Econ 201Z TAXES

Deadweight Loss

Wasted potential value from trades that do not happen because of a tax or market intervention

Cause of Deadweight Loss

Taxes raise prices and reduce quantity traded which prevents mutually beneficial deals

Excise Tax

A tax on each unit of a good that is bought or sold

Sales Tax

A percentage of the purchase price added at checkout

Income Tax

Tax on earnings from wages or salaries

Payroll Tax

Tax taken from wages for Social Security and Medicare

Property Tax

Tax on the value of land or buildings

Corporate Tax

Tax on business profits

Tax Incidence

How the burden of a tax is actually shared between consumers and producers

Legal Incidence

The side of the market the tax is placed on by law which does not determine who actually pays

Economic Incidence

The real burden of the tax based on elasticity of supply and demand

Inelastic Demand and Taxes

Consumers pay most of the tax because they cannot easily reduce quantity demanded

Elastic Demand and Taxes

Producers pay more of the tax because consumers can easily switch away

Inelastic Supply and Taxes

Producers pay most of the tax because they cannot change production easily

Elastic Supply and Taxes

Consumers pay more of the tax because producers can easily adjust production

Effect of Tax on Consumer Surplus

Consumers pay a higher price which reduces their surplus

Effect of Tax on Producer Surplus

Producers receive a lower effective price after tax which reduces their surplus

Effect of Tax on Total Surplus

Total surplus falls because consumer and producer surplus shrink and deadweight loss appears

Government Revenue from Taxes

Money gained from the tax calculated as tax per unit multiplied by quantity sold

Why Deadweight Loss Exists

Some buyers and sellers decide not to trade because of the tax which destroys potential surplus

Large Taxes and Deadweight Loss

As tax size increases deadweight loss grows much faster and becomes very large

Tax Revenue and Tax Size

Revenue increases with tax size at first but eventually decreases when the tax is too large

Laffer Curve

Shows that tax revenue is highest at a moderate tax rate not at zero or extreme rates

Goods With Lowest Deadweight Loss

Goods with inelastic demand or supply such as gas, insulin, and basic necessities

Goods With Highest Deadweight Loss

Goods with elastic demand or supply such as luxury items, restaurant meals, or non essentials

Tax Wedge

The difference between what buyers pay and what sellers receive after a tax is applied

Effect of Tax on Quantity Sold

Taxes reduce quantity traded which creates deadweight loss

Perfectly Inelastic Demand

Tax burden falls entirely on consumers and deadweight loss is minimal

Perfectly Elastic Demand

Consumers bear none of the tax and producers bear all of it with a large reduction in quantity