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25/05/2022
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The controversial debate over taxes and debt

The strategy of adjusting taxes to an optimal level has been demonstrated in Economics and it is called the "Laffer Curve". The Economist who developed it studied the antecedents that confirmed this theory from cases so far back as the fourteenth century. The Laffer Curve says that there is no tax revenue collection at the two extreme tax rates of 0% and 100%. However, there is one optimal tax rate between both these extremes that maximizes tax revenue collection. Therefore, any tax rate above the top of this curve results in less revenue collection.

This truth is more acute and decisive when a country like the United States had a much higher corporate tax than other industrialized countries, leading to a flight of capital and companies. By reducing this tax to 25%, the United States became a highly competitive base for those companies, which began to come back in droves.

Laffer curveLaffer curve

Following the Laffer curve strategy indirectly affects the increase or decrease of the national debt and the foreign debt. Therefore, we also have the Debt-Laffer curve illustrating another related theory on how the pursuit of higher economic growth at the cost of runaway debt growth ends up producing an economic meltdown. The graph represents the growth-maximizing debt-to-GDP ratio or the turning point of external debt. This turning point of debt is also known as debt inflection point or debt tipping point.

The Debt-Laffer curveThe Debt-Laffer curve

Reaganomics applied these two related theories elaborating a strategy that: 1. reduce the growth of government spending; 2. reduce the federal income tax and capital gains tax; 3. reduce government regulation; and, 4. tighten the money supply in order to reduce inflation.

I am not trying to prove here that further reductions in tax rates will always benefit the economy or increase tax revenue nor is always advisable to reduce the budget. These theories suggest that there is an optimal level for taxes and that a controlled increase in debt may be necessary to stimulate growth in a stagnant economy, but taking care not to go beyond the repayment capacity.

Nothing more! The point is not to exceed these parameters to the point of leading to disaster.