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Tax Cuts and the Economy

Tax can be referred to as a fee that the government levies on activities, products or even incomes. It can either be levied directly on corporate as well as personal incomes or be indirectly levied on services offered or price of goods sold, with the incentive of financing of the government expenditure. Its importance extends to financing of public services and goods. Tax cuts can lead to the revival of economy.

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When the tax cuts are permanently extended, the capital stock will significantly increase by approximately 2.3% in the long-term. This is according to the treasury analysis, which will also consequently lead to the gross national product of approximately 0.7%. The GNP expansion (with 2/3 of it occurring within a decade) signifies that the nation could have extra income annually for spending on the consumer goods so that the living standard is boosted or utilized on the capital goods for maintenance of prosperity.

A reduction in taxes could also mean that the return value for investments will be higher due to reduced taxes on dividends as well as capital gains. Even though the tax cuts might be less than 20% in the loss in static revenue which results from permanent tax relief, they eventually result in the long- term growth increase by almost three quarters.

Tax cut in the portfolio investment entities as well as bank interest also encourages savings which in return ensures not only financial security but also economic growth and reduced borrowing. It also leads to over-investing in houses and consumption of goods and services.There is also an increases investments and exports resulting in economic recovery. Lower marginal tax rates lead to increase in entrepreneurial activities since risk taking is involved in entrepreneurship, hence entrepreneurs are not willing to accept risks if their reward will be taxed away. An example is when America increased its taxes in 1993 and realized that the probability of individuals being self-employed was lower by 20% (Case, 2007).

Tax cuts have also the influence of reducing labour cost, hence since labour complements capital, this would lead to growth in capital good demand, which implies that tax cut stimulates demand by boosting disposable income as well as consumption spending. It also boosts the incentives for much investment spending. Apart from m reducing the labour cost, tax cut also results in more working time due to the high responsiveness of the high income earners to top tax rates, which also encourages them to develop counterproductive behaviours and decrease revenue to the government. These characteristics also extend to other workers hence implying that the higher the tax, the lower the working hours resulting in almost stagnant economic recovery process. It also retains as well as attracts skilled labour that is likely to seek for employment overseas and causes brain drain crucial to the economic recovery (Brownlee, 2006).

Free trade and free capital movement is in most cases has been linked with economic growth. It therefore follows that if the tax barriers affecting trade are reduced or done away with, there is bound to be a good number of economic advantages which is experienced by international economy as a result of lowering of tariff barriers. Tax cut is also effective in ensuring equivalent distribution of tax burden which helps in increasing the disposable income of individuals as well as decreasing the chances of tax manipulation by wealthy individuals.

Even though tax cut draws a lot of arguments for and against it, tax cut could be really influential in the recovery process of the economy considering that the world recession has drastically affected all the sectors in the economy.

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  1. Brownlee, E. (2006). Fiscal policy in the Reagan administration. In Kopcke, E. The macroeconomics of fiscal policy. Cambridge: MA: MIT Press.
  2. Case, K. E. & Fair, R. C. (2007). Principles of Economics (8th ed.)Upper Saddle Rive, New Jersey: Prentice Hall.

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StudyCorgi. (2021) 'Tax Cuts and the Economy'. 11 December.

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