There’s been a bit of chatter in the blogosphere about a recent post on Ezra Klein’s blog featuring estimates from various economists about the revenue-maximizing tax rate. It won’t come as a surprise that people on the right tended to give lower estimates and folks on the left had higher guesses. Donald Luskin of National Review estimated 19 percent, for instance, while Emmanuel Saez, Dean Baker, Bruce Bartlett, and Brad DeLong all gave answers around 70 percent.
There are two things that are worth noting.
First, every single answer is to the right of the Joint Committee on Taxation. The revenue-estimators on Capitol Hill assume that taxes have no impact on overall economic performance. As such, even confiscatory tax rates have very little impact on taxable income. The JCT operates in a totally non-transparent fashion, so it is difficult to know whether they would say the revenue-maximizing tax rate is 90 percent, 95 percent, or 100 percent, but it is remarkable that a mini-bureaucracy with so much power is so far out of the mainstream (it’s even more remarkable that Republicans controlled Congress for 12 years, yet never fixed this problem, but that’s a separate story).
Second, very few of the respondents made the critically important observation that it should not be the goal of tax policy to maximize revenue. After all, the revenue-maximizing point is where the damage to the overall economy is so great that taxable income falls enough to offset the impact of the higher tax rates. Greg Mankiw of Harvard and Steve Moore of the Wall Street Journal indicated they understood this point since they both explained that the long-run revenue-maximizing rate was lower than the short-run revenue-maximizing rate. But Martin Feldstein of Harvard explicitly addressed this issue and hit the nail on the head.
Why look for the rate that maximizes revenue? As the tax rate rises, the “deadweight loss” (real loss to the economy rises) so as the rate gets close to maximizing revenue the loss to the economy exceeds the gain in revenue…. I dislike budget deficits as much as anyone else. But would I really want to give up say $1 billion of GDP in order to reduce the deficit by $100 million? No. National income is a goal in itself. That is what drives consumption and our standard of living.
For more information, I think my three-part video series on the Laffer Curve is a good summary of the key issues. Part I addresses the theory, and explicitly notes that policy makers should target the growth-maximizing tax rate rather than the revenue-maximizing tax rate. Part II reviews some of the evidence, including analysis of the huge increase in taxable income and tax revenue from upper-income taxpayers following the Reagan tax-rate reductions. Part III looks at the Joint Committee on Taxation’s dismal performance.
What about the long term? Is it possible that long after raising the tax rate, the resulting decreased growth rate will eventually lead to the government getting less revenue than it would have otherwise?
Some back-of-the-cocktail-napkin amateur analysis here, with made-up data:
http://tinyurl.com/28d5cuw
The very short term Laffer Curve:
I’m sure that the revenue maximizing tax rate for tomorrow is over 90%. If you start taxing me at 95%, I’ll still go to work tomorrow. The day after tomorrow? less likely. A year from now? Definitely not! Especially if you start providing me with “free” heatlthcare, “free” education, “free” transportation, “free” recreation and “free” retirement, paid by the suckers who keep working.
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Short tem vs. long term Laffer Curve:
Suppose there are two economies with otherwise equal per capita income. One decides to start operating at the top of the Laffer curve (ie. tax revenue maximization in the short term) and as a result of the blunted incentives to produce, its economy grows at 2% per year. The other operates at a tax revenue level of, say, 30% below the Laffer peak and as result its economy grows at 4%. After 10-20 years, in absolute terms, which economy collects more tax revenue?
But in some upside down economics world, where 2-5=8, many claim that if the government not only collects the maximum possible tax but also uses the revenue to impose economic inefficiency (by, say, mandating that people start using expensive energy) then some magical multiplier kicks in, which somehow leads to widespread prosperity. That seems to be the Grugmanesque perpetual motion machine of prosperity. How can anyone take economists seriously?
[...] especially fascinating is that JFK intuitively understood the Laffer Curve, particularly the insight that deficits usually are the result of slow growth, not the cause of [...]
[...] especially fascinating is that JFK intuitively understood the Laffer Curve, particularly the insight that deficits usually are the result of slow growth, not the cause of [...]
