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Tax Aversion, Deficits and the Tax Rate-Tax Revenue Relationship

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  • Roger N. Waud

Abstract

This paper offers a possible explanation for the existence of continual government budget deficits such as experienced in a number of industrialized countries in recent years. Based on the assumption that higher tax rates cause more intensive tax-aversion behavior (tax avoidance and tax evasion), together with the assumption that the time horizon relevant for political decision makers is shorter than that required for complete private sector response to tax rate change, our analysis suggests why there seems to be an inherent bias toward budget deficits. Because of tax aversion an inverse relationship between tax rates and tax revenues may exist at low levels of the tax rate. Consequently determined attempts to eliminate or reduce deficits can become self-defeating, almost certainly so when there is a structural deficit. Our analysis suggests that if an economy is on the downward sloping portion of a stylized Laffer curve political expedience, uncertainty about the shape of the curve, and a common wisdom that tax rate increases reduce deficits can all conspire to keep the budget trapped in deficit. Finally, in the presence of inflation deficit growth may be less if there is indexation of income tax rates to inflation, contrary to conventional wisdom.

Suggested Citation

  • Roger N. Waud, 1985. "Tax Aversion, Deficits and the Tax Rate-Tax Revenue Relationship," NBER Working Papers 1533, National Bureau of Economic Research, Inc.
  • Handle: RePEc:nbr:nberwo:1533
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    1. Isachsen, Arne Jon & Strom, Steinar, 1980. " The Hidden Economy: The Labor Market and Tax Evasion," Scandinavian Journal of Economics, Wiley Blackwell, vol. 82(2), pages 304-311.
    2. Christiansen, Vidar, 1980. "Two comments on tax evasion," Journal of Public Economics, Elsevier, vol. 13(3), pages 389-393, June.
    3. Barro, Robert J & Sahasakul, Chaipat, 1983. "Measuring the Average Marginal Tax Rate from the Individual Income Tax," The Journal of Business, University of Chicago Press, vol. 56(4), pages 419-452, October.
    4. Cowell, F A, 1981. "Taxation and Labour Supply with Risky Activities," Economica, London School of Economics and Political Science, vol. 48(192), pages 365-379, November.
    5. Buchanan, James M & Lee, Dwight R, 1982. "Politics, Time, and the Laffer Curve," Journal of Political Economy, University of Chicago Press, vol. 90(4), pages 816-819, August.
    6. McCaleb, Thomas S, 1976. "Tax Evasion and the Differential Taxation of Labor and Capital Income," Public Finance = Finances publiques, , vol. 31(2), pages 287-294.
    7. James Tobin, 1981. "The Reagan economic plan--supply-side, budget and inflation," Economic Review, Federal Reserve Bank of San Francisco, issue Fall supp.
    8. Weiss, Laurence, 1976. "The Desirability of Cheating Incentives and Randomness in the Optimal Income Tax," Journal of Political Economy, University of Chicago Press, vol. 84(6), pages 1343-1352, December.
    9. Cross, Rodney & Shaw, G K, 1982. "On the Economics of Tax Aversion," Public Finance = Finances publiques, , vol. 37(1), pages 36-47.
    10. Pencavel, John H., 1979. "A note on income tax evasion, labor supply, and nonlinear tax schedules," Journal of Public Economics, Elsevier, vol. 12(1), pages 115-124, August.
    11. Christiansen, Vidar, 1980. "Two Comments on Tax Evasion," Empirical Economics, Springer, vol. 13(3), pages 389-393, June.
    12. Clotfelter, Charles T, 1983. "Tax Evasion and Tax Rates: An Analysis of Individual Returns," The Review of Economics and Statistics, MIT Press, vol. 65(3), pages 363-373, August.
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    Cited by:

    1. Alan Reynolds, 1985. "Some International Comparisons of Supply-Side Tax Policy," Cato Journal, Cato Journal, Cato Institute, vol. 5(2), pages 543-569, Fall.
    2. Soldatos, Gerasimos T., 2015. "Tax Aversion, Laffer Curve, and the Self-financing of Tax Cuts," MPRA Paper 62470, University Library of Munich, Germany.
    3. Roger Waud, 1985. "Politics, deficits, and the Laffer curve," Public Choice, Springer, vol. 47(3), pages 509-517, January.

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