It occurred to them that one might increase the revenues by reducing taxes, which is an idea that seems to imply a shocking contradiction.

Frédéric Bastiat
Complete Works, Volume 2, pages 186 to 194 (in French)
February 21st, 1847

Once more, Frédéric Bastiat proves that he had a remarkable understanding of economic phenomena. This article is describing nothing else but the Laffer Curve, which has been drawn on a napkin 120 years later by Arthur Laffer explaining to Richard Nixon that the revenues of a tax does not depend on its rate only but also on its base. A tax would generate no revenue when its rate is set at 0% or 100%. To find out the rate at which the revenue is maximal is impossible but if the rate is set to high, to reduce it will allow to increase revenues. As often with economics, the issue is that experience only would allow with hindsight to define what rate would be optimal and it would vary depending of complex circumstances. However, it is sometimes obvious that the maximum rate has been exceeded, in which case one needs to be able to take a political decision that appears particularly risky for the Treasury.

In this article, Frédéric Bastiat illustrates the phenomenon with real figures of British revenues from 1836 to 1840 and explains that Sir Robert Peel understood the phenomenon correctly in 1841, when revenues declined further to rates increases.

To the best of my knowledge, nobody knows how to take the decision to set the rate higher or lower in order to optimise revenues but it is still key to understand the phenomenon in the hope that the right decision may be taken from time to time instead of systematically trying to reduce budget deficits through the increase of the number of taxes or their rates.

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