In a certain economy people save some part of their income in the financial sector and use the remaining part for consumption. The government decides to increase the tax rates for everyone in that economy. What effect will the tax increase have on savings and investments in the economy

An increase in tax rates will discourage households to save, as they have less income, or rather a less spending power. Therefore, an increase in taxes decreases household's disposable income. This is likely to be the same with investment. Investment will also decrease.

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francocanacari francocanacari · Answer 2 · 2020-01-07T20:51:39+01:00

Answer:

Taxes imply an extra cost for the taxpayer, since it is money that they could save or invest but nevertheless they must deliver it to the government. Generally, all people have jobs whose salaries are designed to fulfill a triple function: guarantee a decent living status, comply with the payment of taxes, and generate at least minimal savings.

But when taxes go up, workers' wages are outdated in that triple function. Due to the increase in taxes, there is an imbalance that means that the part of the salary allocated to savings and investment must cover the extra expenses generated by the tax increase. Therefore, if taxes go up, people's savings and investment capacity decreases.

Therefore, if the financial system receives less money it can enter into recession, stop lending money to individuals and demanding to collect their credits without admitting extensions. This situation can generate an economic crisis, so it is very important that the government does not exceed tax matters, since removing money from circulation can lead to economic stagnation.