Transcript Taxes

The Effect of a Tax
Levied on the Producer
©2001Claudia Garcia-Szekely
1
The Effect of a $10 Tax Paid by
Producers
If the price is $60 per
unit, producer would
produce 500 units
After tax, producers
receive only $50
S0
70
60
At $50, producers would not
bring 500 units for sale.
5
For producers to be willing 0
to produce 500 units, the
Less than 500 500
consumer must pay $70
©2001,2002Claudia Garcia-Szekely
2
The Effect of a $10 Tax Paid by
S
Producers
plus tax
The same
The tax is
would be true
equivalent to
for all
an increase
quantities…
in cost.
10
70
S0
10
63
60
10
53
10
260
500
©2001,2002Claudia Garcia-Szekely
3
After Tax Equilibrium Price
S
1
After the shift in
supply, the new
70
equilibrium price is New
higher than $60 Equilibrium
S0
Price
60
But is NOT
$70!!
New
500
Equilibrium
Quantity
©2001,2002Claudia Garcia-Szekely
4
After the tax…
Consumers
purchase fewer
units
And pay a higher
price: Pc
The government
receives t (tax per
unit)
The producer
receives Pc- t
S0
New
Equilibrium
Price
t
Pc
60
Swith tax
t
Pc- t
New
500
Equilibrium
Quantity
5
A Producer Tax
The tax drives a
“wedge” between the
price the buyer pays Pc
and the price the
seller receives
Tax
60
Pc- t
500
©2001,2002Claudia Garcia-Szekely
6
Welfare Loss From a Tax
$
Tax = $2 per unit
S
CS
3
P=$2
$1
CS
Tax Welfare
Revenue Loss
PPS
S
PS
D
4
©2001,2002Claudia Garcia-Szekely
7
Q
Impose a $2 tax on Producers
1. Shift Supply up by the amount of the tax
10
9
8
7
6
5
4
3
2
10
20
30
40
50
60
70
80
S0
2. Find the new equilibrium price: Pc the price the
consumer pays after the tax
t=$2
10
9
8
PC 7
6
5
4
3
2
10 20
30
40
50
60
Stax
S0
Stax
S0
t=$2
10
9
3. Drop a line to the OLD
supply curve: this
represents subtracting
the tax from the price the
consumer pays, to get
the price the producer
receives
8
PC= 7
6
PP= 5
4
3
2
10 20
30
40
50
60
Stax
S0
10
9
3. Ignore the Supply
+tax line to determine
CS, PS and Tax
Revenue.
8 CS
PC= 7
6 Tax Revenue
PP= 5
4
3 PS
2
10 20
30
40
50
60
S0
10
9
8 CS
PC= 7
6 Tax Revenue
PP= 5
4. At equilibrium
(before the tax) 40
units are produced.
After the tax, only 30
units are produced:
WL
4
3 PS
Tax creates a Welfare
Loss
2
10 20
30
40
50
60
S0
10
9 CS
8 =3*30*1/2
PC= 7
6 Tax Rev
=2*30
PP= 5
3*30*1/2
4
= PS
3
WL= 2*10*1/2
2
10 20
30
40
50
60
The Effect of a Tax
Levied on the Consumer
©2001Claudia Garcia-Szekely
14
The Effect of a $10 Tax Paid by
Consumers
If the price is $60
consumers buy 500
units
With a $10 tax, the actual
Price consumers pay to
be willing to buy 500
units is $10 lower than Pc=60
55
before
The same
would be true
for all
quantities…
Pp=50
45
S0
10
10
10
10
DTax
D0
500 600
15
Impose a $2 tax on Consumers
1. Shift Demand down by the amount of the tax
10
9
8
7
6
5
4
3
2
10
20
30
40
50
60
70
80
S0
2. Find the new equilibrium price:
Pp Price the producer receives
after the tax
10
9
S0
3. Draw a line up to the
OLD demand curve: this
represents adding the
tax from the price the
producer receives, to
get the price the
consumer pays
8
7
6
5
4
3
2
10
20
30
40
50
60
70
80
Stax
S0
10
9
8 CS
PC= 7
6 Tax Revenue WL
PP= 5
Tax
4
3 PS
2
10 20
30
40
50
60
$2 tax on consumer
Stax
10
9
8
PC 7
6
S0
$2 tax on Producer
PP 5
4
3
2
D0
10
20
30
40
50
60
Dtax
$2 tax on consumer
$4 tax on consumer
10
9
S0
PC 8
PC 7
6
$2
$4tax
taxon
onProducer
Producer
PP 5
PP 4
3
2
D0
10
20
30
40
50
60
Dtax
$2 tax on consumer
Stax
10
9
8
PC 7
6
S0
$2 tax on Producer
PP 5
4
3
2
D0
10
20
30
40
50
60
Dtax
Regardless of Who Pays the Tax
The Producer
Price
Consumer
Pays
As price Increases
quantity demanded
Tax falls
Pe
As price drops
quantity supplied
falls
Price
Producer
Receives
The Consumer
Qe
©2001,2002Claudia Garcia-Szekely
22
Determining the Burden of The
Tax
Regardless on who the tax
is levied on, consumers and
producers end up “sharing”
Pc
the burden of the tax…
Consumers now pay $tc
more per unit.
