Lesson 8

Question 1

statutory tax incidence vs. economic incidence

Answer 1

statutory= who is legally responsible for the tax

economic= the change in the distribution of private real income induced by tax

Question 3

4 considerations about tax incidence

Answer 3

1. only people can bear taxes (tax on corporation may just impact those who gain their income from capital, labor and land rent differently
2. sources and uses of income matter ( a tax on good A will affect consumers of it, but also producers of good A)
3. how revenues are spent matters (tax itself can cause a distributional change, but so can the use of revenues)
4. tax progressiveness
5. incidence works through price setting

Question 4

different types of tax rate

Answer 4

1. average tax rate= taxes paid per income
2. marginal tax rate= proportion of the last dollar of income taxed by the government (20% tax on income above 50.000)

Question 5

how does the graph look like with the tax on producers?

Answer 5

1. The supply curve shifts upward
   Why? Because for each unit sold, the producer must now pay a tax.
   So to be willing to supply the same quantity as before, the producer needs to receive a higher price (enough to cover production costs + the tax).
   This shifts the supply curve upward by the amount of the tax.
   –> On the graph, this creates a new, higher “effective supply curve.”
2. A wedge appears between the buyer’s price and seller’s price
   The buyer now pays a higher price (Pᴮ).
   The seller receives a lower price (Pˢ) after paying the tax.
   The vertical distance between these two prices = the tax.
   So:

Consumers pay a higher price and buy less.
Producers receive a lower effective price and sell less.

Question 6

effect of tax on quantity and prices

Answer 6

• creates a gap between price paid by buyers and the price received by sellers
• tax on sellers or buyers makes only 1 difference: market price
• also less quantity sold than without tax

Question 7

graph with tax on consumers

Answer 7

. 📉 The Demand Curve Shifts Downward
When a per-unit tax (say €1) is imposed on consumers, each unit becomes more expensive to them — not because the market price changes (yet), but because they must now pay the market price + €1 to consume the good.
–> So the entire demand curve shifts downward by the amount of the tax.

2. New Equilibrium Forms
   With lower demand, the new intersection of supply and demand is at:
   A lower quantity (fewer units traded),
   A lower price received by sellers (Pˢ),
   A higher price paid by buyers (Pᴮ = Pˢ + tax).

• Buyers pay more than before (Pᴮ > original price),
• Sellers receive less than before (Pˢ < original price),
• Quantity traded falls.

Question 8

what are the effects of a tax on surpluses?

Answer 8

• reduction on consumer surplus
• reduction on producers surplus
• tax revenue is smaller than the losses of consumer/producer –> deadweight loss
• deadweight loss = net cost of a tax

Question 9

what are the determinants of the size of the deadweight loss

Answer 9

depends on
1. price elastic ties of supply and demand
- elastic: deadweight loss high
- inelastic: deadweight loss small

Question 10

tax incidence: what falls on consumer and what on producer

Answer 10

depends:

• supply more elastic –> burden of the tax is higher for consumers
• demand more elastic –> burden is higher for producers
  (about the slopes)

Question 11

what is the effect of the subsidy on the economic welfare of the participants in the market?

Answer 11

A consumer subsidy lowers the effective price that buyers pay for a good, increasing demand.

📊 Graphically:

The demand curve shifts upward by the amount of the subsidy (buyers are willing to pay more because part is covered).
This leads to a higher market price (Pˢ) and a higher quantity traded. (doesn’t matter if you put subsidy on consumer or producer, price and demand will end up the same)

Question 12

what is the impact of a subsidy on efficiency (surpluses)

Answer 12

• Consumer Surplus ↑ –> Buyers pay less and consume more → gain extra value
• Producer Surplus ↑ –> Sellers get a higher price and sell more → earn more profit
• Government Cost ↑ –> Government pays the subsidy × number of units sold
• Deadweight Loss (DWL) Some government spending leads to overconsumption → a loss in total surplus (there is money spent that didn’t go to anyone’s benefit = The extra units sold beyond the efficient market level cost more to produce than they’re worth to consumers) –> called burden of a subsidy

Question 13

determinants of the deadweight loss of efficiency

Answer 13

• price-elasticities of supply and demand
• supply more elastic than demand –> benefits of subsidy mostly to consumers
• demand more elastic than supply –> benefits to producers

(opposite, because surplus goes the other way)