Reaganomics: …the Laffer curve (ii)

The Laffer Curve, a graphical device used by economist Arthur Laffer to explain the idea that economic growth can be stunted by raising tax rates too high, and hence simulated by lowering them from this position.

There is something to this.

I remember being startled to find that in the UK, pre-Margaret Thatcher, the highest personal income bracket was 83%. The highest corporate rate at the time was 40%. So companies routinely compensated executives through vehicles like personal clothing tax shelters rather than pay raises. The clothing scheme worked like this: instead of paying $10,000 to the executive, who would net $1,700 after tax, the company would send him (it was almost always a him in those days) to a fancy tailor who would make $10,000 in bespoke clothing for him. The company would pay and retain ownership of the clothes, getting a $4,000 tax deduction for doing this. It would then rent them for a nominal sum to the executive, who would have had to pay close to $60,000 to be as well-off, clothing wise.

So the government took in less money and the company spent valuable time cooking up tax avoidance schemes rather than making stuff.

Then, there’s the more obvious stuff–like the existence of Switzerland, the Cayman Islands, the Channel Islands, Ireland… where facilitating tax avoidance is a big business.

It seems to me there are two plusses to the Laffer Curve theory: it can be explained with a cocktail napkin drawing and it has a veneer of respectability, given Arthur Laffer’s academic career and his former ties to the University of Chicago. It also gives cover to politicians eager to cut taxes for big donors.

On the other hand, there don’t seem to be many professional economists, other than Mr. Laffer, who think current tax rates in the US are anywhere near the inflection point where lowering them would increase revenues. On the contrary, the predominant belief is that raising them from today’s level for the wealthy would bring in more money.

A more important indictment of the Laffer curve, I think, is the parlous state of national infrastructure– roads, bridges, water, electricity …and, of course, public schools. Another major consequence is the worst-in-the-world performance of the US in aiding workers left unemployed by technological change to retrain and find new, productive employment.

If this deterioration is in fact happening, why hasn’t there been a greater negative impact on the domestic stock market, especially given the Trump-driven acceleration of political instability over the past half-decade? I think that if Deng were still (alive and) in charge in China, there would already have been a mass flight of capital out of the US. But Xi appears to be a 21st-century version of Mao. Japan hasn’t had economic growth for thirty-plus years. The UK is crazy. The EU is directly affected by the war in Ukraine, and still dreaming of its 19the century glory days. Latin American and Africa are Wild West-like frontier places. Australia is small, quirky and the original breeding ground for Murdoch hate politics. Canada?

Anyway, my point: saved by Xi, the US is the best of a bad lot.

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