ECONOMIC EFFECTS OF TAXATION
a. A deterrent to work
Heavy direct taxation, especially when closely linked to current earnings, can act as a serious check to production by encouraging absenteeism, and making men disinclined to work. However, indirect taxation may actually increase the incentive to work, since the more money is then required to satisfy the same wants, indirect taxes having made goods dearer than they were before.
b. A deterrent to saving
Taxation will clearly reduce people's ability to save since it leaves them with less money to spend. Taxation may, therefore, act as a deterrent to saving. However, this will not always be the case, as it will depend On the purpose for which people are saving.
a. A deterrent to enterprise
It is argued that entrepreneurs will embark upon risky undertakings only when there is a possibility of earning large profits if they are successful. Heavy taxation of profits, it is said, robs them of their possible reward without providing any compensation in the case of failure. As a result, production is checked and economic progress hindered. It may be, too, that full employment provides conditions under which even the less efficient firms cannot fail to make profits, and so there may be greater justification for taxation of profits, and so there may be greater justification for taxation of profits under such conditions.
b. Taxation may encourage inflation
Under full employment increased indirect taxation will lead to demand for higher wages, thereby encouraging inflation. A general increase in purchase taxes pushes up the Index of Retail Prices, and so brings in its train demands for wage increase.
c. Diversion of economic resources
Only if there are no hindrances to the free play of economic forces will resources be distributed among occupations in such a way as to yield that assortment of goods and services desired by consumers. Taxation of commodities is similar in effect to an increase in their cost of production. Thus, the influence of a change of supply has to be considered, effect depending on their elasticity of demand. In consequence of taxation, resources will more from heavily taxed to more lightly taxed forms of production. This result may, of course, be desired on Non-economic grounds.