taxation 4.5.2

Question 1

adam smith argued…

Answer 1

4 canons of taxation
cost of collection should be low
timing of collection+amount to be paid should be clear
means+ timings of payments should be convenient to taxpayer
taxes should be levied according to the ability of the individual tax payer to pay
some argue tax should be linked to benefits the individual receives eg motorists pay taxes to improve roads but this conflicts with the aim of income redistribution

Question 2

progressive tax

Answer 2

higher income=higher marginal rate of tax eg direct taxes like income tax

Question 3

regressive tax

Answer 3

higher incomes pay lower marginal rate of tax eg VAT as everyone pays the same rate, applies to indirect taxes

Question 4

proportional tax

Answer 4

proportion of income paid on tax stays the same even if income changes

Question 5

impacts of tax changes

Answer 5

fdi flows 
incentives to work 
tax revenues
trade balance
real output and employment
income distribution 
price level

Question 6

incentives to work

Answer 6

high marginal rates of tax discourage individuals from working
free market-supply of labour is elastic so reduction of income tax increases hours they work etc
high taxes could encourage them to move abroad
poor may face poverty trap
switching to indirect taxes may increase incentives
people may work longer hours with higher taxes to maintain their income

Question 7

tax revenues

Answer 7

laffer curve- rise in tax doesn’t always increase tax revenue (people won’t work if tax is too high, motivation lost etc increases incentive to tax evade)
revenue from indirect taxes can be uncertain as it depends on consumer spending patterns

Question 8

income distribution

Answer 8

progressive tax-increase equality
regressive tax-decrease income equality
inheritance tax-most progressive

Question 9

real output and employment

Answer 9

direct taxes reduce disposable income which reduces AD, fall in firms profit reduces investment (depends on if the economy is at full employment or not)
indirect tax increases costs for firms and decreases SRAS
most skilled workers may go abroad which reduces LRAS

Question 10

price level

Answer 10

indirect taxes- cost push inflation (VAT)

Question 11

trade balance

Answer 11

taxes decrease income+consumption so consumers spend less on imports (UK ones highly income elastic)
long run- lower AD reduces businesses’ need to invest which reduces competitiveness + exports

Question 12

fdi flows

Answer 12

low taxes encourage investment (higher level of return)
‘race to the bottom’ countries continue to lower tax to make them the lowest to encourage investment but that reduces the gov revenue