1.2.9 Indirect taxes and subsidies

Question 1

Define indirect tax

Answer 1

Indirect tax is tax imposed on producers by the government causing for suppliers cost of production to increase. This is usually done to reduce the output of demerit goods.

Question 2

What are the 2 types of indirect tax and how do they differ?

Answer 2

Ad valorem tax and specific tax.
Specific tax is a set tax per unit e.g £5 per unit however ad valorem tax is a percentage of the price which is then added on top of the price.

ad valorem tax is non parallel and so supply curve shifts more and more outwards as output rises

Question 3

How can specific tax be analysed for goods that are PED elastic

Answer 3

Specific tax placed on producers always causes supply to shift and decrease due to cost of production rising. Supply decreasing causes for price to rise and for PED elastic goods the majority of the incidence of tax is paid by the producers and producers absorb the incidence

Question 4

How can specific tax be analsyed for goods which are PED inelastic

Answer 4

Specific tax will cause supply to decrease and price to rise however in this case as PED is inelastic the incidence of tax can be passed onto consumers and mostly paid by consumers rather than being absorbed by producers