Changes in AS, and not AD, are the main active force in determining the level of inflation, unemployment rates, and economic growth
- Supply side economists support policies that promote GDP growth by arguing that high marginal tax rates along with the current system of transfer payments such as unemployment compensation or welfare programs provide disincentives to work, invest, innovate, and undertake entrepreneurial ventures
Incentives to save and invest
- High marginal tax rates reduce the rewards for savings and investments
- Consumption might increase but investments depend upon savings
- Lower marginal tax rates encourage saving and investment
Laffer curve
A theoretical relationship between tax rates and tax revenues
So as tax rates increase from zero, tax revenue increases from 0 to some maximum level and then declines
Three criticisms of the laffer curve
- Evidence suggests that the impact of tax rates on incentives to work, save, and invest are small
- Tax cuts also increase demand which can fuel inflation and demand may exceed supply
- Where the economy is actually located on the curve is difficult to determine
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