The myth of the income effect

Review of Austrian Economics

Volumn 9, Issue 1, 1996, Pages 95-106

  Salin, Pascal ^a  

^a UNIVERSITÉ PARIS DAUPHINE   (France)

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EID: 34249755675     PISSN: 08893047     EISSN: None     Source Type: Journal    
DOI: 10.1007/bf01101883     Document Type: Article

References (9)

1. I thank Philippe Lacoude and Frédéric Sautet for their very pertinent comments on a previous version of this paper, the idea of which actually stemmed from a talk with them.
2. The increase in a tax rate decreases the tax base and, beyond a certain tax rate, this effect is sufficiently important for the increase in the tax rate to induce a decrease in tax revenues instead of an increase. It is now usual to label this process as the "Laffer-effect." But it had been developed before Arthur Laffer gave it its popular expression. One can find it, for instance, in a refined form, in Geoffrey Brennan and James Buchanan, The Power to Tax (Cambridge University Press, 1980).
3. Hans-Hermann Hoppe raised an interesting question on a previous version of this paper: If the income effect does not exist, does it imply that a supply curve cannot be backward sloping? We explain in the appendix why, in our opinion, it is impossible.
4. Figure 1 is extracted from the classic textbook by James M. Henderson and Richard E. Quandt, Microeconomic Theory. But a similar graph can be found in most microeconomics textbooks.
5. Let us use this traditional concept, although it induces the danger of splitting a human being into different, non-coordinated, parts (the consumer, the producer, the taxpayer, etc.).
6. As an example, one may imagine that the budget constraint is rotating around point R.
7. Both interpretations are very close to one another. They imply that, from a given stock of resources-for instance time resources-an individual can obtain a good either via a technological process of transformation he is doing by himself, or via a process of exchange involving his labor services or the outcome of his labor.
8. There is always a certain degree of specificity in the employment of a worker. For instance, as transaction costs do exist, an employer will prefer paying more for extra hours by a worker who is already employed in his firm than hiring an additional worker.
9. If B was not preferred to A, it would just mean that the supply curve cannot go through B.