Laffer Curve

The Laffer Curve is one of the main theoretical constructs of supply-side economics, and is often used as a shorthand to sum up the entire pro-growth world view of supply-side economics.  However, the Laffer Curve itself simply illustrates the tradeoff between tax rates and the total tax revenues actually collected by the government.

If the revenue point is on the left-hand side of the parabola then a decreased tax rate will result in decreased revenue.  However if the revenue point is on the right-hand side of the parabola then a decreased tax rate will increase revenue.

Conversely, if the revenue point is on the left-hand side of the parabola then an increased tax rate will result in increased revenue.  However if the revenue point is on the right-hand side of the parabola then an increased tax rate will decrease revenue. 

Changes to the tax rate can affect taxpayer behaviour with ranges of tax rates giving more or less incentive to work or more or less reason to find ways to avoid paying tax.

A recent practical example of the Laffer Curve in action can be seen in the case of Gerard Depardieu's decision to renounce his French citizenship and become a Russian citizen after France increased the high earner income tax rate to 75% of income.

In this case the French government attempted to increase revenue by increasing the tax rate but instead encouraged taxpayer behaviour to avoid contributing to this increased revenue with Depardieu reducing his contribution to zero by leaving the tax zone. The French government therefore ends up with less revenue after raising the tax rate (in this particular example anyway).