60
tc
tp
Pc-t
Producers now receive $tp
less per unit sold
500
©2001,2002Claudia Garcia-Szekely
23
The more Inelastic Demand is
relative to Supply:
Larger the price
increase to consumer
Pc
Pc
tc
Pc
The smaller the price
drop to producer
P
tc tc
tp
Pp
Q
24
If Demand is more inelastic than
Supply
The price the
consumer pays after
tax is $7 higher
The price the
producer receives
after tax is $3 lower
Clearly, the consumer
bears a larger burden
of the tax than the
producer…
67
60
57
Extra cost
7 xto490
consumer 10
Cost to
3 x 490
producer
490 500
©2001,2002Claudia Garcia-Szekely
25
The more Inelastic Supply is
relative to Demand:
Smaller the price
P0
increase to consumer
The larger the price
drop to producer
P
tc
tp
P0-t
Q
26
The more Inelastic Supply is
relative to Demand:
A 70 unit decrease
in quantity
demanded, requires
a “smaller” increase
in price
A 70 unit decrease
in quantity
supplied, requires a
“larger” decrease in
price
S0
63
60
53
430
©2001,2002Claudia Garcia-Szekely
500
27
The more Inelastic Supply is
relative to Demand:
The price the
consumer pays after
tax is $3 higher
The price the
producer receives
after tax is $7 lower
Clearly, the producer
bears a larger burden
of the tax than the
consumer…
S0
63
60
53
430
©2001,2002Claudia Garcia-Szekely
500
28
-1.2
ep d =
When Demand and Supply
d/%DP
have
the Same Elasticity
-10%
%DQ
-10%s/%DP
-1.2
eps= %DQ
At new equilibrium:
quantity demanded and
quantity supplied must
both drop by the same
amount: say 10%
Since the elasticity of
demand is equal to the
elasticity of supply say:
1.2
The % change in price
must also be the same.
S0
65
8.3% increase
60
55
8.3% decrease
450 500
10% decrease
29
When Demand and Supply have
the Same Elasticity
The price the
consumer pays after
tax is $5 higher
The price the
producer receives
after tax is $5 lower
S0
65
60
55
The tax burden is
equally shared…
©2001,2002Claudia Garcia-Szekely
30
Regardless of Who Pays the Tax
The Burden of the tax falls more
heavily on the group with the lowest
elasticity
©2001Claudia Garcia-Szekely
31
TAX ON INSURANCE
Would it help if
the government
“If the government
imposes a tax on
offers more
insurance companies, the tax will be
alternatives for
entirely
passed on to consumers and
consumers to
insurance
premiums will increase”
purchase
insurance?
Is this true?
When is this true?
We need to know first if demand for health
insurance is more or less inelastic than
supply
If Demand is more inelastic is this true?
32
If Demand is More Inelastic
Than Supply…
The price the
consumer pays after
tax is $7 higher
The price the
producer receives
after tax is $3 lower
Clearly, the consumer
bears a larger burden
of the tax than the
producer…
Dtax
D
S0
67
60
57
480 500
©2001,2002Claudia Garcia-Szekely
33
The More Elastic Demand Is
Relative to Supply
The smaller the
increase in price
necessary to
reduce the
quantity
demanded
The smaller the
burden of the tax
D2
shared by the
D1
consumer
D0
Price
Price
Consumer
Price
Consumer
Pays
Consumer
Pays
Pays
Pe
Qe
©2001,2002Claudia Garcia-Szekely
34
Percentage of the tax burden on
Producer
0.7
Producer’s
tax Share
87.5%
Price Elasticity of Demand
=
Price elasticity of Supply +
Price elasticity of Demand
X 100
0.1 + 0.7 = 0.8
epd = 0.7 eps = 0.1
35
The More Elastic Demand is
Relative to Supply
The larger the
drop in price
necessary to
reduce the
quantity supplied
Pe
Price
Producer
Price
Price
Receives
Producer
Producer
Receives
Receives
The larger the
burden of the tax
shared by the
producer
D2
D1
D0
Qe
©2001,2002Claudia Garcia-Szekely
36
Larger the drop in
quantity after the
tax is imposed
The larger the
welfare loss
Same size tax
The smaller the
welfare loss
Elastic
Pe
Inelastic
supply and
demand
Smaller the drop
in quantity after
the tax is imposed
Qe
The larger the elasticity
of demand and
©2001,2002Claudia Garcia-Szekely
supply, the
larger the welfare loss
37
Larger the drop in
quantity after the
tax is imposed
The smaller the
tax revenue
Inelastic
supply and
demand
Smaller the drop
in quantity after
the tax is imposed
The larger the tax
revenue
Tax Revenue
Pe
size tax
TaxSame
Revenue
The larger the elasticity
Qeof demand and supply, the
©2001,2002Claudia
Garcia-Szekely
smaller the amount
of tax
revenue collected.
