Principles of Economics- Mankiw (5th) 165

Principles of Economics- Mankiw (5th) 165 - S IZE The...

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CHAPTER 8 APPLICATION: THE COSTS OF TAXATION 171 the optimum—equals the area of the triangle between the supply and demand curves. For the small tax in panel (a), the area of the deadweight loss triangle is quite small. But as the size of a tax rises in panels (b) and (c), the deadweight loss grows larger and larger. Indeed, the deadweight loss of a tax rises even more rapidly than the size of the tax. The reason is that the deadweight loss is an area of a triangle, and an area Demand Supply P B Quantity Q 2 0 Price 1 Demand Supply (a) Small Tax Deadweight loss Tax revenue Tax revenue S Quantity 2 0 Price 1 (b) Medium Tax Deadweight loss Figure 8-6 D EADWEIGHT L OSS AND T AX R EVENUE FROM T HREE T AXES OF D IFFERENT
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Unformatted text preview: S IZE . The deadweight loss is the reduction in total surplus due to the tax. Tax revenue is the amount of the tax times the amount of the good sold. In panel (a), a small tax has a small deadweight loss and raises a small amount of revenue. In panel (b), a somewhat larger tax has a larger deadweight loss and raises a larger amount of revenue. In panel (c), a very large tax has a very large deadweight loss, but because it has reduced the size of the market so much, the tax raises only a small amount of revenue. Tax revenue Quantity 2 Price 1 Demand Supply (c) Large Tax Deadweight loss...
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