Laffer Curve Tax vs Revenue

Laffer Curve: tax rate × tax revenue

The Laffer curve maps how tax revenue moves as you change the tax rate. The intuition starts at the two extremes. At t = 0% — no tax at all — the government collects nothing; at t = 100% it also collects nothing, because nobody bothers to work or declare income. Somewhere between the two sits a rate t* that brings in the most money. You compute revenue as R(t) = t · B(t), where B(t) is the taxable base, and that base keeps shrinking as the rate climbs.

Economist Arthur Laffer popularised the idea in 1974, famously sketching it on a napkin over dinner with Donald Rumsfeld, Dick Cheney and journalist Jude Wanniski. It went on to anchor supply-side economics and Reaganomics in the 1980s. It also remains contentious. Pinning down t* from real data is genuinely hard, and the shape of the curve shifts depending on the tax (income, consumption, capital) and the country you look at.

Applications

It shows up whenever tax reform is on the table — Brazil’s PEC 45/2023, which replaced ICMS, ISS, IPI, PIS and Cofins with the IBS/CBS, is a recent example — as a way to argue whether a tax cut might pay for itself by widening the base. The same logic drives the debate over tax competition between countries such as Ireland, the Netherlands and various fiscal havens.

FAQ

Is the optimal rate the same for every country? No. How elastic labour is, how freely capital moves, how willingly people pay tax, how big the informal sector is — all of it changes the answer. For advanced economies, estimates tend to put t* on labour income somewhere between 50% and 70%.

Does cutting taxes always raise revenue? No. That only works when the country sits on the right, descending side of the curve. The empirical evidence points the other way for most countries, which are on the left side, where a cut simply means less money in.

Is Brazil to the right or left of t*? Brazil’s tax burden runs around 33% of GDP, a touch under the OECD average of 34%. Most studies put the country on the left side, though with unusually high marginal rates on labour once payroll taxes are added in.