[...] Freedom and Prosperity. Mitchell discusses the confusion about the ideal point on the Laffer Curve, pointing out early in August that the goal of tax policy should not be to maximize revenue. He goes on to introduce his January [...]
[...] especially fascinating is that JFK intuitively understood the Laffer Curve, particularly the insight that deficits usually are the result of slow growth, not the cause of [...]
[...] assumption that taxes have no impact – at all – on economic output. In other words, instead of showing a Laffer Curve, JCT would show a straight line, with tax revenues continuing to rapidly climb even as tax rates [...]
[...] of the Obama Administration. What’s especially fascinating is that JFK intuitively understood the Laffer Curve, particularly the insight that deficits usually are the result of slow growth, not the cause of [...]
[...] founder of Brevan Howard, and Mike Platt, founder of BlueCrest Capital. This story shows both the power of the Laffer Curve and the importance of tax competition. The greedy politicians in England doubtlessly resent the [...]
[...] founder of Brevan Howard, and Mike Platt, founder of BlueCrest Capital. This story shows both the power of the Laffer Curve and the importance of tax competition. The greedy politicians in England doubtlessly resent the [...]
[...] is generating poor results. Revenues are much lower than forecast, as anyone with a rudimentary understanding of the Laffer Curve could have explained. The most noteworthy result is that about one-fourth of rich taxpayers have [...]
[...] is generating poor results. Revenues are much lower than forecast, as anyone with a rudimentary understanding of the Laffer Curve could have explained. The most noteworthy result is that about one-fourth of rich taxpayers have [...]
[...] This policy was enormously successful in attracting new investment, and Ireland’s government actually wound up collecting more corporate tax revenue at the lower rate. This was remarkable since it is only in very rare cases that the Laffer Curve means a tax cut generates more revenue for government (in the vast majority of cases, the Laffer Curve simply means that changes in taxable income will have revenue effects that offset only …). [...]
[...] This policy was enormously successful in attracting new investment, and Ireland’s government actually wound up collecting more corporate tax revenue at the lower rate. This was remarkable since it is only in very rare cases that the Laffer Curve means a tax cut generates more revenue for government (in the vast majority of cases, the Laffer Curve simply means that changes in taxable income will have revenue effects that offset only …). [...]
[...] This policy was enormously successful in attracting new investment, and Ireland’s government actually wound up collecting more corporate tax revenue at the lower rate. This was remarkable since it is only in very rare cases that the Laffer Curve means a tax cut generates more revenue for government (in the vast majority of cases, the Laffer Curve simply means that changes in taxable income will have revenue effects that offset only …). [...]
[...] This policy was enormously successful in attracting new investment, and Ireland’s government actually wound up collecting more corporate tax revenue at the lower rate. This was remarkable since it is only in very rare cases that the Laffer Curve means a tax cut generates more revenue for government (in the vast majority of cases, the Laffer Curve simply means that changes in taxable income will have revenue effects that offset only …). [...]
[...] in low-tax states. When that happens, Illinois politicians will get a lesson about the Laffer Curve, just as happened in Maryland, Oregon, and New [...]
[...] in low-tax states. When that happens, Illinois politicians will get a lesson about the Laffer Curve, just as happened in Maryland, Oregon, and New [...]
[...] in low-tax states. When that happens, Illinois politicians will get a lesson about the Laffer Curve, just as happened in Maryland, Oregon, and New [...]
[...] Laffer Curve is one of my favorite issues (see here, here, here, here, here, etc). But it is a very frustrating topic. Half my time is spent trying to [...]
[...] Laffer Curve is one of my favorite issues (see here, here, here, here, here, etc). But it is a very frustrating topic. Half my time is spent trying to [...]
[...] Laffer Curve is one of my favorite issues (see here, here, here, etc). But it is a very frustrating topic. Half my time is spent trying to convince [...]
[...] in low-tax states. When that happens, Illinois politicians will get a lesson about the Laffer Curve, just as happened in Maryland, Oregon, and New York. Daniel J. Mitchell • January 11, [...]
