The diagram shows the relationship between the tax rate and total tax revenue collected by a government. At which point would a further increase in the tax ...
Question 1 Report
The diagram shows the relationship between the tax rate and total tax revenue collected by a government. At which point would a further increase in the tax rate reduce total tax revenue?
Answer Details
The correct answer is beyond the revenue-maximising tax rate.
The Laffer curve shows that as the tax rate increases from zero, total tax revenue initially rises. However, beyond a certain point (the revenue-maximising rate), further increases in the tax rate cause total revenue to fall. This happens because very high tax rates discourage work, investment, and enterprise, shrinking the tax base by more than the higher rate gains.
The specific percentage at which revenue is maximised varies by economy and is not fixed at 25% or 50%. At a 0% tax rate, no revenue is collected at all, so a further increase from zero would raise revenue, not reduce it.
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