Definition
The Laffer curve is a conceptual model describing the relationship between tax rates and the revenue a government collects. It shows revenue rising as rates increase from zero, reaching a peak, and then declining as rates climb toward one hundred percent.
The intuition behind the two endpoints is simple: a tax rate of zero collects nothing, and a rate of one hundred percent also collects nothing because there is no incentive to earn taxable income. Somewhere between lies a revenue-maximizing rate.
Why it matters
How it works
The curve captures a behavioral response: as tax rates rise, people and firms have more reason to work less, invest less, shift income across borders, or avoid and evade taxes. At low rates, raising them collects more because the behavioral pullback is small. At high rates, the shrinking tax base can outweigh the higher rate, so revenue falls. The practical and contested question is where an economy sits on the curve. If it is on the upward side, a rate cut reduces revenue; only on the downward side does a cut pay for itself. Because the peak cannot be measured precisely, the model is more useful as a caution than a precise policy guide.