Tax_Cuts

A tax cut is one of the tools of expansionary fiscal policy and it is meant to stimulate the economy during the period of recession or a business-cycle contraction by changing aggregate expenditures and shifting the aggregate demand curve with a rightward shift of the aggregate demand curve. [pic] The graph above shows how due to expansionary policy of tax cut and refunds will shift the AD curve to AD’ and the new long run equilibrium is reached with the intersection of AD’, SRAS and LRAS at higher level of price and real GDP. This shift in aggregate demand is due to the increase of money in the hands of public and businessman which may use it has consumption spending and investment spending to increase the aggregate demand and real GDP. But actually after going through several articles written on and discussed about the tax cut I found that the tax cut of bush administration has mix effect compare to the result which is generally expected and written in theories of economics. somewhere it is said that the tax cut which is very obvious increased the federal budget and has failed to boost the business investment, increase in jobs, wages etc. some authors argue that based on the idea of Laffer curve, the tax rate cut has increased government revenue and rich has paid more tax in dollars when tax rate is cut. In one of his article Mr. John Irons (Director of Tax and Budget Policy at the Center for American Progress) argued that tax cut policy is a failure, he says that this policy was only meant for rich and wealthy businessman and not for the common average consumers. It is said that business investment has grown very slowly during bush period since last 60 years. According to him if the policy is targeted towards increasing the income of common consumers whose increased demand and consumption for products would have increased the business investment. With the help of above discussion I can say that tax cut on economic activity will have mix effect and it depends on few conditions on how the increased income is used by the businesses and consumers. If like our economic theories suggests that increase in more disposable income in the hands of public will increase consumption and investment off course when there is no leakages in the economy, this will have full positive effect on economic activity. On the other hand if the increase in income in the hands of consumers leads to more saving and expenditure on foreign products (imports), then the effect of tax cut will not have expected results. I would suggest that there is no policy which works in isolation we have to use both the tools of fiscal policy at times of recession (tax cut and government spending) to have the desired effect on economy. The increased government spending is required to invest in those areas where private businesses cannot like defense, education and infrastructure, whereas the tax cut will promote private businesses to invest on consumers and capital goods where ever they see profits. Increase in government spending leads to overall welfare of the society with removing income inequality through redistribution of income. REFERENCE Irons, john S (2006-02-16) ‘Bush's Tax and Budget Policies Fail to Promote Economic Growth” American progress http://www.americanprogress.org/issues/2006/02/b1425171.html retrieved on 2011-02-02 Riedl, Brian (2007-01-29). "Ten Myths About the Bush Tax Cuts". Heritage Foundation. http://www.heritage.org/Research/Taxes/bg2001.cfm. Retrieved 2011-02-02. LaFaive, Michael (1997-11-01). "Tax Cuts vs. Government Revenue". Mackinac Center for Public Policy. http://www.mackinac.org/article.aspx'ID=676 Retrieved 2011-02-02.