[...] Laffer Curve is one of my favorite issues (see here, here, here, here, here, etc). But it is a very frustrating topic. Half my time is spent trying to [...]
[...] Laffer Curve is one of my favorite issues (see here, here, here, here, here, etc). But it is a very frustrating topic. Half my time is spent trying to [...]
[...] in low-tax states. When that happens, Illinois politicians will get a lesson about the Laffer Curve, just as happened in Maryland, Oregon, and New [...]
[...] Simply stated, my goal is for people to recognize that higher tax rates lower incentives to earn and report income and lower tax rates increase incentives to earn and report income. However, I also want people to understand that this doesn’t mean “all tax cuts pay for themselves.” That only happens in very rare cases. Moreover, it would be good if people recognized that there are lots of factors that influence the economy’s performance, and it’s therefore important to be cautious when making claims about the relationships between tax rates, taxable income, and tax revenue. [...]
[...] Simply stated, my goal is for people to recognize that higher tax rates lower incentives to earn and report income and lower tax rates increase incentives to earn and report income. However, I also want people to understand that this doesn’t mean “all tax cuts pay for themselves.” That only happens in very rare cases. Moreover, it would be good if people recognized that there are lots of factors that influence the economy’s performance, and it’s therefore important to be cautious when making claims about the relationships between tax rates, taxable income, and tax revenue. [...]
[...] Simply stated, my goal is for people to recognize that higher tax rates lower incentives to earn and report income and lower tax rates increase incentives to earn and report income. However, I also want people to understand that this doesn’t mean “all tax cuts pay for themselves.” That only happens in very rare cases. Moreover, it would be good if people recognized that there are lots of factors that influence the economy’s performance, and it’s therefore important to be cautious when making claims about the relationships between tax rates, taxable income, and tax revenue. [...]
[...] Greetings from frigid Minnesota. I’m in this misplaced part of the North Pole to testify before both the Senate and House Tax Committees today on issues related to the Laffer Curve. [...]
[...] Greetings from frigid Minnesota. I’m in this misplaced part of the North Pole to testify before both the Senate and House Tax Committees today on issues related to the Laffer Curve. [...]
[...] don’t particularly like soccer and I’m not normally a fan of the research of Professor Emannuel Saez, so it is rather surprising that I like Professor Saez’s new research on taxes and [...]
[...] don’t particularly like soccer and I’m not normally a fan of the research of Professor Emannuel Saez, so it is rather surprising that I like Professor Saez’s new research on taxes and [...]
[...] But I don’t care about the revenue-maximizing point of the Laffer Curve. Policy makers should set tax rates so we’re at the growth-maximizing level instead. [...]
[...] the revenue-maximizing tax rates in both nations are the same (by the way, policy makers should strive for growth-maximizing tax rates, not the rates that generate the most [...]
[...] Greetings from frigid Minnesota. I’m in this misplaced part of the North Pole to testify before both the Senate and House Tax Committees today on issues related to the Laffer Curve. [...]
[...] problem is that people assume that tax rates should be set at the revenue-maximizing level. I explained back in 2010 that this was wrong. Policy makers should strive to set tax rates at the growth-maximizing level. But since a [...]
[...] quite likely that European nations maxed out on the amount of revenue they can collect from the rich, which is why they started going after the middle [...]
[...] But I don’t care about the revenue-maximizing point of the Laffer Curve. Policy makers should set tax rates so we’re at the growth-maximizing level instead. [...]
[...] This is why it is never a good idea to even think about setting tax rates near the revenue-maximizing level. [...]
[...] Lest I forget, it’s also worth mentioning that it’s a very bad idea to be at the revenue-maximizing spot on the Laffer Curve. The economic damage, per dollar raised, is enormous. And that’s true whether the [...]
[...] Lest I forget, it’s also worth mentioning that it’s a very bad idea to be at the revenue-maximizing spot on the Laffer Curve. The economic damage, per dollar raised, is enormous. And that’s true whether the [...]
[...] problem is that people assume that tax rates should be set at the revenue-maximizing level. I explained back in 2010 that this was wrong. Policy makers should strive to set tax rates at the growth-maximizing level. But since a [...]