Don't miss that government is not necessary to trade, but trade is necessary to a government.

I don't know about tax cuts paying for themselves. But with our current level of tax and regulation almost no tax increases increase revenue. They merely move which pot the money goes into.

Also, if you reduce taxes but keep spending the same amount or more that money has to come from somewhere. Either you inflate so everyone gets taxed due to their money being worth less or you borrow. Both of those options have similar effects to a tax. They are just harder to keep track of.

But it also means teaching folks on the right that it is wildly wrong to claim that "all tax cuts pay for themselves" or that "tax increases always mean less revenue."

Exactly. The Laffer Curve was about finding the optimal level of taxation (from a government revenue standpoint), where taxation does not hinder or preclude economic activity. And it postulates that heavy taxation hinders economic activity, thus denying the government revenue it could have gotten from that lost activity.

By the way, Laffer himself credits the idea of the Curve to a Arabic historian, saying, "The Laffer Curve, by the way, was not invented by me. For example, Ibn Khaldun, a 14th-century philosopher, wrote in his work The Muqaddimah: 'It should be known that at the beginning of the dynasty, taxation yields a large revenue from small assessments. At the end of the dynasty, taxation yields a small revenue from large assessments.'"

The Laffer Curve shows that taxation that is too low also starves the government of revenue needed to perform those necessary tasks which men implement governments to perform. Laffer postulates that taxation at 0% and at 100% will result in no revenue.

Or, to put it another way:

- Tax cuts do not automatically result in revenue cuts, and

- Tax increases do not automatically result in revenue increases.

More people need to get that.

"Soak the rich" ignores the fact that
1) It is the rich who are in a position to start or fund new business ventures
2) Many people will become "rich" for at least a few years of their career.
3) Savings generally go into the stock market, even savings by poor people (e.g., pension funds). If gov taxes away the capital to run the businesses that employ people then those businesses can't grow.
My total tax burden (fed, state, sales, property, highway tolls) is 35%. Pretty high. I am not rich.

"Laffer postulates that taxation at 0% and at 100% will result in no revenue."

This is one of the main points to use when trying to explain the Laffer Curve to someone, and it's obvious once one thinks about the basic math involved. Clearly, a 0% tax rate results in no revenue. However, a 100% rate also results in zero revenue, or very close to it, because there is no incentive to work if the government takes everything you make. And obviously, there are points in between where revenue is above zero. So something like the Laffer Curve has to exist.

One question asked by Laffer skeptics is: how do we know what the shape of the curve is? They postulate that the curve has multiple peaks and valleys, such that the effects of a tax rate change are unknowable in advance since we have no way of knowing where we are on the curve. I conjecture (admitting that this is not a bulletproof counter-argument) that such a thing cannot exist, because an economy that would produce such a complex curve would be so unstable that it would fall apart in short order, whipsawing between boom and bust until everyone is sick of it. So I think it has to be a simple curve, with one maximum.

Where the maximum is, and what the slopes are on either side, nobody really knows. I claim that we are on the right side (between the revenue maximum and 100%) of the curve, and have been for some time, because I can't think of any tax increase in decades that has succeeded in increasing revenue, but I can point at some tax cuts (notably Reagan's early-1980s cuts) that did increase revenue. I don't think we've been on the left side of the curve since the 1920s, at the national level. However, it's also possible that we are sitting on the peak now. If that's the case, neither a tax increase nor a tax cut will succeed in increasing revenue, at least not due to direct effects.

Personally I think the peak of the laffer curve is between 10%-15%. Though I could understand it is as high as 33% (where we currently sit). Once you pass 33% people stop working and start hiding their pay. It just isn't worth working legally. Especially since all the risk is on you. When you make a buck the government wants their money and when you lose a buck they don't care.

Oh, and congrats CC. You are sitting right on the average. It may feel high to you but it is the middle.

"Personally I think the peak of the laffer curve is between 10%-15%. "

That's my take too. There may be some leeway regarding state and especially local taxes. I think people are more likely to agree to pay higher taxes at the local level, where they can more easily see how the money is being spent. But that range is probably optimum, revenue-wise, for the combination of federal and state.

There's a question left unasked here: the point on the curve that maximizes revenue is not necessarily the point at which economic freedom is optimum. Which point should be sought? I claim that the proper response is to determine a revenue level that is "good enough", and then seek a point on the curve that provides that level of revenue while providing the most available economic freedom. It should not be about maximizing revenue per se.

I claim that the proper response is to determine a revenue level that is "good enough", and then seek a point on the curve that provides that level of revenue while providing the most available economic freedom. It should not be about maximizing revenue per se. ~ Cousin Dave at October 12, 2016 7:32 AM

Try implementing that with one party the claims that all tax cuts are an economic good and another party that claims that maximizing revenue provides the most economic freedom because the government will build roads and bridges with the money and provide money to the poor to spend in stores.

There is also the interesting effect of progressive taxation. This lets people pick the level of taxation they are willing to accept and to stop working once they get there. This is what causes Hauser's law (in my opinion at least). So you end up with the funny relationship where changing the tax rates doesn't change the tax percentage of GDP. Raise or lower tax rates and people change their behavior until the average effective tax rate is 33%. Instead tax rates affect growth rates. Higher rates cause people to spend less time at the office, and hence there is less economic growth, while lower rates have the opposite effect.

Mind, it is possible to break Hauser's law. The application of a vat tax is the most common method. Raising the minimum tax rate above 33% is another. Doing so appears to set the local GDP growth rate to 0% or less. But export driven growth can counter act that. Europe is the perfect example of this. Corruption is relatively low but due to high taxation and regulation their growth rate is completely dependent on US domestic growth. Without exports to the US they are permanently stuck in recession.

Cousin Dave,

I don't think the psychological aspect you quote is significant. The US typically divides tax revenue to ~10% state/county/city and ~20% federal leading to a total tax rate of ~30%. We have many different state tax rates and you still end up around 10%. Instead you see the local GDP growth rate change. In my mind this is due to the price of risk. Business revenues are rarely reliable. If you can't balance the bad years with the good ones you go out of business. When you raise tax rates the less profitable and more risky businesses fail. They can't afford to cover the downturns. Also when rates are high the number of people willing to take a risk and open a new business shrink. Hence economic growth slows down. How people feel about how the tax money is used doesn't really matter. They just don't have the money to run their business.

I also don't think it matters how you pull the money out of the economy. If you have a high tax on medical businesses and a low tax on tractor manufacturing you will have few medical companies and many tractor companies. But the average tax rate will be the same and the growth rate appears to be the same. Same thing with income vs. corporate tax rates. People change their behavior and the average remains the same.

Look at EU annual GDP growth vs. US annual GDP growth. The EU is essentially 0.2*US. They are completely dependent on exports. Their tax revenues are mostly above 40% of GDP.

Same thing with income vs. corporate tax rates. People change their behavior and the average remains the same. ~ Ben at October 13, 2016 6:27 AM

Whether the increase in government revenue is driven by income tax or corporate tax, the consumer will be paying it. Companies will raise prices or lower expenses (layoffs or offshoring) to pay higher corporate and matching income taxes.

Simply put, liberal economists believe the key to stimulating the economy is higher consumer demand and spending. That's why they typically favor higher minimum wages and why FDR raised the minimum wage and maneuvered to keep grocery and other consumer prices high during the Depression.

On the other hand (and equally simply put), supply side economists believe the key to stimulating the economy is increasing investment capital (driven by higher savings). That's why they tend to favor income and corporate tax cuts and seem to be on the side of the rich (where the excess liquid capital for investment typically is).