MOD 6 - Taxes and Subsities

Basic outcomes of a tax

-a fall in the quantity traded -a diversion of revenue to the government. -causes consumer surplus and producer surplus (profit) to fall... causing dw loss (lost gains from trade)

Who shares the burden of tax (diagram)

... look at videos

Production Subsidy

A production subsidy encourages suppliers to increase the output of a particular product by partially offsetting the production costs or losses. The objective of production subsidies is to expand production of a particular product more so that the market would promote but without raising the final price to consumers.

A larger tax always generates more tax revenue.

False

A tax collected from buyers generates a smaller deadweight loss than a tax collected from sellers.

False

A tax on cigarettes would likely generate a larger deadweight loss than a tax on luxury boats.

False

A tax will generate a greater deadweight loss if supply and demand are inelastic.

False

Deadweight loss is the reduction in consumer surplus that results from a tax.

False

When a tax is placed on a good, the revenue the government collects is exactly equal to the loss of consumer and producer surplus from the tax.

False

The graph that shows the relationship between the size of a tax and the tax revenue collected by the government is known as a

Laffer curve

The basic outcomes of a subsidy

Subsidies are payments, tax breaks, or other forms of economic support given by governments to certain industries or economic sectors. The goal of subsidies is to aid or support what are deemed to be key parts of the economy or national infrastructure.

How elasticities affect tax revenues

Tax revenue is larger the more inelastic the demand and supply are.

Diagram and explain who benefits and who pays for a production subsidy

The more inelastic the demand curve, the greater the benefit for consumers as a large percentage of the subsidy is passed onto consumers via a lower market price. However, when the demand curve is elastic, the smaller the price fall and the smaller the subsidy gain for consumers as a result of a smaller price fall... work on this more

Which of the following is true with regard to the burden of the tax

The sellers pay a larger portion of the tax because supply is more inelastic than demand.

How elasticities affect tax incidence

The tax incidence depends on the relative price elasticity of supply and demand. When supply is more elastic than demand, buyers bear most of the tax burden. When demand is more elastic than supply, producers bear most of the cost of the tax. EX: When the demand is inelastic, consumers are not very responsive to price changes, and the quantity demanded remains relatively constant when the tax is introduced. In the case of smoking, the demand is inelastic because consumers are addicted to the product. The government can then pass the tax burden along to consumers in the form of higher prices, without much of a decline in the equilibrium quantity.

(T/F) If a tax did not induce buyers or sellers to change their behavior, it would not cause a deadweight loss.

True

A deadweight loss results when a tax causes market participants to fail to produce and consume units on which the benefits to the buyers exceed the costs to the sellers.

True

A larger tax always generates a larger deadweight loss.

True

A tax causes a deadweight loss because it eliminates some of the potential gains from trade.

True

If a tax is doubled, the deadweight loss from the tax more than doubles.

True

If a tax is placed on a good and it reduces the quantity sold, there must be a deadweight loss from the tax.

True

If a tax is placed on a good in a market where supply is perfectly inelastic, there is no deadweight loss and the sellers bear the entire burden of the tax.

True

If an income tax rate is high enough, a reduction in the tax rate could increase tax revenue.

True

In general, a tax raises the price the buyers pay, lowers the price the sellers receive, and reduces the quantity sold.

True

Which of the following would likely cause the greatest deadweight loss?

a tax on cruise line tickets

Deadweight loss is greatest when

both supply and demand are relatively elastic.

A tax on gasoline is likely to

cause a greater deadweight loss in the long run when compared to the short run.

When a tax distorts incentives to buyers and sellers so that fewer goods are produced and sold, the tax has

caused a dw loss

The reduction of a tax

could increase tax revenue if the tax had been extremely high.

When a tax on a good starts small and is gradually increased, tax revenue will

first rise and then fall.

If a tax on a good is doubled, the deadweight loss from the tax

increases by a factor of four.

Suppose the supply of diamonds is relatively inelastic. A tax on diamonds would generate a

small deadweight loss and the burden of the tax would fall on the seller of diamonds.

How elasticities affect DWL

the greater the tax, the greater the dw loss a more elastic market will cause a greater deadweight loss and vice versa

Taxes on labor income tend to encourage

workers to work fewer hours, second earners to stay home, the elderly to retire early, the unscrupulous to enter the underground economy