Government Tax Cuts, Decrease in Real Tax Revenues, and Economic Impact

Tax Revenues and Economic Growth

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In the 1980s, the government cut back on the tax rates in an effort to spur the economy. This led to a significant decrease in real tax revenues. A breakdown of this decrease indicated that most of the decrease came from the lower tax brackets. Tax revenues from top tax bracket actually increased despite the cut. There was a modest growth in the GDP during this period, though amongst all the industrialized nations, only Japan matched this rate. This empirical evidence indicates that:

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A. B. C. D.

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The important part in this empirical observation is the effect of a change in marginal tax revenues. Marginal tax rates are central to the effects postulated by

Supply-side economists. According to this theory, a reduction in marginal tax rates increases the incentive to work and save more by increasing the disposable income. This causes people to shift away from leisure and toward more productive work, enlarging the effective resource base and improving the efficiency with which it is utilized. The empirical evidence in the study indicate that supply-side effects can be quite important in directing the growth of an economy.

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