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Commodity taxes

• A commodity tax is a tax on goods.

  • Who pays the tax does not depend on who writes the check to the government.

    • The economic incidence is not the same as the legal incidence.

  • Who pays the tax does depend on the relative elasticities of demand and supply.

    • It depends on the law of supply and demand, not the law of congress.

  • Commodity taxation raises revenue (for the government) and creates lost gains from trade.

• A tax on sellers shifts the supply curve up by the tax.

  • Buyers pay more than before and sellers receive less than before.

  • There is less quantity exchanged.

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• A tax on buyers shifts the demand curve down by the tax.

  • It reduces willingness to pay.

  • Both taxes have the same effect if the amount of the tax is the same, both sellers and buyers will have to pay.

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• Since it doesn't matter whether buyers or sellers are taxed, we can graph the tax as a simple "wedge"

  • We drive it into the graph until the top hits the demand curve and the bottom the supply curve.

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Who pays the tax?

• The more elastic side of the market will pay a smaller share of a tax, and viceverse.

  • Elasticity = escape

  • Example: social security taxes.

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Tax revenue and deadweight loss

• A tax generates revenue for the government and creates a deadweight loss.

  • Deadweight loss is the value of the trades not made because of the tax.

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• Deadweight losses are larger the more elastic the demand curve.

  • If the demand is inelastic, a tax will not deter many trades.

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Subsidies

• A subsidy is a "negative tax", where the government gives money to consumers or producers.

  • Who gets the subsidy does not depend on who receives the check from the government.

  • Who benefits from the subsidy does depend on the relative elasticities of demand and supply.

  • Subsidies must be paid for by taxpayers and they create inefficient increases in trade (deadweight loss).

• The cost to the suppliers exceeds the value to the demanders.

• No elasticity = no entry

  • No one to grab up the resources

• A wage subsidy costs the government money but increases employment, and reduces welfare payments.