The Laffer Curve: Taxes and Economic Output
[** Double entendre intended.]
With the Trump Tax Cuts/Reform now before the nation in Republican hands in Congress, let's look back on a discussion item from the Reagan years when tax cuts were discussed, the Laffer Curve.
The Laffer Curve displays the relationship between tax rates/revenues and economic output (GDP).
Taxes are just transfer payments. Tax cuts are transfer payments from the government to individuals and businesses. Tax increases are the reverse: transfer payments to government from individuals and businesses.
While the Laffer Curve drew the Tax Rate on the y-axis and Tax Revenues on the x-axis, the x-axis can be a representation of economic performance (GDP) with optimum economic output yielding optimum revenues from a desired tax rate that does not hamper productive incentives. If the tax rate is too high it will dampen the initiative of individuals and businesses to engage in commerce. If the tax rate is too low it will stifle the government from providing the services and investment needed by society.
Arthur Laffer's napkin tax curve
For the nation to derive an economic benefit from either tax cuts or tax increases for this transfer of money between the government and individuals/businesses, the question is, Who benefits? Where is the greatest return? So, how is the money spent if individuals/businesses get the money versus how is the money spent if government gets the money?
One key is the Savings/Investment versus Consumption expenditures -- Consumption expenditures by government would be the welfare function while Investment could be defense spending, R&D, infrastructure, government plant and equipment, NASA projects, etc. And on the other side of the economy, the private sector of individuals and businesses, personal consumption expenditures account for approximately 70% of GDP.
During the 1960s, with tax cuts in 1964, Gross Private Domestic Investment doubled; and during the 1990s tax increases Gross Private Domestic Investment also doubled. During the 1990s the tax increases went toward paying down the Federal Government debt while budget deficits were reduced and small budget surpluses were being produced during the latter 1990s, all helping to increase the Savings/Investment Ratio.
https://fred.stlouisfed.org/graph/?g=fpmg
During the Bush Tax Cuts 2001/2003 investment increased but more moderately and only for 5 years; as a result, economic recovery peters out. The same was true for personal consumption.
So tax cuts/increases in and of themselves don't make the economy better or worse -- it is what is done with the money, consumption versus investment. And even with consumption versus investment, it is what would benefit the economy more; what is the multiplier that will ripple through the economy and act as a driver for good broad economic growth.
And here is the economic performance. [Hasn't been a good trendline since the 1960s, has it?]
https://fred.stlouisfed.org/graph/?g=fpmG
The Laffer Curve displays the relationship between tax rates/revenues and economic output (GDP).
Taxes are just transfer payments. Tax cuts are transfer payments from the government to individuals and businesses. Tax increases are the reverse: transfer payments to government from individuals and businesses.
While the Laffer Curve drew the Tax Rate on the y-axis and Tax Revenues on the x-axis, the x-axis can be a representation of economic performance (GDP) with optimum economic output yielding optimum revenues from a desired tax rate that does not hamper productive incentives. If the tax rate is too high it will dampen the initiative of individuals and businesses to engage in commerce. If the tax rate is too low it will stifle the government from providing the services and investment needed by society.
Arthur Laffer's napkin tax curve
For the nation to derive an economic benefit from either tax cuts or tax increases for this transfer of money between the government and individuals/businesses, the question is, Who benefits? Where is the greatest return? So, how is the money spent if individuals/businesses get the money versus how is the money spent if government gets the money?
One key is the Savings/Investment versus Consumption expenditures -- Consumption expenditures by government would be the welfare function while Investment could be defense spending, R&D, infrastructure, government plant and equipment, NASA projects, etc. And on the other side of the economy, the private sector of individuals and businesses, personal consumption expenditures account for approximately 70% of GDP.
During the 1960s, with tax cuts in 1964, Gross Private Domestic Investment doubled; and during the 1990s tax increases Gross Private Domestic Investment also doubled. During the 1990s the tax increases went toward paying down the Federal Government debt while budget deficits were reduced and small budget surpluses were being produced during the latter 1990s, all helping to increase the Savings/Investment Ratio.
https://fred.stlouisfed.org/graph/?g=fpmg
During the Bush Tax Cuts 2001/2003 investment increased but more moderately and only for 5 years; as a result, economic recovery peters out. The same was true for personal consumption.
So tax cuts/increases in and of themselves don't make the economy better or worse -- it is what is done with the money, consumption versus investment. And even with consumption versus investment, it is what would benefit the economy more; what is the multiplier that will ripple through the economy and act as a driver for good broad economic growth.
And here is the economic performance. [Hasn't been a good trendline since the 1960s, has it?]
https://fred.stlouisfed.org/graph/?g=fpmG
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