There is a general perception that tax cut is a revolutionary solution to economic woes of a country. Economic activists are always pushing and calling on governments to trim down taxes on finished commodities, raw materials and even the products which are still in production. The issues which economists often think and argue are effects of tax cuts and its ultimate effects on the economy. This article seeks to demystify the tax cut misconceptions in relation to its effects on economy.
How tax cuts can help to revive the economy
In order to amicably evaluate the impacts of tax, it is important to have a broader overview. Focus must be on both the gains and losses associated with tax rates modification. The most likely positive impact of tax cut is a decline in marginal tax rates. A fall in the rate at which products are taxed leads to a shrink in national savings. Therefore, a tax cut is not necessarily beneficial to an economy. The end effect of tax cut is therefore a collective summation of these two extremes.
In the short term, the government’s revenue is lessened by a tax cut. Over time, the government loses may be mitigated by the taxpayers depending on how they respond to a reduction in tax rates. Reducing tax rates is a one of the tools used in formulation and execution of a fiscal policy. In an attempt to control the quantity of money in circulation, central monetary institutions usually decide on the nature and volume of taxes charged on personal income. A reduction in tax rates means that there will be excess money in the hands of tax payers. If monies are invested wisely, the government will have more taxable income in future which further leads to a betterment of its economic base (Darren 2009).
From a taxpayers’ point of view, productivity, as a core aspect of economic growth, is likely to increase. Adjustments in the taxation rates are equally motivational just like pay rises. Changes in the tax rates will, in the long run, affect the amount of income taken home by laborers. It is this income which actually makes sense to people. It is a part of the income ready for expenditure. An increase in disposable income as a result of reduction in marginal tax rate makes individual hourly efforts more profitable. Employees who are keen about their incomes are highly motivated by any move to increase what they take home at the end of their laboring. Conversely, higher tax rates will discourage workers by reducing their levels of motivations.
Generally, individuals can increase their productivity if the prevailing situations are likely to increase their wealth. A tax policy will therefore need to avail these much needed incentives. Tax cuts will result in an overall economic growth through its restoration of natural incentives of production. Increased production has direct role in raising the Gross Domestic Product which is a measure of economy. A tax cut will not in itself increase demand. Nevertheless, it does so indirectly through the creation of income and wealth which will in turn raise the purchasing power (Toomey and Soloveichik 2009).
Continuous taxation forces people to a higher tax bracket when an economy is doing well. Personal taxes tend to go up while government debts reduce. During recession, a discretionary fiscal policy is applied to reverse this situation. The key players in an economy will respond differently. While the government takes up more debts to meet its budgetary obligations, tax payers on the other side are relieved of their tax obligations. This is an incentive in reversing economic meltdown and reinstating a nation back to good economic health.
Darren, N. (2009). Can Tax Cuts Help Improve The American Economy? 2009.
Toomey, P. J. & Soloveichik, N. (2009). The Road to Prosperity; How to Grow Our Economy And Revive the American Dream. New Jersey: John Wiley & Sons, Inc.