Compendium: Supply-Side versus Demand-Side Economics and the Laffer Curve

It has often been claimed that a lower Taxation Rate can yield economic growth. The claim perpetuates like an Internet Meme over the past few decades due to the prevalence of “Supply-Side Economics.” As a macroeconomic theory from Liberal Capitalism, Supply-Side Economics has touted that lower taxes, fewer regulations and Free Trade are all contributing factors of economic growth. Through a combination of the three, there would be increased production of goods and services and allow them to be priced cheaper as an Incentive in itself. The concept gained immense popularity as a stopgap measure to offset the negative effects of Stagflation after the death of Bretton Woods.  

The core economic metric employed in Supply-Side Economics is the “Laffer Curve” conceptualized by American economist Arthur Betz Laffer. Laffer created it to illustrate a Keynesian analysis demonstrating a relationship between governmental taxation and revenues. In it, there is a certain point between 0% and 100% where any tax rate increases government revenues before plateauing and declining as it reaches 100%. The general idea is to treat Taxation itself as constituting its own Incentive according to Supply and Demand. Manipulation of the Taxation Rate may increase or decrease governmental revenues, depending on whether the tax policy in question knows where to find the “Optimal Tax Rate.”

Laffer has maintained that this is not an original concept. In addition to John Maynard Keynes’ “Trickle-Up Effect” of a prospering, well-to-do middle class, he had cited Adam Smith and David Hume as influences. Other influences of the Laffer Curve included Ibn Khaldun, the 14th century Islamic philosopher, and the Federalist Party’s Alexander Hamilton. This is interesting because of Ibn Khaldun being an influence on Niccolò Machiavelli and Georg Wilhelm Friedrich Hegel, the latter of whom is integral to understanding Socialism’s philosophical origins.

Laffer described Khaldun as being one of the Laffer Curve’s influences when he wrote the following passage in The Laffer Curve: Past, Present, and Future for the Hayekian Heritage Foundation in 2004:

“The Laffer Curve, by the way, was not invented by me. Ibn Khaldun, a 14th-century philosopher, wrote in his work The Muqaddimah: ‘It should be known that at the beginning of the dynasty, taxation yields a large revenue from small assessments. At the end of the dynasty, taxation yields a small revenue from large assessments.’

A more recent version (of incredible clarity) was written by John Maynard Keynes:

‘When, on the contrary, I show, a little elaborately, as in the ensuing chapter, that to create wealth will increase the national income and that a large proportion of any increase in the national income will accrue to an Exchequer, amongst whose largest outgoings is the payment of incomes to those who are unemployed and whose receipts are a proportion of the incomes of those who are occupied…

Nor should the argument seem strange that taxation may be so high as to defeat its object, and that, given sufficient time to gather the fruits, a reduction of taxation will run a better chance than an increase of balancing the budget. For to take the opposite view today is to resemble a manufacturer who, running at a loss, decides to raise his price, and when his declining sales increase the loss, wrapping himself in the rectitude of plain arithmetic, decides that prudence requires him to raise the price still more–and who, when at last his account is balanced with nought on both sides, is still found righteously declaring that it would have been the act of a gambler to reduce the price when you were already making a loss.’

As for the significance of Hamiltonianism in regards to Supply-Side Economics, that has to do with the seven Federalist Papers that Hamilton authored on the topic of Taxation by the Federal government and its intended purposes as one of the economic powers wielded by the American Congress. In essence, the Federal government will always be the power in the American Union that controls taxation and income distribution, including those intended for wartime purposes.   

Despite the seemingly broad influences, the Laffer Curve is about as flawed as a Soviet-style Material Products System (MPS) for accounting. Since there is no real way to determine precisely where the Optimal Tax Rate is, most practical applications have been rough estimates. The statistical mid-range is said to be at around 70% and that is only a hypothetical estimate. That has enabled American Liberal Capitalists to insist on lower than annual average tax rates, which is one of the flaws behind the Laffer Curve relying on approximate estimations.

There is another problem with the Laffer Curve that is relevant to its connections to Hamiltonianism and Hegelian philosophy. For Hegelian philosophy, its manipulation of tax rates is too one-sided and loses sight of a dialectical framework. Put another way, any tax cutting is only going to benefit one half of the dialectic to the detriment of another half whose existence has never been acknowledged. This is where the issues of Kapital being concentrated in the upper class and is allowed to create a “Trickle-Down Effect” without a coinciding “Trickle-Up Effect.” For Hamiltonian-style Federal Socialism, it sets the precedent that hinders the capacity of the Federal government to act decisively, causing some States to become more well-off to the detriment of the rest of the Union as a Totality. Even more troubling is how the Laffer Curve violates one of the basic economic principle of “ceteris paribus” (‘all things being equal’). Its violations become even more egregious whenever the question of Income Tax arises.

A point of contention exists among New Keynesian economists over whether Supply-Side Economics is meant to be complemented by a concurring Demand-Side Economics or not. The fact that such discussion has occurred is suggestive of the presence of Hegelian dialectics being employed to begin with. Demand-Side Economics is the opposite of Supply-Side Economics, relying more on a fixed-price interpretation of Keynesianism where the Demand-Side is integral to ensuring the greater productivity and growth espoused by the Supply-Side. Its implementation would entail a reversal of the effects of the Trickle-Down Effect by means of a Trickle-Up Effect, where the middle class benefits and the lower class is allowed to enlarge the size of the former by shrinking the upper class. Of course, the arguments of both Supply-Side and Demand-Side Economics are two halves of the same Incentive, the same Supply and Demand. The only difference it has in comparison to Command and Obedience is the absence of a genuine Intent. In fact, apart from the need to find a stopgap to resolve the effects of Stagflation, there really never was an Intent to begin with.     

Categories: Compendium, Economic History, Philosophy, Politics

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