tax rate was a whopping 43%. In today’s dollars, $24,000 would be $280,000. So my point is not as strong as I originally thought. On the other hand there were no Medicare taxes and Social Security tax rates were much lower. In 1954, the combined SS tax on employer and employee was 4%, versus 12.4% now. Moreover, it was zero after an income of $2,400, which is $28,000 in today’s dollars.

Here’s my speculation, although I don’t have time to do the math and check a lot of data. Up through 1963, for over 80% of U.S. taxpayers in the top half of the income distribution, marginal tax rates, including Social Security and Medicare, were lower than they are for over 80% of taxpayers in the top half of the income distribution today."