The Laffer Curve

I. Understanding the theory

Source

• laffer curve: belief that tax cuts generate additional revenue

  • government won't create any revenue if tax rates are zero
  • neither will it create revenue if tax rates are 100% because there will be more incentive to avoid taxes
  • a revenue-maximizing tax rate exists

• tax cuts are changes to tax law that effectively reduce the amount of tax you pay.

• three things to understand

  • not all tax cuts pay for themselves
  • not all tax cuts are created equal
  • they impact productive behavior differently
  • the goal is not to maximize revenues
  • we should be somewhere in the green region
  • government is importat for things like rule of law, public safety and honest courts
  • a simple and flat tax is the best way to finance those expenses

• government could generate more revenue by climbing the green side

  • but it would be very costly in terms of lost economic growth and lower pre-tax income for workers