Chapter 6

Question 1

3 Principles of Commodity taxes

Answer 1

1. who pays the price does not depend on who writes the check to the government
2. who pays the price does depend of relative elasticities
3. Commodity taxation raises revenue and creates deadweight loss (ie reduces gains from trade)

Question 2

Tax on supply curve

Answer 2

Shifts supply curve up by the price of the tax

Question 3

Tax on demand curve change

Answer 3

Shifts curve down and to the left by price of tax

Question 4

Subsidy given to buyers (demand curve)

Answer 4

Shifts demand curve up and to the right by the size of the subsidy

Question 5

Requiring businesses to pay for worker’s health insurance

Answer 5

Insurance mandate is like a tax

Demand for labor is elastic (can get it from multiple places)

Supply of labor is inelastic

More burden of the tax falls on workers

Question 6

Elasticity on Subsidies and Taxes

Answer 6

Elastic: less burden of tax & less benefit of subsidy

Inelastic: more burden of tax & less benefit of subsidy

Question 7

Deadweight Loss in Subsidies example: California cotton

Answer 7

Farmers in California get subsidized water from the government to help them grow cotton (they pay $20-30 and receive water that costs ~$200-500)

Waste of resources bc the conditions in California are not meant for cotton, could be grown for less elsewhere & money in California could be used more productively.

Demand: more elastic -> California cotton could be easily substituted w cotton grown elsewhere

Supply: more inelastic, farmers lobby for water subsidies

Question 8

Wage subsidies

Answer 8

Makes hiring low wage workers cheaper (firms pay less, employees receive more) thus increasing demand for labor

Question 9

How to create the smallest deadweight loss from a 10$ tax

Answer 9

Have market w inelastic supply & demand

Question 10

There is a tax on a good with elastic supply and demand. If the government increases the size of the tax by 50%, what happens (deadweight loss & revenue)

Answer 10

Tax revenue increases by less than 50%, and deadweight loss increases by more than 50%.

i.e. deadweight loss will always increase more than tax revenue w increased taxes

Question 11

Subsidy given to suppliers (supply curve)

Answer 11

Shifts supply curve down and to the right by size of the subsidy