Unit 5 Notes - April 13th, 2016

Supply Side Economics (Reaganomics)

·         Shows changes in AS not AD which determines the level of inflation unemployment rates and economic growth.

·         Supply side economists support policies that promote GDP growth by arguing that high marginal tax rates along with the current system of transfer payments such as unemployment compensation or welfare programs provide disincentives to work, invest, innovate, and undertake entrepreneurial ventures.

·         Low marginal tax rates induce more work thus AS increases.

·         Lower marginal tax rates also make leisure more expensive and work more attractive.

Incentives to Save and Invest

·         High marginal tax rates reduce the rewards for savings and investment.

·         Consumption might increase, but investments depend upon savings.

·         Lower marginal tax rates encourage saving and investing.

Laffer Curve: A theoretical relationship between tax rates and government revenue. As tax rates increase from 0, tax revenues increase from 0 to some maximum level and then decline.

Criticisms of the Laffer Curve

·         Research suggests that the impact of the tax rates on incentives to work, save, and invest are small.

·         Tax cuts also increase demand which can fuel inflation and demand may exceed supply.

·         Where the economy is actually located on the curve is difficult to determine.