Simple Curves Explained For Simple People

Robert Sturgeon has a helpful site for the confused amongst us.

Some of you may share the mistaken belief that the Laffer Curve, named for
Dr. Arthur Laffer, was tested and found wanting during the Reagan
Administration. Nothing could be farther from the truth.

So Sturgeon is a Reagan apologist. That ought to make him acceptable to the Maximum Leader. Now, I'd argue for the fact that Reagan's economic growth was fueled by the multiplier affect of massive government spending, but outside factors don't figure in to the Laffer Curve. Rather than defending the Laffer Curve theory, I would argue that the Reagan years are inconclusive - or even supportive of the Keynesian model (god forbid!)

There are two possible causes for your error. The first is that you may simply
not know what the Laffer Curve is. This, combined with a natural tendency to
agree with the "conventional wisdom," may lead you to just mindlessly nod your
head in agreement every time you hear some T.V. network reporter blithely
dismiss the "discredited Laffer Curve."
The second possible cause for your
error may be that you do not understand what results the Laffer Curve promises.
This is really a part of the greater problem mentioned above, so let us begin
there.

Bold by Smallholder. Which is it Mike? Is ya ign'nt or is ya ign'nt?

For us to gain a rudimentary understanding of the ideas incorporated into
the Laffer Curve, we must understand a tiny bit about economics. Economics is
really just basic human psychology as applied to money and business affairs. We
assume that people will react to the realities of the world of money and
business more or less like they react to any other set of stimuli. They tend to
act in their own and their family and friends' best interests, as they see them.
The Laffer Curve results from our assumptions about how people will react to
varying rates of income taxation.

On this we can all agree. Is everybody still with us? Excellent. Let's go on:

Now we must put our understanding of human nature to work. We must ask
ourselves two questions, the answer to the first being obvious, and the answer
to the second being not so obvious, but just as certain. The first question is,
"If the income tax rate is zero %, how much income tax revenue will be raised?"
The answer is, of course, "None."

Now, here is where it gets a bit tougher.

The second question is, "If the income tax rate is 100%, how much income tax
revenue will be raised?" To answer this question, we must place ourselves in the
position of an income earner who faces a tax rate of 100% on every extra dollar
he earns. Will he have any reason whatsoever to earn any more money? The answer
is, "No, he won't." He will refrain from any activities likely to result in
taxable income. So the income tax revenue from a 100% income tax will be zero,
or nearly zero. There will always be a few suckers who go ahead and earn some
money, only to have it taxed away. But the number of people willing to do so
must be exceedingly small. For all practical purposes, the number is zero.
Okay, now we get to the nub of the "infamous" Laffer Curve. We must
take the ideas discussed above and reach some conclusions. The reasoning goes
like this: If a zero % income tax rate brings in zero revenue, and if a 100%
income tax rate brings in zero revenue, the tax rate which will bring in the
most revenue must be somewhere between zero % and 100%. It necessarily follows
that in a given economy, there is some optimal income tax rate which will bring
in the most revenue possible. In that economy, a lower than optimal rate will
bring less revenue, and a higher than optimal rate also will bring in less
revenue. Are we all still together here? Did you get that? If not, go back and
do it again. Keep doing it until you get it.

Dang! Even Sturgeon is mocking the Maximum Leader!

Okay, that is all the Laffer Curve claims. Let's all say this together, "In
any given economy, it is possible that the income tax rates are already too
high, and if the authorities wish to bring in more income tax revenue, they must
lower the tax rates." Do we all understand that? Even the Democrats amongst
us?

That bit must be for Rob. Actually, I agree with this. Tax rates CAN be too high. Where I and the Maximum Leader part company is on whether they actually are too high.

The Laffer Curve does not claim that lowering income tax rates will
always bring in more revenue. It only claims that a lower income tax rate may
bring in more revenue. If the tax rates are already very low, lowering
the rates may not bring in more revenue. But if the rates are too high,
lowering the rates will bring in more revenue.

Pretty simple. Scroll down a couple of posts and check out the numbers. They show pretty clearly that we were on the left side of the curve.

The problem people tend to have regarding the Laffer Curve is that they
confuse economics with their political considerations. Many people have
political reasons to desire high income tax rates on the earnings of the rich.
They wish to prevent the rich from earning more money, even if the resulting tax
revenue is smaller than it would otherwise be, and the economy less productive
than it would otherwise be. These people do not believe that the income tax on
the rich can ever be "too high." They are willing to deprive the government of
revenue and deprive the economy of the productivity of the rich, all for the
sake of their politics. There really is no arguing this point, as it is merely
the outward manifestation of envy.
The Laffer Curve does not address
questions of envy and redistributionist politics. It only addresses the question
of how to have the healthiest economy producing the highest income tax revenue.

The Laffer Curve does not claim to know exactly what tax rate is the
"right" tax rate. In fact, the only way to know if the current tax rates
are too high is to lower them, and see whether revenues increase or not. If the
revenues increase, the rates were too high. If the revenues decrease, the rates
were too low. Of course, it would be equally valid to run the experiment the
other way around: raise the tax rates and observe the results. The
choice is the politicians' to make, based upon whether the current rates "seem"
to be high or low. In 1981, the rates seemed rather high. The Laffer Curve
experiment showed that the rates were, indeed, too high.
Now, let us
consider whether the Laffer Curve "failed" to deliver on its promises during the
Reagan administration. Remember, the Laffer Curve does not promise to balance
the budget. The Laffer Curve does not promise to solve social problems. The
Laffer Curve does not promise to force elected representatives to propose and
enact lower spending programs. The Laffer Curve only promises that, if the tax
rates are too high and they get lowered, revenues will increase. Income taxes
were lowered (and "flattened") during the Reagan administration. Income tax
revenues increased. In fact, they increased a great deal. Unfortunately, neither
the Republican Reagan administration nor the Democrat-controlled Congress were
interested in lowering the rate of growth in federal spending. While the income
tax revenues increased substantially, federal spending increased even more. The
result was that the federal government ran up a staggering national debt. But
please, let's not blame it on the Laffer Curve!

So let's review. Bush raised taxes and the revenue went down. Left side of the Laffer curve. Smallholder is right.

Clinton raised taxes. Revenue went up. Left side of the Laffer curve. Smallholder is right.

Only a tap-dancing Fred Astaire could continue to deny this.