Section10 Flashcards
What are the main components of government spending?
Government spending includes:
- Transfer payments (e.g. pensions, education programmes, unemployment benefits)
- Purchase of public goods and services
- General public policy programmes
In a federal state: Different institutions, different public expenditures
What are transfer payments?
Transfer payments are government payments not made in exchange for goods or services, e.g. pensions, education programmes, environment,..
In a federal state: Also intergovernmental transfers
What are the sources of government revenues?
Public revenues are defined as the sum of financial resources accruing to the public
sector in order to finance national expenditure and the subsidies for the economy.
Sale and leasing of goods and services
Contributions:
- Taxes (obligatory, not for specific services)
- Fees (obligatory, for specific services)
Loans (not revenues in the original sense)
What are the types of taxes?
Types of Taxes:
- Direct Tax: Levied on income and wealth
- Indirect Tax: Levied on goods and services (e.g. VAT)
Amounts of Tax:
- Specific Tax: Per unit of a good
- Ad valorem Tax: Percentage of the good’s price
What is tax incidence?
Tax incidence describes how the burden of a tax is shared among market participants. It depends on price elasticity and affects market equilibrium.
Buyers pay more and sellers receive less, regardless of whom the tax is levied on.
Even though the tax is levied on sellers, buyers and sellers share the burden of the tax.
What is the benefits principle of taxation?
The benefits principle suggests taxes should reflect the benefits received from government services, e.g. petrol tax financing road maintenance.
What is the ability-to-pay principle of taxation?
The ability-to-pay principle suggests taxes should be based on an individual’s capacity to shoulder the burden. Related concepts:
- Vertical equity: Higher incomes pay more
- Horizontal equity: Similar incomes pay the same
What is deadweight loss in taxation? -> tax on a good
Supply curve shifts upwards to the left
Deadweight loss refers to the inefficiency caused when resources are misallocated due to tax incentives rather than actual costs and benefits.
What is government failure?
Government failure occurs when political power or incentives distort decisions, preventing the promotion of economic efficiency.
Goal should be: Government intervention to promote public interest (benevolent government):
Making decisions based on a principle where the maximum benefit is gained by the
largest number of people at minimum cost.
What is public choice theory?
Public choice theory asserts that individuals in the political process act to maximise their own utility, which can hinder efficient allocation of resources.
3 State functions
Allocation function
Distribution function
Stabilization function
Allocation function
Monopoly, Public goods, Externalities, Asymmetric information, Anomalies
Distribution function
Income inequality
Regional inequalities
Stabilization function
Economic crisis
Growth problem
Swiss government spending
- General government expenditure ratios as a percentage of nominal GDP for various countries and regions from 2000 to 2024, showing notable peaks around the 2008 financial crisis and the 2020 COVID-19 pandemic, with Switzerland maintaining the lowest expenditure ratio throughout the period.
- Distribution of general government expenditure by function (COFOG) in 2021 as a percentage of total expenditure, highlighting that social protection and health account for the largest shares across all regions, while Switzerland (CHE) generally spends less on health and social protection compared to OECD and EU averages - but CH spends more on education.
- Swiss government’s expenditure by function in 2011 and 2021, showing that social security remained the largest spending category, increasing from 37.9% to 40.6% of total expenditure, while other categories such as education and health remained relatively stable, with slight shifts in allocation across different sectors.
Reasons for paying taxes
to produce and offer public and merit goods
to contribute to the income distribution process, solidarity fund
to reduce negative externalities (eco-tax, fat-tax)
A Specific Tax on Sellers
Tax is added on price: Supply curve is shifted parallel, to the left and upwards
An Ad Valorem Tax on Sellers
Tax is added on price and calculated as a percentage of the price: steigung ändert -> wird steiler!
Supply curve is not shifted parallel
At lower prices the amount of the tax paid is relatively low
At higher prices the seller has to give more to the government
translate: The chart presents Swiss financial receipts by economic classification in 2011 and 2021, showing an increase in direct taxes from natural persons and social security contributions, while highlighting the overall growth in total receipts over the decade.
