exam2studyguide.docx - CH6 Key points Taxes create a"tax wedge o Similar for subsidies Who ultimately pays a tax depends on the elasticity of supply and

exam2studyguide.docx - CH6 Key points Taxes create a"tax...

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CH6 Key points: Taxes create a "tax wedge" o Similar for subsidies Who ultimately pays a tax depends on the elasticity of supply and demand, not on tax laws (who sends the check to the government) o "Elasticity equals escape" Taxes and subsidies create deadweight losses o The size of the deadweight loss depends on the elasticity of supply and demand o "Bucket leaks" A simple tax Example of a major type of tax that is not tied to a transaction o Property tax o Based on the value of the house whether or not it is bought or sold With graph, we know how much is going to be traded--where wedge stops (Q2) Rectangle shows tax revenue (h*Q2) Slide 11!! Key graph!! Who (really) pays the tax is called Tax Incidence More elastic, less tax Less elastic, more tax Its all relative The party with the relatively more elastic curve pays less of the tax "Elasticity equals escape" Economic myth--businesses just "pass on" taxes to their customers This statement is not true In all but extreme cases, any commodity tax will be shared by consumers and businesses Burden of Tax Other applications o Who pays the cigarette tax? If manufacturers of cigarettes can easily avoid state taxes, then most of tax will fall on smokers Side note: State cigarette taxes are a bad way to reduce smoking, as high taxes in one state simply push some of the smoking to other states o Who will pay for the US-Mexico Wall? Put a 20% surcharge on Mexican goods to pay for the wall Us consumers would pay for some (most?) of the wall US share depends on the good US demand elasticity--how many substitutes for the Mexican product More substitutes-->demand inelastic o Other applications Health Insurance Mandates and Tax Analysis Mandates requiring employers to provide health insurance to their workers will reduce wages. The share paid by employees depends on relative elasticity of supply and demand Firms have incentives to replace workers with machines
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Long distance relationship In a long-distance relationship, who will do more of the driving? Does the "tax" fall more heavily on the more committed partner Historical Footnote This led some social reformers in the 19th century to advocate taxes on the land o Land is inelastically supplied (Henry George, 1839-1897-- Progress and Poverty ) Key point--slide 35 Subsidies A subsidy is a reverse tax where the government gives money to consumers (or producers) Subsidy=Price Received by Sellers--Price Paid by Buyers Some facts about subsidies: a. Who benefits from the subsidy does not depend on who receives the check from the government b. Find slide for details Some subsidies have serious benefits: wage subsidies increase employment o A wage subsidy costs the government money but increases employment from Qm to Qs (and reduces welfare payments) Deadweight Loss Taxes raise revenue for government and reduce welfare for consumers and producers
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  • Fall '08
  • RYAN

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