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Tax cuts help to revive the economy by putting more money into the economic system. This conclusion derives from an understanding of the Gross National Product. The GNP is comprised of the following: consumer spending by individuals, investment spending by businesses, government purchases and net exports. Typically, consumer spending accounts for about two-thirds of the GNP (Cloutier, 2009).
Lowering taxes serves to stimulate the economy by giving consumers more disposable income. The fewer taxes consumers pay on their income, the more of that income they can spend. They can save some of their money, but savings rates in the United States are low. Therefore, the vast majority of extra money that the consumers have as a result of tax cuts will be converted into consumer spending.
Consumer spending increases directly increase the GNP. However, they also have a spinoff effect as well. Consumer spending increases give more money to businesses. As businesses have more money, they invest that money into greater capacity, which they do in order to meet the increased level of consumer demand. With the extra money that businesses make, they not only invest it, but they pay some of that in taxes as well. Those taxes go to government, which can spend more. Government spending also fuels increases in business income. As governments collect more taxes from business, they can reduce consumer taxes further.
The net effect of all of this is that lowering taxes on consumers can have an exponential effect on increasing the Gross National Product. Tax reductions not only have a direct effect, but they have indirect effects that filter throughout the nation's economy. In this way, cutting taxes boosts the economy.
Works Cited:
Cloutier, R. (2009). Do tax cuts stimulate the economy? Investopedia. Retrieved November 29, 2009 from http://www.investopedia.com/articles/07/tax_cuts.asp?viewed=1
Works Cited:
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