Tax cut is the cut down of taxes by the government. Generally, what tax cut does to the government immediately is to reduce its real income while on the other hand it increases the real income of the tax-payers. However, in the long term the effect may be reversed on government income side, depending on how tax-payers respond on the tax cut. Reduction of taxes in U.S. has given corporations and individuals investment incentives which on return have stimulated much economic activities, where by much revenue have been collected at even lower rate.
The Democratic Party members in United States proposed a tax reduction hoping that this will stimulate investment and spending and further leading to recovery of the lost tax revenue (Stuart, 2007, 11).
Despite the above, the macroeconomic effects in the American economy in long run resulting from tax cut may not be predicted, as this will depend on how taxpayers in U.S. are willing to use their additional income and way the government tunes to its reduced income.
This argument can be based on the following three hypotheses:
a) If the U.S. government reduces its spending, and taxpayers increase their expenditure by using the money on goods and services produced from within the country, this will brings a neutral macroeconomic effect but has an improvement on the economic welfare.
b) If the U.S. government keeps it’s spending thus incurring a debt, and taxpayers increase their expenditure by using money on goods and services produced within the country, this kind of combination may cause a stimulus to its economy. If this is managed well, it may result to the growth of the economy and greater general prosperity. Otherwise, it may lead to inflation. The American government incurring a debt due to tax cut will basically be anticipating that there will be an increase in tax revenue emerging from the economic stimulus of the reduced tax. This will give room for settling the debt. If this does not happen, the government may end up having serious budgetary crisis. During the period between 1980 to 1990 president Ronald Reagan in his rule regime signed tax cuts into law. This actually stimulated doubling in the amount of the revenue that was collected in that period. Despite this, the national debt in U.S economy tripled. This was not probably due to tax cut but as a result of increased government spending during the tenure of Ronald Reagan.
c) If the American government keeps its spending resulting to a debt on government side and taxpayers saves their extra income or use it on goods and services produced from outside the country, this kind of combination may inherently not cause deflation. It however leads to balance of payment problems which cause secondary deflationary effects in U.S. economy and may lead to government having budgetary crisis.
In practice, there is the likelihood that a combination of these effects will occur in Americans’ economy. The net effect as a result of tax cut will therefore depend on balance between them. In situations where most of the commodities consumed in America are the consumer durable commodities and are produced within the country, a reduction in tax is more likely to give a macroeconomic stimulus than the situations in which many consumer durables are bought from outside the United States of America.
Where the American government cuts down its spending to cope up with the reduction in taxes, there must be a reduction in services offered by the government and also a reduction in the ability of government to redistribute the income. This enables to deal with the problem of income inequality. Critically, tax cut in U.S. economy may lead to an overall collapse of the economic welfare due to the effect that its implication falls un-proportionately on low income consumers. Though the U.S. president George W. Bush has been praised for his significant federal tax cut, he has been criticized for cutting tax to the rich (Stuart, 2007, 16).
Tax cut in United Sates of America has aroused much discussion concerning the optimum capital gains tax rate. Some advocates has called for cutting down taxes to a lower rates believing that this will give an incentive to investors to buy new stock and sell the old one. The supply side will be of beneficial in that it will reduce unemployment and therefore creating new jobs and paradoxically the increase in revenues from tax becomes more. This idea was first proposed by Arthur Laffer, an economist who used to advise U.S president Ronald Reagan. It has been said that the effect of the capital gain tax is felt more by the ‘have-nots’ than the ‘haves’ as the capital gain tax when made low creates investment avenues which in turn gives opportunity to those who have money towards investment and consequently employing the poor.
In recent past in America under the George W. Bush regime, there have been many proposals as to why there should be fair tax relief. Tax cut down in U.S. has been seen to be positively encouraging those attribute that make the American economy. Such attributes includes the spirit of entrepreneurship, the family, equal opportunities, and the middle class. President Bush’s tax reduction thus has been aimed at improving U.S. economy by placing more money in the hands of entrepreneurs and consumers. The more the money the consumers have, the more they save and later use this money for investment. On the other hand, the more money left to the entrepreneurs, it opens other new avenues for investment (Stuart, 2007, 23).
Stuart Paul. Robin Einhorn, American Taxation, American Slavery. Journal of Sociology and Social Welfare, Vol.34, 2007, pp.11, 16, 23
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