Explain why an increase in the tax payable on firms’ profits may lead to lower productivity growth

AQA AS-Level Paper 2 June 2025 Insert

Extract E (lines 12–13) states: ‘To increase revenue, the main rate of corporation tax, the tax payable on firms’ profits, was increased to 25%.’

Explain why an increase in the tax payable on firms’ profits may lead to lower productivity growth. (10 marks)

1. Productivity is a measure of how much a factor of production can produce in a given period of time.
2. Extract E mentions an increase in the rate of corporation taxes.
3. This means that firms get taxed on more of their profits.
4. As firms keep less of their profits, they have less money left to reinvest in capital like machinery.
5. This means that firms might not be able to produce as much output per hour.
6. The diagram shows the effect of a fall in the economy's productive potential, with the shift from LRAS1 to LRAS2.
7. This results in a fall in real gdp from y1 to y2 as there is a decrease in the value of goods and services being produced in the economy.
8. This slowdown in output also implies a fall in the UK's productivity growth rate.

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