Die Grafik zeigt die Schweizer Finanzeinnahmen nach wirtschaftlicher Klassifikation in den Jahren 2011 und 2021, wobei ein Anstieg der direkten Steuern von natürlichen Personen und der Sozialversicherungsbeiträge sowie ein allgemeines Wachstum der Gesamteinnahmen über das Jahrzehnt hinweg erkennbar ist.
Schweiz taxes
The chart illustrates the development of receipt ratios (tax revenue as a percentage of nominal GDP) across Switzerland, the OECD, the Euro area, the United States, Austria, and Germany, highlighting Switzerland’s relatively lower tax burden while noting that its figures exclude mandatory contributions to private institutions (e.g., pension funds, health insurance), which account for approximately 10-13%.
Very important: compare always the level of tax with the level of public goods and services offered
Income Tax and Lump-sum Tax
An income tax is a tax levied on the income (depends on the level of income).
A lump-sum tax is a tax that is the same amount for every person, regardless
of earnings or any actions that the person might take.
Income Tax Rates:
average tax rate
marginal tax rate
The average tax rate is total tax paid divided by total income.
ATR = tax liability / taxable income
The marginal tax rate is the extra tax paid on an additional $ of income (proportional, progressive and regressive).
MTR = Change in tax liability / Change in taxable income
Proportional Marginal Rate (Flat-rate tax)
vs. Increasing Marginal Rates
A proportional tax (Flat-rate tax) is one for which
high-income and low-income taxpayers pay the
same fraction of income.
vs.
A progressive tax is one for which high-income
taxpayers pay a larger fraction of their income
than do low-income taxpayers.
Dept and CH
Switzerland maintaining significantly lower debt levels.
Taxes and Efficiency
An efficient tax system tries to minimize the costs to taxpayers and the
government.
Costs are:
Administrative burden on both side
Deadweight loss in case of competitive markets
Administrative Burden
Administrative burden due to:
Taxpayers spend time and money documenting, computing, and avoiding
taxes.
These are additional administrative costs that incur over and above the
actual taxes they pay.
The administrative burden of any tax system is part of the inefficiency it
creates.
Administrative burden can be reduced by simplifying the tax system!
Tax Redistribution and Deadweight Loss
To avoid the deadweight loss, use a lump-sum tax (tax is the same for every person)
Lump-sum taxes are efficient because they do not distort economic decisions (e.g., it does not discourage work, investment, or consumption), but they are widely seen as unfair due to their disproportionate burden on lower-income individuals.
Relative prices remain unchanged, so individuals make economic decisions as if there were no tax. In this case, at the margin the decisions aren’t
influenced; relative prices remain the same; a person’s decisions have no tax consequences.
Market Failures and Efficiency Argument Weakness:
* Even though lump-sum taxes are theoretically efficient, real-world market failures (e.g., externalities, monopolies) mean that efficiency arguments are less convincing.
* Governments often prioritize equity (=fairness) over efficiency (=lump sum tax), leading to the use of progressive taxes (where higher earners pay more).
Elasticity and Tax Incidence
Price Elasticity determines the proportions of the tax burden but also the effects of taxes on sellers compared to those levied on buyers.
The burden of a tax falls more heavily on the side of the market that is less price elastic!
Bsp.: Tax on supplier:
Steile supply curve -> demand is more elastic -> burden fällt auf supplier
Steile demand curve -> supply is more elastic -> burden fällt auf consumers
Equity and efficiency are the two most important goals of the tax system.
The difficulty in formulating tax policy is balancing the often-conflicting goals
of efficiency and equity.
Taxes and Equity: There are basically 2 Principles of Taxation:
- Benefits principle
- Ability-to-pay principle
Vertical Equity
Vertical equity is the idea that taxpayers with a greater ability to pay taxes should pay larger amounts. Basically, there are 2 different possibilities:
1. A proportional tax is one for which high-income and low-income taxpayers pay the same
fraction of income.
2. A progressive tax is one for which high-income taxpayers pay a larger fraction of their
income than do low-income taxpayers.
Attention: consider the marginal utility of income…
Horizontal Equity
Horizontal equity is the idea that taxpayers with similar abilities to pay taxes should pay the same amounts.
For example, two households with the same characteristics and the same income living in different parts of the country should pay the same amount of taxes.
