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Taxation in Economics

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Taxation in Finance and Accounting

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Abstract

Taxation has a significant impact on Economics. On the one hand, taxation impacts on microeconomics (especially in the areas of demand and supply, labor supply, and microeconomic efficiency). On the other hand, taxation also impacts on macroeconomics, mainly in the following areas: public finance (deficit, public debt, and revenues), inequality, externalities, changes in the IS-LM model, and the issue of tax effort. This chapter provides an overview of the impact of taxes on such topics.

This chapter only intends to describe the issue of taxes in Economics (Macroeconomics and Microeconomics). Readers who are not familiar with these topics themselves should read such literature as Samuelson and Nordhaus (2018) for both of them, or Blanchard et al. (2017) and Pindyck and Rubinfeld (2018) for Macroeconomics, and Frank and Cartwright (2010) and Acemoglu et al. (2021) for Microeconomics, among others.

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Notes

  1. 1.

    Note that a doubling of the tax rate more than doubles the deadweight loss.

  2. 2.

    Another concept is the “Tax buoyancy,” which is the relationship between GDP growth and tax revenue growth (i.e., the responsiveness of tax revenue growth to changes in GDP).

  3. 3.

    The Ricardo-Barro proposition is as follows: for a given amount of public expenditure, the replacement of taxes with debt does not have any effect on global demand or on interest rate. As debt only defers taxes to the future, taxpaying consumers anticipate the increase of future taxes and react to the tax decrease by increasing their savings through investing in public debt securities. Therefore, as private savings increase at the same amount as the budgetary deficit, the interest rate thus remains unchanged. The deficit does not cause any reduction of the pace of the accumulation of capital stock, nor the deterioration of the external accounts and the public debt does not affect private sector wealth. In terms of the effects on the economy, financing public expenditure through public debt is equivalent to financing the economy through taxes (see Barro (1974, 1989); Barro and Redlick (2011); Buchanan (1976); Marinheiro (2001, 2008)).

  4. 4.

    It should also be noted that consumption taxes and a wage taxes have exactly the same effect on an individual’s budget constraint.

  5. 5.

    In economic theory, public goods are distinguished from private goods (even if they are provided by public entities) by two characteristics: (1) non-rivalry, that is to say, the additional consumption by one more individual does not create marginal costs, in other words, the marginal cost of one more individual consuming the good is zero; and (2) non-excludable, that is to say, the consumption by one individual does not lead to the exclusion of other individuals.

  6. 6.

    In the cases of VAT or other consumption taxes, the distributional pattern of tax revenues is usually much less progressive than income tax. Although most countries tend to have reduced VAT rates for basic goods, such as food, the burden of VAT is only indirectly linked to household income, through the spending patterns of each family.

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  1. Advance/CSG, ISEG Lisbon School of Economics and Management, Universidade de Lisboa, Lisbon, Portugal

    Joaquim Miranda Sarmento

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Sarmento, J.M. (2023). Taxation in Economics. In: Taxation in Finance and Accounting. Springer Texts in Business and Economics. Springer, Cham. https://doi.org/10.1007/978-3-031-22097-5_3

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