Comment by AnthonyMouse
15 days ago
> The reason is simply that if every time you increase taxes and notice revenue goes down, you will naturally reverse it.
That isn't necessarily how it works.
Suppose you increase taxes and revenue goes up by 5%, but growth goes down. Now in ten years your economy has grown by 2.5%/year instead of 3.5%/year or more, so your tax base is >10% lower than it would have been in the alternative but at no point is is less than it was the year before.
That can just be a simple extension of my argument. Instead of using at the immediate revenue you apply the optimisation rule for the long term revenue by using the difference in observed GDP growth.
How do you measure the difference in observed GDP growth against a hypothetical alternative that wasn't adopted?
Notice also that the result will be confounded by the factors that affect government policy choices. If the economy starts to do better, politicians who want to spend money will see their chance because normally raising taxes triggers loss aversion in the population but the population is more likely to tolerate it if the economy is improving.
So you have a situation where GDP growth had been at 2%, politicians observe the start of an economic boom and use it as an excuse to raise taxes, and then the measured growth rate is 2.5%. Does that mean higher taxes didn't lower the growth rate, or is it that in the alternative it would have been 3.5%?
Indeed. You can use a scenario analysis to check hypothetical cases and discuss with your team what optimal tax rates could be.
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