Explain how a tax rate increase will impact consumption as opposed to investment.

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pohnpei397 | College Teacher | (Level 3) Distinguished Educator

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I assume that you are asking about an increase in income tax rates.  An increase in consumption taxes (sales tax) and/or in taxes on investments (capital gains tax) would have a much different impact.

If income taxes go up, rates of both consumption and investment will go down.  The reason for this is that an increase in income tax rates leaves people with less money overall.  Since they have less money, they will have less money to invest and less money to use for consumption.  It is likely that investment will drop by more than consumption does (unless there are tax breaks for investment) because many kinds of consumption are necessary and cannot be put off while most investments are not absolutely necessary in the short term.

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