Chapter 8 - Tagged

Page 1: Application of Taxation

• Title: The Costs of Taxation

• Chapter: 8

Page 2: The Deadweight Loss of Taxation

• Tax Burden:

  • Distributed between producers and consumers.

  • Determined by elasticities of supply and demand.

• Market for the Good:

  • Smaller market leads to different impacts.

Page 3: Effects of a Tax

• A tax creates a wedge between:

  • Price buyers pay.

  • Price sellers receive.

• Result:

  • Quantity of the good sold decreases.

  • Visual representation of the impact of the tax on price and quantity.

Page 4: Market Participants and Tax Impact

• Effects on Market Participants:

  • Buyers face a reduction in consumer surplus.

  • Sellers face a reduction in producer surplus.

  • Government benefits through total tax revenue (Tax times quantity sold).

• Public Benefit from Tax:

  • Tax revenue contributes to public services.

Page 5: Tax Revenue Calculation

• Formula for Tax Revenue:

  • Tax revenue = T × Q (Tax size times quantity sold).

• Representation:

  • Area of the rectangle formed by the supply and demand curves indicates tax revenue.

Page 6: Welfare Effects of Tax

• Tax effects on welfare:

  • Reduces consumer surplus (Areas B + C).

  • Reduces producer surplus (Areas D + E).

  • Tax revenue received doesn't compensate for losses (Deadweight Loss: Areas C + E).

• Comparison of Surplus:

  • Total Surplus (A+B+C) and the reduced total surplus indicate deadweight loss characteristics.

Page 7: Gains from Trade

• Taxes Cause Deadweight Loss:

  • Disrupt trades between buyers and sellers, preventing gains from trade.

  • Result: Deadweight loss arises when trades that could benefit both parties are not executed.

Page 8: Determinants of Deadweight Loss

• Price Elasticities of Supply and Demand:

  • More elastic supply = larger deadweight loss.

  • More elastic demand = larger deadweight loss.

• Conclusion:

  • Greater elasticities lead to greater deadweight loss of a tax.

Page 9: Tax Distortions and Elasticities - Part 1

• Comparison of Elasticities (Panels a & b):

  • (a) Inelastic supply: smaller deadweight loss.

  • (b) Elastic supply: larger deadweight loss.

• Concept:

  • Change in supply elasticity affects overall market efficiency under taxation.

Page 10: Tax Distortions and Elasticities - Part 2

• Comparison of Demand Elasticities (Panels c & d):

  • (c) Inelastic demand: smaller deadweight loss.

  • (d) Elastic demand: larger deadweight loss.

• Takeaway:

  • Similar to supply, demand elasticity significantly impacts deadweight loss.

Page 11: Deadweight Loss & Tax Revenue as Taxes Vary

• Tax Increases:

  • Deadweight loss rises faster than the tax size.

  • Tax revenue initially increases, then decreases.

• Market Size:

  • Higher taxes drastically reduce market participation.

Page 12: Variations of Deadweight Loss and Tax Revenue

• Tax Sizes Analysis (Panels a, b, c):

  • (a) Small tax: small deadweight loss.

  • (b) Medium tax: larger deadweight loss, larger revenue.

  • (c) Large tax: very large deadweight loss, low revenue due to reduced market.

Page 13: Summary of Tax Effects

• General Observations (Panels d & e):

  • (d) Larger tax results in greater deadweight loss.

  • (e) Initial rise in tax revenue followed by a decline.

• Important Concept:

  • This phenomenon illustrates the Laffer curve.

Page 14: Market for Pizza - Tax Implications

• Task: Draw market for pizza including:

  • Supply and Demand curves.

  • Illustrate impacts of a $1 tax.

  • Notate changes in Consumer Surplus (CS), Producer Surplus (PS), Prices, Government Revenue, and Deadweight Loss.

Page 15: Inelastic Demand Curve Analysis

• Task: Draw market with inelastic demand and apply a tax.

  • Mark effects on CS, PS, Deadweight Loss (DWL), and government revenue.