Abstract:
Recent financial crisis required governments all over the world to take immediate and effective measures to provide their economies with fiscal stimulus. Most countries decided to follow the traditional Keynesian recipe and so increased government spending in order to boost the aggregate demand. But the resulted budget deficit should be covered by tax rate increases. This is the point where the Laffer curve comes. So the question is, are those countries capable of raising extra tax revenue through increasing tax rates in order to provide more government spending or they have already reached the peak of the respective Laffer curves and have to look for alternative measures. We estimate Laffer curve for the US for the income tax during the period from 1939 to 2009. This paper takes advantage of recently provided econometric methods (Smooth Transition Regression) which allows to estimate nonlinear relationship between macroeconomic variables and determine the threshold endogenously. We find that one-time increase in income tax rate by four p.p. leads to the fall in tax revenue.
