It’s the Laffer Curve explained by example.
Via AoSHQ, excerpts from Investors.com:
Dissecting The Demagoguery About ‘Tax Cuts For The Rich’
By THOMAS SOWELL
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While arguments for cuts in high tax rates have often been made by free-market economists or conservatives in the American sense, such arguments have also sometimes been made by people who were neither, including John Maynard Keynes and President John F. Kennedy, who in fact got tax rates cut during his administration.
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High rates drive taxpayers into shelters.
Mellon pointed out that, under the high income-tax rates at the end of the Woodrow Wilson administration in 1921, vast sums of money had been put into tax shelters such as tax-exempt municipal bonds instead of being invested in the private economy, where this money would create more output, incomes and jobs — thereby producing higher tax revenues for the federal government.
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The actual results of the cuts in tax rates in the 1920s were very similar to the results of later tax-rate cuts during the Kennedy, Reagan and George. W. Bush administrations — namely, rising output, rising employment to produce that output, rising incomes as a result and rising tax revenues for the government because of the rising incomes, though the tax rates had been lowered.
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The facts are unmistakably plain, for those who bother to check the facts. In 1921, when the tax rate on people making over $100,000 a year was 73%, the federal government collected a little over $700 million in income taxes, of which 30% was paid by those making over $100,000.
By 1929, after a series of tax-rate reductions had cut the tax rate to 24% on those making over $100,000, the federal government collected more than a billion dollars in income taxes, of which 65% was collected from those making over $100,000.
There is nothing mysterious about this. Under the sharply rising tax rates during the Wilson administration, fewer and fewer people reported high taxable incomes, whether by putting their money into tax-exempt securities or by any of the other ways of rearranging their financial affairs to minimize their tax liability.
Under Wilson’s escalating income-tax rates to pay for the high costs of the First World War, the number of people reporting taxable incomes of more than $300,000 — a huge sum in the money of that era — declined from well over a thousand in 1916 to fewer than three hundred in 1921. The total amount of taxable income earned by people making over $300,000 declined by more than four-fifths in those years.
Secretary Mellon estimated in 1923 that the money invested in tax-exempt securities had tripled in a decade, and was now almost three times the size of the federal government’s annual budget and nearly half as large as the national debt. “The man of large income has tended more and more to invest his capital in such a way that the tax collector cannot touch it,” he pointed out.
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The facts are plain: There were 206 people who reported annual taxable incomes of one million dollars or more in 1916. But as tax rates rose, that number fell to 21 by 1921. After a series of tax-rate cuts in the 1920s, the number of individuals reporting taxable incomes of a million dollars or more rose again, to 207 by 1925.
As output surged, joblessness plunged.
It should not be surprising that the government collected more tax revenue under these conditions. Nor is it surprising that, with increased economic activity resulting from more investment in the private economy, the annual unemployment rate from 1925 through 1928 ranged from a high of 4.2% to a low of 1.8%.
