Chapter 8 - The Costs of Taxation

Question 1

Tax Wedge

Answer 1

• raises the price buyers pay and lowers the price sellers receive
• reduces quantity bought and sold

Question 2

Revenue from Tax

Answer 2

• T (size of tax) x Qt (quantity sold after tax imposed)

Question 3

Without Tax (CS and PS)

Answer 3

• CS is area about the equilibrium
• PS is area below equilibrium
• Total Surplus is these added together

Question 4

With Tax (CS and PS)

Answer 4

• CS is area above the buyer price (Pb) after tax
• PS is the area below seller price (Ps) after tax
• area between Pb and Ps is tax revenue
• area between Quantity sold after tax (Qt) and Quantity sold at equilibrium (Qe) is deadweight loss
• Total surplus is PS + CS + Tax Revenue (deadweight loss is not calculated)

Question 5

Dead-weight loss (DWL)

Answer 5

• Gov will tax goods with lowest DWL
• size of DWL depends on elasticity
• will increase with size of tax

Question 6

Elasticity and DWL

Answer 6

• when demand/supply is inelastic, DWL is smaller

- when demand/supply is elastic, , DWL is larger

Question 7

Laffer Curve

Answer 7

• shows the relationship between the size of the tax and tax revenue