Laffer Curve Flashcards
What is the Laffer Curve?
The Laffer Curve is a concept in supply-side economics that shows the theoretical relationship between tax rates and tax revenue, named after economist Arthur Laffer.
What happens at a 0% tax rate according to the Laffer Curve?
At a 0% tax rate, no revenue is collected because the government doesn’t tax anyone.
What happens at a 100% tax rate according to the Laffer Curve?
At a 100% tax rate, revenue would be zero, as there would be no incentive to work, save, or invest if all income is taken by the government.
What is the peak of the Laffer Curve?
The peak of the Laffer Curve is the point where the tax rate is optimal for maximizing revenue.
Which economic theory suggests that lowering tax rates can increase productivity and tax revenue?
The Laffer Curve theory suggests that lowering tax rates beyond a certain point can increase productivity and ultimately raise tax revenue.
What are the two main effects of taxation according to the Laffer Curve theory?
The two main effects are the substitution effect (where higher taxes reduce the incentive to work) and the income effect (where higher taxes lead to more work to compensate for reduced income).
What is the substitution effect in the context of the Laffer Curve?
The substitution effect refers to the reduction in the incentive to work or invest when taxes are high, as people substitute leisure or other activities for work.
What is the income effect in the context of the Laffer Curve?
The income effect refers to individuals working more to compensate for their reduced income due to higher taxes.
Which two leaders implemented tax cuts based on the Laffer Curve in the 1980s?
Ronald Reagan in the U.S. and Margaret Thatcher in the U.K. implemented tax cuts based on the Laffer Curve during the 1980s.
What was the main economic policy based on the Laffer Curve during Reagan’s presidency?
The main economic policy was called Reaganomics, which involved tax cuts to stimulate economic growth and increase revenue.
Is the exact shape of the Laffer Curve universally accepted?
No, the exact shape of the Laffer Curve is debated among economists and it’s not universally accepted that cutting taxes will always increase revenue.
What historical figures had similar ideas to the Laffer Curve?
Ibn Khaldun, a 14th-century philosopher, and Adam Smith, the father of classical economics, had similar ideas about the diminishing returns of excessive taxation.
Did tax cuts during Reagan’s tenure lead to growth or deficits?
Tax cuts during Reagan’s tenure were followed by large deficits, though the U.S. economy did experience robust growth in the late 1980s.
What is the key trade-off highlighted by the Laffer Curve?
The Laffer Curve highlights the trade-off between taxation and economic behavior, emphasizing the need for a balance to avoid excessive taxation that harms productivity and revenue.
Why is it difficult to apply the Laffer Curve in real-world policy?
It is difficult because the exact point where tax rates become counterproductive varies from one economy to another and is hard to pinpoint.
