Session 3

Question 1

What are reasons for taxes?

Answer 1

• pay government bills

-influence market outcomes

In the context of the class subsidies can be seen as negative taxes!

Question 2

Whats the equation for tax on sellers?

Answer 2

Ys-tax=mx+b

Tax on sellers shifts supply curve up!

Question 3

Whats the equation for Government revenue of a tax?

Answer 3

Government revenue = tax amount x quantity (Old equilibrium quantity-New equilibrium quantity)

Question 4

Whats the statutory burden?

Answer 4

• the burden of being assigned by the government to send a tax payment

Question 5

Whats the economic burden?

Answer 5

the burden created by the change in after-tax prices faced by buyers and sellers

Question 6

Whats the equation for a tax on buyers?

Answer 6

Yd+tax=mx+b
tax on buyers shifts demand curve down

Question 7

Whats the tax incidence and what its dependants?

Answer 7

Division of the economic burden of a tax between buyers and sellers.

• Depends on price elasticities of demand and supply (how flexible buyers and sellers can adjust their consumption market)
• Supply is more elastic = sellers bear a smaller share of the economic burden
• Demand is more elastic = buyers bear a smaller share of the economic burden

Question 8

Whats the statutory equivalance of taxes?

Answer 8

whether government imposes a tax on consumers or sellers does not matter for the government

• Decided by moral and social implications or the ease of collection and administration.

Question 9

When does statutory equivalence not hold up?

Answer 9

1. Markets with a few dominant sellers (oligopoly), because of possible collusion (Absprache)
2. Imperfect information: consumers don’t understand the product
3. Tax salience: when consumers fail to pay attention to shrouded attributes: when the store doesn’t tell you the exact price

Question 10

What happens if a price ceiling is above the equilibrium price?

Answer 10

Nothing

Question 11

What happens if a price ceiling is below the equilibrium price?

Answer 11

• Lower posted prices, but cause shortages
• Shortage = Q demanded – Q supplied

-Effective price will often be higher than posted price: queuing, bundling of extras, secondary markets

Question 12

What are pros an cons of price ceilings?

Answer 12

• Pros of price ceiling: Protect vulnerable buyers from unavoidable high expenses, protect purchasing power
• Cons of price ceiling: Can lead to shortages, can result in black markets and lower quality of regulated goods or services

Question 13

What happens if price floors are above equilibrium price?

Answer 13

Raise prices but cause surplus

Question 14

What are pros and cons of price floors?

Answer 14

Pros: protect vulnerable actors on the supply side (e.g., farmers, employees)

Cons: lead to surplus production (In some cases, government buys surplus e.g. Milk, corn)

Question 15

What are minimum and maximum quantity regulations?

Answer 15

mandate (minimum)
Quota (maximum) (leads to more market competition and higher prices)

Question 16

What is normally included in government revenue?

Answer 16

• Individual income tax: tax collected on all income, regardless of its source
• Sales tax: tax on purchases (typically % of the purchase price)
• Excise tax: tax on a specificproduct (e.g., gas, cigarettes, alcohol)
• Property tax: tax on the value of property, usually real estate

Question 17

Whats a progressive tax?

Answer 17

a tax where those with more income tend to pay a higher share of their income in taxes

=Tax rate increases as taxable amount increases
- Individual income tax tends to be progressive

Question 18

Whats a regressive tax?

Answer 18

a tax where those with less income tend to pay a higher share of their income on the tax

=Tax rate decreases as taxable amount increases

• Sales, excise and property taxes tend to be regressive (Lower-income households spend a higher share of their income on gas, housing, groceries etc.)

Question 19

What are tax expenditures?

Answer 19

Special deductions, exemptions or credits that lower your tax obligations, to encourage you to engage in certain activities = aka legal ways to pay less taxes

Tax expenditure primarily benefit the richest individuals because:

• Value of tax exclusions and deductions is higher when your income tax rate is higher
• Higher-income people tend to buy more tax-preferred goods and services
• Most tax expenditures don’t provide much help if your income tax bill is zero

Question 20

What are types of tax expenditures?

Answer 20

• Mortgage interest deduction: tax deduction for interest paid on a mortgage
• Retirement savings incentives: tax saved for amounts saved in retirement accounts
• Charitable contribution deduction: tax deduction for amounts donated to qualifying charitable organizations
• R&D incentive: tax deduction for amounts spent on research and development
• Renewable energy incentives
• Estate or gift tax exemptions: tax deductions allowed on inheritance or large gifts reducing or eliminating their tax impact

Question 21

What is fiscal policy and what are the two types of it?

Answer 21

governments use of spending and tax policies to influence the economy

• Expansionary fiscal policy increases government spending & decreases taxes
• Contractionary fiscal policy decreases government spending & increases taxes

Question 22

What are the two main types of government spending?

Answer 22

1. Government purchases: government directly buys goods and services (schools, highways etc.) → Purchases directly boost GDP (as G in C + I + G + (X − M))
2. Transfer payments: government gives money to individuals without anything in return
   -> Transfers do not directly affect GDP, because nothing is produced/purchased

Question 23

Whats countercyclical fiscal policy?

Answer 23

counteracts the effects of the economic cycle
- Depressed economy = expansionary fiscal policy

• Overheating economy=contractionary fiscal policy

Coun. Fis. Policy can be used to stabilize the economy during times of overheating or depression, ensuring resources are utilized more efficiently

Question 24

What are the two main types of countercyclical fiscal policy measures?

Answer 24

Discretionary fiscal policy: Deliberate changes in government spending or taxes to boost or slow the economy on a temporary basis

= Economic stimulus bills during economic recessions

Automatic stabilizers: Spending or tax programs that automatically adjust as the economy expands or contracts, without any need for deliberate action

= Individuals earn less during recessions – fall in lower tax brackets – revenue is automatically reduced

Question 25

What are the trade-offs for countercyclical fiscal policy measures?

Answer 25

• Discretion gives flexibility, allowing targeting specific needs
• But its subject to pollical capture and can be exploited by politicians for self-serving goals = Incumbents boosting the economy pre-election (political budget cycles)

Question 26

Whats the gross government debt?

Answer 26

The total accumulated amount of money the government owes (all liabilities, irrespective of the financial assets the government holds)

Question 27

What are concerns regarding a large government debt?

Answer 27

Large government debt raises the risk of confidence crisis
- Investors’ trust in government allows low interest rates
- Large debt can damage this trust. Investors will demand higher interest rates to compensate for higher perceived risk of government default
- Vicious cycle: higher interest rates → less sustainable debt → lower investor confidence → even higher interest rates…
A strong and credible central bank + some fiscal discipline can mitigate this risk

Question 28

Whats the net government debt?

Answer 28

Debt government owes to external parties, domestic and foreign. (More indicative of a government’s fiscal health and repayment capability)