Transcript Government Intervention Indirect Taxes

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Indirect taxes are imposed on goods and
services by the government.
They are paid partly by consumers but paid
by producers to the government.
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Excise Tax: Taxes imposed on particular G+S–
usually goods with inelastic demand
eg: petrol, cigarettes and alcohol
Thinking Point: Can you think of an economic
reasons why governments target these types of
goods??
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General Sales Tax (GST) or Value Added Tax
(VAT): Taxes imposed on all or (most) G+S
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Specific Tax: A tax of a specific amount to be
paid on every unit of a product sold.
Eg: $2 tax on cigarettes.
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Ad Valorem Tax: A tax based on a particular
percentage of the sales price of a product. In
this case the tax increases as the price of G+S
increases.
Eg: 50% tax on cigarettes
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Source of Government Revenue
Method to discourage consumption of goods
that are harmful to individuals/ society
Tax revenues used to redistribute income
from rich to poor
Method to improve allocation of resources (
reduce allocative inefficiency) or to correct
negative externalities
S2 curve is parallel
to S1.
Amount of tax is
fixed for each unit
of output
S2 curve is
steeper than S1
because tax
increases as price
increases
If tax = 10% and P = $ 20
Tax per unit sold = $2 (0.1x 20)
If Tax = 10% and P = $ 30
Tax per unit sold = $ 3 (0.1x 30)
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When tax is imposed on G+S it is paid to
government by firms.
For every level of output the firm is willing
and able to supply, it must receive a higher
price that is higher than the original price by
the amount of the tax.
This is involves a shift of S curve to left
(upward) by amount of the Tax.
Market Outcomes of
Specific Tax
Before Tax:
P* = Eqb P
Q* = Eqb
Q (intersection of S1 & D
curves)
After Tax:
S curve shift to S2 (S1+Tax)
P paid by consumers
increase to Pc and Q falls
to Qt.
Pc= P paid by consumers
Amount of tax = Pc – Pp
(tax per unit)
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Equilibrium quantity produced and consumed fall from Q*
to Qt
Equilibrium price increases from P* to Pc (P paid by
consumers)
Consumer expenditure on the good changes from P*x Q*
to Pc x Qt
Price received by firms fall from P* to Pp =( Pc – tax)
Firm revenues fall from (P* x Q*) to (Pp x Qt)
Government receives tax revenues = (Pc – Pp) x Qt amount
of tax per unit times the number of units sold (shaded
area)
There is an under allocation of resources to the production
of the good Qt less than free market Q (Q*)
Market Outcomes of
Ad Valorem Tax
Before Tax:
After Tax :
Student Task: Use same steps as
the previous diagram to
determine the market outcomes
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Outcomes are exactly the same as the
specific tax – just relate back to diagram (b)
instead.
Consumers
Society
Stakeholders
affected
Government
Producers
Consumers (households) are worse off – how??
 Pay higher prices
 Consume less quantities
 Spending is reduced also on other goods due
to paying more on the taxed good
 Increase consumption of substitute good
which may be less desirable.
Producers (firms) are worse off – how??
 Receive lower prices than before
 Sell less quantities – ie leads to lower
revenues and profits
 Firms produce less output so leads to supply
shortages in the future
Governments are the only winners from taxes
 Increase revenues – lead to budget surpluses
 Decrease spending on public goods such as
health care and environment because people
who smoke or use petrol now contribute to
the costs
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Society as whole is worse off due to higher
prices of goods and lower quantities
consumed and produced.
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Allocative inefficiencies – society not
producing what is desirable