38
Percentage of the tax burden on
Consumer
0.1
Consumer’s
tax Share
12.5%
=
Price Elasticity of Supply
Price elasticity of Supply +
Price elasticity of Demand
X 100
0.1 + 0.7 = 0.8
epd = 0.7 eps = 0.1
©2001,2002Claudia Garcia-Szekely
39
Perfect Competition
$
MC
CS
Pe=$2
PS
D
Qe=4000
©2001,2002Claudia Garcia-Szekely
40
Q
Practice
Government imposes a $6 tax on producer.
Calculate: CS,PS,WL and tax revenue.
©2001,2002Claudia Garcia-Szekely
41
Practice
S + tax
CS
Tax Revenue
12-6 =
$6
tax
WL
PS
©2001,2002Claudia Garcia-Szekely
42
Practice
Government imposes a $6 tax on consumer.
Calculate: CS,PS,WL and tax revenue.
©2001,2002Claudia Garcia-Szekely
43
Practice
CS
Tax Revenue
Government imposes a $6 tax on consumer.
Calculate: CS,PS,WL and tax revenue.
WL
PS
©2001,2002Claudia Garcia-Szekely
44
Practice
Tax = db
The effect of the tax is to
(increase/decrease) price from ____to____
45
Practice
Tax = db
Price Consumer Pays =
Consumer Surplus =
Tax Revenue =
Price Producer Receives =
Producer Surplus =
Welfare Loss =
Practice
Tax = db
CS
Tax Revenue
WL
PS
Price Consumer Pays = P2
Consumer Surplus =g c P2
Tax Revenue =P2c a P2-t
Price Producer Receives =P2-t
Producer Surplus =P2-t a e
47
Welfare Loss =c b a
Practice
Tax = db
z
Lost Consumer Surplus =
Lost producer surplus =
Lost Consumer Surplus transferred to government=
Lost Consumer Surplus not transferred but lost=
Lost producer Surplus transferred to government =
Lost producer Surplus not transferred but lost =
Practice
Lost CS NOT
transferred but
lost as WL
CS
Lost CS to Government
Lost CS
TaxLost
Revenue
PS to
Lost PS
Government
WL
z WL
Tax = db
Lost PS NOT
transferred but
lost as WL
PS
Lost Consumer Surplus =
Lost producer surplus =
Lost Consumer Surplus transferred to government=
Lost Consumer Surplus not transferred but lost=
Lost producer Surplus transferred to government =
Lost producer Surplus not transferred but lost =
Practice
Government imposes a Price Ceiling at $6
Calculate: CS,PS and WL.
©2001,2002Claudia Garcia-Szekely
50
Practice
Government imposes a Price Ceiling at $6
Calculate: CS,PS and WL.
CS
WL
PS
©2001,2002Claudia Garcia-Szekely
51
Practice
(20 -12)*16*(1/2)
CS
(12-6)*16
Government imposes a Price Ceiling at $6
Calculate: CS,PS and WL.
WL
(12-6)*(24-16)*(1/2)
(6-2)*16*(1/2)
PS
©2001,2002Claudia Garcia-Szekely
52
Practice
Government imposes a Price Floor at $12
Calculate: CS,PS and WL.
©2001,2002Claudia Garcia-Szekely
53
Practice
CS
PS
Government imposes a Price Floor at $12
Calculate: CS,PS and WL.
WL
©2001,2002Claudia Garcia-Szekely
54
Government imposes a Price Floor at
$12 Calculate: CS,PS and WL.
CS=
(20-12)*16*(1/2)
Box =(12-6)*16
PS
Triangle = (62)*16*(1/2)
©2001,2002Claudia Garcia-Szekely
55